Business context and reporting period
Comtech Telecommunications Corp. designs and sells communications equipment, systems and services through telecommunications transmission, RF microwave amplifiers, and mobile data communications segments. This Form 10-Q covers the first quarter of fiscal 2013, the three months ended October 31, 2012, compared with the three months ended October 31, 2011. Financial statements are unaudited.
Financial performance and position
| Metric | Q1 FY2013 | Q1 FY2012 | Change / context |
|---|---|---|---|
| Net sales | $91.0 million | $113.4 million | Down 19.8% |
| Gross profit / margin | $41.8 million / 46.0% | $51.3 million / 45.2% | Prior-year margin was 42.4% excluding a $5.6 million MTS/BFT-1 pricing benefit |
| Operating income / margin | $13.4 million / 14.7% | $15.8 million / 13.9% | Excluding identified unusual items, $11.8 million / 13.0% versus $12.8 million / 11.9% |
| Net income | $7.4 million | $12.6 million | Down 41.0%; effective tax rate was 35.5% versus 10.7%, with the prior period benefiting from discrete tax items |
| Diluted EPS | $0.36 | $0.47 | Down from prior-year quarter |
| Operating cash flow | $11.9 million | $(0.8) million | Improved mainly due to lower working-capital requirements |
| Capital expenditures | $1.1 million | $1.4 million | Primarily equipment upgrades and enhancements |
| Cash and cash equivalents | $374.5 million at October 31, 2012 | $367.9 million at July 31, 2012 | Quarterly increase of $6.6 million |
| Debt and credit availability | $200.0 million convertible notes; no revolving borrowings reported | — | $100.0 million revolving facility; $1.4 million of letters of credit outstanding |
Cash was $374.5 million against $200.0 million of convertible notes. Current assets were $506.0 million and current liabilities $67.1 million at quarter-end. The company paid $4.8 million in dividends; no shares were repurchased during the quarter. The declared quarterly dividend was $0.275 per share.
Material changes versus the prior comparable period
- Mobile data communications sales fell 65.4% to $12.3 million, principally reflecting lower U.S. Army MTS/BFT-1 activity and the microsatellite product-line wind-down.
- Telecommunications transmission sales decreased 6.2% to $53.3 million, with lower satellite earth station sales partly offset by slightly higher over-the-horizon microwave sales.
- RF microwave amplifiers sales rose 19.9% to $25.3 million, primarily on higher traveling-wave-tube amplifier sales.
- SG&A declined to $16.8 million from $24.1 million, but Q1 FY2013 included a $2.4 million benefit from remeasurement of the Stampede acquisition earn-out and $0.8 million of microsatellite restructuring charges. Q1 FY2012 included $2.6 million of costs for a withdrawn proxy solicitation.
- The prior-year quarter included a $5.6 million favorable MTS/BFT-1 pricing adjustment. Q1 FY2013 included $2.5 million of revenue related to the BFT-1 annual IP-license fee.
Outlook, management commentary, risks and contingencies
- Management expects fiscal 2013 consolidated sales to be significantly below fiscal 2012 sales of $425.1 million, mainly because mobile data communications revenue is expected to decline materially. No specific full-year sales figure is provided.
- Management expects modest fiscal 2013 revenue growth in telecommunications transmission, lower-than-previously-expected sales in RF microwave amplifiers (now expected slightly below fiscal 2012), and materially lower mobile data communications sales. It anticipates consolidated operating margin of approximately 13% and gross margin above fiscal 2012.
- Management expects weak order flow in the first half, particularly in Q2, amid federal budget and sequestration uncertainty, with bookings potentially improving in the second half. The company had experienced order delays and lower customer spending.
- The fiscal 2013 mobile outlook assumes U.S. Army exercise of the BFT-1 sustainment contract’s optional period and additional funded orders, including renewal of the IP license. The contract is an IDIQ arrangement, may be terminated, and does not obligate the Army to order additional products or services. Pricing for engineering and related services remains unsettled and may be adjusted downward.
- Management expects positive operating cash flow for fiscal 2013 and believes cash and operating cash generation will meet anticipated needs. It also intends to continue quarterly dividends, may repurchase shares under up to $61.3 million of authorization after a new $50.0 million authorization on December 6, 2012, and may pursue acquisitions.
- Material risks include U.S. government budget and contract-funding decisions, BFT-1 transition to BFT-2, order timing and product mix, international conditions, long-term contract estimates, warranty and inventory reserves, and possible goodwill impairment. The August 2012 goodwill test found no impairment; the telecommunications transmission reporting unit’s estimated fair value exceeded book value by at least 7%.
- Government investigations involve subpoenas concerning the CEO, including an EDNY grand-jury matter and an SEC investigation of CPI stock trading. The CEO’s security clearance was suspended; the company reported organizational realignments to preserve facility-clearance eligibility. The company stated it did not believe proceedings against it or the CEO were likely, but an adverse outcome could be material.
- A DCAA post-award audit concerns the BFT-1 contract. On November 26, 2012, the DCMA withdrew its request for an initial CAS disclosure statement after determining the contracts were subject to commercial clauses and modified CAS. The DCAA still planned an exit conference, and any price or cost adjustment could require repayment with interest and materially affect results.
- The company reported $32.3 million of gross operating-lease commitments, $200.0 million of convertible notes (holders may require cash repurchase beginning May 1, 2014), and approximately $4.4 million of future net cash payments related to the Radyne restructuring plan. Unrecognized tax benefits, including interest, were $2.7 million.
Most important facts for investors to verify
- Whether fiscal 2013 orders and sales recover in the second half as management anticipated, and whether the expected approximately 13% operating margin is achieved.
- U.S. Army BFT-1 option exercise, additional funded orders, final service pricing, IP-license renewal, and potential downward adjustments to current orders.
- Results and potential financial exposure from the DCAA audit and the two government investigations, including any effect on the CEO’s clearance or government-contract eligibility.
- Whether the $2.4 million Stampede earn-out remeasurement benefit and $0.8 million restructuring charge distort comparisons of recurring operating performance.
- Cash deployment and liquidity in light of dividends, the new share-repurchase authorization, possible acquisitions, and the $200.0 million convertible-note holder repurchase right in 2014.
- Whether telecommunications transmission goodwill remains recoverable, given the disclosed valuation cushion of at least 7% and sensitivity to sales and operating-income assumptions.