Sterling Infrastructure, Inc. — Q3 2023 Form 10-Q Summary
Business context and reporting period
Sterling Infrastructure operates in three U.S. segments: E-Infrastructure Solutions, Transportation Solutions and Building Solutions. The filing covers the three and nine months ended September 30, 2023, with comparisons to the corresponding 2022 periods. Results exclude the Myers partnership, sold on November 30, 2022, which is presented as discontinued operations in prior-period results.
Financial performance and liquidity
| Metric | Q3 2023 | Q3 2022 | 9M 2023 | 9M 2022 |
|---|---|---|---|---|
| Revenue | $560.3 million | $493.0 million | $1.486 billion | $1.321 billion |
| Gross profit | $91.9 million | $79.4 million | $245.9 million | $205.6 million |
| Gross margin | 16.4% | 16.1% | 16.5% | 15.6% |
| Operating income | $57.1 million | $49.5 million | $150.0 million | $122.8 million |
| Operating margin | 10.2% | 10.0% | 10.1% | 9.3% |
| Net income attributable to Sterling | $39.4 million | $30.7 million | $98.5 million | $76.5 million |
| Diluted EPS from continuing operations | $1.26 | $1.01 | $3.17 | $2.52 |
- Q3 revenue increased 13.7%; nine-month revenue increased 12.5%. Q3 revenue growth was led by Transportation Solutions, up 22.8%, and Building Solutions, up 41.2%.
- Gross profit increased 15.6% in Q3 and 19.6% for the nine-month period, reflecting higher volume, improved Transportation project mix and easing supply-chain pressures.
- Net interest expense was $3.1 million in Q3 and $14.2 million for nine months. Higher variable-rate borrowing costs were substantially offset by increased interest income on cash.
- Cash and cash equivalents were $409.4 million at September 30, 2023, compared with $181.5 million at December 31, 2022. Generally available cash was $308.4 million.
- Operating cash flow was $331.2 million for the first nine months, compared with $138.2 million in the prior-year period. The improvement was driven substantially by changes in contract capital, including a $195.4 million increase from contracts in progress.
- Capital expenditures were $49.2 million, while investing cash outflows totaled $25.6 million, aided by $14.0 million of Myers disposition proceeds and $9.6 million from asset sales.
- Financing cash outflows were $81.4 million, including $76.2 million of Term Loan repayments, of which $53.0 million were voluntary early repayments.
- Total debt was $358.4 million at September 30, 2023, including $347.4 million under the Credit Facility. The company had no revolving-credit borrowings and was in compliance with its covenants.
- The Credit Facility matures October 2, 2024. Management is evaluating options to extend or replace it.
Material changes versus the prior comparable period
- E-Infrastructure revenue was $253.9 million in Q3, down 0.6%, as advanced manufacturing and data-center activity was offset by lower e-commerce distribution-center and small-warehouse volume. Nine-month revenue increased 9.4%.
- E-Infrastructure operating margin declined to 14.2% in Q3 from 14.7%, but increased to 14.4% for nine months from 13.9%.
- Transportation operating margin improved to 7.5% in Q3 from 6.2% and to 6.5% for nine months from 5.2%, primarily due to improved project mix and higher revenue.
- Building Solutions benefited from record slab volume and the 2022 Arizona acquisition. Its Q3 revenue increased 41.2%, while operating margin declined to 11.3% from 11.6% due to a greater commercial-work mix and higher concrete prices.
- Remaining performance obligations increased to $2.01 billion at September 30, 2023 from $1.41 billion at December 31, 2022. Combined backlog, including unsigned awards, was $2.39 billion versus $1.69 billion.
- Backlog margin increased to 15.2% from 14.3%; combined-backlog margin increased to 14.9% from 14.2%. Approximately 70% of remaining performance obligations is expected to convert to revenue within twelve months.
- Contract liabilities increased $192.9 million from year-end, primarily due to advance billings and work progression. Contract assets declined $2.5 million.
Guidance, outlook, risks and unusual items
- Management expects a full-year 2023 effective tax rate of approximately 27% and general and administrative expense of approximately 5% of revenue.
- Management expects favorable long-term opportunities from advanced manufacturing, electric-vehicle, battery, solar, semiconductor and hyperscale data-center investment, as well as federal infrastructure funding.
- Large e-commerce distribution-center and small-warehouse markets were muted in 2023 and are expected to remain muted through 2024.
- Building Solutions demand is supported by signs of recovery in housing and increased multifamily activity, but higher interest rates may reduce housing affordability and single-family demand.
- Key risks include variable interest rates, inflation and material or labor costs, project-estimate changes, delays, weather, customer concentration, subcontractor and joint-venture performance, bonding and letters of credit, government funding, regulatory compliance and the ability to refinance the 2024-maturing Credit Facility.
- A 100-basis-point change in interest rates would change annual interest expense by approximately $3.5 million based on $347.4 million of variable-rate debt.
- The company included $7.8 million in project price relating to unapproved change orders and claims at September 30, 2023; negotiations remain ongoing and legal action may be pursued.
- Management reported no legal proceedings expected to have a material adverse effect, and no material changes to previously disclosed risk factors. The company stated that disclosure controls were effective, although recently acquired CCS operations were excluded from the controls evaluation under SEC guidance.
Investor verification checklist
- Verify the timing and terms of an extension or replacement of the Credit Facility before its October 2, 2024 maturity.
- Assess whether strong cash flow is sustainable after considering contract-liability movements, project timing and working-capital requirements.
- Monitor conversion of the $2.01 billion backlog and $375.2 million of unsigned awards, including whether reported backlog margins are achieved.
- Review the collectability and ultimate resolution of the $7.8 million of unapproved change orders and claims.
- Track E-Infrastructure demand, particularly the expected weakness in e-commerce and small-warehouse projects, and Transportation and Building margin trends.
- Evaluate exposure to variable interest rates, construction-cost inflation, labor availability, joint-venture obligations and customer or government-funding concentration.