SIFCO Industries, Inc. — Fiscal 2016 Second Quarter Form 10-Q
Reporting period: Three and six months ended March 31, 2016. SIFCO manufactures forgings and machined components, primarily for aerospace and energy markets, and reports as one business segment. Current-period results include C*Blade, acquired July 1, 2015.
Financial performance
| Metric | Three months ended March 31 | Six months ended March 31 |
|---|---|---|
| Net sales | $29.1 million, up 18.1% from $24.6 million | $56.2 million, up 25.8% from $44.7 million |
| Gross profit / margin | $3.6 million / 12.3%, versus $3.7 million / 15.0% | $5.7 million / 10.1%, versus $6.7 million / 15.0% |
| Operating loss | $0.2 million, versus $1.3 million | $4.4 million, versus $3.3 million |
| Net loss | $0.3 million, versus $0.1 million | $2.9 million, versus $1.5 million |
| Net loss per diluted share | $0.05, versus $0.01 | $0.53, versus $0.27 |
Six-month loss from continuing operations was $2.9 million, compared with $2.2 million. The prior-year periods included income from discontinued operations of $0.8 million for the quarter and $0.7 million for six months, principally related to the sale of the Repair Group property.
Revenue growth was substantially acquisition-driven: C*Blade contributed approximately $5.0 million in second-quarter sales and $10.0 million for the six-month period, primarily in energy components. Mix and labor and benefit costs pressured gross margin. Six-month SG&A was $8.8 million versus $8.9 million; lower compensation and reversals of incentive accruals offset higher legal and professional, acquisition, ERP, and CEO-search costs. Interest expense rose to $0.8 million for six months from $0.1 million, primarily due to acquisition-related borrowing.
Cash flow, liquidity and debt
- Operating cash flow from continuing operations was positive $11.8 million for six months, versus use of $2.3 million a year earlier. Management attributed the current-period inflow mainly to a $10.1 million working-capital reduction, including lower receivables and extended supplier payment terms; it also included $4.6 million of non-cash items.
- Capital expenditures were $1.2 million, compared with $4.6 million. Management expects fiscal 2016 capital expenditures of $2.5–$3.5 million.
- Cash was $1.0 million at March 31, 2016, versus $0.7 million at September 30, 2015; approximately $0.9 million was held by non-U.S. subsidiaries, and repatriation may have adverse tax consequences.
- Total debt was $38.9 million, down from $48.9 million at September 30, 2015. This included $8.3 million drawn on the revolving facility, a $17.9 million term loan, and $12.8 million of foreign borrowings. Current maturities were $11.0 million.
- The revolving facility’s maximum availability had reduced to $20 million; it is secured by substantially all U.S. assets and a pledge of 65% of non-U.S. subsidiary stock. The company reported compliance with required covenants at March 31 and expected to remain compliant through fiscal 2016. Management said operating cash flows and credit-facility funds were expected to provide adequate liquidity.
Outlook, risks and notable items
- No revenue or earnings guidance was provided. Management cited aircraft build rates and aftermarket requirements, industrial turbine demand, and the ability to leverage a significant fixed-cost base as important operating drivers.
- Risks identified include aerospace and energy market conditions, military spending and customer concentration, changing program build rates, commodity-price recovery, competition, pension funding, foreign operating conditions, and integration of acquisitions.
- Following lower-than-expected performance, SIFCO tested the Orange, California reporting unit and analyzed its C*Blade reporting unit for goodwill impairment. Estimated fair values exceeded carrying values, so no impairment charge was recorded. Management cautioned that different actual results or assumptions could lead to future material impairment charges.
- A $0.5 million year-to-date discrete tax benefit, primarily related to legislation, and U.S. tax credits contributed to a 43% effective tax rate for the six-month period. The filing also reports a $0.8 million second-quarter benefit from reversing portions of long-term incentive accruals.
- An interest-rate swap with an $8.9 million notional amount was entered into on March 31, 2016 and qualified as a fully effective hedge of variable-rate term debt. A 1% rate change was estimated to affect annual interest expense by approximately $0.2 million, assuming debt balances were unchanged.
- Disclosure controls and procedures were deemed ineffective because material weaknesses in internal control over financial reporting remained. Cited issues included manual journal-entry approvals, system-generated reports, account reconciliations, cash-receipt application, certain revenue processes, and corporate monitoring of plant locations. Remediation was underway, but management could not estimate when it would be complete.
Important facts for investors to verify
- How much of sales growth and future profitability depends on C*Blade, and whether the acquisition is meeting expectations.
- Whether gross margins recover from the decline, given product mix, labor costs, and the company’s fixed-cost structure.
- Whether operating cash generation is sustainable or primarily reflects working-capital timing and extended supplier terms.
- Revolver availability and covenant headroom, debt repayment capacity, and the effect of variable rates despite the swap.
- Progress and independent validation of remediation of the disclosed material weaknesses, and any effect on future filings or reported results.
- Key assumptions supporting goodwill valuations, particularly if performance at the Orange or C*Blade reporting units weakens further.