Sterling Construction Company, Inc. — Form 10-Q Summary
Business context and reporting period
The filing covers the quarter and nine months ended September 30, 2016. The registrant is identified in the filing as Sterling Construction Company, Inc. (the metadata refers to Sterling Infrastructure, Inc.). The company is a heavy civil construction contractor focused on transportation and water infrastructure projects across Texas, Utah, Nevada, Colorado, Arizona, California, Hawaii and other markets. The financial statements are unaudited and interim results may be seasonally variable.
Financial performance and position
| Metric | Three months ended September 30 | Nine months ended September 30 |
|---|---|---|
| Revenue | $205.6 million, up 16.8% | $521.8 million, up 10.8% |
| Gross profit | $17.0 million | $37.0 million |
| Gross margin | 8.3%, versus 8.2% | 7.1%, versus 3.6% |
| Operating income (loss) | $3.7 million | $0.6 million |
| Operating margin | 1.8%, versus 1.4% | 0.1%, versus negative 3.1% |
| Net income (loss) attributable to common stockholders | $2.4 million, or $0.10 per diluted share | $(2.9) million, or $(0.12) per diluted share |
| Net cash provided by operating activities | Not separately provided | $35.7 million, versus $3.5 million |
At September 30, 2016, cash and cash equivalents were $43.0 million, compared with $4.4 million at December 31, 2015. Working capital was $40.6 million, compared with $30.6 million at year-end 2015. Cash included $14.1 million held by a majority-owned joint venture and $2.1 million held by the consolidated variable interest entity, which may not be freely available for general corporate purposes.
Total debt was $11.6 million, including $9.6 million outstanding under the equipment-based Term Loan and $2.9 million of equipment-related notes. The revolving loan had no outstanding balance. The borrowing base was approximately $27.0 million. During the quarter, the company prepaid $5.0 million of Term Loan principal and paid a $0.2 million prepayment fee.
Capital expenditures were $8.9 million for the nine months, partially offset by $2.2 million of proceeds from asset sales. Net cash used in investing activities was $6.7 million, while financing activities provided $9.6 million. The company completed a May 2016 equity offering of 5.175 million shares and received $19.1 million of net proceeds.
Material changes versus the prior comparable periods
- Quarterly revenue increased $29.6 million, primarily from increased project activity and the ramp-up of two large Utah projects; Texas revenue declined because of owner delays.
- Nine-month revenue increased $50.7 million, led by Utah, Nevada and Hawaii, partly offset by lower Texas activity from flooding and delayed project ramp-ups and by the winding down of a California project.
- Gross profit improved by $2.6 million in the quarter and $20.2 million year to date. The nine-month comparison benefited from unfavorable Texas project revisions recorded in 2015 and a better project mix.
- General and administrative expense declined 13.9% in the quarter and 9.6% year to date, partly because 2015 included non-recurring consulting and severance costs.
- Other operating expense increased because of $3.4 million of current-quarter earn-out expense and $7.3 million of members’ interest earnings year to date.
- The company remained unprofitable for the nine-month period, but the net loss attributable to common stockholders narrowed from $19.3 million to $2.9 million.
- Backlog increased to $820 million from $761 million at December 31, 2015 and $718 million at September 30, 2015. Backlog gross margin increased to 8.0% from 6.5% a year earlier.
Guidance, outlook, commentary and risks
Management cited improving infrastructure funding and market conditions, including increased federal highway funding and additional transportation funding initiatives in Texas and Utah. The company reported approximately $455 million of new project wins during the first nine months at an average margin above 8.5%.
Management expects backlog gross margins to reach approximately 8.0% to 8.5% by December 31, 2016 after completing approximately $21 million of legacy projects with small or zero margins. Management also expects improved backlog margins, project cost containment and working-capital management to support operating cash flow into 2017. The filing does not provide formal revenue or earnings guidance.
Unapproved change orders, claims and entitled unpaid project price included in contract assets totaled $2.4 million, $9.1 million and $3.9 million, respectively. Negotiations remain ongoing, and management expects resolution without a material adverse effect, but recorded amounts could change materially.
The nine-month results included an additional approximately $1.6 million loss on a completed California project related primarily to a subcontractor claim. A separate $1.0 million legal reserve related to a subcontractor dispute was settled during the second quarter and is fully resolved.
Management stated that available cash, operating cash flow and borrowing capacity are expected to fund the next twelve months, including bonding requirements. However, substantial cash constraints, continuing losses, inability to obtain debt financing, project delays, cost inflation, adverse weather, government funding reductions, subcontractor or joint-venture partner failures, and inaccurate contract estimates could materially affect liquidity and results.
The company is evaluating additional capital alternatives, including asset or business sales, equity issuance, resolution of contract claims and refinancing of the equipment-based facility. Construction joint ventures involve joint and several liability; approximately $126 million of work remained on unconsolidated joint-venture contracts, including $61 million representing the company’s proportionate share.
Important facts for investors to verify
- Verify the registrant name and corporate identity, because the filing identifies the company as Sterling Construction Company, Inc., while the request metadata identifies Sterling Infrastructure, Inc.
- Assess the sustainability of improved gross margins and whether the projected 8.0% to 8.5% backlog margin is achieved.
- Review the collectability and ultimate resolution of the $9.1 million of unapproved claims, $2.4 million of unapproved change orders and $3.9 million of entitled unpaid project price.
- Confirm the availability of cash held by joint ventures and the VIE, as not all reported cash may be available for general corporate needs.
- Evaluate the company’s ability to fund operations, capital expenditures, bonding requirements and debt service while the nine-month period remains loss-making.
- Monitor the 12% Term Loan, the $27.0 million borrowing base, collateral requirements and potential interest-rate adjustments.
- Review project-level risks, including Texas delays and flooding, the California subcontractor claim, joint-venture obligations and potential cost overruns.