Tetra Tech, Inc. — Q3 FY2011 Form 10-Q
Reporting period: Third quarter and first nine months ended July 3, 2011. Unaudited; comparisons are with the periods ended June 27, 2010. Tetra Tech provides consulting, engineering, program and construction management, and technical services in resource management, infrastructure, and the environment.
Financial performance
Amounts are in millions of dollars, except per-share data and percentages.
| Metric | Q3 FY2011 | Q3 FY2010 | First 9 months FY2011 | First 9 months FY2010 |
|---|---|---|---|---|
| Revenue | $673.8 | $562.4 | $1,897.5 | $1,573.9 |
| Revenue, net of subcontractor costs | $480.5 | $370.1 | $1,316.4 | $1,039.6 |
| Operating income | $39.4 | $32.7 | $103.0 | $87.3 |
| Operating margin | 5.8% | 5.8% | 5.4% | 5.6% |
| Net income attributable to Tetra Tech | $23.8 | $20.6 | $63.6 | $53.7 |
| Diluted EPS | $0.38 | $0.33 | $1.01 | $0.86 |
- Q3 revenue increased 19.8% and operating income 20.5% year over year. Nine-month revenue rose 20.6% and operating income 17.9%.
- Acquisitions contributed $111.1 million of Q3 revenue and $291.4 million for the nine-month period. Growth also reflected demand in mining and energy, and water, environmental, and infrastructure services.
- Nine-month effective tax rate was 33.4%, down from 37.9%, primarily due to extended research and experimentation credits and expansion of foreign operations.
- Q3 operating income included a $1.1 million gain from acquisition earn-out liabilities; the nine-month period included $1.6 million. Acquisition-related intangible amortization was $7.0 million in Q3 and $20.7 million year to date.
Cash flow, balance sheet, and debt
- Nine-month operating cash flow was $98.4 million, versus $64.6 million a year earlier. Capital expenditures were $13.6 million.
- Investing cash outflow was $219.8 million, chiefly reflecting $206.1 million of net acquisition payments. Financing cash outflow was $2.0 million. Cash declined by $122.6 million to $98.4 million from $220.9 million at fiscal year-end.
- At July 3, 2011, current assets were $829.9 million and current liabilities $511.4 million; working capital was approximately $318.5 million. Accounts receivable, net, was $669.1 million, including $316.4 million unbilled.
- Total debt was approximately $115.6 million, compared with $127.5 million at October 3, 2010. The new $460 million revolving facility matures March 28, 2016. At quarter-end, borrowings were $111.5 million at a 1.92% weighted-average rate; availability was $320 million, with $28.5 million in standby letters of credit.
- The company reported compliance with credit covenants: leverage ratio 1.04x against a 2.5x maximum, and fixed-charge coverage ratio 2.02x against a 1.25x minimum. Management said cash, operating cash flow, and available borrowing should cover capital needs for at least 12 months.
Material changes and segment trends
- Engineering and Consulting Services (ECS) led growth: Q3 segment revenue rose 56.0% and operating income 90.9%, substantially reflecting Canadian acquisitions and stronger mining-related demand.
- Remediation and Construction Management (RCM) revenue fell 1.2% in Q3 and 2.0% year to date; operating income declined 56.9% and 49.4%, respectively. Management cited fixed-price project overruns of approximately $2 million in Q3 and $17 million year to date, lower construction activity, and pricing pressure.
- Federal-government revenue declined 4.2% in Q3, while state and local revenue fell 7.5%. Commercial revenue increased 20.2%; international revenue increased 195.0%, supported by acquisitions and mining and energy demand.
- Goodwill increased to $564.1 million from $394.4 million at fiscal year-end, primarily from acquisitions and currency translation. The BPR acquisition included contingent earn-out payments of up to CAD $40 million; estimated fair value of acquisition earn-out liabilities was $31.2 million at quarter-end.
Outlook, risks, and contingencies
- Management expected significant FY2011 revenue growth versus FY2010, citing acquisitions and anticipated business growth. It expected federal revenue to be relatively flat, state and local revenue to decline, and commercial and international revenue to grow significantly.
- Management described a gradual U.S. recovery and stronger international demand, while warning that uncertain budgets and weak economic conditions could affect government, commercial, and international work. The filing provides no specific earnings or EPS guidance.
- Backlog was $1.9 billion; it includes funded work with authorizations received, but may be canceled or adjusted and is not a reliable indicator of future earnings.
- Key risks include government budget delays or cuts, state and local fiscal pressure, contract competition and termination, fixed-price overruns, project-estimate revisions, collection risk, acquisition integration, foreign exchange, and dependence on qualified personnel. Most contracts use percentage-of-completion accounting, so revised cost estimates can reduce or reverse previously recognized revenue or profit.
- Professional-liability claims and lawsuits are ongoing; management did not expect them overall to materially harm the company, but acknowledged uncertainty and that some claims may exceed insurance. In the ITC litigation involving acquired AMT, the stated reasonably possible exposure was $0 to approximately $14.5 million. A liability and an equal indemnification receivable were recorded based on management’s estimates and expectation that former owners would honor the indemnity.
- A Western Australian mining engineering acquisition occurred after the reporting date, in Q4 FY2011. The filing does not provide its purchase price.
Most important facts for investors to verify
- How much revenue and earnings growth is organic versus acquisition-related, particularly in ECS and international markets.
- Whether RCM project overruns and construction-management weakness persist, and whether fixed-price contract estimates change.
- Receivables and cash conversion: unbilled receivables were $316.4 million, and cash fell substantially following acquisition spending.
- Whether FY2011 outlook assumptions hold amid federal budget uncertainty and expected state and local declines.
- Acquisition earn-out obligations, integration performance, and the recoverability of the recorded ITC indemnification receivable.