Business context and reporting period
Argan, Inc. filed this unaudited Form 10-Q for the quarter and nine months ended October 31, 2015 (its fiscal third quarter and first nine months of fiscal 2016). The company’s principal business is power-industry engineering, procurement and construction (EPC), supplemented by telecommunications infrastructure services. APC, acquired May 29, 2015, expanded the power business internationally.
Financial results and liquidity
| Metric | Three months ended Oct. 31, 2015 | Nine months ended Oct. 31, 2015 | Prior-year comparable |
|---|---|---|---|
| Revenue | $114.0m | $296.9m | $127.6m quarter; $280.8m nine months |
| Gross profit / margin | $26.3m / 23.0% | $75.9m / 25.6% | $30.3m / 23.8%; $61.9m / 22.1% |
| Operating income | $20.7m | $59.9m | $24.8m; $48.6m |
| Net income attributable to Argan shareholders | $10.8m; diluted EPS $0.72 | $29.6m; diluted EPS $1.97 | $12.4m / $0.84; $24.4m / $1.66 |
| Net cash from (used in) operating activities | Not presented quarterly | $(46.9)m | $86.4m for nine months |
At October 31, cash and cash equivalents were $176.8m and short-term investments were $104.1m, for combined balances of $280.9m. Working capital was $184.0m. Total liabilities were $153.1m; the company reported no revolving-credit borrowings. Its credit facility provides up to $10.0m through May 2018, with $1.35m of availability designated for letters of credit. The company was in covenant compliance.
Material changes versus the prior comparable period
- Quarterly revenue fell 10.7% and shareholder-attributable net income fell 13.0%, mainly reflecting the maturing phase of two large Pennsylvania power projects. Quarter gross margin also eased year over year.
- Nine-month revenue rose 5.7%, gross profit rose to $75.9m from $61.9m, and shareholder-attributable net income increased to $29.6m from $24.4m. Management attributed improved year-to-date profitability to better project execution and increased certainty in estimated remaining costs and margins; it reported no additional significant project margin improvements in the third quarter.
- Operating cash flow swung to a $46.9m use, principally reflecting a $76.5m reduction in billings in excess of costs and estimated earnings as projects progressed, along with higher receivables. Cash decreased $156.9m, substantially because the company purchased short-term investments; total cash plus short-term investments was $280.9m at quarter-end.
- Argan acquired APC for consideration valued at $11.1m, including cash, shares and escrow consideration. APC contributed $10.3m of nine-month revenue and $0.1m of pretax income since acquisition. Acquisition-related costs were $0.5m.
Outlook, commentary, risks and unusual items
- GPS backlog was approximately $1.2bn at October 31, including four new power projects. Their disclosed contract values were $402m, approximately $570m combined, and approximately $99m. Management said the projects should provide a base of activity for the next few fiscal years, with steady gross margins; this is not quantified earnings guidance.
- Management expects revenue from the two Pennsylvania projects to decline as they approach completion, with new project activity and APC expected to offset the decreases. It cautioned that margins may return to lower levels as new projects ramp up.
- In November, Moxie Freedom repaid Argan’s development loans and accrued interest, paid Argan’s $2.6m share of a development success fee, and issued full notice to proceed on the related EPC contract.
- On December 4, after the reporting date, Argan acquired TRC. It paid $0.5m for the interests, paid approximately $16m to retire debt and leases, and subsequently advanced another $10m for working capital and general purposes. Management disclosed that TRC had incurred losses on large contracts and said there is no assurance it will succeed.
- Other notable items include a $1.6m revenue receipt resolving the Altra bankruptcy matter, a $0.35m gain from deconsolidating Moxie Freedom, and $0.38m of quarterly foreign-exchange gains. The $0.70-per-share dividend declared in September was paid November 5.
- Risks include reliance on a small number of power customers and major projects, execution and cost-estimation risks on fixed-price contracts, unhedged exposure to commodity prices, acquisition integration and TRC turnaround risk, and possible financing needs for future acquisitions. Two customers each represented 36% of quarterly revenue. Management reported no legal proceedings expected to materially affect the financial statements and no material revisions to previously disclosed risk factors.
Important facts for investors to verify
- How project progress, cost estimates and remaining margins on the major EPC contracts develop, and whether the new-project backlog converts on schedule and at expected profitability.
- Cash conversion and working-capital trends, especially project billings, retainage collection and the use of joint-venture cash reserved mainly for construction costs.
- TRC’s post-acquisition operating performance, losses on legacy contracts, and further funding requirements.
- Customer concentration, commodity-cost exposure on fixed-price work, and the effect of APC and TRC integration on reported margins and cash flows.
- Reconcile the impact of the $0.70 dividend, Moxie receipts, and short-term investment maturities on cash available for operations and capital allocation.