Ducommun Incorporated — Form 10-Q Summary
Business context and reporting period
Ducommun provides engineering and manufacturing products and services primarily to the aerospace and defense industries, with additional exposure to industrial, energy, medical and natural-resource markets. Operations are conducted through Ducommun AeroStructures (DAS) and Ducommun LaBarge Technologies (DLT). The filing covers the three and nine months ended September 28, 2013, compared with the periods ended September 29, 2012.
Key financial metrics
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Net sales | $181.3 million | $184.1 million | $548.7 million | $553.1 million |
| Gross profit / margin | $32.3 million / 17.8% | $35.6 million / 19.3% | $102.5 million / 18.7% | $106.0 million / 19.2% |
| Operating income / margin | $12.0 million / 6.6% | $14.2 million / 7.7% | $37.3 million / 6.8% | $40.1 million / 7.3% |
| Net income / margin | $4.6 million / 2.6% | $5.1 million / 2.8% | $13.8 million / 2.5% | $13.0 million / 2.4% |
| Diluted EPS | $0.42 | $0.48 | $1.28 | $1.23 |
| Adjusted EBITDA / margin | $19.2 million / 10.6% | $21.9 million / 11.9% | $58.7 million / 10.7% | $62.3 million / 11.3% |
All financial statement amounts are unaudited. Adjusted EBITDA is a non-GAAP measure and should not be viewed as a substitute for net income or operating cash flow.
Cash flow, debt and liquidity
- Operating cash flow was $7.6 million in Q3 and $14.5 million for the first nine months, compared with $11.4 million for the first nine months of 2012.
- Capital expenditures were $7.3 million for the first nine months, versus $12.3 million in the prior-year period. Management expected approximately $11 million of 2013 capital expenditures.
- Cash and cash equivalents were $32.6 million at September 28, 2013, down from $46.5 million at December 31, 2012.
- Total debt was $343.2 million, including $200.0 million of 9.75% senior unsecured notes, $140.1 million of senior secured term debt at a 4.75% floating rate, and $3.1 million of other debt.
- The company made voluntary term-loan principal prepayments totaling $22.5 million during 2013, including $7.5 million in the third quarter, and expected to pay down up to $30 million during the year.
- Unused revolving-credit capacity was $58.4 million after standby letters of credit. The company reported compliance with all debt covenants and expected operating cash flow and borrowing capacity to meet obligations for the next twelve months.
Material changes versus the prior comparable period
- Third-quarter sales declined 1.5% and nine-month sales declined 0.8%. DAS sales increased 1.4% in Q3 and 2.9% year to date, while DLT sales declined 3.6% and 3.4%, respectively.
- Aerospace and defense sales increased, but were more than offset by lower non-aerospace and defense sales. DLT non-aerospace and defense revenue declined 24.7% in Q3 and 27.5% year to date.
- Gross margin declined primarily because of unfavorable product mix, lower non-aerospace and defense sales, and a $1.1 million DLT inventory-reserve charge related to prior-period valuation errors.
- Operating income decreased 16.1% in Q3 and 7.0% for the first nine months. DLT operating income declined, while DAS operating income improved.
- Interest expense declined because of lower debt balances and the lower term-loan rate effective April 2013.
- Net income increased 6.5% for the first nine months despite lower operating income, largely because of lower taxes. The 2013 nine-month results included $3.7 million of federal research and development tax benefits, including $2.0 million related to 2012.
- Firm backlog was $609.1 million at quarter-end, down from $656.6 million at December 31, 2012; approximately $152 million was expected to be delivered during the remainder of 2013.
Outlook, commentary, risks and unusual items
- Management cited improved DAS product mix and operating efficiencies, while DLT results were pressured by lower sales, reduced margins and the inventory-reserve charge.
- Approximately $0.5 million of additional federal research and development tax benefits was expected in the fourth quarter of 2013. The filing notes that tax benefits and favorable tax adjustments materially affected reported effective tax rates.
- Boeing and Raytheon represented 19.1% and 10.1% of Q3 sales, respectively; the top ten customers represented 59.6%. Customer concentration, program timing, backlog conversion, delivery delays and cancellations are material risks.
- Ducommun is defending a False Claims Act qui tam lawsuit involving allegations of unapproved parts supplied to Boeing. The government declined to intervene, summary-judgment motions were pending, and the company could not estimate potential liability.
- Environmental matters include groundwater remediation reserves of approximately $1.5 million and a $0.4 million reserve related to the West Covina landfill. The company estimated potential West Covina exposure of approximately $0.4 million to $3.1 million.
- Variable-rate debt creates interest-rate risk; $140.1 million of term-loan borrowings carried a 4.75% rate at quarter-end. An October 18, 2013 credit-agreement amendment increased the maximum leverage ratio by 0.75 in future periods.
- Management stated that disclosure controls were effective as of September 28, 2013 and that no material change affected internal control over financial reporting.
Investor verification priorities
- Verify whether DLT revenue and margins stabilize after the inventory valuation correction and the decline in non-aerospace and defense markets.
- Assess the sustainability of earnings excluding the 2013 research and development tax benefits and other favorable tax adjustments.
- Monitor debt paydown, interest expense, covenant headroom and available revolver capacity.
- Reconcile the $609.1 million backlog with subsequent orders, cancellations, delivery timing and revenue conversion.
- Track customer concentration, particularly Boeing and Raytheon, and exposure to commercial aerospace and defense programs.
- Follow developments in the False Claims Act litigation and environmental remediation matters, including any change in estimated liability.