WORLD KINECT CORP quarterly report, Q3 FY2018

Business context and reporting period

This is World Fuel Services Corporation’s unaudited Form 10-Q for the quarter ended September 30, 2018. The company distributes fuel and related products and services across aviation, land and marine markets, and offers energy management and transaction services through its Kinect platform. The filing identifies the registrant as World Fuel Services Corporation, not “World Kinect Corp”; confirm the intended issuer.

Financial performance

Amounts are in millions of U.S. dollars, except per-share data. Q3 compares the three months ended September 30, 2018 with the same 2017 period; year-to-date (YTD) compares the nine months ended on those dates.

• Revenue grew 22.1% in Q3 and 19.9% YTD. Higher average fuel prices were a major contributor; volumes rose in aviation but fell in land and marine for Q3.
• Gross profit rose 11.2% in Q3 and 7.7% YTD. Gross margin was approximately 2.6% in Q3 2018 versus 2.8% in Q3 2017; YTD margin was approximately 2.5% versus 2.8%.
• Operating income increased 27.5% in Q3 and 20.6% YTD. Operating margin was approximately 0.75% in Q3 2018 versus 0.72% in Q3 2017.
• Q3 net income recovered from a prior-year loss; the 2017 quarter included a $76.9 million U.S. deferred-tax valuation allowance. YTD effective tax rates were 30.1% in 2018 and 79.8% in 2017, also affected by that allowance and other discrete tax items.

Balance sheet, cash flow and liquidity

• At September 30, 2018, cash was $142.1 million, down from $372.3 million at December 31, 2017. Current assets were $4,327.9 million and current liabilities $3,283.4 million; the current ratio was approximately 1.32.
• Total debt was $742.3 million, down from $910.2 million at year-end 2017. This comprised $209.0 million under the credit facility, $523.2 million in term loans and other obligations. The company reported $947.2 million of unused credit-facility capacity, subject to covenants and borrowing limits.
• YTD operating cash use was $316.0 million, versus $191.1 million in 2017, mainly reflecting working-capital movements in receivables, payables and inventory. Investing activities provided $299.0 million, including receipts related to receivables sales; financing activities used $212.0 million.
• Receivables and inventory increased to $3,106.9 million and $679.3 million, respectively, from $2,705.6 million and $505.0 million at year-end. The company cited higher fuel prices and timing as factors affecting working capital.
• Management said cash, credit-facility availability and operating cash flows were expected to be sufficient for working capital and capital expenditures for at least the next 12 months. The company reported compliance with debt covenants at quarter-end.

Material changes and management commentary

• Aviation revenue rose 35.6% in Q3, supported by higher fuel prices, international fueling growth and government-related activity. Aviation operating income increased to $76.4 million from $61.6 million.
• Land Q3 revenue rose 3.0%, but gross profit fell 2.9% and operating income fell to $7.8 million from $13.1 million. Management cited warm, dry U.K. weather, continued weakness in Brazil and reduced low-return activity; Kinect and acquired businesses partly offset those pressures.
• Marine Q3 revenue rose 23.4% despite a 12.5% volume decline, primarily because average bunker prices increased 41.0%. Marine operating income rose to $14.4 million from $4.3 million. Management noted improved profitability but weak global shipping and offshore conditions.
• YTD restructuring charges were $12.2 million, mainly employee-related; accrued restructuring charges were $26.1 million at September 30. The company expected most restructuring activities to be completed in 2019, but could not estimate total ultimate cost.
• During Q3, receivables purchase agreements were amended to remove retained beneficial interests, allowing sale of 100% of qualifying receivables for cash consideration net of a discount margin. Sold receivables were $553.7 million at quarter-end.
• No numerical earnings or revenue guidance is provided. Management expects government activity to remain strong through the balance of 2018 but cautions that it may decrease over time. It cited investment in automation and technology, portfolio rationalization, cost efficiencies and opportunities tied to marine fuel standards effective in 2020.

Risks, contingencies and unusual items

• Fuel-price increases can raise working-capital needs, affect supplier credit and constrain customer purchases or collections. The business also faces fuel-price, derivative, counterparty-credit, foreign-exchange and supply-disruption risks.
• Government-related sales materially contribute to profitability and may fluctuate with military activity, deployments, contract changes and logistics in high-risk regions.
• Tax authorities are examining matters in the U.S., Denmark and South Korea; South Korean assessments include $10.2 million and $17.9 million. The company disputes the assessments. It also disclosed Brazilian indirect-tax disputes; adverse outcomes or required prepayments could affect cash flow.
• The company is cooperating with a U.S. Department of Justice investigation into aviation fuel supply activity at an airport in Central America.
• Derivative liabilities and related obligations warrant attention: net derivative obligations were $110.3 million, principally due within one year; fixed purchase commitments under derivative programs were $59.2 million. Derivative credit clauses may require collateral or settlement after specified credit events.
• The company noted adoption of new accounting standards, including revenue recognition, did not materially affect its financial statements. It was evaluating the impact of the new lease standard expected to apply beginning in fiscal 2019.

Investor verification priorities

1. Confirm issuer identity: the supplied filing is for World Fuel Services Corporation, and “Kinect” is described as its energy-management platform.
2. Assess whether revenue growth reflects sustainable volume and margin improvement or chiefly higher fuel prices; track segment volumes, gross profit and operating income.
3. Review working-capital needs, operating cash flow, receivables-sale terms and liquidity headroom, particularly if fuel prices rise or trade credit tightens.
4. Monitor land-segment recovery, restructuring costs and the results of portfolio exits and technology investments.
5. Track government-contract exposure, tax disputes, the DOJ investigation, and the timing and financial effect of derivative and purchase obligations.