Transcat, Inc. — Q3 FY2023 Form 10-Q
Reporting period: Third quarter and nine months ended December 24, 2022. Dollar amounts below are in millions unless stated otherwise. Transcat provides calibration and asset-management services and distributes professional test, measurement and control instruments, with significant exposure to regulated industries.
Financial performance
| Metric | Q3 FY2023 | Q3 FY2022 | Nine months FY2023 | Nine months FY2022 |
|---|---|---|---|---|
| Revenue | $57.4 | $50.9 | $168.5 | $149.1 |
| Gross profit / margin | $16.4 / 28.6% | $13.6 / 26.8% | $49.2 / 29.2% | $41.8 / 28.0% |
| Operating income / margin | $3.2 / 5.5% | $2.4 / 4.6% | $10.4 / 6.2% | $9.6 / 6.5% |
| Interest and other expense, net | $1.0 | $0.1 | $1.7 | $0.6 |
| Net income / diluted EPS | $1.6 / $0.21 | $1.6 / $0.21 | $7.0 / $0.92 | $8.3 / $1.10 |
| Adjusted EBITDA (non-GAAP) | $6.6 | $5.5 | $21.4 | $18.7 |
- Q3 revenue rose 12.8%; service revenue increased 19.0%, including $2.1 million from acquisitions and 12.0% organic growth. Distribution sales rose 3.7%, driven primarily by rental demand.
- For the first nine months, service revenue increased 20.4% and distribution sales 2.7%. Acquisitions contributed $9.0 million of service revenue in that period.
- Q3 gross margin expanded 180 basis points, supported by operating leverage and a favorable mix of rental and higher-margin distribution products. Service and distribution gross margins were 30.0% and 26.2%, respectively.
- Operating expenses rose 17.4% in Q3 and 20.8% year to date, reflecting acquisitions, amortization, technology investment, payroll and incentive costs. Q3 operating margin improved, but nine-month operating margin declined from 6.5% to 6.2%.
- Net income was nearly flat in Q3 despite higher operating income, as interest expense increased. Nine-month net income fell 15.6%, reflecting higher operating expenses, interest expense and taxes. The nine-month effective tax rate increased to 18.8% from 7.9%, primarily due to lower discrete share-based compensation tax benefits.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $14.0 million, compared with $12.4 million. Investing cash use was $15.4 million, including $7.1 million of capital expenditures and $8.3 million for acquisitions. Financing provided $0.8 million.
- Cash was $1.6 million at December 24, 2022, versus $1.4 million at March 26, 2022. Inventory increased $4.2 million from fiscal year-end.
- Total debt was $49.2 million: $42.2 million outstanding on the revolving facility and $7.0 million on the term loan. The revolving facility has an $80 million commitment and extends to June 2026; the term loan requires monthly payments through December 2025.
- The company reported compliance with its loan covenants and a leverage ratio of 1.66, down from 1.74 at fiscal year-end. Management expects operating cash flow and revolver borrowings to meet foreseeable liquidity needs.
- Management estimated that a 1% change in interest rates would change annual interest expense by approximately $0.4 million, assuming borrowing levels remain constant. The revolver had no interest-rate hedge in place.
Outlook, risks and notable items
- Management expects organic service revenue growth in the high-single-digit range in Q4 FY2023 and FY2024, with gross-margin improvement supported by growth and productivity programs. It expects the full-year FY2023 income tax rate to be 21%–23%.
- Management cited recurring service revenue, regulated end markets and an active acquisition pipeline as growth supports. No specific revenue or earnings guidance was provided.
- Pending distribution shipments were $9.5 million, up $0.6 million year over year; 78.4% were backorders. The company attributed the increase to product-supply disruption and higher orders.
- FY2023 acquisitions included Alliance, e2b and Complete Calibrations. Purchase-price allocations remain preliminary; Alliance also has a potential $0.5 million purchase-price reduction tied to retaining a key customer, and e2b has $0.9 million in escrow for possible post-closing adjustments. A technology license for Complete Calibrations includes per-calibration and annual royalties under specified conditions.
- Other acquisition-related items included a $0.2 million gain from Tangent escrow proceeds after a key employee departure and the reduction of NEXA contingent consideration to zero. Acquisition integration, supply-chain disruption, inflation, interest rates, employee retention, cybersecurity, foreign exchange and goodwill or intangible-asset impairment are among the disclosed risks.
- Adjusted EBITDA and adjusted diluted EPS are non-GAAP measures; the company cautions that they should not be viewed as substitutes for GAAP results or necessarily comparable with similarly named measures at other companies.
Important facts for investors to verify
- Whether organic service growth and the projected high-single-digit growth outlook continue, separately from acquisition contributions.
- Whether distribution backorders and supply constraints ease, and how pending shipments convert to recognized revenue.
- Whether gross-margin gains persist as acquisition, labor, technology and other operating costs rise.
- How higher variable-rate borrowing costs affect earnings, cash flow and covenant headroom.
- Final acquisition purchase-price allocations, contingent or holdback payments, customer-retention outcomes and integration performance.
- Whether the full-year tax-rate estimate of 21%–23% is achieved, given the reported year-to-date rate of 18.8% and discrete tax items.