VSE Corporation — Fiscal 2019 Form 10-K Summary
Business context and reporting period
VSE Corporation is an aftermarket products and services company serving U.S. government, defense, federal civilian, commercial and international customers. Its three operating groups are Aviation, Supply Chain Management and Federal Services. The filing covers the fiscal year ended December 31, 2019, including fourth-quarter results. The company filed on March 9, 2020.
VSE acquired 1st Choice Aerospace on January 10, 2019, expanding its aviation component maintenance, repair and overhaul capabilities. The acquisition contributed approximately $63.0 million of 2019 revenue.
Financial performance and key metrics
| Metric | 2019 | 2018 | Change |
|---|---|---|---|
| Revenue | $752.6 million | $697.2 million | +8% |
| Operating income | $60.3 million | $54.2 million | +11% |
| Operating margin | 8.0% | 7.8% | +0.2 percentage points |
| Net income | $37.0 million | $35.1 million | +6% |
| Net margin | 4.9% | 5.0% | Down slightly |
| Diluted EPS | $3.35 | $3.21 | +4% |
| Cash flow from operations | $18.0 million | $18.9 million | Down $0.9 million |
| Capital expenditures | $9.6 million | $3.1 million | Higher primarily due to Aviation investments |
| Cash and equivalents | $0.7 million | $0.2 million | Increase of $0.6 million |
Fourth-quarter 2019 revenue was $195.3 million, operating income was $14.8 million, net income was $10.0 million and diluted EPS was $0.90. Fourth-quarter 2018 revenue was $181.0 million, operating income was $13.1 million, net income was $9.2 million and diluted EPS was $0.84.
Revenue mix shifted toward commercial customers: commercial revenue increased to $242.5 million, or 32% of total revenue, from $150.6 million, or 22%, in 2018. DoD revenue declined to $304.3 million, or 41%, from $334.5 million, or 48%.
Segment results
| Segment | 2019 revenue | Revenue change | 2019 operating income | Operating margin |
|---|---|---|---|---|
| Aviation | $224.5 million | +54% | $17.9 million | 8.0% |
| Supply Chain Management | $214.5 million | Flat | $29.8 million | 13.9% |
| Federal Services | $313.6 million | −7% | $18.1 million | 5.8% |
- Aviation: Organic revenue increased approximately 11%; acquisition-inclusive revenue increased 54%. Distribution revenue rose approximately $30 million and repair revenue rose approximately $49 million.
- Supply Chain Management: Non-USPS revenue increased nearly 20%, including commercial revenue growth of approximately 55%. Operating income declined approximately 3% because of customer and product mix.
- Federal Services: Revenue declined approximately $23 million, primarily because FMS Program revenue decreased approximately $51 million. U.S. Army revenue increased approximately $23 million, and improved margins helped operating income increase 15%.
Liquidity, debt and balance sheet
| Balance-sheet item | December 31, 2019 | December 31, 2018 |
|---|---|---|
| Working capital | $191.2 million | $176.3 million |
| Total assets | $845.9 million | $638.8 million |
| Total bank debt, before issuance costs | $272.8 million | $162.7 million |
| Stockholders’ equity | $363.1 million | $328.4 million |
| Inventory | $218.6 million | $166.4 million |
The increase in debt primarily financed the 1st Choice Aerospace acquisition, for which VSE paid approximately $113.2 million in cash. The amended credit agreement provides a $120.8 million term loan and a $350 million revolving loan and letter-of-credit facility. Revolver borrowings were $152.0 million at year-end, leaving substantial stated availability, subject to covenants and lender conditions.
Debt carried variable-rate exposure based on LIBOR or a base rate. The effective rate on aggregate debt was approximately 4.77% at year-end. VSE had interest-rate hedges covering portions of its borrowings and was in compliance with its debt covenants, including a maximum funded debt-to-EBITDA ratio of 3.50 to 1.00 and a minimum fixed-charge coverage ratio of 1.20 to 1.00.
Required term-loan payments after year-end total approximately $17.8 million in 2020, $21.6 million in 2021, $22.5 million in 2022 and $58.9 million in 2023. Cash dividends were $0.35 per share for the year, up from $0.31 in 2018, although dividends remain subject to annual debt-agreement restrictions.
Material changes versus the prior comparable period
- Revenue increased $55.4 million, driven primarily by the 1st Choice Aerospace acquisition and organic Aviation growth.
- Operating income increased $6.0 million despite approximately $2.3 million of acquisition-related and executive succession costs.
- Interest expense increased $4.8 million because of acquisition-related borrowing.
- Operating cash flow was pressured by a $44.2 million inventory investment and increased receivables and unbilled receivables.
- Funded Federal Services backlog declined to approximately $213 million from $290 million; bookings declined to $228 million from $321 million.
- Goodwill increased to $276.5 million from $198.6 million, primarily from the 1st Choice Aerospace acquisition. The Aviation reporting unit had only approximately 6% excess fair value over carrying value in the annual impairment test.
- VSE adopted the new lease standard in 2019, recording operating lease right-of-use assets and liabilities; the adoption did not materially affect results of operations or cash flow.
Guidance, outlook, risks and unusual items
- Management expressed a positive outlook for Aviation and Supply Chain Management in 2020.
- Management expected Federal Services revenue pressure to extend into 2020, primarily because a large U.S. Army contract ended in January 2020. New leadership and increased business-development investment were intended to rebuild backlog and support later growth.
- VSE agreed to sell Prime Turbines for $21 million; the transaction closed February 26, 2020. The company estimated a non-cash loss of $6 million to $7.5 million.
- The company’s customer concentration is material: USPS represented approximately 20% to 22% of revenue, and the FMS Program represented approximately 12% in 2019. Government contracts represented approximately 68% of total revenue.
- Key risks include federal budget and funding delays, contract termination or nonrenewal, competitive bidding and set-aside programs, volatility in FMS and USPS volumes, aviation aftermarket weakness, acquisition integration, goodwill impairment, variable interest rates and the planned discontinuation or modification of LIBOR.
- The filing identifies COVID-19 as an emerging risk to aviation demand, global supply chains and international operations, but states that the financial impact was uncertain as of the filing date.
- A wage-and-hour lawsuit was settled in January 2020. The settlement exceeded the existing accrual, but the difference was not material. The company stated that other claims and government investigations were not expected to have a material adverse effect based on information then available.
Important facts for investors to verify
- Whether Federal Services backlog and bookings recover after the January 2020 U.S. Army contract completion.
- The sustainability of Aviation growth and the integration, profitability and earn-out obligations associated with 1st Choice Aerospace.
- Progress in reducing leverage and meeting required term-loan payments while funding inventory and capital needs.
- Actual financial results from the Prime Turbines divestiture and the estimated $6 million to $7.5 million non-cash loss.
- Exposure to USPS fleet replacement decisions, FMS Program volatility and broader federal procurement changes.
- Potential goodwill impairment in Aviation, where reported fair value exceeded carrying value by only approximately 6%.
- The effect of COVID-19, aviation-market conditions, supply-chain disruptions and changes to LIBOR on future results.