AAR CORP. Form 10-K Summary
Reporting period: Fiscal year ended May 31, 2014. The request references 2013 Q4, but the filing is the fiscal 2014 annual report and includes unaudited fourth-quarter data. All dollar amounts are in millions unless stated otherwise.
Business Context
AAR provides aviation aftermarket products and services and government and defense products through two segments: Aviation Services and Technology Products. Aviation Services includes parts distribution, supply-chain management, maintenance, repair and overhaul, aircraft leasing and expeditionary airlift. Technology Products includes cargo systems, pallets, containers, shelters, precision components and aerospace systems.
- Fiscal 2014 backlog was $903.3 million, down from $973.0 million; $557.8 million was expected to be fulfilled within 12 months.
- Government and defense sales were $827.4 million, or 40.7% of consolidated sales, compared with $839.2 million, or 39.3%, in fiscal 2013.
- U.S. government and contractor sales were $694.9 million, or 34.1% of consolidated sales.
Financial Performance and Position
| Metric | FY2014 | FY2013 | Change |
|---|---|---|---|
| Sales | $2,035.0 | $2,137.3 | (4.8%) |
| Gross profit | $340.2 | $314.2 | +8.3% |
| Gross margin | 16.7% | 14.7% | +2.0 percentage points |
| Operating income | $145.7 | $122.6 | +18.8% |
| Operating margin | 7.2% | 5.7% | +1.4 percentage points |
| Net income attributable to AAR | $72.9 | $55.0 | +32.5% |
| Diluted EPS | $1.83 | $1.38 | +32.6% |
| Cash dividends per share | $0.30 | $0.30 | Flat |
- Net margin was approximately 3.6%, compared with approximately 2.6% in fiscal 2013.
- Cash flow from operations was $139.8 million, down from $162.9 million, primarily because of increased inventory and equipment investments.
- Investing activities used $40.9 million, including $26.5 million of capital expenditures and $15.3 million for the acquisition of the PFW Aerospace cargo systems business.
- Financing activities used $85.9 million, principally reflecting a $78.9 million net reduction in borrowings and $11.8 million of dividends.
- Cash and cash equivalents increased to $89.2 million from $75.3 million. Working capital increased to $714.8 million from $644.7 million.
- Total recourse debt declined to $634.0 million from $708.6 million. Debt consisted of $69.7 million of current maturities and $564.3 million of long-term debt.
- The $475.0 million unsecured revolving facility had $130.0 million drawn and $14.8 million of letters of credit, leaving approximately $330.2 million available. A separate secured facility had $29.9 million outstanding.
- Management stated that all financing covenants were satisfied.
Material Changes Versus the Prior Comparable Period
- Sales declined 4.8%, driven by a 7.0% decline in commercial sales, weaker maintenance, repair and overhaul activity, and the conversion of a large component contract from time-and-materials billing to a power-by-the-hour arrangement.
- Aviation Services sales decreased 3.4% to $1,560.0 million, while gross profit increased 13.8% to $258.9 million. Government and defense gross margin increased to 19.1% from 14.0%.
- Technology Products sales declined 9.2% to $475.0 million and gross profit declined 6.2% to $81.3 million, mainly because of lower defense and commercial demand.
- Fiscal 2013 included a $29.8 million pretax charge on the KC-10 support contract. No comparable charge was recorded in fiscal 2014, materially benefiting operating income and government and defense margins.
- Fiscal 2013 also included a $9.0 million benefit from the final settlement of the Airinmar earn-out. Excluding that benefit, fiscal 2014 selling, general and administrative expenses decreased by $9.8 million due to cost controls and procurement savings.
- The company acquired the PFW Aerospace cargo systems business for $15.3 million in December 2013.
- Fiscal 2014 quarterly sales were $505.4 million and net income attributable to AAR was $17.1 million, compared with fourth-quarter fiscal 2013 sales of $553.8 million and net income of $0.6 million. The fiscal 2013 fourth quarter was affected by the KC-10 contract adjustment.
Guidance, Outlook, Risks and Unusual Items
Management expected fiscal 2015 growth in supply-chain activities and improvement in repair businesses, supporting commercial Aviation Services sales. Management also expected defense budgets, DoD sales and Afghanistan-related activity to remain under pressure, while continuing to transition the airlift aircraft portfolio.
- Expeditionary airlift revenue faced risks from the U.S. drawdown in Afghanistan, contract renewals, potential termination or reduction of contracts, and the status of forces agreement. At fiscal year-end, 20 of 40 aircraft previously in revenue service were inactive and available for redeployment.
- Several airlift contracts were renewed or awarded, including contracts valued at approximately $50 million, $180 million, $23 million, $34 million and $34 million; one $34 million award was under protest, and the $134 million IDIQ contract was awaiting task orders.
- The A400M cargo-system program remained a significant judgment and execution item. Capitalized development costs were $139.8 million before classification between current and noncurrent assets, and management expected approximately $300 million of related revenue through fiscal 2021 based on current projections. Certification, delivery delays, cancellations, production costs and contract changes could affect recoverability.
- The KC-10 contract continued to include $19.7 million of unbilled receivables and $9.9 million of costs in excess of billings. The company recorded a zero margin on the flight-hour portion in fiscal 2014 and expected to recover the excess costs through future billings.
- Key risks include commercial aviation cyclicality, customer financial distress, government funding and sequestration, fixed-price contract overruns, competition, regulatory compliance, international operations, foreign exchange, aircraft and inventory impairments, acquisition integration, cyber threats, environmental liabilities and shortages of skilled personnel.
- Contractual obligations included $440.8 million of debt, $189.9 million of bank borrowings, $200.6 million of interest, $109.2 million of operating leases, $259.0 million of purchase obligations and $7.9 million of anticipated fiscal 2015 pension contributions.
- The company reported no material pending legal proceeding other than routine litigation, and management stated that ordinary-course claims and environmental matters were not expected to have a material adverse effect.
- KPMG issued unqualified opinions on the consolidated financial statements and internal control over financial reporting. Management concluded that disclosure controls and internal controls were effective as of May 31, 2014.
Most Important Facts to Verify
- Whether fiscal 2015 commercial growth and repair-business improvement offset continued DoD, Afghanistan and defense-budget pressure.
- Progress, certification and cost recovery for the A400M program, including the $139.8 million of capitalized development costs.
- Recoverability and billing status of the KC-10 contract balances, including $9.9 million of costs in excess of billings.
- Utilization, redeployment and renewal of the expeditionary airlift fleet and related contracts.
- Inventory growth, equipment on lease and working-capital requirements, which reduced operating cash flow in fiscal 2014.
- Debt maturities and refinancing needs, particularly fiscal 2015 maturities and the April 2015 secured facility expiration.
- Backlog conversion and concentration: backlog declined to $903.3 million, while U.S. government and contractor sales represented 34.1% of consolidated sales.
- Potential effects of fixed-price contracts, aviation-market weakness, foreign exchange movements and future impairment testing.