Ducommun Incorporated — 2015 Third-Quarter Form 10-Q
Business Context and Reporting Period
Ducommun provides engineering and manufacturing services for high-performance, high-cost-of-failure products, primarily in aerospace and defense, through Ducommun AeroStructures (DAS) and Ducommun LaBarge Technologies (DLT). The filing covers the 13-week quarter and nine months ended October 3, 2015, with comparative 2014 results restated for prior-period contract-cost and tax errors.
Financial Results and Key Metrics
| Metric | Three Months Ended October 3, 2015 | Three Months Ended September 27, 2014 | Nine Months Ended October 3, 2015 | Nine Months Ended September 27, 2014 |
|---|
| Net revenue | $161.7 million | $188.2 million | $509.4 million | $554.4 million |
| Gross profit / margin | $20.0 million / 12.4% | $33.1 million / 17.6% | $78.0 million / 15.3% | $106.7 million / 19.2% |
| Operating income (loss) | $(1.2) million / (0.7%) | $10.1 million / 5.3% | $13.3 million / 2.6% | $41.7 million / 7.5% |
| Net income (loss) | $(9.5) million | $2.9 million | $(9.7) million | $14.7 million |
| Diluted EPS | $(0.86) | $0.26 | $(0.88) | $1.31 |
| Adjusted EBITDA | $6.3 million / 3.9% of revenue | $18.4 million / 9.8% | $35.7 million / 7.0% | $65.1 million / 11.7% |
- Revenue decreased 14.1% in the quarter and 8.1% year to date, primarily because of lower military and space demand, reduced U.S. government defense spending, shifting program priorities and customer delivery timing.
- Quarterly gross profit included approximately $9.0 million of additional forward-loss reserves on a regional jet program, approximately $3.9 million from lower manufacturing efficiency and approximately $2.1 million from unfavorable product mix. Year-to-date forward-loss reserves increased by approximately $12.1 million.
- The quarterly loss included an $11.9 million debt-extinguishment charge, consisting primarily of a $9.8 million call premium and $2.1 million write-off of debt issuance costs. The year-to-date charge was $14.7 million.
- Income tax benefits were $6.9 million in the quarter and $6.7 million year to date, compared with tax expenses of $1.8 million and $7.5 million, respectively, in the comparable 2014 periods.
- DAS quarterly revenue declined 21.1% and segment operating income fell to a $6.0 million loss from $6.9 million of income. DLT revenue declined 8.7%, while segment operating income increased to $8.6 million from $8.3 million.
Cash Flow, Debt and Liquidity
| Balance Sheet / Cash Flow Metric | October 3, 2015 | December 31, 2014 |
|---|
| Cash and cash equivalents | $12.2 million | $45.6 million |
| Total debt | $260.0 million | $290.1 million |
| Unused revolving credit capacity | $198.5 million | $58.5 million |
| Total assets | $692.4 million | $747.6 million |
| Shareholders’ equity | $249.5 million | $256.6 million |
- Operating cash flow was $12.1 million for the first nine months, compared with $20.8 million in the restated 2014 period.
- Investing cash flow used $10.0 million, including $11.8 million of property and equipment purchases. Management expected approximately $15.0 million of 2015 capital expenditures.
- Financing cash flow used $35.5 million, reflecting debt refinancing, voluntary principal repayments, the notes redemption premium and debt issuance costs.
- In June 2015, the company entered a new $275.0 million senior secured term loan and $200.0 million senior secured revolving facility, both maturing in 2020. Approximately $260.0 million was outstanding at quarter end, and the company was in compliance with its covenants.
- Management expected operating cash flow and revolver availability to provide sufficient liquidity for the next 12 months. Subsequent to quarter end, the company entered interest-rate cap hedges covering approximately $135.0 million of debt at a cost of approximately $1.0 million.
Material Changes, Outlook and Unusual Items
- Backlog was $552.6 million at October 3, 2015, down from $559.3 million at December 31, 2014; approximately $442 million was expected to be delivered within 12 months. Backlog remains subject to delays and cancellations.
- Management expected annualized interest savings of approximately $15.0 million from refinancing, facility-closure savings of approximately $2.0 million to $3.0 million, and an additional $4.0 million to $5.0 million from other cost initiatives.
- Restructuring actions included organizational realignment, consolidation or closure of facilities in New York, Houston and St. Louis. The company recorded $0.8 million of severance charges in the quarter and expected an additional $1.7 million to $2.0 million of fourth-quarter severance and lease-exit costs.
- The company’s prior financial statements were restated following misconduct involving direct-labor charges to a long-term contract and errors in income-tax reconciliations. The related estimates, including forward-loss reserves, remain an important source of financial-reporting risk.
- Goodwill was $157.6 million and intangibles were $147.6 million. Management did not identify a goodwill impairment trigger during the quarter but stated that a sustained market-capitalization decline or operating underperformance could require an interim test.
- Environmental reserves totaled approximately $1.9 million for groundwater and landfill matters. A dismissed False Claims Act lawsuit involving Boeing was on appeal; the filing described claimed damages of up to $1.6 billion, although management did not expect the matters disclosed to have a material adverse effect.
- Disclosure controls were not effective because previously reported material weaknesses in contract-loss-reserve accounting and tax-account reconciliation had not been remediated as of October 3, 2015. Management expected planned remediation during 2015 but gave no assurance it would be completed.
Important Facts for Investors to Verify
- Whether regional jet program costs and forward-loss reserves are fully captured and whether additional contract losses emerge.
- Progress in remediating the material weaknesses and the effect of the restatement on future reporting reliability.
- DAS recovery, military and space demand, customer delivery timing and manufacturing utilization.
- Achievement of projected cost savings and approximately $15.0 million of annualized refinancing interest savings.
- Compliance with term-loan covenants, mandatory amortization requirements and interest-rate exposure.
- Conversion of the $552.6 million backlog into revenue, including the portion expected within 12 months and any cancellation or delay risk.
- Potential changes in goodwill valuation, environmental obligations and the outcome of the False Claims Act appeal.
