Mayville Engineering Company, Inc. — Q1 2019 Form 10-Q
Reporting period: Three months ended March 31, 2019; comparisons are with Q1 2018. Financial statement amounts are in thousands of dollars unless stated otherwise. MEC is a U.S. metal-component manufacturer serving commercial vehicle, construction, powersports, agriculture, military and other markets.
Financial results and liquidity
| Metric | Q1 2019 | Q1 2018 |
|---|---|---|
| Net sales | $143.7 million | $87.2 million |
| Manufacturing margin | $19.6 million; 13.6% | $11.8 million; 13.5% |
| Operating income | $6.1 million; 4.2% of sales | $5.4 million; 6.1% |
| Net income | $2.5 million; 1.7% of sales | $4.4 million; 5.1% |
| EBITDA / margin | $13.7 million / 9.5% | $10.4 million / 11.9% |
| Adjusted EBITDA / margin | $16.8 million / 11.7% | $10.4 million / 11.9% |
| Operating cash flow | $(1.5) million | $1.7 million |
| Capital expenditures | $8.2 million | $2.5 million |
Sales rose 64.8%, principally from the December 2018 acquisition of Defiance Metal Products (DMP), which contributed $50.2 million of Q1 sales; legacy-business growth contributed about $6.3 million. DMP generated $0.8 million of net income for the quarter. Manufacturing margin improved slightly as a percentage of sales, while operating and net margins declined.
Cash and cash equivalents were only $28,000 at March 31, 2019. Current assets were $126.5 million and current liabilities $87.4 million. Receivables increased to $67.8 million from $52.3 million at year-end. Operating cash use reflected working-capital outflows, especially receivables growth. Net investing cash use was $8.1 million; net financing cash provided was $6.6 million.
At March 31, borrowings included $66.4 million under the revolving facility and $121.0 million of other long-term debt principal; capital lease obligations were $1.9 million. The $90 million revolver had $23.6 million of availability. The weighted stated rate on revolving and senior term borrowings was 4.75%; the $25 million strategic capital loan carried 11.59%. MEC reported covenant compliance, a 2.50 fixed-charge coverage ratio and 2.98 total leverage ratio. A 100-basis-point rate increase was estimated to add $0.5 million of quarterly interest expense.
Material changes and unusual items
- Q1 net income fell 44.5% year over year. Higher interest expense—primarily from debt used to finance DMP—higher amortization, taxes and transaction-related costs more than offset DMP earnings and legacy growth.
- Reported EBITDA margin fell to 9.5%, while adjusted EBITDA margin was 11.7%. Adjustments included $1.8 million of IPO and acquisition expenses, $0.4 million of DMP inventory step-up expense and $0.9 million from revaluing contingent consideration. Adjusted EBITDA is a non-GAAP measure.
- Capital spending increased for automation and technology. Management attributed legacy manufacturing-margin growth to higher volume, utilization and production efficiencies.
- The DMP earnout could require payment of at least $7.5 million if specified EBITDA targets are achieved, subject to a $10 million maximum. The liability was valued at $6.9 million at March 31; the earnout measurement period ends September 30, 2019.
Outlook, risks and subsequent events
Management said operating cash flow and available credit were expected to be sufficient to fund 2019 operations, while cautioning that cash flows, capital needs and access to additional financing are uncertain. The filing provides no specific revenue or earnings guidance. Key risks include customer and end-market concentration, production scheduling and utilization, skilled-labor availability, raw-material costs, acquisition integration, capital intensity, interest-rate exposure and access to capital. Two customers represented 17.0% and 14.1% of Q1 sales, respectively.
Management concluded disclosure controls were ineffective at quarter-end because previously identified material weaknesses remained in IT general controls and accounting policies, journal-entry controls and financial-reporting staffing. Remediation efforts were underway. The company reported no material litigation and no material change to previously disclosed risk factors.
After quarter-end, the May 2019 IPO generated $99.3 million net of underwriting discounts and commissions; proceeds were used to repay $43 million of Term A debt, repay the $25 million strategic capital loan and reduce the revolver. Underwriters later purchased additional shares, generating $2.4 million net. MEC converted from an S corporation to a C corporation on May 12, 2019. The DMP working-capital true-up added $2.4 million to cash paid for the acquisition. The IPO also led to a $10.5 million long-term incentive plan payout and a $10.0 million increase in the deferred-compensation liability.
Important facts for investors to verify
- Whether DMP meets the earnout thresholds and the final acquisition purchase-price allocation.
- Post-IPO debt balances, interest expense and covenant headroom after the debt repayments.
- Receivables collection, operating cash conversion and ongoing capital-spending requirements.
- Progress in remediating the disclosed material weaknesses and establishing effective controls.
- The effects of C-corporation taxation and the IPO-related incentive and deferred-compensation revaluations on subsequent-period earnings and liabilities.