AAON, Inc. — Q1 2019 Form 10-Q
Reporting period: Three months ended March 31, 2019; comparisons are with Q1 2018 unless stated otherwise. The interim financial statements are unaudited. AAON engineers and manufactures commercial heating and air-conditioning equipment.
Financial performance
Amounts are in millions of dollars except per-share data and percentages.
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Net sales | $113.8 | $99.1 | +14.9% |
| Gross profit / margin | $25.8 / 22.7% | $15.4 / 15.5% | Margin +7.2 percentage points |
| Operating income / margin | $14.5 / 12.7% | $5.2 / 5.2% | Operating income +180% |
| Net income | $10.9 | $4.3 | +156% |
| Diluted EPS | $0.21 | $0.08 | +163% |
| Operating cash flow | $14.9 | $10.7 | +$4.2 |
| Capital expenditures | $8.8 | $8.5 | +$0.3 |
- Net sales growth reflected 16.4% more units sold and price increases; management attributed $14.1 million of the sales increase to unit sales.
- Gross-margin improvement reflected lower material cost as a percentage of sales, including use of lower-cost materials stocked in 2018 and less scrap, as well as lower overhead as a percentage of sales.
- Cash and cash equivalents were $7.1 million at quarter-end, up from $2.0 million at December 31, 2018. Current assets were $146.8 million and current liabilities $44.0 million.
- No revolving-credit borrowings were outstanding. The $30.0 million facility had $28.7 million available after a $1.3 million standby letter of credit; it expires July 2021. The company reported compliance with its covenants.
- Working-capital movements included a $4.7 million cash outflow from receivables and a $5.7 million outflow from accounts payable, as the company shortened its invoice-payment cycle.
Material changes and operating developments
- Backlog rose to $166.6 million at March 31, 2019, from $151.8 million at December 31, 2018 and $74.1 million a year earlier. Management said order intake continued to support the high backlog.
- Rooftop-unit sales were $88.3 million versus $74.8 million; water-source heat-pump sales were $5.8 million versus $4.4 million. Total units sold increased to 7,036 from 6,043.
- SG&A increased to $11.0 million from $10.2 million, but declined to 9.7% of sales from 10.3%. Profit-sharing expense rose with earnings, while warranty expense declined to $1.1 million from $1.5 million.
- The effective tax rate was 24.8%, compared with 18.7% in Q1 2018; the earlier period benefited from larger excess tax benefits on stock awards. Management estimated a 2019 annual effective tax rate of approximately 27%, excluding discrete events.
- Q1 operating cash flow exceeded capital expenditures by approximately $6.1 million. Investing cash outflow was $8.7 million and financing cash outflow was $1.1 million.
Outlook, risks and unusual items
- Management estimated 2019 capital expenditures of approximately $40 million, principally for completion of the research and development laboratory, water-source heat-pump production lines and Tulsa facility expansion. The company reported $8.8 million of Q1 capital expenditures and expected the lab to be completed in 2019.
- Management said cash, projected operating cash flows, the credit facility and expected access to capital markets should meet working-capital, capital-expenditure and other liquidity needs in 2019 and the foreseeable future. No specific revenue or earnings guidance was provided.
- Management described commercial and industrial new construction as robust in 2018 and Q1 2019 but showing signs of uncertainty, and said it was emphasizing replacement-market sales. Demand is exposed to economic conditions, construction activity, interest rates and competition.
- Raw-material prices remain a risk: trailing 12-month average prices through March 31 rose 15.6% for galvanized steel, 9.0% for stainless steel and 4.6% for aluminum year over year; copper declined 1.1%. The company uses fixed-price supplier contracts, generally for six to 18 months.
- The company continued to expect warranty improvement; warranty expense was $1.1 million and claims payments declined 9% year over year, according to management. The warranty accrual was $11.4 million at quarter-end.
- Q1 stock repurchases totaled approximately $5.1 million, including open-market, 401(k), and director/employee repurchases. A new $20 million open-market authorization was approved in February; subsequent to quarter-end through April 30, the company repurchased another $2.9 million through its 401(k) arrangement.
- Adoption of the new lease standard added approximately $1.8 million of right-of-use assets and lease liabilities, mostly related to the WattMaster facility lease; management said the adoption did not materially affect earnings or cash flows. The company reported no pending litigation expected to have a material adverse effect and no material changes to previously disclosed risk factors.
Important facts for investors to verify
- Whether the substantial gross-margin recovery is sustainable, including the effects of input costs, scrap, factory efficiency and pricing.
- Whether backlog converts to sales as expected and whether new-construction uncertainty affects orders or cancellations.
- Progress, final cost and expected returns from the approximately $40 million 2019 capital program and laboratory project.
- Warranty claims and accrual adequacy, alongside the company’s stated expectation of continued improvement.
- Cash conversion and liquidity as receivables, supplier payments, capital spending and repurchases fluctuate.
- Actual tax rate versus the approximately 27% annual estimate, and the impact of stock-based compensation and share repurchases on dilution and per-share results.