Business context and reporting period
Comtech Telecommunications Corp. designs and sells communications equipment, systems and services through telecommunications transmission, RF microwave amplifiers and mobile data communications segments. This Form 10-K covers the fiscal year ended July 31, 2013; “2013 Q4” is the final quarter of that fiscal year, not a standalone reporting period.
Financial and operating performance
| Metric | FY2013 | FY2012 |
|---|---|---|
| Net sales | $319.8 million | $425.1 million |
| Gross profit / margin | $140.8 million / 44.0% | $183.5 million / 43.2% |
| Operating income / margin | $34.5 million / 10.8% | $51.3 million / 12.1% |
| Net income | $17.8 million | $32.4 million |
| Diluted EPS | $0.97 | $1.42 |
| Cash from operations | $37.7 million | $53.5 million |
| Capital expenditures | $5.3 million | $6.4 million |
FY2013 free cash flow, calculated as operating cash flow less capital expenditures, was approximately $32.3 million. Cash and cash equivalents were $356.6 million at year-end, versus $367.9 million a year earlier. Working capital was $220.6 million, down from $434.2 million; it includes the $200 million convertible notes classified as current because holders could require cash repurchase in May 2014. The company had no revolver borrowings and approximately $1.2 million of standby letters of credit outstanding. Total debt comprised $200 million of 3.0% convertible senior notes; other long-term obligations were $4.0 million.
FY2013 segment sales were $194.6 million in telecommunications transmission, $86.9 million in RF microwave amplifiers and $38.2 million in mobile data communications. Fourth-quarter sales were $84.4 million, gross profit $35.4 million, net income $5.2 million and diluted EPS $0.28.
Material changes versus the prior comparable period
- Consolidated sales fell 24.8%; net income declined 45.1%. Sales decreased in all three segments, led by mobile data communications, down 66.1% to $38.2 million as U.S. Army MTS/BFT-1 activity contracted.
- Telecommunications transmission sales fell 7.3% to $194.6 million: lower satellite earth-station sales were partly offset by higher troposcatter-system sales. RF microwave amplifiers sales fell 15.2% to $86.9 million.
- Gross margin improved to 44.0% from 43.2%. FY2012 included a $4.3 million net gross-profit benefit; excluding it, FY2012 gross margin was 42.7%. FY2013 operating income included a $2.8 million net SG&A benefit, primarily from a reduction in the Stampede earn-out liability; FY2012 included a $3.0 million net SG&A charge. Excluding these items and FY2012’s gross-profit benefit, operating income was $31.7 million in FY2013 versus $50.0 million in FY2012.
- Backlog increased to $189.7 million from $153.9 million; management expected most FY2013 year-end backlog to convert to sales during FY2014. U.S. government sales fell to 34.7% of consolidated sales from 48.9%, while international sales rose to 50.1% from 38.7%.
Guidance, risks and unusual items
- Management expected FY2014 consolidated sales and operating income to be modestly higher than FY2013, with growth weighted to the second half and driven by the telecommunications transmission and RF microwave amplifiers segments. It targeted GAAP operating margin of at least 11.0%. The mobile data communications segment was expected to have significantly lower sales but comparable dollar operating income.
- Management forecast FY2014 R&D expense approximately in line with FY2013, capital expenditures of $5–$7 million, and an effective tax rate of about 36.5%, excluding discrete items. These forecasts were subject to substantial uncertainty, including a partial U.S. government shutdown, sequestration and delayed or reduced defense spending.
- The $200 million convertible notes have a May 1, 2014 holder put date. Despite substantial cash, a cash repurchase could materially reduce liquidity; the $100 million secured revolving credit facility was scheduled to expire April 30, 2014, with extension subject to conditions.
- A DCAA draft audit report recommended an $11.8 million price adjustment plus interest on the original BFT-1 contract. Comtech disputed the recommendation; the matter’s outcome and any ultimate payment were uncertain.
- Federal grand-jury and SEC investigations involving the CEO were ongoing disclosures; the company said it had not been contacted about them since September 2012 and did not believe legal proceedings were likely. The CEO’s security clearance had been suspended, with internal realignments made to preserve facility clearance.
- The August 2013 goodwill test found no impairment, but the RF microwave amplifiers reporting unit was considered at risk of failing a future test. Up to $44.0 million of goodwill and intangible assets could be written off if impairment were established.
- Other notable items: the company completed its microsatellite product-line wind-down and sold certain SENS technology and products for approximately $2.0 million in October 2013; it paid $27.0 million for share repurchases and $18.9 million in dividends during FY2013. Management cited customer-budget constraints, long sales cycles, contract cancellation and cost-overrun exposure, export restrictions, cybersecurity, supplier concentration and competitive technology changes as significant risks.
Important facts for investors to verify
- Whether FY2014 bookings, delivery timing and the North African contracts supported the forecast for modest growth and at least 11% operating margin.
- Whether the Army renewed BFT-1 sustainment funding and the annual $10 million intellectual-property license, and how quickly it transitioned to BFT-2.
- Whether holders put the $200 million notes in May 2014, and the resulting effect on cash, credit-facility availability and capital returns.
- The final outcome and potential exposure from the DCAA audit recommendation, and any developments in the disclosed government investigations.
- Whether RF microwave amplifiers results met goodwill-test assumptions, and whether future impairment or further customer-budget reductions emerged.
- Cash conversion, working-capital needs, backlog cancellations or deferrals, and the sustainability of dividends and share repurchases.