Comtech Telecommunications Corp. — FY2011 Form 10-K
Reporting period: Fiscal year ended July 31, 2011. The filing also reports unaudited fourth-quarter results; the company’s fiscal fourth quarter is not a standalone reporting period in the annual financial statements. Amounts below are in U.S. dollars.
Business context
Comtech designs and sells communications equipment and services through three segments: telecommunications transmission, RF microwave amplifiers, and mobile data communications. Fiscal 2011 results were significantly affected by the declining U.S. Army MTS and BFT-1 programs, historically the dominant business in mobile data communications. The Army selected another vendor for the next-generation BFT-2 program and consolidated MTS under the BFT program office.
Financial performance and liquidity
| Metric | FY2011 | FY2010 |
|---|---|---|
| Net sales | $612.4 million | $778.2 million |
| Gross profit / gross margin | $241.0 million / 39.4% | $270.6 million / 34.8% |
| Operating income / margin | $107.8 million / 17.6% | $104.0 million / 13.4% |
| Net income | $67.9 million | $60.6 million |
| Diluted EPS | $2.22 | $1.91 |
| Cash from operations | $97.4 million | $124.5 million |
| Cash and cash equivalents at year-end | $558.8 million | $607.6 million |
| Working capital at year-end | $627.0 million | $686.6 million |
Reported operating income included a $12.5 million net merger termination fee from the terminated CPI transaction. Excluding that fee, management reported an operating margin of approximately 15.6% for FY2011, versus 15.1% in FY2010, which included a $13.2 million goodwill impairment charge.
Revenue fell 21.3%, while gross margin improved, primarily because telecommunications transmission represented a larger share of sales and generally has higher gross margins. Lower MTS/BFT-1 sales and weaker RF amplifier performance weighed on revenue. The effective tax rate was 33.3%, compared with 37.7%.
Segment results: telecommunications transmission sales were $232.0 million and operating income $49.9 million; RF microwave amplifiers sales were $92.0 million and operating income $1.1 million; mobile data communications sales were $288.4 million and operating income $64.9 million. MTS and BFT-1 sales totaled $248.6 million, down from $423.2 million in FY2010, and represented 40.6% of consolidated sales.
Fourth-quarter FY2011 sales were $140.3 million, gross profit $58.9 million, net income $11.9 million, and diluted EPS $0.42. In fourth-quarter FY2010, those figures were $257.0 million, $82.5 million, $13.5 million, and $0.43, respectively.
Cash from operations was $97.4 million. Investing activities used $10.0 million, including $7.1 million of capital expenditures. Financing activities used $136.1 million, including $119.6 million of cash repurchases and $20.1 million of dividends. The balance sheet reported $200.0 million of 3.0% convertible senior notes; the company also had a $150.0 million unsecured revolving facility, with no borrowings reported and approximately $1.3 million of standby letters of credit outstanding.
Material changes and outlook
- Backlog declined to $145.0 million from $338.1 million. MTS/BFT-1 backlog was $38.9 million, compared with $181.7 million a year earlier; management expected most FY2011 year-end backlog to convert to FY2012 sales.
- Management expected FY2012 total sales and operating income to be materially below FY2011, principally because MTS/BFT-1 sales were expected to fall. Excluding those programs, management expected sales to increase slightly from approximately $363.8 million. It expected at least $38.9 million of FY2012 MTS/BFT-1 sales from firm backlog, but could not reliably forecast activity beyond March 31, 2012.
- Management anticipated slightly higher FY2012 sales in telecommunications transmission and RF microwave amplifiers, subject to orders and economic conditions. It expected microsatellite sales to be significantly lower, despite ongoing work on the Navy JMAPS contract. Planned FY2012 capital expenditures were $8–$10 million.
- The BFT-1 contract expires December 31, 2011, with certain engineering services through March 31, 2012. The Army may buy satellite capacity directly and has not provided clear transition plans. Comtech was negotiating sustainment work and a fee for use of its related intellectual property; failure to reach agreement could end further MTS/BFT-1 revenue after March 2012.
- After year-end, the board increased the share repurchase authorization from $150 million to $250 million and raised the targeted annual dividend from $1.00 to $1.10 per share. These plans are subject to board discretion, cash generation, and credit-facility restrictions.
Risks, contingencies, and unusual items
- Dependence on U.S. government business remained substantial: 61.7% of FY2011 sales, including sales to government prime contractors. Defense budget reductions, changing priorities, delayed appropriations, or contract cancellations could adversely affect results.
- The Defense Contract Audit Agency was auditing BFT-1 post-award costs and pricing. No material adjustments had been proposed as of the filing, but an adverse audit outcome could require repayment with interest.
- A patent dispute involving licensed DoubleTalk Carrier-in-Carrier technology remained ongoing; a trial was scheduled for September 2012. The company stated it did not expect a material adverse outcome, but litigation results are uncertain.
- Comtech identified goodwill and intangible-asset impairment as a risk. Its August 1, 2011 impairment test found no goodwill impairment, but reporting-unit fair-value cushions had narrowed, particularly for telecommunications transmission.
- Other risks include volatile order timing and backlog cancellations, fixed-price contract cost overruns, economic and political uncertainty, export controls, supplier and facility disruption, and the company’s ability to reposition mobile data communications and retain qualified personnel.
- The company reported effective disclosure controls and internal control over financial reporting; its auditors issued unqualified opinions on the financial statements and internal controls.
Important facts for investors to verify
- Subsequent Army orders, sustainment terms, intellectual-property licensing negotiations, and the timing of the BFT-2/BFT-3 transition.
- FY2012 revenue, margin, cash-flow, and cost-reduction performance against management’s outlook, especially as MTS/BFT-1 revenue contracts.
- Outcome of the BFT-1 DCAA audit and any effect on contract closeout, cash collections, or reported costs.
- Backlog conversion and cancellation exposure, including the extent to which new orders replace the sharp year-over-year decline.
- Cash deployment for buybacks, dividends, and acquisitions, alongside the $200 million convertible notes and revolving-credit covenants.
- Progress and potential financial impact of the DoubleTalk litigation, and future goodwill impairment indicators.