Sterling Construction Company, Inc. — Form 10-Q Summary
Reporting period: Quarterly and nine-month periods ended September 30, 2014; filed November 10, 2014. The filing identifies the registrant as Sterling Construction Company, Inc. (the request metadata references Sterling Infrastructure, Inc.). The company is a heavy civil contractor focused on transportation and water infrastructure projects, primarily in Texas, Utah, Nevada, Arizona, California and Hawaii. Results are unaudited and may be seasonally variable.
Financial performance and position
| Metric | Three months ended September 30 | Nine months ended September 30 |
|---|---|---|
| Revenue | $189.3 million, versus $185.9 million | $518.6 million, versus $430.3 million |
| Gross profit | $8.4 million, versus $8.4 million | $28.7 million, versus $(6.9) million |
| Gross margin | 4.4%, versus 4.5% | 5.5%, versus (1.6)% |
| Operating income (loss) | $(1.6) million, versus $1.7 million | $1.4 million, versus $(32.2) million |
| Net income (loss) | $(2.2) million, versus $2.1 million | $0.7 million, versus $(18.5) million |
| Net loss attributable to common stockholders | $(3.9) million, versus $(0.2) million | $(2.5) million, versus $(21.8) million |
| Loss per diluted share | $(0.21), versus $(0.06) | $(0.14), versus $(1.38) |
- Third-quarter revenue increased 1.8%; nine-month revenue increased 20.5%, primarily from more projects and improved productivity in Texas and California.
- Third-quarter operating results deteriorated because of unanticipated costs and downward profit revisions on three problem projects, two in Texas and one in California. The revisions reduced estimated gross profit by approximately $4.5 million for the quarter.
- General and administrative expense was $9.3 million in the quarter and $27.3 million for nine months. Nine-month G&A was essentially flat year over year despite higher revenue.
- Cash flow from operations was negative $14.1 million for the nine months, compared with negative $11.8 million in 2013. Working-capital use included a $28.1 million increase in contracts receivable and a $20.1 million increase in costs and estimated earnings in excess of billings.
- Capital expenditures were $14.4 million; proceeds from equipment sales were $4.9 million. Net cash provided by financing activities was $38.8 million, including a $26.3 million net credit-facility draw and $14.1 million of equity-offering proceeds.
- Cash and cash equivalents were $17.0 million at September 30, 2014, versus $1.9 million at December 31, 2013. Working capital was $53.7 million, versus $8.7 million.
- Total debt was approximately $37.8 million, comprising $36.8 million of long-term debt and $1.0 million of current maturities. The balance sheet also included a $22.8 million liability for a mandatorily redeemable member interest.
- At September 30, the $40 million revolving credit facility had $34.1 million drawn and a $3.0 million letter of credit, leaving approximately $2.9 million of availability.
- Backlog was $759 million, up from $687 million at December 31, 2013 and $727 million at June 30, 2014. Approximately $82 million of apparent low bids had not yet been formally awarded or finalized.
Material changes versus the prior comparable period
- Revenue growth was strong for the nine-month period, and the prior-year nine-month gross loss and operating loss largely reversed.
- The third quarter remained marginally profitable at the gross-profit level but shifted to an operating loss and a larger common-stockholder loss because of problem-job charges, higher G&A and lower other operating income.
- Cash generation remained negative from operations, while liquidity improved primarily through additional revolver borrowings and the May 2014 equity offering.
- On May 6, 2014, the company issued 2.1 million shares at $6.90 per share, generating $14.1 million of net proceeds used to repay credit-facility borrowings.
- The September 5, 2014 Sixth Amendment modified the tangible-net-worth covenant, eliminated the quarterly loss cap, permitted certain acquisitions payable in stock up to $8 million without lender consent, and changed covenant reporting from monthly to quarterly.
- Joint-venture backlog declined to $61.0 million from $101.0 million at December 31, 2013; Sterling’s proportionate share was approximately $17.7 million. Joint ventures contributed $1.9 million of pretax income for nine months versus a $4.1 million pretax loss in the prior period.
Outlook, commentary, risks and unusual items
- Management expected modest growth in the heavy-highway construction sector for the remainder of 2014, supported in part by MAP-21 and the expanded TIFIA program.
- Management stated that the problem highway jobs were open to traffic but were expected to require completion through the fourth quarter of 2014. Excluding those jobs, management reported improving margins, revenue growth and backlog.
- Management believed it could maintain credit-facility covenant compliance for at least the next twelve months and had sufficient resources to fund operations and bonding requirements. This expectation depends on collections, project performance and continued lender support.
- Liquidity is sensitive to delayed or lower-than-expected receivable collections, contract billings, retainage, project costs and supplier payments. The company specifically disclosed limited cash on hand and difficult-to-predict receivable timing as a risk.
- Construction earnings depend heavily on percentage-of-completion estimates. Changes in job conditions, costs, penalties, change orders or settlements can materially affect reported revenue and margin. The company had approximately 113 contracts in progress that were less than 90% complete.
- Unconsolidated joint ventures generally involve joint and several liability. If a partner fails to perform or fund its share, Sterling and other partners could be responsible for completing the work. Management was not aware of any current situation requiring such support.
- The company hedged 0.3 million gallons of diesel purchases through August 2015 at fixed prices ranging from $2.75 to $2.88 per gallon. The hedges had a $73,000 liability at September 30, 2014 and reduce downside fuel-price risk while limiting benefits from lower prices.
- The company recorded a valuation allowance against net deferred tax assets and reported 2014 tax expense despite a pretax loss for the quarter. Management expected no federal current tax liability for 2014 but did expect state tax liability.
- The company had a $20 million mandatory purchase obligation for a 50% member interest in RHB upon the member’s death, funded by life insurance in the death scenario; a disability scenario could require up to an $18 million cash payment.
- Management reported no material pending litigation, no defaults upon senior securities and effective disclosure controls as of September 30, 2014.
Investor verification priorities
- Verify the full Sixth Amendment and subsequent credit-facility availability, borrowing-base calculations, covenant compliance and interest-rate step-ups.
- Monitor cash collections, contracts receivable, costs in excess of billings and operating cash flow, given the continued operating cash deficit.
- Assess completion costs and final profitability of the three identified problem jobs, particularly the two Texas projects and one California project.
- Reconcile reported backlog with formally awarded contracts and evaluate the $82 million of low bids not yet awarded or finalized.
- Review the impact of the equity issuance and potential future financing under the $80 million shelf registration statement.
- Evaluate exposure to joint-and-several liabilities, joint-venture losses and the $20 million RHB mandatory redemption obligation.
- Review the realizability of deferred tax assets and the potential for future tax expense or valuation-allowance changes.