Sterling Construction Company, Inc. — Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2012; filed November 8, 2012. The source filing identifies the registrant as Sterling Construction Company, Inc. and describes a heavy civil contractor focused on transportation and water infrastructure in Texas, Utah, Nevada, Arizona, California and other states. The request metadata refers to Sterling Infrastructure, Inc.; investors should verify the issuer identity.
Financial performance and position
| Metric | Three months ended Sept. 30 | Nine months ended Sept. 30 |
|---|---|---|
| Revenue | $205.3 million, up 28.8% | $472.4 million, up 22.0% |
| Gross profit | $14.2 million, down 4.0% | $31.2 million, down 13.2% |
| Gross margin | 6.9%, versus 9.3% | 6.6%, versus 9.3% |
| Operating income | $4.2 million, down 46.3% | $7.9 million, down 53.1% |
| Operating margin | 2.0%, versus 4.9% | 1.7%, versus 4.3% |
| Net income | $4.1 million | $11.9 million |
| Net income attributable to common stockholders | $1.0 million, or $0.01 per diluted share | $(3.2) million, or $(0.27) per diluted share |
- Cash flow: Nine-month cash provided by operations was $5.0 million, compared with $4.6 million in the prior-year period. Investing cash use was $23.4 million, including $27.8 million of capital expenditures, partly offset by $11.9 million of equipment-sale proceeds. Financing provided $3.0 million, including a net $10.0 million Credit Facility drawdown and $6.6 million of distributions to noncontrolling owners.
- Liquidity: Cash and cash equivalents declined to $1.0 million from $16.4 million at December 31, 2011. Short-term investments were $53.5 million, up from $44.9 million. Working capital was $82.6 million, down from $94.7 million.
- Debt: Debt totaled approximately $10.3 million, including $10.0 million outstanding under the $50.0 million Comerica Credit Facility and approximately $0.3 million of mortgage debt. Credit Facility availability was $38.2 million after a $1.8 million letter of credit. The Company reported compliance with all covenants.
- Balance sheet: Total assets were $375.3 million and total equity was $212.4 million at September 30, 2012. Contracts receivable increased to $120.5 million from $74.9 million at year-end, contributing to operating cash consumption.
Material changes versus the prior comparable period
- Revenue growth reflected higher backlog, a full period of operations for JBC and Myers, increased activity in Utah, and contributions from Arizona, California and Nevada. Texas revenue declined.
- Profitability deteriorated despite higher revenue. Management cited downward revisions to estimated contract revenues and gross profit, lower productivity, differing site or contract conditions and delays in identifying project issues.
- The nine-month results included a net $4.6 million pre-tax charge from changes in estimated contract revenues and gross margins, or approximately $4.5 million after tax and $0.28 per diluted share attributable to Sterling stockholders.
- General and administrative expense rose 35.7% for the nine-month period and increased as a percentage of revenue to 5.6% from 5.0%. The period included a $250,000 signing bonus for the new CEO and $670,000 of compensation for the retiring CEO.
- Additional earnings allocated to RLW noncontrolling owners reduced Sterling’s nine-month attributable earnings by $6.7 million, or approximately $4.4 million after tax, following an amendment concerning the treatment of goodwill impairment. The related tax benefit was approximately $2.4 million.
- Backlog was $704 million at September 30, 2012, compared with $754 million at June 30, 2012 and $616 million at December 31, 2011. The reported backlog excluded approximately $79 million of expected revenue from contracts not yet officially awarded.
Guidance, outlook, risks and unusual items
- Management expected 2012 gross margins to remain below the 8.0% achieved in 2011 because of operational issues and competitive bidding pressure. It did not expect recently implemented process improvements to have a substantial effect on 2012 results.
- The Company reported a continuing material weakness in internal control over financial reporting related to the estimation and review of construction contract revenues and gross profits. Management had implemented improvements but had not established an adequate period to assess their effectiveness.
- Infrastructure demand depends heavily on federal, state and local funding. MAP-21, enacted in July 2012, provided a two-year, $105 billion federal surface transportation authorization and reduced some funding uncertainty, but management continued to cite competitive pricing and limited project funding.
- Most contracts are fixed unit-price or lump-sum arrangements, exposing the Company to cost overruns, productivity issues, contract changes, penalties, weather, labor and material cost inflation, and fuel-price volatility.
- The Company hedged approximately 980,000 gallons of diesel purchases through December 2014 at fixed prices ranging from $2.79 to $3.31 per gallon. These hedges reduce downside fuel-price exposure but also limit benefits from lower prices.
- Unconsolidated joint ventures had approximately $315 million of remaining work, including $101 million representing Sterling’s proportionate share. Joint venture agreements generally create joint and several liability if a partner cannot perform or fund its share.
- The RLW put/call obligation and undistributed noncontrolling-owner earnings resulted in $23.3 million classified as a current liability. The total obligation for noncontrolling owners’ interests was $42.0 million.
- An earn-out related to the JBC acquisition had an estimated undiscounted liability of $2.4 million and could vary materially with future EBITDA. The RHB acquisition accounting remained preliminary, with assets recorded at a preliminary valuation of $15.2 million.
- A Nevada litigation matter was resolved after the state Supreme Court upheld a prior verdict. The Company recorded an additional $156,000 for court costs and attorney fees and paid the total judgment in October 2012.
- Management stated that it had sufficient liquidity, including cash investments and unused Credit Facility capacity, to fund the next twelve months; however, higher equipment purchases, acquisitions, working-capital needs or weaker project performance could affect liquidity.
Facts investors should verify
- Confirm the registrant’s legal name and whether the filing corresponds to Sterling Construction Company, Inc. or the requested Sterling Infrastructure, Inc.
- Assess the sustainability of the $704 million backlog, including the $79 million excluded pending awards and the customer’s cancellation rights.
- Track whether the material weakness in contract-estimate controls is remediated and whether further project-margin revisions occur.
- Evaluate the effect of the RLW put/call, noncontrolling-interest distributions and potential 2013 settlement requirements on cash and equity.
- Reconcile low cash balances with the $53.5 million short-term investment portfolio, restricted joint-venture cash and available Credit Facility capacity.
- Monitor contract receivables, percentage-of-completion estimates, cost overruns, gross-margin recovery and operating cash conversion.
- Review joint-venture guarantees, litigation, acquisition accounting, earn-out exposure and compliance with Credit Facility covenants.