Tetra Tech, Inc. — Q1 Fiscal 2017 Form 10-Q
Business context and reporting period. Tetra Tech provides consulting and engineering services in water, environment, infrastructure, resource management, energy, and international development. The unaudited quarter ended January 1, 2017 is compared with the three months ended December 27, 2015. The company noted that interim results are seasonal and are not necessarily indicative of full-year results.
Key financial results
| Metric | Q1 FY2017 | Prior comparable quarter |
|---|---|---|
| Revenue | $668.9 million | $560.7 million |
| Gross profit | $81.4 million | $73.2 million |
| Operating income | $39.9 million | $32.9 million |
| Net income attributable to Tetra Tech | $26.6 million | $23.2 million |
| Diluted EPS | $0.46 | $0.39 |
| Operating cash flow | $(58.7) million | $23.6 million |
| Cash and cash equivalents at period end | $127.0 million | $125.1 million |
Revenue increased 19.3%; operating income rose 21.0%, net income 14.3%, and diluted EPS 17.9%. Gross margin was approximately 12.2% versus 13.0%; operating margin was approximately 6.0% versus 5.9%. Net margin was approximately 4.0% versus 4.1%. Revenue net of subcontractor costs, a company-presented non-GAAP measure, increased 16.3% to $489.6 million.
Acquisitions Coffey and INDUS contributed $102.3 million of revenue and $7.4 million of operating income. Excluding those contributions, ongoing revenue grew 3.4%; ongoing revenue net of subcontractor costs grew 1.0%. Management’s non-GAAP ongoing operating income was $42.9 million, up 9.4%, and ongoing diluted EPS was $0.49, up from $0.42. These measures exclude RCM results and specified items; prior-year ongoing EPS also excludes the retroactive R&D tax credit benefit.
Segments and material changes
- Water, Environment and Infrastructure (WEI): Revenue increased 19.4% to $287.1 million; operating income rose 24.7% to $25.0 million. Margin on revenue net of subcontractor costs improved to 12.4% from 11.2%, reflecting better project performance and efficiency measures.
- Resource Management and Energy (RME): Revenue increased 25.4% to $396.0 million, largely from Coffey. Excluding Coffey, revenue and revenue net of subcontractor costs declined $14.6 million and $16.8 million, respectively, amid weaker North American oil and gas activity. Operating income increased 5.1% to $26.7 million; an unfavorable $2.3 million contract estimate adjustment weighed on results.
- Remediation and Construction Management (RCM): Revenue declined 60.5% to $8.2 million as the company wound down non-core construction work. The segment recorded a $3.0 million operating loss, including a $1.7 million unfavorable transportation-project adjustment and legal costs. Remaining backlog was $18.2 million, with work expected to be substantially complete in calendar 2017.
Interest expense rose to $2.9 million from $1.7 million, principally reflecting borrowing to fund the Coffey acquisition. The effective tax rate was 28.0% versus 25.7%; Q1 FY2017 included a $1.8 million tax benefit from adoption of share-based payment tax accounting, while the prior-year quarter included a $2.0 million retroactive R&D tax credit benefit.
Cash, debt and liquidity
Operating cash flow was a $58.7 million outflow, versus $23.6 million provided a year earlier. Management attributed the swing mainly to timing of receivable collections and payments to vendors and employees; the prior-year period included $13.4 million from a claim settlement. Investing cash outflow was $1.8 million. Financing provided $28.9 million, including $89.0 million of borrowing proceeds and $47.3 million of debt repayments. Cash declined $33.5 million during the quarter.
At January 1, 2017, total debt was approximately $388 million, including $173 million under the term loan and $215 million under the revolving facility; weighted-average borrowing cost was 2.2% (2.58% including swaps). Cash less debt implied net debt of approximately $261 million. The company reported $244 million of revolver availability, of which $192.6 million could be borrowed without violating covenants. Leverage was 2.06x against a 3.00x maximum; fixed-charge coverage was 2.63x against a 1.25x minimum. The credit agreement matures in May 2020. Management stated that cash, operating cash flows, and available borrowing capacity should meet capital requirements for at least 12 months.
The company repurchased 232,665 shares for $10.0 million under a new $200 million authorization and paid a $0.09-per-share quarterly dividend. A further $0.09 dividend was declared after quarter-end.
Outlook, commentary and risks
- Management anticipated fiscal 2017 growth in U.S. federal government revenue, international revenue including Coffey, and U.S. state and local government business; it expected U.S. commercial revenue to be stable. No numeric consolidated revenue or EPS guidance is provided in the filing text.
- Federal business grew 34.9% year over year, or 12.7% excluding acquisitions, with growth in international development and U.S. Department of Defense work. International business grew 27.0% including Coffey, but declined 19.4% excluding Coffey, reflecting commodity-related weakness in Canada. Management cautioned that low or falling commodity prices could further hurt international operations.
- Contract estimates produced $4.0 million of net unfavorable operating-income adjustments ($2.3 million in RME and $1.7 million in RCM). The company recognized no claim gains or losses in the quarter; receivables included $44 million related to claims.
- Operating cash flow and collections warrant attention: net accounts receivable rose to $750.8 million, and billed U.S. federal receivables increased, largely due to collection timing. Most unbilled receivables were expected to be billed and collected within 12 months, subject to stated exceptions.
- Other important exposures include project cost overruns and fixed-price contract estimates, government appropriations and contract termination or recompetes, oil and gas and mining cycles, acquisition integration, foreign exchange, and litigation or professional-liability claims. Some claims may exceed insurance limits or be uninsured. Goodwill was $709.7 million; management reported no Q1 impairment. A $23.7 million valuation allowance was maintained against certain foreign loss-carryforward deferred tax assets.
- After quarter-end, Tetra Tech announced its acquisition of Eco Logical Australia. Management also noted that ongoing integration and internal-control work for Coffey and INDUS was in progress.
Most important facts for investors to verify
- Whether receivable collections and working-capital movements normalize after the quarter’s substantial operating cash outflow.
- Organic growth and margins excluding Coffey and INDUS, especially the performance of RME amid commodity-market weakness.
- Progress and remaining costs or claims in the RCM wind-down, including completion of the transportation project and the $18.2 million backlog.
- Debt, covenant headroom, borrowing availability, and the cash demands of acquisitions, repurchases, and dividends.
- Key contract estimates, the $44 million of claim-related receivables, and the recoverability of unbilled amounts and foreign deferred tax assets.
- Integration and control procedures for acquired businesses, and the terms and financial impact of the Eco Logical Australia acquisition.