Woodward, Inc. 10-Q Summary: Period Ended June 30, 2009
Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended June 30, 2009, and the nine months ended June 30, 2009. Woodward, Inc. is an independent designer, manufacturer, and service provider of energy control and optimization solutions for aerospace, power, and transportation markets. The reporting period is significantly impacted by two major acquisitions: MPC Products Corporation (acquired October 2008) and HR Textron Inc. (HRT) (acquired April 3, 2009). These acquisitions formed the basis of the new Airframe Systems segment.
Key Financial Metrics
| Metric | Three Months Ended June 30, 2009 | Nine Months Ended June 30, 2009 | Nine Months Ended June 30, 2008 |
|---|---|---|---|
| Net Sales | $386,193 | $1,065,598 | $907,663 |
| Net Earnings | $24,997 | $70,535 | $87,453 |
| Diluted EPS | $0.36 | $1.02 | $1.26 |
| Gross Margin | 25.7% | 28.0% | 30.3% |
| Operating Cash Flow (9mo) | $115,158 | ||
| Total Debt (Long-term + Current) | $692,904 | ||
| Cash and Equivalents | $67,556 |
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 17.1% for the quarter and 17.4% year-to-date compared to the prior year, driven primarily by the inclusion of the Airframe Systems segment (MPC and HRT). However, organic sales (excluding acquisitions) declined 15.3% for the quarter and 5.7% year-to-date, largely due to weakness in the Engine Systems segment.
- Profitability Decline: Net earnings decreased 23% for the quarter and 19% year-to-date. This decline is attributed to increased interest expense from acquisition financing, higher amortization of intangible assets, and a $12.5 million purchase accounting charge related to HRT inventory step-up.
- Debt Expansion: Total debt increased significantly to $692.9 million from $44.9 million at the prior fiscal year-end. This reflects $400 million in debt issued in October 2008 and an additional $220 million in debt plus $105 million in revolver borrowings in April 2009 to finance the HRT acquisition.
- Segment Performance: Engine Systems earnings dropped 62.7% for the quarter due to volume declines. Airframe Systems reported a loss of $5.99 million for the quarter, heavily impacted by non-cash acquisition-related charges.
Guidance, Outlook, and Risks
- Outlook: Management expects end markets to be mixed with a slight overall decline in 2010. The company is focusing on cost reduction and efficiency enhancements to offset sales shortfalls.
- Legal Contingency (MPC Products): MPC Products is under investigation by the U.S. Department of Justice (DOJ) regarding government contract pricing practices prior to June 2005. A settlement in principle has been reached, with a $25 million reduction in the purchase price already accounted for. On July 8, 2009, MPC Products received a temporary suspension from the Department of Defense (DOD) regarding new federal procurements. While Woodward believes this will be resolved, prolonged suspension or additional fines could have a material adverse effect.
- Restructuring: The company incurred $15.2 million in restructuring charges in the second quarter (ended March 31, 2009) related to workforce realignment. No additional restructuring charges were recorded in the third quarter.
- Liquidity: The company maintains a $225 million revolving credit facility with approximately $180 million available. Management believes cash generation and available borrowing capacity are sufficient to support operations.
Investor Verification Checklist
- Acquisition Integration: Verify the timeline for realizing synergies and cost savings from the MPC and HRT acquisitions, particularly given the current losses in the Airframe Systems segment.
- DOJ/DOD Resolution: Monitor the status of the MPC Products DOJ investigation and DOD suspension to assess the risk of additional fines or debarment beyond the accrued $25 million.
- Debt Covenants: Confirm continued compliance with financial covenants (Net Debt/EBITDA ratio not to exceed 3.5:1) given the significant increase in leverage.
- Organic Trends: Analyze the trajectory of organic sales in the Engine Systems and Turbine Systems segments, which are facing headwinds from the broader economic downturn.
- Inventory Levels: Review inventory balances, which increased significantly due to acquisitions and supply chain lead times, to assess potential future write-downs or working capital needs.