Argan, Inc. — Form 10-Q Summary
Reporting period: Three and nine months ended October 31, 2016. Financial figures are in millions of dollars, except per-share data. The company provides power industry, industrial fabrication and field services, and telecommunications infrastructure services.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $175.4 | $114.0 | $468.3 | $296.9 |
| Gross profit | $36.6 | $26.3 | $108.9 | $75.9 |
| Gross margin | 20.8% | 23.0% | 23.3% | 25.6% |
| Operating income | $26.7 | $20.7 | $82.5 | $59.9 |
| Net income attributable to Argan shareholders | $18.1 | $10.8 | $50.0 | $29.6 |
| Diluted EPS | $1.16 | $0.72 | $3.23 | $1.97 |
| Operating cash flow | — | $185.3 | $(46.4) |
- Q3 revenue rose 54% and nine-month revenue rose 58%. Power services generated 86% of revenue in both 2016 periods. Nine-month power revenue increased 40%; TRC, acquired in December 2015, contributed $59.3 million for the nine months. Telecommunications revenue declined 29% year to date.
- Gross margin fell year over year, which management attributed mainly to the mix and startup costs of new power projects and the addition of TRC and APC. Completion of the Panda projects reduced certain project risks and estimated costs, supporting margins during the periods.
- Nine-month net income includes a $2.0 million APC goodwill impairment. Adoption of new share-based payment accounting reduced income tax expense by $2.0 million in Q3 and $3.0 million year to date through tax benefits on exercised options.
Financial position and liquidity
- At October 31, 2016, cash and cash equivalents were $170.8 million and short-term investments were $275.5 million, for combined cash and investments of $446.3 million. Working capital was $209.4 million, up from $162.9 million at January 31, 2016.
- Current assets were $500.0 million and current liabilities $290.5 million. The company reported no borrowings under its $10 million revolving credit facility; $3 million supported a letter of credit, leaving approximately $7 million available. Most assets are pledged as security, and the company was in covenant compliance.
- Operating cash flow was $185.3 million, compared with cash use of $46.4 million in the prior-year period. The increase reflected, among other factors, collection of receivables and retainages on the Panda projects, higher billings ahead of costs on new projects, and increased payables and accrued expenses. Investing included $161.0 million of net short-term investment purchases; financing included $15.3 million of dividends and $7.5 million of joint-venture distributions.
- Backlog was approximately $1.2 billion, versus $1.1 billion at January 31, 2016. Management said cash on hand, investment maturities and expected operating cash flow should meet foreseeable business needs.
Material developments, outlook and risks
- Four new gas-fired power projects were ramping up; management expected the projects to be completed during fiscal 2019. The Exelon West Medway II project had new activity suspended pending regulatory approvals. The Panda Liberty and Panda Patriot projects reached contractual final completion in October and November 2016; remaining close-out revenue was expected to be limited.
- APC’s largest project, representing more than 90% of its backlog, was suspended in July. Management cited uncertainty following Brexit and reduced activity in the Middle East, expected APC to incur losses for the rest of the fiscal year, and recorded a $2.0 million goodwill impairment. A more extensive fourth-quarter impairment review was planned.
- TRC’s performance was uneven: it recorded a $1.3 million pretax loss in the quarter ended July 31, then improved in the latest quarter. It earned $2.3 million pretax for the nine months, and management said it was shifting focus from legacy loss contracts toward sustainable growth.
- Management viewed longer-term opportunities in natural-gas and renewable power generation favorably, but provided no numerical revenue or earnings guidance. It cautioned that changes in environmental policy could slow coal-plant retirements and reduce future gas-plant construction opportunities. Other risks include project execution and cost overruns, customer or project delays, commodity-price exposure on fixed-price contracts, foreign-currency movements, and acquisition integration.
- Customer concentration remains material: four customers accounted for 73% of Q3 revenue; five accounted for 77% of nine-month revenue. Unapproved change orders of $3.3 million were included in contract values used for revenue recognition.
- A TRC subcontractor dispute involved approximately $0.7 million of invoices and a $1.6 million bond claim. TRC accrued the invoiced amounts but disputes payment pending deliverables; it alleges $2.2 million is owed by the subcontractor, which has not been recorded as a receivable. Management said it did not expect a material additional loss, but outcomes remain uncertain.
Important facts for investors to verify
- Progress, remaining costs, cash requirements and close-out of the Panda projects, including the use of $36.1 million held by their joint ventures.
- Whether APC’s suspended project resumes, the outcome of its fourth-quarter goodwill review, and the effect of UK and Middle East market conditions.
- Whether new EPC projects meet schedules and estimated costs, and whether the West Medway project receives required approvals.
- TRC’s sustained profitability and resolution of legacy contracts and the PPS dispute.
- The sustainability of cash generation, given its dependence in this period on project billing timing, collections and payables, as well as the effects of dividends and investment maturities.
- Customer concentration, recognized change-order amounts, and exposure to commodity prices, foreign exchange and changes in energy and environmental policy.