Graham Corporation — Form 10-Q Summary
Reporting period: Three and nine months ended December 31, 2022, covering the third quarter and first nine months of fiscal 2023. The filing text does not correspond to the requested “2021 Q3” period; it reports fiscal 2023 results and compares them with fiscal 2022.
Business Context
Graham designs and manufactures mission-critical fluid, power, heat-transfer, vacuum and turbomachinery products for defense, space, energy, refining, chemical and petrochemical markets. Barber-Nichols, LLC (“BN”), acquired June 1, 2021, expanded the Company’s defense, aerospace, space, cryogenic and energy exposure.
- Defense and space represented 53% of sales during the first nine months of fiscal 2023, versus approximately 25% before the BN acquisition.
- Defense represented approximately 80% of backlog at December 31, 2022.
- Revenue recognized over time represented 80% of third-quarter sales and 73% of nine-month sales.
Financial Performance
| Metric | Three Months Ended December 31 | Nine Months Ended December 31 |
|---|---|---|
| Net sales | $39.9 million, up 39% | $114.1 million, up 37% |
| Gross profit | $6.2 million | $18.3 million |
| Gross margin | 16%, versus 2% | 16%, versus 6% |
| Operating income (loss) | $0.7 million, versus $(4.6) million | $1.6 million, versus $(9.3) million |
| Net income (loss) | $0.4 million, or $0.03 diluted EPS | $0.8 million, or $0.08 diluted EPS |
| Prior-year net income (loss) | $(3.7) million, or $(0.35) diluted EPS | $(7.3) million, or $(0.70) diluted EPS |
| SG&A, including amortization | $5.6 million, or 14% of sales | $16.6 million, or 15% of sales |
Management attributed the improved profitability primarily to higher-margin commercial space and aftermarket work, improved defense-contract pricing and execution, and the absence of the prior-year first-article U.S. Navy cost overruns. Adjusted net income was $0.9 million, or $0.08 per diluted share, for the quarter and $2.5 million, or $0.24 per diluted share, for the nine months. These are non-GAAP measures.
Cash Flow, Liquidity and Debt
- Cash provided by operating activities was $8.9 million for the first nine months, compared with $14.6 million of cash used in the prior-year period.
- Capital expenditures were $2.4 million; fiscal 2023 capital expenditures were expected to be approximately $3.0 million to $4.0 million.
- Cash and cash equivalents were $17.2 million at December 31, 2022, versus $14.7 million at March 31, 2022. Approximately $6.6 million secured letters of credit and $3.0 million was held by the China and India subsidiaries.
- Working capital was $26.4 million, with a 1.3 current ratio, compared with $27.8 million and 1.5, respectively, at March 31, 2022.
- Term-loan principal outstanding was $15.0 million before unamortized debt issuance costs; $2.0 million was classified as current. The loan bears interest at BSBY plus 1.50% and requires monthly principal payments through June 2026, with the remaining balance due at maturity.
- No borrowings were outstanding under the revolving credit facility. Availability was $9.9 million, subject to liquidity and leverage covenants, and letters of credit totaled $12.6 million across the Bank of America and HSBC facilities.
- The Company reported a 2.5 bank leverage ratio and compliance with amended financial covenants at December 31, 2022. A potential $0.7 million back-end fee remains payable to Bank of America upon specified events, subject to possible waiver or cancellation.
- No dividends were paid during the nine months. Dividend payments were suspended under the credit agreement.
Material Changes Versus the Prior Comparable Period
- Sales increased $11.1 million in the quarter and $31.0 million year to date, reflecting defense execution and milestones, commercial space program ramp-up, refining aftermarket strength and additional BN contribution.
- Gross margin expanded substantially to 16% from 2% for the quarter and to 16% from 6% year to date.
- The Company returned to GAAP profitability, compared with significant losses in the prior-year periods.
- Orders were $20.0 million in the quarter, down from $68.0 million, reflecting project timing and variable order patterns. Year-to-date orders increased to $151.9 million from $120.2 million, producing a 133% orders-to-sales ratio.
- Backlog was $293.7 million at December 31, 2022, up 14% from March 31, 2022, but down from $313.3 million at September 30, 2022. Approximately 40% to 50% was expected to convert to revenue within one year.
- Customer deposits increased to $44.3 million from $25.6 million, while unbilled revenue increased to $33.5 million from $25.6 million. Management noted that a $7.75 million customer deposit collected in the quarter supported material purchases for a large U.S. Navy order.
- First-article U.S. Navy projects continued to pressure results, although four were shipped during the first nine months and one additional project was completed during the quarter.
Guidance, Outlook and Risks
- Management stated that first-nine-month results were in line with expectations and supported achievement of full-year fiscal 2023 guidance; the filing excerpt does not provide clear numerical sales or profitability guidance.
- The Company expected the remaining large first-article Navy projects to be completed by the end of the second quarter of fiscal 2024 and anticipated higher margins on repeat Navy orders through improved pricing and execution.
- Defense demand was expected to remain strong, supported by Navy programs and the substantial defense backlog. Energy and chemical capital-project demand remained uncertain, with challenging pricing and lower expected project activity.
- Commercial space offers growth potential but remains volatile; certain customers have not achieved profitability and may require additional funding.
- Key risks include labor, raw-material and supply-chain inflation; geopolitical events; foreign-exchange movements; interest-rate increases on variable-rate debt; contract-cost and estimated-completion changes; customer concentration and project timing; and potential COVID-19 or other operational disruptions.
- The Company is defending asbestos-related personal-injury lawsuits and other ordinary-course claims. Management believes these matters will not have a material adverse effect, but the filing states that loss estimates cannot be made for most claims.
- The Company had no material changes to previously disclosed risk factors. Disclosure controls were considered effective; BN was excluded from the internal-control assessment because it was acquired within the permitted one-year period.
Most Important Facts to Verify
- Whether the Company maintains compliance with amended leverage, liquidity and fixed-charge covenants as the March 31, 2023 compliance date approaches.
- The amount and timing of conversion of the $293.7 million backlog, particularly the 80% defense component and long-cycle Navy work.
- Whether gross-margin improvements persist after completion of the first-article Navy projects and as project mix changes.
- The sustainability of operating cash flow given the $44.3 million customer-deposit balance and elevated unbilled revenue and inventory.
- The availability of the revolving facility after letters of credit, liquidity restrictions and covenant conditions.
- Progress toward restoring dividend payments and the effect of variable-rate debt on interest expense.
- Potential exposure from asbestos litigation, supply-chain disruption, inflation, space-market customers and other contingencies.