HEICO Corporation — Q1 Fiscal 2020 10-Q
Reporting period: Three months ended January 31, 2020. Comparisons are with the three months ended January 31, 2019 unless otherwise noted. Amounts are in U.S. dollars.
Business context
HEICO operates through its Flight Support Group (FSG) and Electronic Technologies Group (ETG), serving aerospace, defense, space, and other markets. The quarter included two acquisitions: the HMI product line of Spectralux and an 80.1% interest in Quell. Management said their reported sales and earnings contributions were not material.
Financial performance
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net sales | $506.3 million | $466.1 million | Up 9% |
| Operating income | $111.0 million | $97.9 million | Up 13% |
| Operating margin | 21.9% | 21.0% | Up 0.9 percentage points |
| Gross margin | 39.1% | 39.1% | Unchanged |
| Net income attributable to HEICO | $121.9 million | $79.3 million | Up 54% |
| Diluted EPS | $0.89 | $0.58 | Up 53% |
| Operating cash flow | $81.1 million | $49.6 million | Up $31.6 million |
Sales grew in both segments: FSG sales were $301.1 million, up 5%, and ETG sales were $208.4 million, up 13%. Management attributed FSG growth to organic demand and new product offerings; ETG growth reflected acquisitions and 6% organic growth, including stronger defense demand partly offset by lower space-product sales. Consolidated R&D expense included in cost of sales was $17.1 million, versus $15.2 million.
FSG operating income increased 17% to $62.0 million; ETG operating income rose 11% to $57.5 million. FSG operating margin improved to 20.6% from 18.4%, while ETG operating margin eased to 27.6% from 28.0%. Interest expense fell to $4.3 million from $5.5 million.
Cash, debt, and liquidity
Cash and cash equivalents were $64.0 million at January 31, 2020, versus $57.0 million at October 31, 2019. Long-term debt, including current maturities, was $568.8 million, compared with $561.9 million; revolving-facility borrowings were $560.0 million. The facility matures in fiscal 2023, and its weighted-average borrowing rate was 2.7%. HEICO reported compliance with all facility covenants and a total debt-to-shareholders’ equity ratio of 31.4%.
Operating cash flow was $81.1 million. Investing activities used $63.6 million, principally for $45.3 million of acquisitions, $11.8 million of leadership-plan investments, and $6.9 million of capital expenditures. Financing activities used $10.2 million. Management expects fiscal 2020 capital expenditures of approximately $42 million and believes operating cash flow and available revolver borrowings will cover requirements for at least the next 12 months.
Material changes and unusual items
- Net income was significantly affected by a $22.9 million income-tax benefit, versus $4.1 million of tax expense a year earlier. The quarter included a $47.6 million discrete tax benefit from stock-option exercises, compared with $16.6 million in the prior-year quarter. Management said the larger benefit reflected more options exercised and appreciation in HEICO’s share price. A $25.7 million non-cash deferred tax benefit was principally related to these exercises.
- Operating cash flow benefited from higher earnings and working-capital timing, but included a $25.7 million deferred tax benefit. Working capital increased by $62.1 million, mainly due to payment of accrued performance compensation and inventory growth, partly offset by lower receivables.
- HEICO adopted the new lease standard on November 1, 2019, recording $63.4 million of right-of-use assets and $64.1 million of lease liabilities at adoption. At January 31, operating lease liabilities totaled $62.9 million.
- Redeemable noncontrolling interests were $195.9 million at quarter-end. Certain subsidiary investors have put rights that may require future cash payments; management’s estimated aggregate redemption amount increased from $188.3 million at October 31, 2019.
Outlook, commentary, and risks
Management maintained its fiscal 2020 sales-growth estimate of 6%–8% and raised its net-income growth estimate to 14%–15% from 13%–14%. The outlook excludes additional acquisitions and any potential effect of the coronavirus outbreak, whose impact management said was uncertain and difficult to predict. Management anticipated growth in FSG commercial aviation and defense product lines and in ETG, driven by demand for most products, while continuing investment in product development and acquisitions.
Risks identified include changes in commercial air travel and airline purchasing, defense and space spending, regulation and export restrictions, competition, product-development or manufacturing difficulties, acquisition execution, customer credit, interest and foreign-exchange rates, and broader economic conditions. The company had $4.8 million of standby letters of credit. Management said pending litigation was not expected to have a material adverse effect.
Important facts for investors to verify
- How much reported earnings growth reflects the unusually large stock-option-related tax benefit, and how results compare on a normalized tax basis.
- Whether the 6%–8% sales and 14%–15% net-income growth outlook remains achievable, especially given the explicitly excluded coronavirus impact.
- Whether segment margins and demand trends persist, particularly ETG’s lower gross and operating margins and the sensitivity of FSG to commercial aviation.
- Future acquisition spending, debt levels, and potential cash requirements from noncontrolling-interest put rights.
- Cash conversion and working-capital trends, including inventory accumulation and the timing of accrued compensation payments.