HEICO Corporation — Q3 FY2012 Form 10-Q
Reporting period: Quarter and nine months ended July 31, 2012; unaudited. HEICO operates through its Flight Support Group (FSG) and Electronic Technologies Group (ETG). Per-share figures reflect the 5-for-4 stock split effected in April 2012.
Financial performance
| Metric | Q3 FY2012 | Q3 FY2011 | Nine months FY2012 | Nine months FY2011 |
|---|---|---|---|---|
| Net sales | $226.0m | $197.3m | $654.9m | $556.0m |
| Operating income | $42.5m | $35.7m | $117.7m | $101.0m |
| Net income attributable to HEICO | $23.1m | $20.4m | $61.4m | $54.3m |
| Diluted EPS | $0.43 | $0.38 | $1.15 | $1.02 |
| Gross margin | 37.3% | 35.4% | 36.3% | 36.0% |
| Operating margin | 18.8% | 18.1% | 18.0% | 18.2% |
- Cash flow: Nine-month operating cash flow was $78.3m, versus $85.0m; investing cash use was $184.0m, principally $171.5m for acquisitions and $12.4m for capital expenditures. Financing provided $102.7m, mainly from net revolving-credit borrowings of $113.0m. Cash declined $3.5m to $14.0m.
- Debt and liquidity: Debt was $152.9m, including $149.0m drawn on the revolving facility, compared with $40.2m at October 31, 2011. Net debt was $139.0m; net debt to equity was 20.1%. The $670m unsecured revolver matures in December 2016. HEICO reported covenant compliance and believes operating cash flow and available borrowings can fund needs for at least 12 months.
- Balance sheet: Total assets were $1.159bn, including goodwill of $531.6m and intangible assets of $147.2m. Current assets were $355.2m and current liabilities $114.4m.
Changes versus comparable periods
- Q3 sales rose 15% and HEICO-attributable net income rose 13%; nine-month sales rose 18% and attributable net income rose 13%.
- ETG drove much of sales growth: Q3 segment sales increased 51% to $86.5m; nine-month sales increased 46% to $237.2m. FSG Q3 sales were essentially flat at $140.8m, while nine-month sales rose 6% to $420.7m.
- Acquisitions contributed materially, particularly in ETG. Management cited approximately $26.3m of acquired-business sales in Q3 and $65.7m for the first nine months. Organic growth was approximately 5.3% in ETG and 4.8% in FSG over nine months.
- Q3 gross margin improved, but nine-month operating margin eased from 18.2% to 18.0%. Higher acquired-business amortization and inventory purchase-accounting charges, along with ETG product mix, weighed on margins. Nine-month interest expense rose to $1.8m from $0.1m as acquisition-related borrowing increased. The nine-month effective tax rate rose to 33.3% from 29.7%.
- Operating cash flow declined $6.7m, which management attributed principally to a $21.3m working-capital increase, including inventory buildup and timing of payments.
Outlook, risks and unusual items
- Management expected stable demand for most ETG products, while warning that government deficits and spending reductions could moderate demand for some defense products. FSG growth could be moderated by potential slowing commercial aviation capacity growth and global economic uncertainty; management expected nominal repair-and-overhaul sales growth for the remainder of FY2012, continued aftermarket replacement-parts growth, and stabilization in specialty-product growth.
- FY2012 capital expenditures were expected to be approximately $18m–$20m.
- Key stated risks include lower air-travel demand or airline fleet changes; defense and government spending reductions; export and regulatory restrictions; competition, pricing and product-development challenges; acquisition integration and synergy execution; customer credit risk; and economic, interest-rate and tax conditions.
- Acquisitions included Switchcraft, acquired in November 2011 for approximately $143.2m net of cash, and smaller 2012 acquisitions Ramona Research and Moritz Aerospace. Switchcraft contributed approximately $40.1m of nine-month sales and $2.5m of HEICO-attributable income. Ramona Research has contingent consideration of up to $14.6m; its recorded fair value was $10.9m at July 31, 2012.
- Redeemable noncontrolling interests were estimated at approximately $59m, with actual redemption amounts potentially different. A prior acquisition’s potential payment of up to approximately $71m was eliminated after earnings targets were not met. Management stated ordinary-course litigation was not expected to have a material adverse effect.
- In August 2012, after quarter-end, HEICO acquired 84% of CSI Aerospace; consideration was described as not material or significant to the financial statements.
Important facts for investors to verify
- How much future growth is organic versus acquisition-driven, and whether acquired businesses improve margins as purchase-accounting amortization and inventory charges diminish.
- Whether ETG demand and margins, particularly in defense-related products, and FSG aftermarket and repair-and-overhaul trends track management’s outlook.
- Working-capital conversion, inventory levels, cash generation and the pace of debt repayment following acquisition spending.
- Potential cash outflows from put rights and Ramona Research contingent consideration, and the assumptions underlying their estimated values.
- The effect of acquisition-related goodwill and intangible assets, amortization, tax-rate changes, and any subsequent impairment assessments.