AAON, Inc. — Q1 2013 Form 10-Q
Business and period: The company manufactures and sells commercial heating and air-conditioning equipment. This unaudited filing covers the three months ended March 31, 2013, compared with Q1 2012; interim results may not indicate full-year performance. Sales are moderately seasonal, typically peaking July–November. Foreign sales were about 7% of Q1 revenue, versus 6% a year earlier.
Financial results
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Net sales | $66.8 million | $65.0 million | +2.9% |
| Gross profit / margin | $15.3 million / 22.9% | $13.5 million / 20.8% | Profit +13.3%; margin +2.1 percentage points |
| Operating income / margin | $8.3 million / 12.5% | $7.6 million / 11.6% | +10.3% |
| Net income / margin | $7.1 million / 10.7% | $4.6 million / 7.0% | +56.3% |
| Basic / diluted EPS | $0.29 / $0.29 | $0.19 / $0.18 | Higher year over year |
| Operating cash flow | $8.5 million | $11.6 million | Down $3.1 million |
| Capital expenditures | $1.0 million | $3.0 million | Lower year over year |
Liquidity and debt: At March 31, cash and cash equivalents were $9.7 million, total current assets $96.0 million, current liabilities $34.6 million, and working capital $61.4 million. The company had no revolver borrowings and $29.1 million available under its $30 million facility, net of a $0.9 million standby letter of credit. It reported compliance with financial covenants. Total liabilities were $49.5 million; stockholders’ equity was $145.0 million.
Changes and management commentary
- Revenue growth was attributed primarily to price increases implemented during 2012. Gross margin improved chiefly because of higher average selling prices per unit.
- SG&A increased 16.5% to $7.0 million, or 10.4% of sales versus 9.2%. The company cited hiring, sales-show advertising, professional fees, and employee compensation.
- Net income growth materially benefited from a 14.6% effective tax rate, compared with 39.9% in Q1 2012. The quarter included discrete R&D and Indian Employment Credit benefits and a favorable change in the estimate of recoverability of certain 2012 tax credits. Management estimated a 34.5% annual effective tax rate.
- Operating cash flow declined despite higher net income, primarily reflecting working-capital movements, including lower payables and accrued liabilities. Inventory used $1.6 million of cash; collections of receivables provided $5.1 million.
- Cash used in investing was $1.3 million, including $1.0 million of capital expenditures and purchases of certificates of deposit and investments, partly offset by maturities. Cash used in financing was $0.7 million, including $1.1 million of share repurchases.
Outlook, risks, and other notable items
No numerical revenue or earnings guidance was provided. Management said operating cash flows and revolver capacity were expected to provide adequate liquidity for 2013 and the foreseeable future. It anticipated continued covenant compliance during the rest of 2013.
- Key stated risks include weakness in commercial and industrial new construction, broader economic conditions, competition, and volatility in steel, copper, and aluminum prices. Steel and aluminum prices declined about 2.78% and 6.17%, respectively, in the quarter; copper was relatively unchanged year over year. Supplier contracts generally cover 6–18 months; no key raw-material derivative contracts were entered into in either comparison quarter.
- Disclosure controls and procedures were deemed ineffective because of an existing material weakness in review procedures for intercompany activities, income taxes, and inventory. Remediation was underway, including hiring a Chief Accounting Officer and improving inventory analysis and review controls; management said the weakness would not be considered remediated until controls had operated effectively for a sufficient period.
- Warranty expense was $0.847 million; the warranty accrual was $5.890 million at quarter-end. Management said ordinary-course legal claims were not expected to have a material effect. No material changes to contractual obligations or critical accounting policies were reported.
- Management cited its estimates for doubtful accounts, inventory reserves, warranty, workers’ compensation, medical insurance, and share-based compensation as significant; actual results could differ.
Important facts for investors to verify
- Whether revenue growth and improved gross margins persist, given the company’s reliance on pricing and exposure to construction cycles and commodity costs.
- How much of Q1’s net income and EPS improvement reflects recurring operations versus discrete tax credits and the tax-estimate adjustment, and how results compare with the stated 34.5% annual tax-rate estimate.
- Whether working-capital changes continue to pressure operating cash flow and whether inventory and receivables remain well controlled.
- Progress and effectiveness of remediation of the material weakness in internal controls, particularly around inventory, taxes, and intercompany activity.
- Future warranty claims and the adequacy of the warranty accrual, as well as liquidity and covenant headroom if sales or cash generation weaken.