Comtech Telecommunications Corp. — Fiscal 2012 First-Quarter 10-Q
Reporting period: Three months ended October 31, 2011; comparisons are with the three months ended October 31, 2010. The interim statements are unaudited. Comtech designs and sells communications equipment, systems, and services through telecommunications transmission, RF microwave amplifiers, and mobile data communications segments.
Key financial results
| Metric | Q1 FY2012 | Q1 FY2011 |
|---|---|---|
| Net sales | $113.4 million | $178.2 million |
| Gross profit / margin | $51.3 million / 45.2% | $64.2 million / 36.1% |
| Operating income / margin | $15.8 million / 13.9% | $40.1 million / 22.5% |
| Net income | $12.6 million | $25.7 million |
| Diluted EPS | $0.47 | $0.79 |
| Operating cash flow | $(0.8) million | $19.3 million |
Gross margin was 45.2%, including a $5.6 million benefit from finalized pricing and increased funding on MTS/BFT-1 orders; excluding that benefit, margin was 42.4%. Operating income also reflected $2.6 million of proxy-contest professional fees. Management reported adjusted operating income of approximately $12.8 million, or 11.9% of sales, excluding both items. The prior-year quarter included a $12.5 million merger termination fee; excluding it, prior-year operating income was approximately $27.6 million, or 15.5% of sales.
Material changes and segment performance
- Sales fell 36.4%, primarily because mobile data communications revenue declined 66.6% to $35.5 million. MTS and BFT-1 sales fell to $25.7 million from $95.8 million.
- Telecommunications transmission sales rose 15.7% to $56.8 million, with operating income of $13.0 million versus $8.3 million.
- RF microwave amplifiers sales declined 7.5% to $21.1 million; operating income was $0.3 million versus $0.6 million.
- Mobile data communications operating income was $9.4 million versus $25.1 million. The segment benefited from the $5.6 million MTS/BFT-1 pricing adjustment; management cautioned that its future sales and margins were likely to decline.
- Sales mix shifted: U.S. government sales were 48.3% of consolidated revenue, down from 73.6%; international sales were 38.8%, up from 20.2%.
Liquidity, debt, and capital allocation
- Cash and cash equivalents were $474.3 million at October 31, down from $558.8 million at July 31, 2011. Operating activities used $0.8 million; capital expenditures were $1.4 million.
- Financing activities used $82.3 million, including $78.7 million of share repurchases and $6.1 million of dividends paid. The company repurchased 2.7 million shares for $81.2 million, including transaction costs, under its $250 million authorization; $147.4 million remained available.
- Debt included $200 million of 3.0% convertible senior notes, due in 2029 subject to holder put rights beginning in 2014. The $150 million revolving facility expires January 31, 2014; there were no borrowings reported and $1.4 million of standby letters of credit outstanding.
- The board raised the targeted annual dividend to $1.10 per share. A $0.275-per-share dividend was declared for payment in February 2012; future dividends remain subject to board approval.
Outlook, risks, and unusual items
- Management expected FY2012 consolidated sales to be materially below FY2011 sales of $612.4 million, chiefly because of lower MTS/BFT-1 business, and forecast an operating margin of approximately 12.0%. It expected FY2012 MTS/BFT-1 sales of at least $52.8 million based on revenue to date and funded backlog, but said subsequent revenue was uncertain.
- The BFT-1 contract expires December 31, 2011. The Army had not determined its future approach; negotiations over sustainment services and intellectual-property licensing continued. Management warned it might receive no additional MTS/BFT-1 revenue beyond existing orders and a subsequent $3.8 million order.
- Management cited U.S. defense budget pressure, continuing resolutions, uncertain sequestration, order delays, and a protested high-power amplifier contract award. These factors could further weaken sales; the protest was not expected to be resolved before at least January 2012.
- A DCAA audit of the BFT-1 contract could result in a price adjustment and reimbursement to the government, potentially with interest. Management also noted uncertainty around funding for a large microsatellite contract.
- Q1’s 10.7% effective tax rate included a $3.4 million discrete tax benefit, principally from settlement of IRS audits for fiscal 2007–2009. Excluding discrete items, management expected a fiscal 2012 tax rate near 35.0%.
- The annual goodwill review found no impairment as of August 1, 2011. Management disclosed reduced valuation headroom in telecommunications transmission and RF microwave amplifiers; future underperformance could lead to impairment charges.
- In a patent dispute involving licensed technology, the company reported a tentative settlement in principle with one defendant, with terms still under negotiation; trial against remaining defendants was scheduled for September 2012. Management believed the litigation would not materially affect the business, results, or financial condition.
- Management said it expected sufficient cash and operating cash generation to meet anticipated requirements, while also planning continued repurchases, dividends, and potential acquisitions. Actual cash generation may vary with working-capital timing.
Important facts for investors to verify
- Whether Comtech secures new Army sustainment orders or licensing revenue, and the timing and scale of the post-BFT-1 transition.
- The outcome and potential financial effect of the DCAA BFT-1 audit and the Army’s future procurement decisions.
- Whether the protested amplifier order proceeds and whether microsatellite program funding supports expected work.
- Sales, margins, and operating cash flow against management’s FY2012 outlook, especially as the $5.6 million pricing benefit rolls off.
- Use of cash for repurchases, dividends, and acquisitions, along with compliance with amended revolving-credit covenants.
- Potential tax assessments, litigation developments, and goodwill impairment indicators.