Tetra Tech, Inc. — Form 10-Q Summary
Reporting period: Quarter ended April 1, 2018; comparisons are with the quarter ended April 2, 2017. Six-month figures compare the first half of fiscal 2018 with the first half of fiscal 2017. Unaudited results. Amounts below are in U.S. dollars.
Business context and reporting period
Tetra Tech provides consulting and engineering services in water, environment, infrastructure, resource management, energy and international development. Fiscal 2018 reporting uses the reorganized Government Services Group (GSG), Commercial/International Services Group (CIG), and wind-down Remediation and Construction Management (RCM) segments; prior-year segment figures were recast.
Financial performance and position
| Metric | Q2 FY2018 | Q2 FY2017 | First half FY2018 | First half FY2017 |
|---|---|---|---|---|
| Revenue | $700.3m | $663.8m | $1,460.0m | $1,332.6m |
| Gross profit | $91.4m | $81.0m | $185.6m | $162.4m |
| Income from operations | $42.7m | $43.0m | $91.3m | $82.8m |
| Net income attributable to Tetra Tech | $28.7m | $26.9m | $74.8m | $53.4m |
| Diluted EPS | $0.51 | $0.46 | $1.32 | $0.92 |
Q2 revenue grew 5.5%; first-half revenue rose 9.6%. Gross margin was approximately 13.1% in Q2 versus 12.2% a year earlier. Operating margin was approximately 6.1% versus 6.5%. For the first half, gross margin was approximately 12.7% versus 12.2%, and operating margin approximately 6.3% versus 6.2%.
- First-half revenue included $44.7m from acquisitions Glumac and Norman Disney & Young (NDY); excluding these contributions, revenue increased 6.2%.
- GSG revenue increased 13.7% in Q2 and 17.9% in the first half; GSG operating income increased 2.2% and 15.3%, respectively.
- CIG revenue decreased 5.9% in Q2 and 0.9% in the first half. Western Canadian oil and gas revenue fell $38.1m in Q2 and $58.4m year to date. CIG operating income was broadly flat.
- RCM remained in wind-down, with immaterial remaining backlog. Its operating loss was $0.5m in Q2 and $1.6m in the first half, versus $8.5m and $11.5m in the comparable prior-year periods.
Cash flow and liquidity: First-half operating cash flow was $14.8m, down from $50.4m, primarily due to the timing of receivable collections. Investing cash outflow was $67.4m, mainly for acquisitions; financing cash inflow was $67.8m, reflecting net borrowing. Cash was $203.2m at April 1, 2018, compared with $190.0m at fiscal year-end. Current assets were $1,149.9m and current liabilities $560.0m.
Debt: Borrowings under the credit agreement totaled $478.8m, comprising $153.8m term debt and $325.0m revolver borrowings; weighted-average interest rate was 2.94%. Revolver availability was $134.1m. The company reported compliance with covenants: leverage ratio 2.06x against a 3.00x maximum and fixed-charge coverage 2.65x against a 1.25x minimum. Debt matures in May 2020.
Material changes and unusual items
- Reported first-half net income and EPS benefited from a $10.1m one-time deferred tax benefit following U.S. tax reform. The reported first-half effective tax rate was 11.0%; excluding that benefit, management reported 23.0%.
- Q2 and first-half operating results included $1.9m of losses from contingent earn-out fair-value changes, compared with $7.1m of gains in the prior-year periods. Management’s non-GAAP ongoing diluted EPS was $0.54 for Q2 and $1.18 for the first half, versus $0.48 and $0.97, respectively.
- Interest expense increased to $4.1m in Q2 and $7.3m in the first half, reflecting increased borrowings and higher LIBOR rates.
- Foreign currency translation reduced first-half other comprehensive income by $19.6m; foreign currency transaction gains and losses were described as immaterial.
- NDY was acquired in Q2 for a stated fair-value purchase price of $56.1m, including estimated contingent earn-outs. Glumac was also acquired in fiscal 2018. Goodwill rose to $809.7m, largely reflecting acquisitions.
Outlook, risks and contingencies
Management expected U.S. state and local government business to continue growing during the rest of fiscal 2018, but at a materially slower rate as disaster-response work moderated. It anticipated similar growth in U.S. federal revenue in the second half, modest growth in U.S. commercial revenue excluding Glumac, and a modest full-year decline in international revenue, while expecting growth excluding Canadian oil and gas. Management expected an approximately 28% effective tax rate for the remainder of fiscal 2018, excluding discrete items, and approximately 26% in fiscal 2019. The filing gives no consolidated revenue or EPS guidance.
Management believed cash, operating cash flow and borrowing capacity would meet capital needs for at least 12 months. Key risks include government funding and contract awards, cyclical oil and gas and mining demand, acquisition integration and debt, project-estimate and fixed-price contract risks, receivable collection and claims, foreign exchange, and potential goodwill impairment. The company disclosed that the U.S. Attorney’s Office was evaluating potential penalties and damages related to radiation remediation work at Hunters Point, San Francisco; the company could not determine the probability of an outcome or a reasonably possible loss range. Other professional-liability claims and lawsuits are also disclosed; management did not expect them to materially adversely affect the company, while acknowledging uncertainty.
The company reported effective disclosure controls and no material change in internal control over financial reporting during the quarter. A $0.12-per-share dividend was declared after quarter-end, payable June 1, 2018.
Most important facts for investors to verify
- Whether disaster-response activity moderates as management expected, and how much first-half growth is recurring versus acquisition-related.
- Receivable conversion and operating cash flow, given the year-over-year decline and $65m of receivables related to claims.
- Canadian oil and gas trends, and whether international growth excluding those activities is sustained.
- Debt, interest expense, covenant headroom, and the cash demands of acquisitions, earn-outs, repurchases and dividends.
- Final tax-reform accounting, including deferred tax remeasurement, transition-tax conclusions and the still-evaluated GILTI treatment.
- Developments in the Hunters Point matter, including whether a loss becomes probable or estimable, and any effect on insurance coverage or financial statements.