Mistras Group, Inc. — Q3 2017 Form 10-Q
Business context and reporting period. Mistras provides asset-protection, inspection, testing and related services, products and systems to asset-intensive industries. This unaudited report covers the three and nine months ended September 30, 2017. The company changed its fiscal year-end from May 31 to December 31 in 2016; 2016 comparative International results include a one-month reporting lag that was removed in 2017, limiting comparability.
Financial performance
Amounts below are in millions of dollars unless stated otherwise.
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $179.6 | $168.8 | $513.3 | $514.6 |
| Gross profit / margin | $47.9 / 26.7% | $50.7 / 30.0% | $137.4 / 26.8% | $146.2 / 28.4% |
| Operating income (loss) | $(10.4) | $12.1 | $(2.1) | $22.6 |
| Net income (loss) attributable to Mistras | $(7.0) | $7.2 | $(3.1) | $13.4 |
| Diluted EPS | $(0.25) | $0.24 | $(0.11) | $0.45 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $35.2 | $52.1 |
- Revenue and segments: Q3 revenue rose 6%, led by Services, up 8%; International increased 1%, while Products and Systems fell 8%. Nine-month revenue was down less than 1%; Products and Systems declined 15%, partly offset by modest Services and International growth.
- Profitability: Gross profit declined 5% in Q3 and 6% year to date. The company reported a $15.8 million impairment charge, comprising $13.2 million of Products and Systems goodwill and approximately $2.6 million of intangible-asset impairments. Excluding specified special items and acquisition-related costs, non-GAAP operating income before special items was $6.9 million in Q3 versus $12.8 million, and $16.6 million for nine months versus $29.8 million.
- Cash flow and investment: Nine-month operating cash flow was $35.2 million; investing outflow was $22.5 million, including $8.4 million for acquisitions and $14.4 million of property and equipment purchases. Financing outflow was $7.1 million, including $15.9 million of share repurchases. Cash increased $7.7 million to $26.9 million.
- Debt and liquidity: Total debt was $104.3 million at September 30, including $95.1 million drawn on the revolving facility; capital lease obligations were another $14.6 million. The company reported $74.9 million of available borrowing capacity, after $5.0 million of letters of credit, and said it was in compliance with credit covenants. The revolver matures October 2019.
Changes, outlook and risks
- Management said markets were soft for much of 2017 due to lower oil prices and reduced customer spending, but had turned modestly positive in fall 2017; it expected that trend to continue through the remainder of 2017 and spring 2018. This is commentary, not quantified earnings guidance.
- Q3 Services margins were pressured by hurricanes, including more than $1 million of lost revenue while technicians were largely still paid. Year-to-date Services margins also reflected a weak spring turnaround season. International margins were affected by lower German revenue, a poorly margined large contract and lower UK labor utilization; Products and Systems margins fell with sales volume.
- Oil and gas customers represented 54% of Q3 and 58% of nine-month revenue. BP accounted for approximately 10% and 11%, respectively; the top ten customers represented 36% and 38%. This creates customer and end-market concentration risk.
- The Products and Systems impairment followed the loss of expected contract bids and lower projected future cash flows. The company completed two acquisitions in 2017 for preliminary consideration of $14.2 million, including contingent consideration; purchase-price valuations remained preliminary.
- Q3 included a $1.2 million litigation charge; nine-month results also included a $1.2 million provision for an unexpected customer bankruptcy. The company paid a $6.3 million settlement in February 2017 relating to a prior California class action.
- In an AGL Services case, a jury awarded damages plus interest after trial on October 26, 2017; the plaintiff had claimed approximately $5.8 million. Mistras said it believed the award was fully covered by insurance. An EPA investigation of a leased California site remains unresolved; the company could not estimate any potential liability and recorded no accrual for it.
- Other key exposures include acquisition contingent consideration of up to approximately $8.6 million, foreign currency movements, and execution of the Products and Systems business recovery. Mistras said it believed cash, operating collections and borrowing capacity were sufficient to fund operations for the foreseeable future.
Most important facts for investors to verify
- Whether the modestly improved market conditions continued, and whether Services organic growth and segment margins recovered.
- The assumptions and valuation inputs behind the $15.8 million impairment, and the subsequent performance of Products and Systems.
- Cash conversion and working-capital trends, including collections and the impact of the customer bankruptcy provision.
- Debt covenant headroom, borrowing needs and the effect of share repurchases on liquidity and leverage.
- The final acquisition purchase-price allocations and performance-based contingent payments.
- Insurance coverage and final financial exposure from the AGL verdict, plus developments in the EPA investigation and other litigation.