SIFCO Industries, Inc. — Q1 Fiscal 2019 Form 10-Q
Reporting period: Three months ended December 31, 2018; compared with the three months ended December 31, 2017. SIFCO manufactures forged and machined components primarily for aerospace and energy markets and reports one business segment. Amounts below are in millions except per-share data.
Financial performance
| Metric | Q1 FY2019 | Q1 FY2018 |
|---|---|---|
| Net sales | $29.1 | $24.3 |
| Gross profit / gross margin | $2.7 / 9.4% | $2.0 / 8.4% |
| Operating loss | $(1.5) | $(1.1) |
| Net loss | $(1.3) | $(0.9) |
| Basic and diluted loss per share | $(0.23) | $(0.17) |
| Cash provided by operating activities | $0.4 | $0.5 |
| Capital expenditures | $0.8 | $0.7 |
Sales rose 19.9% year over year, while cost of goods sold increased 18.5%. Gross margin improved, but operating and net losses widened. The prior-year comparison included a $1.4 million gain on the sale of an Irish facility and related grant and rental income; the current period included a $0.3 million gain on the sale of the Alliance, Ohio facility. Interest expense declined to $0.3 million from $0.4 million. The effective tax rate was 29%, versus 21%.
Revenue drivers and reporting changes
- Military revenue increased to $17.0 million from $10.6 million, primarily due to the timing of the Hellfire II missile program. Commercial revenue declined to $12.1 million from $13.6 million, mainly reflecting weaker energy-market sales.
- Fixed-wing aircraft revenue rose to $13.3 million from $12.5 million; rotorcraft revenue was $5.1 million versus $5.5 million; energy components were $3.7 million versus $5.5 million. Commercial products and other revenue was $6.9 million versus $0.7 million, primarily reflecting market share and timing for the Hellfire II program.
- Effective October 1, 2018, SIFCO adopted ASC 606 using the modified retrospective method. Approximately 61% of current-quarter sales were recognized over time. Adoption increased reported sales by $0.7 million and improved reported net income by $0.3 million versus the previous method; prior-year figures were not restated. Reported contract assets were $10.3 million at December 31.
- Remaining performance obligations were $86.4 million, the majority expected to be completed within 12 months.
Balance sheet, liquidity and debt
At December 31, 2018, cash was $0.9 million, down from $1.3 million at September 30, 2018. Total assets were $102.6 million and shareholders’ equity was $46.4 million. Total debt was $29.2 million, including $21.0 million outstanding under the revolving credit agreement; $27.2 million of total debt was classified as current. The company reported $9.4 million of revolver availability. Approximately $0.7 million of cash was held by non-U.S. subsidiaries and distributions could have adverse tax consequences.
Operating cash flow was $0.4 million, compared with $0.5 million a year earlier. Investing activities used $0.5 million and financing activities used $0.3 million. The company said expected operating cash flows and available credit should provide adequate liquidity. Its asset-based credit arrangements mature August 6, 2021; the revolving facility has a $30 million commitment, supplemented by a $5 million export-credit commitment. The facilities are secured by substantially all U.S. company and subsidiary assets, with specified foreign-subsidiary stock pledged. If availability falls to defined thresholds, a minimum 1.1:1 fixed-charge coverage ratio may apply; it was not required at quarter-end.
Outlook, risks and unusual items
- Fiscal 2019 capital expenditures were expected to be $4.1 million–$5.1 million for production capabilities and cost reductions, plus an estimated $6 million–$12 million of fire-related capital spending at Orange. SIFCO said $3.5 million of insurance proceeds had been received after December 31, 2018.
- A December 26 fire damaged one of three buildings at the Orange facility, which housed six of its eight presses. The company recorded estimated asset, inventory, remediation and deductible losses, offset by an insurance receivable; the reported income-statement impact was zero at quarter-end. Business-interruption losses had not yet been estimated. Management assessed undamaged long-lived assets as recoverable.
- Management cited exposure to aerospace and energy demand, military spending and major customers, commodity prices, competition, product development, pension funding, international conditions and access to credit. It emphasized that the business has significant fixed costs, so volume changes can affect operating results.
- Disclosure controls and procedures were determined to be ineffective because material weaknesses remained, including IT access and control deficiencies in domestic operations and Maniago, and insufficiently precise review controls over certain manual calculations and disclosures. Management described remediation efforts but said they could extend beyond fiscal 2019 and may require additional steps.
- In the Avco lawsuit concerning alleged nonconforming forged pistons, no loss was recorded because the company said it lacked a reasonable basis to estimate one. In a separate landlord dispute, SIFCO recorded $48,000 for its settlement offer.
- SIFCO planned to adopt the lease standard on October 1, 2019 and anticipated recognizing operating lease right-of-use assets and liabilities. After quarter-end, it repurchased 20,636 restricted shares at $3.00 per share on January 18, 2019.
Important facts for investors to verify
- Whether Orange production capacity and customer deliveries recover as planned, and the timing and sufficiency of insurance and business-interruption recoveries.
- Whether revenue growth—particularly military-program revenue—continues, and how the softer energy market affects sales and margins.
- Revolver availability, covenant headroom, refinancing or repayment needs, and the company’s ability to generate cash while funding ordinary and fire-related capital expenditures.
- Progress in remediating the disclosed material weaknesses and whether additional control deficiencies emerge.
- Potential outcomes of the Avco and landlord litigation, and any changes in recorded contingencies.
- The effects of ASC 606 estimates and contract-asset billing, and the balance-sheet impact of adopting the lease standard.