SIFCO Industries, Inc. — Q1 FY2018 Form 10-Q
Reporting period: Three months ended December 31, 2017; comparative period is the three months ended December 31, 2016. SIFCO manufactures forged and machined components, primarily for aerospace and energy markets, and reports one business segment. Amounts below are in millions unless noted.
Financial performance
| Metric | Q1 FY2018 | Q1 FY2017 |
|---|---|---|
| Net sales | $24.3 | $31.5 |
| Gross profit / margin | $2.0 / 8.4% | $4.2 / 13.2% |
| Operating loss | $(1.1) | $(1.7) |
| Net loss | $(0.9) | $(2.6) |
| Net loss per diluted share | $(0.17) | $(0.48) |
| Operating cash flow | $0.5 | $(0.8) |
| Capital expenditures | $0.7 | $0.5 |
Adjusted EBITDA, a non-GAAP measure, was $(0.03) million versus $2.0 million. SIFCO cautions that EBITDA measures have limitations and are not substitutes for GAAP results or cash flow.
Balance sheet and liquidity
At December 31, 2017, cash was $1.1 million, total assets $108.9 million, and shareholders’ equity $49.9 million. Total debt was $31.3 million, including $18.8 million drawn on the revolving facility. Current assets were $51.1 million and current liabilities $45.7 million. The revolver is classified as current under its lock-box arrangement and subjective acceleration clause. Cash included approximately $0.9 million held by non-U.S. subsidiaries.
The Cork, Ireland building sale closed December 15, 2017 for approximately $3.1 million. Net proceeds of $2.969 million were recorded as other receivables at quarter-end because the cash had not yet been transferred to SIFCO. Management expected approximately $2.4 million of net proceeds after taxes and fees to reduce debt, including $0.7 million to the term facility and the balance to the revolver.
Material changes and unusual items
- Sales fell 23.0%. Lower fixed-wing aircraft demand, reduced energy sales, and a timing-related decline in Hellfire II missile program orders were partly offset by a rotorcraft recovery. Sales were also affected by the Alliance, Ohio facility closure and a planned hammer refurbishment in Italy.
- Gross margin declined to 8.4% from 13.2%, primarily due to lower volume and mix. Cost of goods sold fell 18.6%, less than the sales decline.
- Net loss narrowed, aided by lower SG&A, a $1.4 million gain on disposal of operating assets (primarily the Irish building sale), and tax benefits. The quarter included a $0.24 million income tax benefit; the effective tax rate was 21%.
- Working-capital movements helped operating cash flow: receivables decreased $1.4 million and inventory decreased $1.0 million. Cash declined $0.3 million during the quarter.
Outlook, risks, and contingencies
- No revenue or earnings guidance is provided. Management forecast fiscal 2018 capital expenditures of $3.5–$4.0 million, mainly for production capability and cost-reduction projects, and said it expected operations cash flows and credit-facility funds to support liquidity.
- The company completed the Alliance closure in October 2017; remaining workforce-reduction costs of approximately $0.2 million were paid in Q1. The Alliance building and certain equipment, valued at $1.1 million, remained held for sale, with sale expected within 12 months.
- Credit and covenant risk is significant: the company was compliant at December 31 only after the February 8, 2018 Third Amendment; management stated it would not have met the covenant absent that amendment. The amendment changed pricing, collateral, EBITDA definitions and covenant tests. The facility matures June 25, 2020; the revolver limit had previously been reduced to $30 million.
- Management identified demand, customer and program concentration, military spending, commodity costs, foreign-market conditions, pension funding, and access to credit as risks. A California employee wage-and-hour class action had an estimated $0.385 million loss recorded at September 30, 2017; the remaining balance was expected to be paid in Q2 FY2018. Other routine legal costs could affect results.
- The Tax Cuts and Jobs Act produced provisional tax effects; the company had not selected an accounting method for GILTI. Revenue-recognition adoption was planned for October 1, 2018; variable consideration and possible over-time recognition under some contracts remained under evaluation.
- Disclosure controls were deemed ineffective due to continuing material weaknesses in domestic IT controls, business and IT controls at Maniago, and timely evaluation of a complex accounting matter amid limited accounting resources. Management was pursuing remediation but could not estimate completion time or cost.
Important facts for investors to verify
- Whether the amended credit covenants are met in subsequent periods, and how much borrowing capacity remains available.
- Whether Cork sale proceeds were transferred and applied to debt as planned, and whether Alliance assets were sold.
- Whether sales volumes, mix, and gross margins recover after the reported program timing effects and facility closure.
- Progress and costs of internal-control remediation, particularly at Maniago and in IT controls.
- Final tax effects of the 2017 tax law, including GILTI accounting and any later adjustments to provisional estimates.
- Outcome and ultimate cost of the California wage-and-hour litigation.