DLH Holdings Corp. — Q1 FY2020 Form 10-Q
Reporting period: Three months ended December 31, 2019, compared with the three months ended December 31, 2018. Amounts below are in millions unless stated otherwise. DLH provides technology-enabled health and human services, primarily to U.S. federal agencies; approximately 98% of revenue came from federal customers.
Financial performance
| Metric | Q1 FY2020 | Q1 FY2019 | Change |
|---|---|---|---|
| Revenue | $52.238 | $33.752 | +54.8% |
| Operating income | $3.126 | $2.557 | +$0.569 |
| Operating margin | 6.0% | 7.6% | Down 1.6 percentage points |
| Net income | $1.551 | $1.690 | -$0.139 |
| Diluted EPS | $0.12 | $0.13 | -$0.01 |
| EBITDA (non-GAAP) | $4.985 | $3.120 | +59.7% |
| Net cash used in operating activities | $2.884 | $1.756 | Use increased $1.128 |
Revenue growth principally reflected approximately $17.3 million from the S3 acquisition and increased volume in legacy contracts. Operating costs rose faster than revenue as contract costs, G&A, and depreciation and amortization increased. Depreciation and amortization included higher amortization of S3-acquired intangible assets. Interest expense rose to $0.941 million from $0.177 million, principally due to acquisition financing. The effective tax rate was 29% in both periods.
Liquidity, debt, and balance sheet
- Cash was $0.362 million at December 31, 2019, down from $1.790 million at September 30, 2019. Operating cash outflow reflected receivables timing, including the transition of billing for S3 customers; management said the transition impact was resolved by the end of January 2020 and anticipated operating cash flow had resumed.
- Accounts receivable increased to $27.995 million from $23.226 million, including $4.734 million in contract assets. Current liabilities of $30.651 million exceeded current assets of $30.289 million.
- Debt principal consisted of a $56.0 million term loan and $1.8 million drawn on a $25 million revolving facility. The company reported $19.1 million of borrowing availability based on eligible receivables. The term loan and revolver mature June 7, 2024; the reported rate was 5.2%. A $36 million interest-rate swap hedged part of the term loan.
- DLH reported compliance with its credit covenants. It stated that planned operating cash flow should support operations for 12 months from issuance of the statements. Debt and lease obligations totaled $89.520 million in the filing’s contractual-obligations schedule.
- Adoption of lease accounting (ASC 842) added $23.716 million of operating lease right-of-use assets and $24.276 million of lease liabilities at December 31, 2019. Prior-year balance-sheet comparisons do not include recast lease balances.
Material changes, outlook, and risks
- DLH acquired S3 on June 7, 2019 for $70 million, financed with a $70 million credit facility. S3 contributed approximately $17.3 million of quarterly revenue; management had estimated annual S3 revenue of approximately $65 million.
- Backlog was approximately $432.7 million at December 31, 2019, including $120.1 million funded and $312.6 million unfunded, versus $414.1 million at September 30, 2019. Backlog depends on contract performance, funding, options, and awards and is not assured revenue.
- Customer concentration is high: HHS and VA each represented approximately 46% of quarterly revenue, versus 30% and 68%, respectively, a year earlier. The filing says results and cash flows could be materially affected by losing either customer or materially reduced work.
- Several VA pharmacy contracts, representing about $13.3 million of quarterly revenue, were extended through October 2020 pending procurement. DLH cannot bid as prime on the new solicitation and joined an SDVOSB team as a subcontractor. Seven VA logistics contracts, representing about $10.8 million of quarterly revenue, were extended through June 2020; DLH also joined an SDVOSB team for that procurement. The HHS Head Start contract, with about $9.5 million of quarterly revenue, runs through April 2020, with an RFP expected in fiscal 2020.
- The filing provides no specific earnings or revenue guidance. Management cited federal budget priorities, procurement delays and protests, contract recompetes, small-business set-asides, contract termination risk, and challenges integrating S3 as factors that could affect results. Management reported no litigation it believed reasonably likely to have a material adverse effect and no material change to previously disclosed risk factors.
- DLH repurchased 49,137 shares for approximately $0.2 million during the quarter, with about $0.8 million remaining under its repurchase authorization. A lease modification generated a $0.1 million gain.
Important facts for investors to verify
- Outcome and timing of the VA contract recompetes and the HHS Head Start solicitation, including whether DLH continues work as a subcontractor.
- Whether receivables convert to cash as management expected, and the resulting operating cash flow and liquidity.
- Federal funding, contract awards, renewals, and concentration exposure to HHS and VA; also confirm the funded portion and conversion prospects of backlog.
- Debt repayment capacity, covenant compliance, interest-rate exposure on the unhedged debt, and integration and revenue contribution from S3.