Construction Partners, Inc. — Form 10-Q Summary
Business Context and Reporting Period
Construction Partners, Inc. operates infrastructure and road construction businesses in Alabama, Florida, Georgia, South Carolina and North Carolina. Services include site development, paving, utilities, drainage systems, hot mix asphalt and aggregate supply for public and private customers. The filing covers the three and six months ended March 31, 2018, the company’s fiscal second quarter and first half. Results are unaudited and subject to significant seasonality, with activity generally higher in the third and fourth fiscal quarters.
The company was an emerging growth company and had recently completed its initial public offering. As of March 31, 2018, the company had $25.8 million of cash, $47.5 million of total debt before deferred issuance costs, and $175.0 million of stockholders’ equity.
Key Financial Metrics
| Metric | Three Months Ended March 31 | Six Months Ended March 31 |
|---|---|---|
| Revenue | $118.9 million | $269.3 million |
| Gross profit / margin | $13.7 million / 11.6% | $36.5 million / 13.6% |
| Operating income / margin | $16.1 million / 13.5% | $26.6 million / 9.9% |
| Net income / margin | $11.2 million / 9.5% | $22.2 million / 8.3% |
| Adjusted EBITDA / margin | $8.0 million / 6.7% | $24.5 million / 9.1% |
| Diluted earnings per share | $0.27 | $0.53 |
Six-month operating cash flow was $28.1 million, compared with $19.4 million in the prior-year period. Capital expenditures were $22.0 million, compared with $12.1 million, and investing cash outflow was $19.9 million. Financing cash outflow was $10.0 million, compared with $38.9 million in the prior year, which included a $31.3 million dividend. Cash declined by $1.8 million during the first six months to $25.8 million.
At March 31, 2018, current assets were $144.3 million and current liabilities were $96.2 million. Contracts receivable, including retainage, declined to $75.9 million from $121.0 million at September 30, 2017. Property, plant and equipment increased to $125.3 million from $115.9 million. Total debt declined to $47.5 million from $57.5 million at September 30, 2017, excluding deferred debt issuance costs. Revolving credit availability was $25.0 million before outstanding letters of credit of $9.4 million.
Material Changes Versus Prior Comparable Period
- Three-month revenue increased 7.7% to $118.9 million; six-month revenue increased 15.8% to $269.3 million, primarily due to higher backlog and additional personnel and equipment.
- Three-month gross profit decreased 4.3%, and margin declined from 13.0% to 11.6%. Six-month gross profit increased 10.4%, but margin declined from 14.2% to 13.6%.
- Cold weather delayed approximately $4.5 million of expected revenue in the quarter. Management stated that the delayed work remained in backlog and was expected to be completed in the third and fourth fiscal quarters.
- Gross profit was adversely affected by asphalt-cement pricing timing and approximately $2.0 million of additional unabsorbed equipment and period costs in the quarter due to weather-related underutilization.
- General and administrative expense increased 21.8% for the quarter and 19.8% for the six-month period, reflecting higher management payroll, benefits and other costs associated with growth and public-company requirements.
- Net income increased 301.7% for the quarter and 202.2% for the six-month period, primarily because of a $14.8 million settlement gain and lower taxes. The improvement was not representative of recurring operating performance.
- Adjusted EBITDA declined 28.4% for the quarter and 2.7% for the six-month period. Adjusted EBITDA margin declined from 10.1% to 6.7% for the quarter and from 10.8% to 9.1% for the six-month period.
- Interest expense decreased 76.9% for the quarter and 74.3% for the six-month period due to lower average debt, refinancing under the Compass Credit Agreement and a lower borrowing spread.
- The effective tax rate declined to 29.8% from 36.0% for the quarter and to approximately 15% from 37.2% for the six-month period. The six-month rate benefited from a provisional $3.5 million tax benefit related to the Tax Cuts and Jobs Act.
Guidance, Outlook, Risks and Unusual Items
Management expected gross margins to improve in the third and fourth fiscal quarters as weather conditions improved, equipment utilization increased and fixed period costs were spread over higher revenue. Management also expected general and administrative expenses to continue increasing moderately due to regulatory and public-company reporting requirements. No formal revenue or earnings guidance is provided in the filing text.
On April 19, 2018, the company entered into settlement agreements expected to provide approximately $15.7 million in four installments from January 2019 through July 2020. The company recognized a $14.8 million pretax gain in the quarter based on the present value of those payments. The settlement related to an historical business interruption event that management stated was not directly related to the company’s business and was not expected to recur.
After the reporting period, the company acquired The Scruggs Company on May 15, 2018 for $51.1 million, funded with cash and an additional $22.0 million of term debt. The acquisition added asphalt plants, aggregate mines and an industrial plant in Georgia. The company also entered into an additional $11.0 million interest-rate swap.
The company completed its initial public offering in May 2018. Including the partial over-allotment exercise, it received approximately $104.3 million of net proceeds before estimated offering expenses, and used approximately $29.1 million to fund the Scruggs acquisition. The offering created a dual-class common stock structure.
Key risks include public infrastructure funding and government budgets, competition, acquisition integration, bonding capacity, contract-estimate accuracy, project cancellations, weather, commodity prices, labor and key-personnel retention, litigation and insurance matters, interest-rate exposure, substantial indebtedness, covenant restrictions and information-technology risks. Transportation departments represented 37.6% of quarterly revenue and 37.4% of six-month revenue. Alabama and North Carolina transportation departments each accounted for more than 10% of revenue.
Management concluded that disclosure controls and procedures were not effective because of previously identified material weaknesses involving information-technology general controls and closing and financial-reporting processes, including significant and unusual transactions. Remediation efforts were ongoing, including hiring additional accounting personnel and engaging a third party to formalize processes and controls.
Important Facts for Investors to Verify
- Determine the recurring operating impact of the $14.8 million settlement gain and the $3.5 million provisional tax benefit.
- Verify whether weather-delayed backlog converted to revenue and whether gross margins improved as management anticipated.
- Assess post-acquisition leverage, liquidity and covenant compliance after the $22.0 million incremental term loan and the Scruggs acquisition.
- Review the purchase-price allocation, operating results and integration costs for The Scruggs Company once reported.
- Monitor adjusted EBITDA and margins, which declined despite higher revenue and net income.
- Evaluate exposure to transportation departments, government funding, weather, asphalt and fuel prices, and project-cost estimation risk.
- Confirm remediation of the material weaknesses and whether disclosure and financial-reporting controls became effective.
- Review related-party transactions, including trucking services, construction revenue, management fees and notes receivable involving parties affiliated with a senior vice president.