Tetra Tech, Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended March 31, 2013; comparisons are with the three and six months ended April 1, 2012. Unaudited results. Amounts below are in millions unless stated otherwise.
Business context
Tetra Tech provides consulting, engineering, program management, construction management and technical services across water, environment, energy, infrastructure and natural resources. In fiscal 2013’s first quarter, it reorganized into three reportable segments: Engineering and Consulting Services (ECS), Technical Support Services (TSS), and Remediation and Construction Management (RCM); prior segment results were recast.
Financial performance and liquidity
| Metric | Q2 2013 | Q2 2012 | First half 2013 | First half 2012 |
|---|---|---|---|---|
| Revenue | $642.0 | $624.3 | $1,300.5 | $1,307.0 |
| Revenue less subcontractor costs | $520.9 | $476.9 | $1,018.1 | $968.9 |
| Operating income | $37.7 | $35.5 | $79.5 | $71.6 |
| Net income attributable to Tetra Tech | $24.8 | $22.3 | $51.0 | $44.9 |
| Diluted EPS | $0.38 | $0.35 | $0.78 | $0.71 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $62.0 | $71.4 |
- Q2 revenue increased 2.8%; first-half revenue decreased 0.5%. Revenue excluding subcontractor costs, a company-defined non-GAAP measure, rose 9.2% in Q2 and 5.1% in the first half.
- Operating margin was approximately 5.9% in Q2 versus 5.7% a year earlier, and 6.1% for the first half versus 5.5%. Net margin attributable to Tetra Tech was approximately 3.9% in Q2 versus 3.6%, and 3.9% for the first half versus 3.4%.
- Cash and cash equivalents were $159.6 at March 31, 2013, up from $104.8 at September 30, 2012. First-half investing cash outflow was $180.6, primarily reflecting $168.1 of acquisition payments; financing cash inflow was $173.8.
- Long-term debt was $264.0 and current debt $1.7, compared with $81.0 and $2.0, respectively, at September 30. The company reported $262.6 of facility borrowings at a 2.01% weighted-average rate, $183.2 of available credit, and compliance with debt covenants (leverage ratio 1.46x; fixed-charge coverage 1.97x). Management said cash, operating cash flow and available credit should meet requirements for at least 12 months.
- Total assets were $1,927.9, including goodwill of $777.7 and net intangible assets of $106.9. Current assets were $921.2 and current liabilities $446.0.
Material changes and management commentary
- Q2 net income attributable to Tetra Tech increased 11.4%; first-half net income increased 13.7%. Management attributed improved profitability to a shift toward higher-margin commercial work, including oil and gas, and operating efficiencies and lower overhead.
- U.S. federal revenue declined 17.3% for the first half amid funding uncertainty and program slowdowns. International revenue increased 15.8%, and state and local government revenue increased 22.1%; U.S. commercial revenue was broadly flat for the half.
- By segment, Q2 revenue and operating income were: ECS $259.2 and $11.2; TSS $222.1 and $22.3; RCM $178.5 and $14.1. ECS operating income fell 46.9% year over year; TSS rose 14.7%; RCM rose sharply, with acquisition contributions.
- Fiscal 2013 acquisitions had aggregate purchase-price fair value of $249.0, including acquisitions of American Environmental Group and Parkland. Goodwill rose from $636.0 to $777.7, primarily due to acquisitions, partly offset by currency translation.
- Foreign currency translation reduced first-half equity by $17.8, versus a $20.2 increase in the prior-year period. Q2 tax expense included a $1.1 benefit from retroactively extended research and experimentation credits; the first-half effective tax rate was 32.7%, down from 34.6%.
Outlook, risks and contingencies
- No quantitative earnings or revenue guidance is provided. Management expected fiscal 2013 growth in international, U.S. commercial, and U.S. state and local government work, but anticipated continued weakness in U.S. federal and mining activity. It also expected weaker Eastern Canadian performance in the second half, particularly in ECS.
- Management cited U.S. federal budget uncertainty and sequestration, economic uncertainty, reduced mining activity, and weaker Eastern Canadian procurement as risks. It noted that prolonged adverse operating results could lead to goodwill impairment.
- At March 31, unbilled receivables included approximately $36 million of claims and requests for equitable adjustment, primarily involving U.S. federal agencies, compared with $21 million at September 30. Management reported no related collectability losses in the periods presented.
- The company disclosed Quebec and France legal matters concerning alleged pre-acquisition misconduct at BPR, including criminal charges, testimony by BPR’s former president about payments tied to five government contracts, and a Montreal class action filed April 19, 2013. Tetra Tech said the financial impact was unknown; a France trial was scheduled for October 2013.
- Other exposures include professional liability claims, contract performance and cost-estimation risk, government funding and procurement risk, acquisition integration and earn-out valuation, and foreign-exchange and interest-rate risk. The company had $101.5 million of estimated contingent earn-out liabilities, against a maximum outstanding contingent consideration of $118.4 million.
Key facts for investors to verify
- Whether federal budget reductions and mining weakness continue to pressure revenue and margins, and whether commercial and state/local growth offsets them.
- Progress and financial effects of the BPR investigations and litigation, including any insurance coverage or potential liabilities.
- Acquisition integration and returns, including the assumptions behind goodwill and contingent earn-out valuations.
- Collection and realization of unbilled receivables, especially the $36 million in claims and equitable-adjustment requests.
- Cash conversion and debt levels following acquisition-related borrowing, alongside continued covenant compliance and available credit.