VSE Corporation 2021 Third-Quarter 10-Q Summary
Business context and reporting period
VSE Corporation is a diversified aftermarket products and services company serving government and commercial customers through Aviation, Fleet, and Federal and Defense segments. This unaudited Form 10-Q covers the three and nine months ended September 30, 2021, compared with the corresponding 2020 periods.
Key financial metrics
| Metric | Q3 2021 | Q3 2020 | YTD 2021 | YTD 2020 |
|---|---|---|---|---|
| Revenue | $200.6 million | $165.5 million | $540.7 million | $511.6 million |
| Operating income | $13.9 million | $14.2 million | $10.8 million | $2.0 million |
| Net income (loss) | $9.0 million | $8.1 million | $1.8 million | $(11.2) million |
| Diluted EPS | $0.71 | $0.73 | $0.14 | $(1.01) |
| Operating margin | 6.9% | 8.6% | 2.0% | 0.4% |
| Net margin | 4.5% | 4.9% | 0.3% | (2.2)% |
- Revenue increased 21.2% in the quarter and 5.7% year to date. Q3 growth was led by Aviation, which rose 102%, while Fleet declined 5% and Federal and Defense increased 2%.
- YTD revenue was 41% commercial, 32% Department of Defense, and 27% other government. Federal and Defense bookings increased 20% to $234 million, and funded backlog increased 23% to $218 million.
- Cash used in operating activities was $30.5 million YTD versus $35.2 million of cash provided in the prior-year period, primarily reflecting higher inventory, receivables, and unbilled receivables.
- Cash and cash equivalents were $0.4 million at September 30, 2021, compared with $0.4 million at December 31, 2020.
- Total debt was $294.2 million, including $63.9 million of term debt and $232.7 million of revolver borrowings, versus $251.1 million at year-end 2020. The effective aggregate interest rate was 3.90%.
- The company had $117 million of unused bank commitments, an additional potential facility increase of up to $100 million, and $803 thousand of outstanding letters of credit.
- Dividends were $0.09 per share in Q3 and $0.27 per share YTD.
Material changes versus the prior comparable period
- Net income improved substantially for the first nine months, primarily because 2020 included $33.7 million of goodwill and intangible-asset impairment, $8.2 million of divestiture losses, and a $1.1 million property-sale gain.
- Q3 operating income declined modestly despite higher revenue because costs grew faster than revenue, and Fleet and Federal and Defense margins contracted.
- Aviation generated Q3 operating income of $3.7 million, compared with $1.6 million in 2020, but reported a YTD operating loss of $18.9 million. YTD Aviation results included a $24.4 million inventory valuation adjustment, primarily for excess and slow-moving inventory affected by weaker aviation demand.
- Fleet revenue declined because 2020 included significant COVID-19-related supply orders, although commercial revenue increased 66% in Q3 and 77% YTD due to e-commerce growth.
- Federal and Defense revenue increased modestly, but profitability declined due partly to a favorable fixed-price award mix in 2020 and the completion or decline of certain Army and Navy programs.
- The company acquired HAECO Special Services for approximately $14.8 million in March 2021 and Global Parts Group for approximately $38 million in July 2021, with Global Parts funded through the revolving credit facility.
- VSE completed a February 2021 public offering of 1,599,097 shares and received approximately $52 million of net proceeds.
Outlook, commentary, risks, and unusual items
- Management expects aviation demand to continue recovering as travel restrictions ease, but demand remains below pre-pandemic levels in certain markets. Aviation goodwill of approximately $147 million remains exposed to future impairment if recovery assumptions deteriorate.
- Management stated that Aviation distribution revenue exceeded pre-pandemic levels during Q3, while international demand, particularly in Asia Pacific, remained constrained.
- COVID-19 continues to create risks involving aviation demand, receivables collections, inventory valuation, supply-chain constraints, labor availability, and inflation. Management expects limited disruption to Fleet and Federal and Defense because of their government, defense, and essential-service customer bases.
- The company expects sufficient cash flow and available borrowings to meet needs for the next twelve months and expects to remain compliant with debt covenants. However, covenant headroom could be pressured by further earnings declines.
- The amended credit agreement matures in July 2024. Maximum funded debt to EBITDA limits become progressively more restrictive, declining to 3.25-to-1.00 beginning April 2023.
- Variable-rate borrowings and the transition away from LIBOR could increase future interest expense. Interest-rate swaps covered $75 million of debt at September 30, 2021.
- Federal contractor vaccination requirements could contribute to employee attrition or make labor needs more difficult to satisfy.
- Management reported no material legal proceedings, no material changes to previously disclosed risk factors, and no material off-balance-sheet arrangements.
Important facts for investors to verify
- Whether Aviation demand recovery is sustained and whether additional inventory reserves or goodwill impairments become necessary.
- Inventory turns, receivables collections, and operating cash flow, given the substantial YTD cash use and elevated inventory balance of $314.7 million.
- Debt paydown capacity, revolver utilization, covenant compliance, and the significant debt maturities concentrated in 2024.
- The contribution, integration, and final purchase-price accounting for HSS and Global Parts.
- Federal and Defense bookings and backlog conversion, including the effect of program completions and contract funding timing.
- The impact of supply-chain, labor, COVID-19, vaccination, and LIBOR-transition risks on margins and liquidity.