Business context and reporting period
Brookfield Business Partners L.P. filed its audited IFRS Form 20-F for the fiscal year ended December 31, 2018; it is an annual report, not a standalone fourth-quarter filing. The partnership owns business services, infrastructure services and industrial operations globally and is managed under an agreement with Brookfield Asset Management. Its units trade on the NYSE and TSX. Financial amounts below are in U.S. dollars unless indicated otherwise.
In 2018, the partnership reorganized its reporting segments: business services, infrastructure services, industrial operations, and corporate and other. The changes were applied retrospectively. Brookfield held approximately 68% of the partnership on a fully exchanged basis at year-end.
Financial results and liquidity
| Metric | 2018 | 2017 |
|---|---|---|
| Revenue | $37.168 billion | $22.823 billion |
| Net income | $1.203 billion | $215 million |
| Net income attributable to limited partners | $74 million | Net loss of $58 million |
| Net income attributable to unitholders, as reconciled by the partnership | $422 million | $24 million |
| Company EBITDA (non-IFRS) | $843 million | $240 million |
| Company FFO (non-IFRS) | $733 million | $252 million |
| Cash from operating activities | $1.341 billion | Cash used of $70 million |
| Cash and cash equivalents at year-end | $1.949 billion | $1.106 billion |
| Non-recourse subsidiary borrowings | $10.866 billion | $3.265 billion |
| Net debt | $8.917 billion | $2.159 billion |
| Net debt to capitalization | 58% | 26% |
Revenue less direct operating costs was $3.034 billion, before general and administrative costs and other expenses. Reported revenue includes substantial U.K. fuel duty recorded gross: $10.494 billion in both revenue and direct operating costs in 2018, with no effect on the business’s margin. Reported revenue therefore is not directly indicative of underlying margin. Company EBITDA and Company FFO are non-IFRS measures and should be considered alongside IFRS results, not as substitutes.
Year-end current assets were $9.781 billion and current liabilities were $9.016 billion. The partnership reported no corporate borrowings; debt was at subsidiary level and generally non-recourse to the partnership and other operations. Weighted average debt maturity was 5.9 years and weighted average interest rate was 6.45%. Two undrawn facilities were available: a $500 million Brookfield acquisition facility and an $825 million corporate facility.
Cash flow from investing activities was a $3.999 billion outflow, principally reflecting acquisitions and capital investment; financing activities provided $3.561 billion. The annualized distribution was $0.25 per unit, or $0.0625 quarterly. The partnership distributed $32 million to limited and redemption-exchange unitholders and $327 million to Special LP unitholders in 2018; incentive distributions for the year were $278 million.
For the fourth quarter, revenue was $10.209 billion and net income was $394 million; net income attributable to limited partners was $70 million and reported earnings per limited partner unit were $1.04.
Material changes versus the prior comparable period
- Revenue rose $14.345 billion, primarily reflecting a full year of Greenergy contributions and acquisitions or consolidations including Westinghouse, Schoeller Allibert and Teekay Offshore. The U.K. fuel-duty gross presentation significantly enlarges reported revenue.
- Net income increased to $1.203 billion from $215 million. Management attributed the improvement to stronger graphite-electrode results, a gain on consolidating Teekay Offshore, and gains on dispositions. Net income also included a roughly $210 million impairment of Canadian oil and gas property, plant and equipment.
- Company EBITDA increased to $843 million from $240 million; Company FFO increased to $733 million from $252 million. Higher graphite-electrode pricing and operations, acquired businesses and a Teekay Offshore customer settlement contributed. Dispositions also benefited FFO.
- Operating cash flow improved by $1.411 billion year over year, while borrowings increased by $7.601 billion and net debt to capitalization rose from 26% to 58%, principally due to acquired and consolidated businesses and GrafTech financing.
- Investing activity included the $4 billion Westinghouse acquisition, Schoeller Allibert and Imagine acquisitions, and capital expenditures. The partnership sold its Australian energy operation for $2.15 billion and received $130 million of net proceeds attributable to it; it retained contingent and royalty interests in certain exploration assets.
Outlook, management commentary, risks and unusual items
Management’s stated objective is to grow operating cash flows through operational improvements, acquisitions and organic growth, while recycling capital from mature assets. It describes the return objective as primarily capital appreciation with a modest distribution yield. No numerical earnings or cash-flow guidance is provided. At the filing date, management expected the announced acquisitions of Ouro Verde, Healthscope and Johnson Controls’ Power Solutions business, and the sale of BGIS, to close in the second quarter of 2019, subject to conditions and approvals; completion was not assured. Expected partnership equity contributions were approximately $750 million for Power Solutions, $250 million for Healthscope and an amended Ouro Verde acquisition whose final partnership contribution was not clearly stated in the supplied filing text.
- Major risks include acquisition financing and integration, increased leverage and refinancing needs, cyclical operating markets, commodity and foreign-exchange exposure, construction cost overruns, environmental and safety liabilities, and changes in regulation or interest rates.
- The partnership depends on Brookfield for management and acquisition sourcing. Brookfield’s control, management fees, incentive distributions and overlapping investment activities create conflicts of interest; acquisition opportunities are not guaranteed, and limited partners have restricted voting and management rights.
- Brookfield’s annual base management fee was $56 million. The 2018 incentive distribution was $278 million; the fourth-quarter incentive distribution was nil because the unit price was below the $41.96 threshold.
- Outstanding letters of credit, bank guarantees and insurance bonds totaled approximately $1.744 billion. A customer drew on a roughly $32 million construction advance-payment guarantee in February 2018 following an appeal; the partnership continued to counterclaim and said the potential loss was not then measurable or probable.
- IFRS 15 adoption reduced opening retained earnings by approximately $260 million, mainly related to construction contracts and the higher threshold for recognizing variable consideration. IFRS 16 adoption was expected to increase assets and liabilities by a preliminary $880 million to $1.080 billion, excluding certain fourth-quarter acquisitions, with no significant equity impact.
- The 2017 cash-flow comparative was reclassified by $360 million between operating and financing activities to correct an immaterial classification error; management said there was no impact on the other financial statements. The 2018 financial statements received an unqualified audit opinion. Internal-control testing excluded three acquired businesses representing 45% of total assets, 43% of net assets, 8% of revenue and 21% of net income; the auditor’s internal-control opinion also excluded those businesses.
Important facts for investors to verify
- Reconcile reported revenue growth and direct costs for U.K. fuel duty, and assess operating performance using segment results and IFRS figures alongside non-IFRS measures.
- Review the sustainability of operating cash flow and the increase in leverage, including subsidiary debt maturities, interest costs, covenants and the financing requirements of announced transactions.
- Assess how much 2018 net income, Company EBITDA and FFO depended on acquisition accounting, the Teekay consolidation gain, dispositions, the Teekay settlement and other unusual items.
- Track closing conditions, financing, final partnership investment amounts and realized proceeds for the announced acquisitions and BGIS sale.
- Examine Brookfield-related fees, incentive distributions, control and conflicts, and the partnership’s limited ability to control acquisition allocation and management decisions.
- Review construction guarantees and claims, environmental and decommissioning exposures, pension obligations, and the $1.744 billion of outstanding guarantees and letters of credit.
- Monitor integration of acquired entities and the internal-control coverage gap, as well as final IFRS 16 and IFRIC 23 impacts.