JACOBS SOLUTIONS INC. quarterly report, Q3 FY2011

Business Context and Reporting Period

Jacobs Engineering Group Inc. and subsidiaries filed this unaudited Form 10-Q for the quarter ended July 1, 2011, covering the three and nine months ended July 1, 2011, with comparisons to July 2, 2010. The company provided engineering, technical professional, construction, and operations and maintenance services across government, infrastructure, energy, chemicals, mining, and other markets. The filing predates the company’s later name, Jacobs Solutions Inc.

Fiscal 2011 results include the February 2011 acquisition of certain Aker Solutions process and construction operations and the May 2011 acquisition of a controlling interest in Consulting Engineering Services (India) Private Limited.

Key Financial Metrics

Metric	Q3 FY2011	Q3 FY2010	9M FY2011	9M FY2010
Revenue	$2.744 billion	$2.508 billion	$7.658 billion	$7.572 billion
Operating profit	$139.4 million	$45.1 million	$371.0 million	$280.6 million
Operating margin	5.1%	1.8%	4.8%	3.7%
Net earnings attributable to Jacobs	$90.7 million	$19.0 million	$236.7 million	$169.0 million
Diluted EPS	$0.71	$0.15	$1.86	$1.35
Net margin	3.3%	0.8%	3.1%	2.2%
Operating cash flow	Not separately provided	Not separately provided	$159.9 million	$237.2 million

Direct contract costs were 85.0% of revenue in Q3 and 85.2% for the nine months, compared with 89.1% and 87.0%, respectively, in the comparable 2010 periods.
Cash and cash equivalents were $773.8 million at July 1, 2011, down from $938.8 million at October 1, 2010.
Receivables increased to $2.178 billion from $1.660 billion at fiscal 2010 year-end, contributing to weaker operating cash flow.
Total current liabilities were $2.130 billion, including $548.7 million of notes payable. Long-term debt was $2.5 million. The filing states that certain credit facilities became current because they expire in the third quarter of fiscal 2012.
Working capital was $994.9 million at July 1, 2011, down $532.7 million from October 1, 2010.
Backlog increased 4.1% year over year to $14.002 billion, including approximately $647 million related to the Aker entities.

Cash Flow, Liquidity, and Capital Allocation

Operating activities generated $159.9 million during the first nine months, down $77.3 million year over year. Management attributed the decline primarily to working-capital timing and higher receivables.
Investing activities used $790.0 million, including $710.8 million for acquisitions and $83.6 million for property and equipment. The company also purchased an office building and related assets for approximately $49.1 million.
Financing activities provided $472.5 million, including $825.6 million of long-term borrowings and $238.8 million of long-term debt repayments, primarily reflecting financing for the Aker acquisition.
Available liquidity included $773.8 million of cash and $77.7 million of remaining capacity under the $290 million unsecured revolving credit facility. Approximately $308.6 million was outstanding under new bilateral facilities associated with Aker, and $46.5 million was outstanding under a separate short-term facility related to the AWE investment.
Management stated that cash, revolving-credit capacity, and other facilities were adequate for operations, acquisition activity, and debt service over the next twelve months.

Material Changes Versus the Prior Comparable Period

Q3 revenue increased 9.4%, while nine-month revenue increased 1.1%. The increase was driven primarily by Aker-related project services, higher operations and maintenance activity, and growth in infrastructure, chemicals and polymers, and mining and minerals.
Project Services revenue increased 31.6% in Q3 and 16.0% for the nine months. Construction revenue declined 16.8% and 20.1%, respectively, due partly to the winding down of a large downstream energy and refining project and lower pass-through costs.
Operations and maintenance revenue increased 32.9% in Q3 and 28.4% for the nine months.
SG&A expense increased 20.4% in Q3 and 8.2% for the nine months, including Aker-related SG&A of $40.5 million and $70.0 million, respectively. Aker also contributed $252.9 million of Q3 revenue, $425.2 million of nine-month revenue, and $12.7 million and $18.1 million of net earnings, respectively.
Reported earnings benefited substantially from the absence of the prior-year SIVOM Judgment charge. The 2010 judgment produced a $93.3 million pretax charge and reduced 2010 diluted EPS by approximately $0.48. Excluding that item, prior-year diluted EPS was $0.63 for Q3 and $1.83 for the nine months, compared with $0.71 and $1.86 in 2011.
Q3 2011 miscellaneous income included a one-time $3.7 million holding gain from remeasuring the company’s prior 15% investment in CES when it acquired an additional 55% interest.
Pass-through costs declined to $486.0 million in Q3 and $1.562 billion for the nine months, from $705.6 million and $2.155 billion, respectively, in the prior-year periods. This mix change contributed to improved reported cost percentages.

Guidance, Outlook, Risks, Contingencies, and Unusual Items

The filing does not provide a specific numerical earnings or revenue guidance target. Management expressed confidence that liquidity was adequate for the next twelve months and continued to support its acquisition strategy.
Backlog is not a guarantee of future revenue: substantially all contracts may be canceled or terminated at the client’s option, and timing depends on scope, funding, project duration, and cost changes.
Receivables aged slightly during the period because of customer mix and customer system changes. Management did not believe this represented a significant cash-flow risk, but receivables and working-capital conversion remain important monitoring points.
Results are exposed to contract estimates, claims, change orders, incentive fees, audits of government contracts, project losses, foreign currency movements, and interest-rate changes.
The company reported contractual guarantees, litigation, insurance-retention exposure, government contract audits, investigations, and tax audits. Management believed these matters would not have a material adverse effect on consolidated financial statements.
The I-35W bridge litigation remained pending, although management did not expect a material adverse financial effect. The filing states that there were no material changes to previously disclosed risk factors.
The Aker purchase-price allocation remained preliminary, including estimates for intangible assets, goodwill, net cash, and working-capital adjustments. Preliminary goodwill was approximately $427 million.
Defined-benefit pension liabilities increased to $484.7 million within other deferred liabilities from $396.9 million at October 1, 2010. The company made $61.1 million of pension contributions during the first nine months and expected total fiscal-year contributions of $72.3 million.
Management concluded that disclosure controls and procedures were effective as of July 1, 2011, with no material changes to internal control over financial reporting during the quarter.

Important Facts for Investors to Verify

Reconcile the reported earnings improvement with the nonrecurring SIVOM Judgment charge in the 2010 comparison period.
Assess whether Aker and other acquisitions can sustain backlog, revenue growth, and margins after integration and acquisition-related costs.
Monitor receivables, working capital, operating cash flow, and the effect of customer billing delays on liquidity.
Review maturity dates, covenants, interest rates, and refinancing requirements for the revolving facility and bilateral borrowings classified as current.
Evaluate the preliminary Aker purchase-price allocation, goodwill, acquired intangible assets, and potential net cash or working-capital purchase-price adjustments.
Review contract termination rights, government audits, claims, guarantees, pension obligations, and the status of the I-35W bridge litigation.