Business Context and Reporting Period
Harris Corporation, now associated with L3Harris Technologies, filed this unaudited Form 10-Q for the quarter ended September 26, 2014, the first quarter of fiscal 2015. The business operated through RF Communications, Government Communications Systems, and Integrated Network Solutions. The filing was reviewed, not audited, by Ernst & Young LLP.
Financial Performance and Position
| Metric | Q1 FY2015 | Q1 FY2014 | Change |
|---|
| Revenue | $1,155.4 million | $1,191.9 million | Down 3.1% |
| Gross margin | $392.8 million; 34.0% | $417.4 million; 35.0% | Margin down 1.0 percentage point |
| Income from continuing operations | $125.1 million | $127.5 million | Down 1.9% |
| Net income attributable to Harris | $125.1 million | $125.8 million | Down 0.6% |
| Diluted EPS from continuing operations | $1.18 | $1.18 | Flat |
| Operating cash flow | $80.1 million | $172.6 million | Down 53.6% |
- Net income margin was approximately 10.8%, compared with 10.7% in the prior-year quarter.
- Effective tax rate declined to 28.7% from 32.2%, including an approximately $9 million benefit from recognized foreign tax credits.
- Cash and cash equivalents were $449.1 million at September 26, 2014, down from $561.0 million at fiscal year-end.
- Total debt was approximately $1.63 billion, consisting primarily of $1.576 billion of long-term debt and $52.2 million of short-term debt. Approximate net debt was $1.18 billion.
- The company had no borrowings under its $1 billion revolving credit facility, although $30 million of commercial paper was outstanding and supported by the facility. The facility was fully available and no long-term debt matured until December 2017.
- Cash used in investing activities was $34.0 million, including $41.0 million of capital expenditures. Cash used in financing activities was $150.1 million, including $111.7 million of share repurchases and $50.3 million of dividends.
- Quarterly dividends increased to $0.47 per share from $0.42 per share, and approximately $733.5 million remained available under the share repurchase authorization.
Material Changes Versus the Prior Comparable Period
| Segment | Q1 FY2015 Revenue | Revenue Change | Operating Income | Income Change |
|---|
| RF Communications | $387.1 million | Down 8.5% | $116.7 million | Down 13.7% |
| Government Communications Systems | $460.7 million | Up 11.9% | $73.9 million | Up 15.5% |
| Integrated Network Solutions | $325.7 million | Down 13.3% | $23.1 million | Down 22.2% |
- Consolidated revenue declined because of lower RF Communications and Integrated Network Solutions revenue, partially offset by growth in Government Communications Systems.
- Gross margin declined primarily because of mix, lower segment gross margins, and a smaller contribution from the higher-margin RF Communications segment.
- Operating cash flow fell sharply due to shipment timing, lower receivable collections, higher inventory, and reduced tax-related benefits compared with the prior period.
- Favorable estimate-at-completion adjustments contributed $22.1 million to operating income, compared with $12.3 million in the prior-year quarter. Management attributed the improvement to strong program execution and risk retirement.
- Discontinued operations contributed no income in the current quarter versus a $1.7 million after-tax loss in the prior-year quarter. The company collected a $7 million subordinated note related to the prior sale of Cyber Integration Center.
Guidance, Outlook, Commentary, Risks and Unusual Items
- Management expected fiscal 2015 capital expenditures of approximately $200 million and stated that existing cash, operating cash flow, credit capacity, and capital-market access should fund anticipated working capital, capital expenditures, dividends, repurchases, and potential acquisitions.
- Management reported no material liquidity issues but cautioned that future liquidity could be affected by U.S. Government budget uncertainty, global economic conditions, reduced operating cash flow, credit-market disruptions, or higher borrowing costs.
- Key risks include dependence on U.S. Government funding and contracts, sequestration and changing defense priorities, fixed-price contract cost overruns, cybersecurity incidents, foreign currency exposure, export restrictions, geopolitical events, litigation, tax-rate changes, subcontractor performance, and potential impairment of goodwill or other long-lived assets.
- Broadcast Communications divestiture litigation concerning a post-closing working-capital adjustment remained outstanding; management believed an unfavorable resolution would not materially affect financial condition, results, or cash flows.
- Revenue from many development and production contracts uses percentage-of-completion accounting and requires estimates of total costs, contract value, incentives, claims, and schedule performance. Changes in these estimates can materially affect reported earnings.
- The company adopted accounting standards concerning cumulative translation adjustments and unrecognized tax benefits without a material impact. A new revenue recognition standard was issued but was not yet effective; the company was evaluating its impact.
- Management stated that there were no material changes to previously disclosed risk factors, no material off-balance-sheet arrangements, and no material changes in contractual obligations during the quarter.
Investor Verification Priorities
- Verify the company and period mapping: the filing is for Harris Corporation and the quarter ended September 26, 2014, identified as Q1 fiscal 2015, rather than a contemporary L3Harris filing.
- Assess whether the $22.1 million of favorable contract estimate adjustments and the $9 million tax benefit are recurring or period-specific.
- Monitor conversion of earnings into cash, particularly receivables, inventory, shipment timing, and operating cash flow.
- Review RF Communications and Integrated Network Solutions execution, market weakness, program mix, and U.S. Government exposure.
- Reconcile debt maturities, commercial-paper usage, credit-facility availability, and the effect of share repurchases and dividends on liquidity.
- Track the Broadcast Communications working-capital litigation, tax audits, fixed-price contract estimates, cybersecurity exposure, and potential impairment risks.
