AAON, Inc. — Q1 2018 Form 10-Q
Business context and period: Unaudited results for the three months ended March 31, 2018, compared with Q1 2017. AAON designs and manufactures commercial heating and air-conditioning equipment. Product sales are moderately seasonal, typically peaking July–November.
Financial results
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net sales | $99.1 million | $86.1 million | +15.1% |
| Gross profit / margin | $15.4 million / 15.5% | $25.0 million / 29.0% | Margin down 13.5 percentage points |
| Operating income | $5.2 million | $14.5 million | Down 64.2% |
| Net income | $4.3 million | $10.2 million | Down 58.3% |
| Diluted EPS | $0.08 | $0.19 | Down $0.11 |
| Operating cash flow | $10.7 million | $10.2 million | Up $0.6 million |
| Capital expenditures | $8.5 million | $6.1 million | Up $2.4 million |
Unit sales rose 20.4% to 6,043, while revenue grew more slowly. Water-source heat-pump sales increased to $4.4 million from $1.9 million and units sold rose to 1,614 from 378; management said this newer product line carries lower margins and was not yet as profitable as other products. Backlog was $74.1 million at March 31, versus $68.9 million a year earlier and $81.2 million at December 31, 2017.
Liquidity, debt, and capital allocation
- Cash, certificates of deposit, and held-to-maturity investments totaled approximately $23.1 million at March 31, down $7.3 million from year-end. Current assets were $154.7 million and current liabilities were $57.3 million.
- No borrowings were outstanding under the $30 million revolving facility; $29.2 million was available after a $0.8 million standby letter of credit. The facility expires July 27, 2018, and the company expected to renew it on similar terms. AAON reported covenant compliance.
- Investing cash outflow was $20.4 million, including $8.5 million of capital expenditures, $6.0 million for the WattMaster acquisition, and net purchases of investments. Financing cash outflow was $3.6 million, including $4.4 million of share repurchases.
- Management estimated 2018 capital expenditures of approximately $53.2 million. The company reported no material contractual purchase agreements or material off-balance-sheet arrangements.
Material changes, outlook, and risks
- Gross margin fell to 15.5% from 29.0%. Management attributed pressure to a $1.9 million one-time employee bonus related to the Tax Cuts and Jobs Act, higher headcount, and lower profitability in the ramping water-source heat-pump business. Sales mix also shifted toward that lower-margin line.
- Trailing 12-month average raw-material prices increased year over year: copper and galvanized steel each rose 12.5%, stainless steel 4.3%, and aluminum 4.2%. Management noted commodity-price volatility and possible use of supplier contracts to manage exposure.
- On February 28, AAON acquired substantially all assets of WattMaster Controls for $6.0 million and included its operations from March 1. Preliminary purchase accounting included $3.7 million of goodwill; valuation remained incomplete and could change materially. The acquisition is intended to accelerate development of AAON electronic controllers.
- Management said construction continued on a 134,000-square-foot research and development laboratory, with completion expected in 2018. The filing provides no specific revenue or earnings guidance. The estimated annual 2018 effective tax rate, excluding discrete items, was approximately 28%.
- Management cited exposure to economic and construction cycles, interest rates, competition, and raw-material and component costs. It said cash, operating cash flows, the committed credit facility or comparable financing, and expected capital-market access should meet foreseeable funding needs. Pending ordinary-course litigation was assessed as unlikely to have a material adverse effect; the filing reported no material change to previously disclosed risk factors.
Important facts for investors to verify
- Whether gross-margin pressure from the employee bonus, staffing, product mix, and water-source heat-pump ramp persists or reverses.
- Actual progress, spending, and returns from the planned $53.2 million 2018 capital program and the new laboratory.
- Final WattMaster acquisition fair values, integration progress, and the business’s contribution to results.
- Renewal terms for the revolving facility before its July 27, 2018 expiration, and cash needs as investment and capital spending continue.
- Whether commodity-cost increases can be offset through pricing, sourcing, or supplier arrangements, and whether backlog converts to sales as expected.