ABM Industries Incorporated — Q2 FY2011 Form 10-Q
Business context and period: The quarter and six-month periods ended April 30, 2011. ABM provides janitorial, engineering, parking, and security services. Results include The Linc Group, acquired December 1, 2010, and other recent acquisitions; reported growth is therefore substantially acquisition-driven.
Key financial results
| Metric | Q2 FY2011 | Q2 FY2010 | Six months FY2011 | Six months FY2010 |
|---|---|---|---|---|
| Revenue | $1,060.1 million | $855.5 million | $2,089.3 million | $1,725.3 million |
| Operating profit | $26.5 million | $15.5 million | $43.4 million | $37.8 million |
| Income from continuing operations | $14.2 million | $8.6 million | $22.6 million | $21.5 million |
| Net income | $14.2 million | $8.6 million | $22.6 million | $21.4 million |
| Diluted EPS | $0.26 | $0.16 | $0.42 | $0.41 |
- Revenue rose 23.9% in Q2 and 21.1% for the six months. Management attributed $198.0 million and $353.9 million of the respective increases to Linc, Diversco, and L&R acquisitions.
- Operating margin was approximately 2.5% in Q2 versus 1.8% a year earlier, and 2.1% for the six months versus 2.2%. Gross margin was 10.4% versus 9.8% in Q2 and 10.1% versus 9.9% for the six months.
- Q2 net income increased 65.5%; six-month net income increased 5.8%. Six-month income growth was limited in part by higher interest expense and acquisition transaction costs.
- Segment results for the six months: Janitorial operating profit was $64.8 million, Engineering $14.3 million, Parking $9.6 million, Security $2.2 million, and Corporate expense $47.5 million. Engineering and Janitorial profit increased; Parking and Security profit declined slightly.
Cash flow, liquidity, and debt
- Six-month operating cash flow was $33.2 million, down from $44.3 million; continuing-operations operating cash flow was $31.5 million versus $37.7 million. Management cited collection timing and higher cash taxes, partly offset by vendor-payment timing.
- Investing cash outflow was $297.7 million, primarily the $292.2 million net cash cost of the Linc acquisition. Financing provided $248.4 million, principally reflecting acquisition-related borrowing, partly offset by repayments and dividends.
- At April 30, cash was $23.3 million and working capital was $313.6 million. The balance sheet reported current assets of $716.0 million and current liabilities of $402.4 million.
- Line-of-credit borrowings were $396.0 million, compared with $140.5 million at October 31, 2010; available credit was $146.9 million. Standby letters of credit were $107.1 million. ABM reported compliance with facility covenants.
- Total liabilities were $1.157 billion and stockholders’ equity was $760.3 million. Interest expense was $8.4 million for the six months, compared with $2.4 million a year earlier.
Material changes, outlook, and risks
- Linc was acquired for a final stated purchase price of $298.7 million. Its Q2 revenue and operating profit were $134.0 million and $1.8 million; six-month figures were $227.6 million and $4.1 million. Purchase-price allocations remained preliminary, including review of acquired intangibles and self-insurance reserves.
- Management said delayed approval of the U.S. government’s FY2011 budget had delayed new contract awards and start dates for Linc’s government business; it was assessing potential effects of the proposed FY2012 budget. The filing gives no numeric earnings or revenue guidance. Management emphasized acquisition integration, cost control, client retention, and longer-term organic and acquisition growth.
- Costs and risks include higher state unemployment insurance and fuel costs, increased borrowing costs, labor-intensive operations, and the ability to pass cost increases to clients. A hypothetical 1% rate increase would have added $1.5 million of interest expense over the six-month period, net of swaps.
- Self-insurance reserves may change following actuarial reviews expected in the second half of FY2011. Standby letters of credit were $107.1 million, restricted insurance deposits $35.9 million, and surety bonds $191.1 million.
- Probable litigation losses accrued were $5.6 million. The Augustus meal/rest-break case had a September 2011 trial date; ABM disclosed uncertainty and possible material impact in the Diaz matter. The Batiz case settled for approximately $0.3 million. The filing also reports $101.9 million of unrecognized tax benefits, with federal and state tax examinations ongoing.
- Auction-rate securities had a $15.5 million fair value, were classified as long-term, and remained illiquid because auctions had not occurred since 2007. No new other-than-temporary impairment was identified in the six months. A $5.0 million security was redeemed at par in February.
- After quarter-end, sellers paid ABM $3.1 million to settle a dispute relating to customer contracts acquired with L&R. Management reported effective disclosure controls; Linc control integration and assessment were still in progress.
Important facts for investors to verify
- How much of future growth and profitability is organic versus attributable to acquisitions, and whether Linc’s operating returns improve as integration proceeds.
- Government contract award and start-date delays, and any consequences of FY2011 and FY2012 budget decisions for Linc.
- Cash conversion and working-capital trends, especially receivable collections and cash tax payments.
- Debt paydown capacity, variable-rate exposure, remaining credit availability, and continued covenant compliance.
- Developments in litigation, actuarial self-insurance estimates, tax examinations, and the valuation and liquidity of auction-rate securities.