Huntington Ingalls Industries, Inc. — Q1 2021 Form 10-Q
Reporting period: Three months ended March 31, 2021; unaudited. HII builds military ships through Ingalls and Newport News and provides government and commercial services through Technical Solutions. Most revenue comes from U.S. Government customers, primarily the Department of Defense.
Financial results and liquidity
| Metric | Q1 2021 | Q1 2020 |
|---|---|---|
| Sales and service revenues | $2.278 billion | $2.263 billion |
| Operating income | $147 million | $215 million |
| Net earnings | $148 million | $172 million |
| Diluted EPS | $3.68 | $4.23 |
| Operating cash flow | $43 million | $68 million |
| Free cash flow | $(16) million | $2 million |
- Revenue increased 1%; product sales rose 6% to $1.721 billion while service revenue declined 13% to $557 million. Operating income fell 32% and net earnings fell 14%.
- Reported operating income included a $40 million operating FAS/CAS expense, versus a $63 million benefit in Q1 2020. Segment operating income, a non-GAAP measure, increased 22% to $191 million. HII reported net cumulative contract catch-up adjustments that increased operating income by $50 million and diluted EPS by $0.98, versus $32 million and $0.62, respectively, a year earlier.
- Segment results: Ingalls revenue of $649 million and operating income of $91 million; Newport News revenue of $1.407 billion and operating income of $93 million; Technical Solutions revenue of $259 million and operating income of $7 million. Technical Solutions revenue fell 18%, largely reflecting divestitures and lower DFS service volume.
- Cash and equivalents were $407 million at quarter-end, down from $512 million at year-end 2020. Long-term debt was $1.688 billion. The $1.25 billion revolving facility was undrawn except for $15 million of issued but undrawn letters of credit, leaving $1.235 billion available. HII reported covenant compliance.
- Operating cash flow was reduced primarily by higher retiree-benefit contributions and working-capital movements. Capital expenditures were $60 million; free cash flow was negative $16 million. HII paid $46 million in dividends and repurchased $50 million of stock during the quarter.
- Effective tax rate was 14.5%, compared with 20.4%, primarily because of the tax loss associated with the oil and gas business sale.
Material changes and business developments
- Ingalls and Newport News revenue increased 3% and 5%, respectively. Technical Solutions revenue declined 18%; segment operating income improved from a $7 million loss to $7 million income.
- Backlog rose to $48.8 billion from $46.0 billion at December 31, 2020, including $24.6 billion funded and $24.2 billion unfunded. Remaining performance obligations were also reported as $48.8 billion; the company expects about 30% to be recognized as revenue through 2022 and another 30% through 2024.
- New contract awards were approximately $5.3 billion, primarily for the USS John C. Stennis carrier overhaul, a Virginia-class submarine, and a DDG 51 destroyer.
- On February 1, HII divested San Diego Shipyard in exchange for a non-controlling interest in Titan, valued at approximately $83 million; it also transferred $12 million to Titan as part of the exchange. HII sold its oil and gas business for $25 million net cash and recorded a $3 million pre-tax gain.
Outlook, commentary, and risks
- HII said cash from operations, existing cash, and credit facilities should be sufficient for at least the next 12 months to service debt and retiree plans, meet contractual obligations, and fund capital expenditures.
- For 2021, management expected maintenance and sustainment capital expenditures of about 1.0% of annual revenue and discretionary capital expenditures of about 2.0%–3.0%. It anticipated no further significant contributions to qualified defined-benefit pension plans in 2021. The filing provides no specific earnings or revenue guidance.
- COVID-19 continued to create uncertainty around workforce availability, supply chains, customer decisions, contract margins, and recovery of related costs. HII said workforce attendance had returned to normal by March 31, while noting uncertainty over government reimbursement and insurance coverage for pandemic-related losses.
- Management identified future U.S. defense budgets and ship-program funding as significant long-term risks. Delayed, reduced, or cancelled funding could affect awards, revenue, profit, cash flow, suppliers, and the defense industrial base.
- A dispute with the Navy over the CAS treatment of workers’ compensation costs could affect approximately $120 million of costs not yet billed if a negotiated resolution does not allow their recovery. HII also disclosed a False Claims Act case for which it could not estimate a reasonably possible loss, COVID-19 insurance coverage litigation and arbitration, asbestos claims, and other proceedings. Management characterized estimated environmental remediation costs as immaterial.
- The company reported no material changes to its previously disclosed risk factors. Disclosure controls were judged effective as of March 31, 2021.
Important facts for investors to verify
- How much of the $50 million favorable net cumulative catch-up adjustment is repeatable, and how contract estimates evolve on major ship programs.
- Whether the substantial year-over-year FAS/CAS swing persists under the adopted pension-cost methodology.
- Execution, funding, and timing of the $48.8 billion backlog, particularly its unfunded portion and expected conversion to revenue.
- Cash generation after pension contributions, capital spending, dividends, and share repurchases; confirm the assumptions behind management’s 12-month liquidity assessment.
- Recoverability of COVID-19-related costs and insurance claims, and the outcome of the Navy workers’ compensation billing dispute involving approximately $120 million.