Moog Inc. — Q3 2018 Form 10-Q
Business context and period. Moog designs and manufactures precision motion and fluid-control systems for aerospace, defense and industrial markets. This report covers the quarter and nine months ended June 30, 2018; comparisons are with the quarter and nine months ended July 1, 2017. Amounts below are in millions of dollars unless stated otherwise. Moog reports Aircraft Controls, Space and Defense Controls, and Industrial Systems; prior-period segment figures were restated to reflect the revised structure.
Key financial metrics
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $692.0 | $626.2 | $2,008.6 | $1,848.3 |
| Gross margin | 28.5% | 29.1% | 28.6% | 29.2% |
| Earnings before taxes | $55.0 | $48.3 | $128.5 | $133.0 |
| Net earnings attributable to Moog | $40.7 | $40.1 | $55.9 | $102.7 |
| Diluted EPS attributable to Moog | $1.13 | $1.11 | $1.55 | $2.83 |
| Effective tax rate | 25.8% | 17.0% | 56.4% | 23.4% |
Cash flow and liquidity. Nine-month operating cash flow was $46.4 million, versus $169.3 million a year earlier. Investing used $122.3 million and financing used $137.1 million; cash declined $210.8 million to $157.3 million from September 30, 2017. The filing attributes weaker operating cash flow mainly to higher pension contributions and cash used by receivables and inventory. Nine-month capital expenditure was $70.8 million; acquisitions used $47.9 million. The filing provides cash flow data for the nine-month period, not a separate Q3 cash flow statement.
At June 30, cash was $157.3 million and long-term debt, including current installments, was approximately $858.8 million; total debt including short-term borrowings was approximately $860.2 million. Net debt to capitalization was 36%, up from 33% at September 30, 2017. The $1.1 billion revolving facility had $430 million drawn. Moog reported $638 million unused borrowing capacity, but stated the leverage covenant limited total borrowing capacity to $453 million. It was in compliance with debt covenants. The $300 million 5.25% senior notes mature in December 2022; the $130 million receivables securitization facility matures in October 2019.
Material changes and segment performance
- Q3 sales grew 11% and Moog-attributable net earnings rose 1%; diluted EPS increased 2%. Nine-month sales rose 9%, while attributable earnings fell 46% and diluted EPS fell 45%, principally reflecting tax-related charges and Industrial Systems restructuring.
- Aircraft Controls Q3 sales rose 6% to $299.6 million and operating profit increased 15% to $33.3 million. Nine-month sales grew 6%; higher military OEM and commercial aftermarket activity supported results, while military OEM pricing pressure and lower legacy commercial sales weighed on margins. Twelve-month backlog was $726 million, up 34%.
- Space and Defense Controls Q3 sales rose 17% to $149.8 million and operating profit increased 29% to $16.5 million. Nine-month operating profit rose 49%, partly because 2017 included losses on divested businesses. Backlog was $453 million, up 17%.
- Industrial Systems Q3 sales rose 13% to $242.6 million, while operating profit increased 12% to $24.3 million. Nine-month operating profit fell 42% to $37.5 million, reflecting restructuring charges. Excluding those charges, management reported a nine-month operating margin of 10.0%. Backlog was $296 million, up 21%.
Outlook, management commentary and risks
- Management’s fiscal 2018 outlook called for sales of approximately $2.707 billion, up 8%, and operating profit of $260 million, up 4%. Forecast operating margin was 9.6%, compared with 10.0% in 2017; excluding restructuring, management expected 10.8%.
- Management forecast an unusually high 48% effective tax rate for 2018 due to the Tax Cuts and Jobs Act, net earnings attributable to common shareholders of $97 million, and diluted EPS of $2.57–$2.77 (midpoint $2.67). Excluding restructuring and special tax effects, it forecast a 26.8% tax rate, $160 million of attributable earnings, and diluted EPS of $4.32–$4.52 (midpoint $4.42). These are management estimates, not results.
- Moog began exiting its wind pitch control business. Through Q3, it recorded $32.2 million of Industrial Systems restructuring expense, including inventory and asset impairments, severance and other costs; most charges were noncash. The remaining restructuring accrual was $8.0 million, expected to be paid by September 2019.
- The nine-month 2018 tax rate included a $31.3 million transition-tax charge and $16.1 million additional provision on undistributed foreign earnings, partially offset by a $9.5 million deferred-tax remeasurement benefit. The tax accounting remained provisional. Moog’s 26.8% adjusted rate excludes special Tax Act impacts.
- Management expected 2018 capital expenditures of approximately $95 million and dividends of approximately $18 million. The Board declared a further $0.25-per-share dividend payable September 4, 2018.
- Principal risks include cyclicality and economic conditions in aerospace, defense and industrial markets; reliance on government funding and contracts; estimating costs and profits on long-term and fixed-price contracts; failure to convert backlog to revenue; supplier performance; Boeing customer exposure; foreign currency and tax changes; pension funding; debt and covenant constraints; acquisition integration; and environmental, product liability and other legal matters.
- Management said pending legal and environmental matters were not expected to have a material adverse effect and that reserves were adequate. It cautioned that customer claims or contract cost overruns could require additional loss provisions. Standby letters of credit totaled $44.2 million. Disclosure controls were judged effective, with no material change in internal control reported.
Important facts for investors to verify
- Whether Moog achieves its fiscal 2018 sales, margin, tax and EPS outlook, particularly the difference between reported and adjusted forecasts.
- Actual remaining costs and cash payments from the wind pitch control exit, and the resulting Industrial Systems margins.
- Whether lower operating cash flow reverses, given pension funding, inventory, receivables and planned capital spending.
- Available borrowing capacity under the leverage covenant, debt levels and compliance as operating results and cash needs evolve.
- The final Tax Act accounting and the effect of revenue-recognition adoption in fiscal Q1 2019; Moog had not yet quantified the latter impact and expected more revenue over time for certain repair, overhaul and U.S. government contracts.
- Potential additional losses on long-term customer contracts, including the effects of delivery delays, cost growth and government budget pressure.