Comtech Telecommunications Corp. — Q1 FY2016 Form 10-Q
Reporting period: Three months ended October 31, 2015; comparisons are with the three months ended October 31, 2014. Financial statements are unaudited. Comtech designs and sells advanced communications products, systems and services through telecommunications transmission, RF microwave amplifiers, and mobile data communications segments.
Financial results
| Metric | Q1 FY2016 | Q1 FY2015 |
|---|---|---|
| Net sales | $64.1 million | $76.4 million |
| Gross profit / margin | $28.2 million / 44.0% | $35.3 million / 46.2% |
| Operating income / margin | $2.2 million / 3.4% | $8.2 million / 10.7% |
| Net income | $1.4 million | $5.2 million |
| Diluted EPS | $0.09 | $0.32 |
| Operating cash flow | $5.1 million | $(4.7) million |
Revenue fell 16.1%, while operating income declined 73.6%. Gross-margin contraction and lower revenue drove the weaker results; Q1 FY2016 operating income included approximately $1.4 million of focused-acquisition expenses, mostly related to the pending TCS transaction. Excluding those costs, operating income was approximately $3.6 million, or 5.6% of sales. The reported effective tax rate was 34.75%.
Segment sales: Telecommunications transmission was $35.2 million, down 31.5%; RF microwave amplifiers was $22.7 million, up 21.4%; mobile data communications was $6.2 million, down 1.6%. The transmission decline reflected weaker satellite earth-station sales and lower revenue as two large North African microwave-system contracts neared completion. Higher amplifier sales reflected growth in traveling-wave-tube and solid-state amplifier products.
Cash, liquidity and obligations
- Cash and cash equivalents were $150.7 million at October 31, 2015, versus $151.0 million at July 31, 2015. Operating cash flow of $5.1 million was largely offset by $4.8 million of dividends and $0.6 million of capital expenditures; cash decreased by $0.2 million.
- Current assets were $278.6 million and current liabilities were $55.4 million. The balance sheet reports no outstanding debt; the existing uncommitted $15 million secured facility had $1.8 million of standby letters of credit outstanding and expires October 31, 2016.
- Capital expenditures are expected to be $6–8 million in fiscal 2016. Operating lease commitments totaled $33.8 million. Approximately $5.0 million of future cash payments, including accreted interest, relate to the Radyne restructuring plan.
- Quarterly dividends were $0.30 per share; the Board declared another $0.30 dividend payable February 17, 2016. The company said it anticipated maintaining its $1.20 annual target, subject to Board approval and financing restrictions.
Outlook, acquisition and notable matters
- Excluding TCS and specified assessment/acquisition costs and potential one-time charges, management expected FY2016 sales and operating income to be similar to FY2015, and targeted an operating margin of approximately 11%. Management expected gross margin to be comparable to FY2015 and the effective tax rate to approximate 34.75%.
- On November 22, 2015, Comtech signed a definitive agreement to acquire TeleCommunication Systems, Inc. (TCS) for $5.00 per share. The tender offer began December 7; closing was expected no later than March 2016, subject to customary conditions, including majority tender and regulatory clearance. TCS reported trailing-12-month revenue of $364.1 million and GAAP operating income of $16.1 million through September 30, 2015.
- The transaction was valued at approximately $339.7 million in equity and $430.8 million in enterprise value. Comtech expected to use approximately $149.9 million of combined cash and marketable securities and a committed $400 million acquisition credit facility; TCS had approximately $143.6 million of debt expected to be repaid at closing. Estimated transaction expenses were $27.5 million, and Comtech estimated approximately $52.7 million of cash remaining at closing. Management anticipated significantly higher FY2016 sales after closing, as well as increased interest and intangible amortization expense.
- Management cited expected diversification, entry into public safety and next-generation 911 markets, stronger positioning with government customers, and cost synergies. It cautioned that closing, integration, synergies and expected benefits were uncertain; the acquisition could divert management attention and adversely affect operations.
- Management described challenging international conditions, including currency strength, weak energy markets and customer budget pressure, alongside possible U.S. government spending delays or reprioritization. Satellite earth-station demand remained particularly pressured. New Heights platform sales and anticipated microwave-system orders were potential FY2016 contributors; management expected the fourth quarter to be the peak revenue quarter for microwave systems.
- Goodwill was $137.4 million. The August 2015 impairment assessment found estimated fair value exceeded carrying value by at least 14.0% for telecommunications transmission and 14.2% for RF microwave amplifiers. Further deterioration, missed projections or changes to reporting units could prompt an interim impairment test and material charges.
- The IRS notified Comtech of its intent to audit its FY2014 federal return; FY2012 and FY2013 returns could also be audited. Unrecognized tax benefits totaled $2.9 million. Comtech reported that U.S. government investigations involving the company and its Executive Chairman were not being pursued for further investigation or enforcement action. A separate technology-royalty dispute was at an early stage; management did not expect a material adverse effect.
Key facts for investors to verify
- Whether the TCS tender, regulatory conditions and closing timetable were met, and the final financing terms, cash balance, debt and transaction costs.
- Whether the anticipated TCS integration, cost synergies and revenue diversification are achieved without material disruption.
- Bookings, shipment timing and margins in telecommunications transmission, particularly satellite earth stations and the large microwave contracts, and growth in RF amplifier products.
- Whether the projected FY2016 operating margin and sales outlook remain achievable amid customer, economic and government-funding uncertainty.
- Potential effects of tax audits, customer concentration and credit exposure, and any goodwill impairment indicators or changes in reporting structure.