Tetra Tech, Inc. — FY2018 Form 10-K
Reporting period: Fiscal year ended September 30, 2018 (52 weeks). This is an annual report, not a standalone fourth-quarter filing. Tetra Tech provides consulting and engineering services focused on water, environment, infrastructure, resource management, energy and international development.
Financial performance
| Metric | FY2018 | FY2017 | Change |
|---|---|---|---|
| Revenue | $2,964.1 million | $2,753.4 million | +7.7% |
| Gross profit | $384.5 million | $353.6 million | +8.7% |
| Income from operations | $190.1 million | $183.3 million | +3.7% |
| Net income attributable to Tetra Tech | $136.9 million | $117.9 million | +16.1% |
| Diluted EPS | $2.42 | $2.04 | +18.6% |
| Operating cash flow | $176.9 million | $138.0 million | +$38.9 million |
Reported gross margin was approximately 13.0% of revenue and operating margin approximately 6.4%, versus 12.8% and 6.7%, respectively, in FY2017. Management’s non-GAAP ongoing operating income was $216.3 million, up 13.2%; ongoing diluted EPS was $2.64, up 23.9%. These measures exclude specified items and should be considered alongside GAAP results.
- Segments: Government Services Group (GSG) revenue rose 13.9% to $1,694.9 million and operating income rose 21.7% to $168.2 million. Commercial/International Services Group (CIG) revenue edged down 0.2% to $1,323.1 million; operating income fell 18.0% to $74.5 million. Remediation and Construction Management (RCM), which is being wound down, reported a $4.6 million operating loss versus $14.7 million.
- Cash and liquidity: Cash and equivalents were $146.2 million, down $43.8 million year over year. Operating cash flow improved; investing used $42.6 million and financing used $173.1 million. Management said cash, operating cash flow and available borrowing capacity should cover requirements for at least 12 months.
- Debt: Total debt was $277.3 million, compared with $356.9 million at FY2017 year-end. The company reported $422.0 million available under its revolving facility and was compliant with covenants: leverage ratio 1.23x against a 3.00x maximum and interest coverage 15.42x against a 3.00x minimum.
- Other: Backlog was $2.7 billion, up 4.8%; approximately 70% was expected to be recognized as FY2019 revenue, subject to performance, funding and cancellation risks. Dividends paid were $0.44 per share, up from $0.38.
Material changes and unusual items
- Reported revenue growth included $125.0 million from the Glumac and Norman Disney & Young acquisitions. Excluding the net impact of acquisitions and divestitures, revenue grew 3.8%.
- State and local government revenue rose 32.9%, supported by water infrastructure and disaster-recovery work following 2017 hurricanes and California fires. Federal government revenue rose 8.1%. International revenue declined 0.3%, with weakness in Western Canadian oil and gas activity.
- CIG’s results included a fourth-quarter settlement of a legacy fixed-price construction claim: revenue was reduced by $10.6 million and operating income charged $12.5 million. The company reported receiving $16.1 million of related receivable cash in the first quarter of FY2019.
- FY2018 included $3.4 million of losses on divestitures and $4.3 million of contingent earn-out fair-value losses, plus a $1.5 million compensation charge tied to an acquisition earn-out. FY2017 included $6.9 million of contingent earn-out gains.
- The effective tax rate fell to 21.5% from 31.3%, principally reflecting U.S. tax reform and a one-time deferred-tax benefit of approximately $14.7 million. The company said the tax-law calculations were provisional and expected to finalize adjustments by the end of FY2019’s first quarter.
- Quarterly results were uneven: fourth-quarter FY2018 revenue was $739.3 million, operating income $43.3 million, net income attributable to Tetra Tech $28.8 million and diluted EPS $0.51. The quarter included the legacy claim charge.
Outlook, risks and contingencies
Management expected FY2019 growth in U.S. federal, international and U.S. commercial revenue. State and local government activity was also expected to grow, but at a significantly slower rate as disaster-response work moderated. The filing provides no specific consolidated FY2019 revenue, earnings or EPS guidance.
- Key business risks include government funding delays or reductions, contract competition and pricing pressure, project cost overruns and estimation risk, and cyclical oil-and-gas and mining demand. A substantial portion of revenue depends on government clients; USAID represented 14.0% and DoD 10.0% of FY2018 revenue.
- Backlog may be canceled or changed, including under contracts terminable at the client’s discretion; backlog is not a guarantee of revenue or profit. Fixed-price contracts and unresolved claims can pressure margins and working capital.
- On October 15, 2018, the U.S. Attorney’s Office intervened in three qui tam actions alleging False Claims Act violations by subsidiary Tetra Tech EC relating to remediation work at the former Hunters Point Naval Shipyard. The company said it could not determine the probability of outcome or reasonably possible loss.
- Other disclosed exposures include government audits and procurement compliance, environmental and professional-liability claims, international and currency risks, cybersecurity, acquisition integration, and potential goodwill impairment. No goodwill impairment was recorded in FY2018.
- Tetra Tech planned to adopt the new revenue-recognition standard in FY2019; its then-current assessment expected a cumulative retained-earnings decrease of less than 2% at adoption. The company also expected the new lease standard in FY2020 to significantly increase reported assets and liabilities.
Investor verification priorities
- Track FY2019 organic growth and whether disaster-recovery activity moderates as management expected; distinguish acquired growth from underlying growth.
- Review GSG’s growth and CIG’s margin recovery, particularly exposure to Western Canadian oil and gas and the impact of the legacy claim settlement.
- Monitor cash conversion, receivables and collections, including the approximately $74 million of receivables associated with claims at year-end.
- Follow the Hunters Point litigation for developments in allegations, potential financial exposure and any effect on government contracting.
- Check final tax-reform adjustments, revenue-standard adoption effects, debt levels and covenant headroom, and the use of the newly authorized share-repurchase capacity.