Business Context and Reporting Period
Jacobs Engineering Group Inc. (now associated with Jacobs Solutions Inc.) filed this unaudited Form 10-Q for the quarter and six months ended March 30, 2018. The company provides engineering, construction, technical, consulting, operations and maintenance services globally through three reporting lines of business: Aerospace, Technology, Environmental and Nuclear; Buildings, Infrastructure and Advanced Facilities; and Energy, Chemicals and Resources.
The reporting period reflects the December 15, 2017 acquisition of CH2M HILL, which materially increased scale, debt, goodwill and reported revenue. The company reorganized its segment structure in the second quarter in connection with CH2M integration.
Financial Results and Key Metrics
| Metric | Three months ended March 30, 2018 | Year-over-year change | Six months ended March 30, 2018 | Year-over-year change |
|---|---|---|---|---|
| Revenue | $3.935 billion | +70.9% | $6.685 billion | +37.7% |
| Gross profit | $773.4 million | +84.4% | $1.261 billion | +50.3% |
| Gross margin | 19.7% | 18.2% prior year | 18.9% | 17.3% prior year |
| Operating profit | $146.3 million | +114.6% | $193.9 million | +23.7% |
| Net earnings attributable to Jacobs | $48.6 million | -2.9% | $50.8 million | -54.1% |
| Diluted EPS | $0.34 | Down from $0.41 | $0.38 | Down from $0.91 |
Net earnings were pressured by restructuring and other charges, CH2M transaction costs, higher interest expense and discrete tax charges related to the Tax Cuts and Jobs Act. The effective tax rate increased to 57.5% for the quarter and 66.8% for the six-month period, compared with 27.0% and 28.1%, respectively, in the prior-year periods.
Segment revenue and operating profit for the quarter were $1.106 billion and $61.3 million for ATEN, $1.758 billion and $138.0 million for BIAF, and $1.071 billion and $56.3 million for ECR. Total segment operating profit was $255.7 million before corporate expenses, restructuring charges and CH2M transaction costs.
Cash Flow, Balance Sheet, Debt and Liquidity
- Cash and cash equivalents were $835.4 million at March 30, 2018, compared with $774.2 million at September 29, 2017.
- Operating cash flow for the first six months was $54.2 million, down from $201.0 million in the prior-year period, primarily because of higher receivables, lower earnings and acquisition-related and restructuring payments.
- Investing cash outflow was $1.534 billion, primarily reflecting $1.485 billion of net cash paid for acquisitions.
- Financing cash inflow was $1.525 billion, including $3.058 billion of long-term borrowings and $1.496 billion of long-term debt repayments.
- Long-term debt increased to $2.512 billion from $235.0 million at fiscal year-end, including a $1.5 billion term loan and approximately $1.009 billion outstanding under the revolving credit facility.
- The company reported $588.1 million of remaining borrowing capacity under its $1.6 billion revolving facility and $449.2 million of outstanding letters of credit. It also had $922.2 million of surety bonds outstanding.
- Management stated that liquidity was adequate for operations, debt service, dividends, share repurchases and the ongoing acquisition strategy for the next twelve months. The company reported compliance with its debt covenants.
Material Changes Versus the Prior Comparable Period
- CH2M contributed approximately $1.18 billion of quarterly revenue and $1.31 billion of six-month revenue. The acquisition also added approximately $78.0 million of pretax restructuring and transaction costs through the first half.
- Revenue growth was supplemented by higher volumes in legacy businesses and favorable foreign exchange in certain segments.
- Backlog increased to $26.540 billion from $18.457 billion a year earlier, with increases in all three reporting lines.
- Goodwill increased to $5.917 billion from $3.010 billion and intangible assets increased to $745.9 million from $332.9 million, primarily due to CH2M purchase accounting.
- Shares outstanding increased materially following the issuance of approximately 20.7 million shares to former CH2M stakeholders. Weighted-average diluted shares increased to 142.8 million for the quarter from 120.3 million in the prior year.
- Interest expense increased to $19.2 million for the quarter and $26.3 million for the six months, compared with $3.8 million and $7.3 million, respectively, due to acquisition-related borrowings.
Guidance, Outlook, Risks and Unusual Items
- CH2M restructuring and integration activities are expected to continue through fiscal 2019. Management is targeting annual cost savings of $150 million after completion.
- Restructuring and other charges were $69.4 million pretax in the quarter and $88.7 million for the six months; the related accrual was $186.0 million at March 30, 2018.
- The company entered into an agreement to issue $500 million of senior notes, with maturities from 2025 through 2030, expected to close in May 2018. Proceeds were intended for debt repayment and general corporate purposes.
- The Tax Cuts and Jobs Act generated provisional net discrete tax charges of $69.4 million for the six months, including a $52.5 million valuation allowance charge. Tax accounting remained incomplete and could be revised.
- A $17.3 million charge was recorded for a legal matter. The filing also describes significant litigation and arbitration, including a CH2M-related Australian consortium dispute involving claimed damages of $665.5 million and counterclaims estimated at approximately $1.7 billion. Management did not expect a material adverse effect based on information available at filing, but acknowledged potential material short-term exposure if the consortium were found liable.
- Variable-rate debt creates interest-rate risk; management estimated that a 1% increase in floating rates would have increased six-month interest expense by approximately $9.0 million.
- Substantially all contracts may be cancelled or terminated at the client's option, and backlog is not necessarily indicative of future revenue.
- The company had not fully assessed CH2M's internal control over financial reporting. CH2M represented approximately 41% of total assets and 20% of six-month revenue, and its historical control deficiencies related to cost estimates for long-term contracts remained under remediation and testing.
Most Important Facts for Investors to Verify
- Progress on CH2M integration, realization of the targeted $150 million annual cost savings and the duration and cash cost of restructuring activities.
- Final CH2M purchase price allocation, including goodwill, intangible assets, pensions, tax balances and contingent liabilities.
- Debt reduction plans, leverage covenant compliance, interest-rate exposure and the closing and use of proceeds from the $500 million senior notes.
- Working-capital conversion, receivables growth and the sustainability of operating cash flow after acquisition-related payments.
- Resolution and reserves associated with the Australian consortium arbitration, the Nui Phao arbitration and other legal and government-contract matters.
- Final accounting for the Tax Cuts and Jobs Act and potential changes to the effective tax rate or valuation allowances.
- Reliability of backlog conversion, contract estimates, claims, incentive fees and unbilled receivables under percentage-of-completion accounting.