Business context and reporting period
Vectrus, Inc. (NYSE: VEC) filed this Form 10-K for the fiscal year ended December 31, 2014; the filing identifies the company as Vectrus, not V2X. Vectrus provides U.S. government services in infrastructure asset management, logistics and supply chain management, and information technology and network communications. Exelis spun off Vectrus on September 27, 2014. Accordingly, results before the spin-off are combined historical results and may not reflect the costs or performance of Vectrus as a standalone company.
Key financial metrics
| Metric | FY 2014 | FY 2013 |
|---|---|---|
| Revenue | $1,203.3 million | $1,511.6 million |
| Operating income / margin | $38.4 million / 3.2% | $131.3 million / 8.7% |
| Net income | $22.8 million | $84.4 million |
| Diluted EPS | $2.13 | $8.06 |
| Operating cash flow | $43.0 million | $92.8 million |
| Capital expenditures | $3.8 million | $2.4 million |
| Cash at year-end | $42.8 million | $10.4 million |
| Total debt at year-end | $137.4 million | None |
FY 2014 revenue by capability was infrastructure asset management $778.8 million, logistics and supply chain management $234.6 million, and IT and network communications $189.9 million. Cost of revenue was 90.1% of revenue, versus 85.8% in 2013; SG&A was 6.7%, versus 5.5%. The effective tax rate was 38.2%, compared with 35.9%.
Fourth-quarter 2014 revenue was $285.8 million, operating income $8.1 million, and net income $3.3 million. Fourth-quarter 2013 comparables were $327.1 million, $25.2 million, and $16.2 million, respectively.
Liquidity included $42.8 million cash and $60.6 million available under the revolving facility after letters of credit. Management said these resources and expected operating cash flows should cover operating costs, capital expenditures, and current debt repayments for at least 12 months. DSO was 68 days, versus 67 days a year earlier. The company reported $2.9 billion total backlog, including $814 million funded backlog; it expected to recognize a substantial portion of funded backlog within 12 months.
Material changes versus prior periods
- Revenue fell 20.4% year over year, mainly because of reduced activity in Afghanistan and the Middle East as U.S. forces withdrew, bases closed, and service levels and equipment maintenance needs declined.
- Operating income fell 70.7% and net income fell 73.0%. Lower revenue reduced operating leverage, while 2014 included $13.2 million of standalone separation costs.
- Afghanistan revenue declined to $270.1 million from $513.1 million in 2013; Afghanistan operating income fell to $24.3 million from $91.4 million.
- 2013 operating income included $38.3 million of favorable cumulative contract estimate adjustments; the net effect of such adjustments in 2014 was unfavorable by $2.6 million, including an unfavorable $2.5 million impact from the TARS program retained by Exelis.
- Operating cash flow declined $49.8 million, reflecting lower earnings and smaller receivables-related cash contributions than in 2013.
- Vectrus incurred $140 million of term debt in connection with the spin-off and paid Exelis a $136.3 million distribution. The term loan balance was $137.4 million at year-end.
Outlook, commentary, risks and unusual items
No specific company revenue or earnings guidance was provided. Management expected defense spending pressure, competition, acquisition reform, and continued drawdown in Afghanistan to weigh on portions of the business. It viewed sustainment and other mission-essential services as relatively durable and aimed to expand geographically and pursue other U.S. government customers.
Three significant 2014 contract awards were highlighted: Thule Base Maintenance, approximately $411 million; U.S. Army Corps of Engineers IT support, approximately $517 million; and U.S. Air Forces in Europe support in Turkey and Spain, approximately $458 million. These are contract ceiling/award values, not guaranteed revenue. The Thule award faced a further protest at the Court of Federal Claims after GAO denied earlier protests; Vectrus said it was proceeding with phase-in at the customer’s direction.
Key risks include high dependence on U.S. government and Army spending, Afghanistan exposure, concentration in four contracts representing 68% of 2014 revenue, option exercises and funding uncertainty, contract recompetition and bid protests, cost-estimation risk, and government audits or compliance findings. The company also cited variable-rate debt, spin-off tax and indemnification obligations, standalone cost increases, cybersecurity and international operating risks. Legal proceedings were not expected to have a material adverse effect based on information then available. The company reported no material unapproved claims or change orders and no goodwill impairment.
The 2014 financial statements were audited by Deloitte & Touche and received an unqualified opinion. Management concluded disclosure controls were effective; management’s internal-control assessment and auditor attestation were omitted under the transition relief for newly public companies.
Important facts for investors to verify
- Whether Afghanistan and Middle East drawdowns, reduced funding, and service-level changes continue to depress revenue and operating margins.
- Renewals, option exercises, funding, and profitability of the four largest contracts, especially K-BOSSS, OMDAC-SWACA, LOGCAP, and APS-5 Kuwait.
- Actual revenue conversion and funding of the $2.9 billion backlog, particularly its $2.0 billion unfunded component.
- Progress on the Thule contract protest and transition, and realization of revenue from the three large contract awards.
- Cash generation, working capital, debt repayment, variable interest exposure, and continued compliance with credit-facility covenants.
- Standalone costs, transition-service dependence, spin-off tax exposures, and outcomes of government audits or investigations.