Mercury Systems, Inc. — FY2014 Form 10-K
Reporting period: Fiscal year ended June 30, 2014; filed August 14, 2014. This is an annual report, not a standalone fourth-quarter filing. Prior-year figures have been restated to present Mercury Intelligence Systems (MIS) as discontinued operations.
Business context
Mercury supplies specialized sensor-processing subsystems and services for defense, intelligence, and commercial applications. Continuing operations comprise Mercury Commercial Electronics (MCE) and Mercury Defense Systems (MDS). In the fourth quarter, the Company approved a plan to divest MIS, citing its strategic priorities; the divestiture had not been reported as completed in the filing.
Key financial results
| Metric | FY2014 | FY2013 |
|---|---|---|
| Revenue | $208.7 million | $194.2 million |
| Gross margin | 45.4% | 40.2% |
| Operating loss | $7.4 million | $24.8 million |
| Loss from continuing operations | $4.1 million | $13.8 million |
| Net loss, including discontinued operations | $11.4 million | $13.2 million |
| Adjusted EBITDA (non-GAAP) | $23.5 million | $9.9 million |
| Cash from operating activities | $14.2 million | $(1.9) million |
| Free cash flow (non-GAAP) | $7.5 million | $(5.8) million |
Revenue grew 7%, led by defense demand and recovery in higher-margin MCE digital signal-processing products, including Aegis, Patriot, and UAV-related programs. MCE revenue rose 15% to $175.8 million; MDS revenue fell 18% to $34.2 million, principally due to lower DRFM jammer and Gorgon Stare sales. Gross margin improved 520 basis points, reflecting product mix and facility consolidation, as well as a prior-year $2.1 million Micronetics purchase-accounting charge. R&D expense increased 9.5% to $35.7 million.
FY2014 discontinued operations recorded a $7.4 million loss, including a $6.7 million goodwill impairment related to MIS. Adjusted EBITDA is a management-defined non-GAAP measure and excludes, among other items, restructuring costs and stock-based compensation.
Liquidity, capital, and operating metrics
- Cash and cash equivalents were $47.3 million at year-end, up from $39.1 million. Working capital was $127.4 million, versus $115.5 million.
- The Company reported total assets of $373.7 million and shareholders’ equity of $327.1 million. Selected financial data lists long-term obligations of $13.6 million; this figure should not be treated as equivalent to funded bank debt.
- No borrowings were outstanding under the $200 million revolving credit facility. Borrowing capacity was $75.8 million based on trailing EBITDA; letters of credit totaled $4.1 million. The Company reported covenant compliance.
- Bookings were a record $246.8 million, with a 1.2 book-to-bill ratio. Backlog was $174.1 million, up from $136.1 million; $144.0 million was expected to be delivered within 12 months. Backlog may be canceled or rescheduled and is not a reliable forecast of revenue.
- Three customers—Lockheed Martin, Raytheon, and Northrop Grumman—represented 43% of revenue. Aegis alone represented 15%.
Changes, outlook, and risks
The Company reported a return to revenue growth after FY2013’s decline. It consolidated four facilities into a new Hudson, New Hampshire manufacturing center and eliminated 70 positions in FY2014 as part of acquisition integration and restructuring. Management expected approximately $3.1 million of additional restructuring charges by the end of FY2015’s second quarter and cited a goal of approximately $16 million in annualized savings from the cost-reduction activities, expected to be completed by that time.
No specific FY2015 revenue or earnings guidance is provided in the supplied filing text. Management said it believed existing cash, operating cash generation, the credit facility, and financing capabilities would cover anticipated cash needs for at least 12 months. Its outlook is subject to defense-budget uncertainty, sequestration and continuing-resolution risk, program funding and timing, and customer order variability. Other key risks include concentrated customers and programs, dependence on sole-source components and one primary contract manufacturer, competition and technology changes, fixed-price contract cost overruns, acquisition integration and divestiture execution, and export-control and security requirements.
Legal proceedings in the ordinary course were not expected to have a material effect. Management and the independent auditor reported effective internal control over financial reporting as of June 30, 2014.
Important facts for investors to verify
- Whether and when MIS was divested, and the final proceeds, costs, and effect on continuing operations.
- Whether the planned restructuring savings were realized and whether additional charges arose after FY2014.
- Whether backlog converted to revenue as expected, given cancellation and rescheduling rights and defense funding uncertainty.
- Whether revenue and margins remained concentrated in major defense customers, Aegis, and radar applications.
- Actual liquidity available under the revolver and compliance with its EBITDA-based borrowing limits and covenants.
- Whether cash generation improved sustainably, particularly as receivable collections and working-capital needs fluctuate.