AAR CORP. Form 10-Q Summary
Reporting period: Three months ended August 31, 2017, the first quarter of fiscal 2018. The filing is unaudited and presents continuing operations unless otherwise noted. AAR operates through Aviation Services and Expeditionary Services.
Financial Performance and Position
| Metric | Q1 FY2018 | Q1 FY2017 | Change |
|---|---|---|---|
| Sales | $439.2 million | $404.8 million | +8.5% |
| Gross profit | $64.5 million | $61.5 million | +4.9% |
| Operating income | $16.5 million | $16.7 million | -1.2% |
| Income from continuing operations | $10.6 million | $9.9 million | +7.1% |
| Net income | $10.6 million | $9.5 million | +11.6% |
| Diluted EPS | $0.31 | $0.28 | +$0.03 |
| Net cash used in operating activities | $20.6 million | $1.1 million | Higher use of cash |
- Margins: Gross margin was approximately 14.7%, versus 15.2% in the prior-year quarter. Operating margin was approximately 3.8%, versus 4.1%. Net margin was approximately 2.4%, versus 2.3%.
- Segment results: Aviation Services sales increased 11.0% to $371.3 million and gross profit increased 8.2% to $57.8 million. Expeditionary Services sales declined 3.3% to $67.9 million and gross profit declined 17.3% to $6.7 million.
- Balance sheet: Cash was $15.1 million at August 31, 2017, compared with $10.3 million at May 31, 2017. Working capital was $592.6 million. Total debt was $192.9 million, including $165.0 million outstanding under the revolving credit facility.
- Liquidity: The revolving facility provides $500 million of commitments and matures November 1, 2021. Approximately $320.4 million remained available after borrowings and letters of credit, and $9.8 million was available under foreign credit lines. Management reported total cash plus unused revolving capacity of $335.5 million.
- Investing and financing: Investing activities used $6.9 million, including $8.2 million of property, plant and equipment expenditures. Financing activities provided $32.3 million, primarily from $34.0 million of net short-term borrowings. The company paid $2.6 million of dividends and repurchased $5.2 million of stock.
Material Changes Versus the Prior Comparable Period
- Commercial Aviation Services sales rose 26.0% to $296.8 million, driven primarily by new flight-hour component inventory management and repair programs. Commercial Aviation Services gross profit increased 17.6%, although its gross margin declined to 14.9% from 16.0% because of product and service mix.
- Government and defense Aviation Services sales declined 24.8%, largely because of the wind-down of the KC-10 program. KC-10 sales fell to $11.7 million from $38.6 million.
- Expeditionary Services remained under pressure from weaker government markets and fewer expeditionary airlift contract positions. Government and defense gross profit in the segment declined 42.6%.
- Selling, general and administrative expense increased $3.2 million, but declined to 10.9% of sales from 11.1%.
- The effective tax rate decreased to 28.4% from 35.7%, primarily due to adoption of ASU 2016-09, which provided a $1.2 million tax benefit from share-based compensation.
- Prior-year results included a $2.6 million gain on the sale of a temperature-controlled container product line and a $0.4 million loss from discontinued operations. The metal machining operation was shut down during fiscal 2017.
- Operating cash flow deteriorated primarily because of customer invoice timing, increased accounts receivable, and a $29.6 million decrease in accrued and other liabilities.
Outlook, Risks, Contingencies, and Unusual Items
- Management expects continued ramp-up of commercial aviation supply-chain and MRO contracts awarded during fiscal 2017 and stated that customer demand remains favorable for comprehensive supply-chain and maintenance programs.
- The company intends to focus Expeditionary Services on government-owned, contractor-operated programs and a more robust rotary-wing aircraft asset-management platform. Existing Afghanistan contract positions were expected to conclude in the second quarter of fiscal 2018 after AAR received no task orders under the related recompete.
- AAR Airlift won the Department of State INL/A Global Aviation Support Services contract, with a potential duration of 11 years and potential revenue of $10 billion including task orders. The award was subject to a protest pending before the U.S. Court of Federal Claims, with a decision expected by October 31, 2017.
- AAR acquired two Premier Aviation MRO facilities in Canada on September 19, 2017 for approximately $29.0 million, including $2.3 million of deferred consideration. The facilities support a new long-term Air Canada airframe maintenance contract. This is a subsequent event not included in the August 31 balance sheet.
- The company reported no material changes to the risk factors in its fiscal 2017 Form 10-K. Key exposures include airline and defense-market conditions, government contract awards, contract protests, geopolitical events, working-capital volatility, interest rates, foreign exchange, credit losses, and access to financing.
- AAR was defending litigation brought by DynCorp alleging misappropriation of information and related claims. The case was stayed pending the Court of Federal Claims decision on the INL/A contract protest. Management stated that it considered the claims without merit.
- The company was in compliance with its financing covenants as of August 31, 2017. It expects to refinance current maturities due within the following 12 months through the revolving facility.
Important Facts for Investors to Verify
- Confirm the timing and outcome of the INL/A contract protest and any effect on expected government-services revenue.
- Monitor the completion of the KC-10 program wind-down and the resulting effect on Aviation Services revenue and margins.
- Assess whether commercial aviation contract growth offsets weaker government and expeditionary activity.
- Track operating cash conversion, receivables, accrued liabilities, inventory, and additional borrowings under the revolving facility.
- Review the integration and financial contribution of the Premier Aviation acquisition and the Air Canada contract.
- Evaluate the impact of the new revenue-recognition and lease-accounting standards, whose eventual effects had not yet been determined in the filing.
- Verify developments in the DynCorp litigation and related government-contract contingencies.