Business context and reporting period
Transcat, Inc. provides calibration and compliance services and distributes professional-grade test, measurement and control instruments. This unaudited Form 10-Q covers the first quarter of fiscal 2015, ended June 28, 2014; comparisons are with the quarter ended June 29, 2013. Amounts below are in thousands of dollars, except per-share data and percentages.
Key financial results
| Metric | Q1 FY2015 | Q1 FY2014 | Change |
|---|---|---|---|
| Revenue | $29,119 | $28,710 | +1.4% |
| Gross profit | $6,669 | $7,214 | -7.6% |
| Gross margin | 22.9% | 25.1% | -220 bps |
| Operating income | $759 | $1,152 | -34.1% |
| Net income | $445 | $721 | -38.3% |
| Diluted EPS | $0.06 | $0.09 | Lower |
| Cash from operating activities | $(2,414) | $(505) | Greater cash use |
Revenue comprised distribution sales of $16,981, essentially flat year over year, and service revenue of $12,138, up 3.4%. Distribution and service gross margins were 22.0% and 24.2%, respectively, versus 23.7% and 27.2% a year earlier. Operating expenses declined 2.5% to $5,910; the effective tax rate was 37.7%, compared with 37.2%.
Financial position and cash flow
At June 28, 2014, cash was $168 and revolving-credit borrowings were $10,821, compared with $23 and $7,593 at March 29, 2014. The $20,000 revolving facility matures in September 2015; the company reported compliance with its covenants. Current assets were $25,784 and current liabilities $10,321. Working capital was approximately $15,463, compared with $11,674 at fiscal year-end.
Operating cash use reflected, among other items, a $2,042 inventory build and $2,500 of cash payments primarily for performance bonuses and employee profit sharing. Investing activities used $703, including $711 of capital expenditures, primarily for service capabilities and IT. Financing activities provided $3,387, primarily from net revolving-credit borrowings. Cash ended the quarter at $168.
Material changes, outlook and risks
- Gross profit fell in both segments. Service margin pressure reflected inflation and other cost increases and a higher outsourced-service mix (15.1% of service revenue versus 14.2%). Distribution margin declined amid increased customer discounting and lower vendor rebates, partly offset by higher cooperative advertising income.
- Management attributed service growth to customer retention and new-customer activity. Trailing-twelve-month service revenue was $48,583, up 11.3% year over year. Pending product shipments were $2,860, down 16.7% from the prior-year quarter, primarily due to lower backorders and fewer orders awaiting calibration.
- Management expected double-digit service revenue growth and stronger operating-income growth, with consolidated operating income expected to improve over the prior fiscal year. It cited an active service-opportunity pipeline, new business expected to benefit the second half, and continued acquisition-pipeline development. Distribution margins were expected to face pressure from lower vendor rebates over the next two quarters. No specific numerical earnings or revenue guidance was provided.
- Risks cited include dependence on a significant inventory supplier, indebtedness, acquisition and integration risks, economic conditions, competition, and management information systems. Interest rates were variable; management estimated a 1% rate change would affect annual interest expense by less than $100, assuming unchanged average borrowings. More than 90% of revenue was U.S.-dollar denominated. A foreign-exchange forward contract had a $5,300 notional amount and matured in July 2014; its fair-value change produced a $200 loss in the quarter, recorded in other expense and described as offset by changes in the hedged receivables.
- The company was evaluating the impact of newly issued revenue-recognition and share-based-payment accounting standards. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Confirm the amount actually available under the $20,000 revolving facility: the filing reports $10,821 outstanding, implying roughly $9,179 of unused capacity, but elsewhere describes $20,000 as available.
- Track whether service growth converts into improved service margins and operating income, given the quarter’s lower gross margins and management’s growth outlook.
- Monitor inventory levels, bonus and profit-sharing cash payments, and reliance on revolver borrowing, particularly with the facility scheduled to mature in September 2015.
- Assess the timing and impact of lower vendor rebates, pending product shipments, and the foreign-exchange contract’s settlement.