AAR CORP. Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended February 28, 2018, compared with the prior-year periods ended February 28, 2017. The filing is unaudited. AAR operates through Aviation Services and Expeditionary Services.
Business Context and Financial Metrics
| Metric | Three Months Ended Feb. 28, 2018 | Three Months Ended Feb. 28, 2017 | Nine Months Ended Feb. 28, 2018 | Nine Months Ended Feb. 28, 2017 |
|---|---|---|---|---|
| Sales | $456.3 million | $407.2 million | $1,274.8 million | $1,140.3 million |
| Operating income | $24.2 million | $23.4 million | $63.2 million | $58.9 million |
| Income from continuing operations | $31.3 million | $14.4 million | $55.6 million | $35.7 million |
| Net income | $15.5 million | $13.7 million | $3.6 million | $35.3 million |
| Diluted EPS | $0.44 | $0.40 | $0.08 | $1.03 |
| Operating cash flow | Not separately provided | Not separately provided | $32.9 million | $(11.2) million |
- Third-quarter gross profit was $77.6 million, implying a gross margin of approximately 17.0%; operating margin was approximately 5.3%.
- Nine-month gross profit was $209.9 million, implying a gross margin of approximately 16.5%; operating margin was approximately 5.0%.
- Continuing-operations income benefited from a $13.0 million deferred-tax remeasurement benefit, a $1.8 million benefit from the revised fiscal 2018 tax rate, and $0.8 million of excess tax benefits from share-based compensation in the quarter.
- At February 28, 2018, cash and cash equivalents were $23.9 million, restricted cash was $10.7 million, and working capital was $607.0 million.
- Total debt was $196.2 million, including $147.0 million drawn on the revolving credit facility, a $24.1 million Canadian term loan, and a $25.0 million industrial revenue bond. Revolving-facility availability was approximately $336.4 million after borrowings and letters of credit; foreign lines provided an additional $10.2 million.
- Cash and unused revolving-credit capacity plus the new receivables-financing program totaled approximately $458 million at February 28, 2018.
Material Changes Versus the Prior Comparable Period
- Sales increased 12.1% in the quarter and 11.8% for the nine-month period. Aviation Services sales increased 11.4% and 11.8%, respectively, driven principally by commercial aviation supply-chain volumes and new programs. Expeditionary Services sales increased 22.5% and 12.2%, respectively.
- Commercial Aviation Services sales increased 16.7% in the quarter and 20.5% year to date. Government and defense Aviation Services sales declined 5.6% and 12.3%, primarily because of the wind-down of the KC-10 program.
- Segment gross profit increased 16.7% in the quarter and 13.1% for the nine months. Commercial Aviation Services margins declined modestly because of product and service mix, while government and defense margins improved as the lower-margin KC-10 program wound down.
- SG&A increased $10.3 million in the quarter and $20.1 million year to date, reflecting higher personnel costs, legal costs related to the INL/A WASS contract award, and $1.1 million of voluntary early-retirement severance costs in the quarter.
- The Company acquired two Canadian MRO facilities from Premier Aviation for approximately $24.8 million, including $22.9 million paid at closing. The acquisition contributed $11.7 million of third-quarter sales and $21.7 million of nine-month sales.
- On February 23, 2018, AAR entered into a receivables-purchase agreement with a maximum capacity of $150 million. It sold $63.0 million of receivables during the quarter and held $10.7 million of collections as restricted cash pending remittance.
- Operating cash flow from continuing operations improved to $15.6 million from $(37.8) million, primarily due to the receivables sale and improved working-capital movements. Total operating cash flow was $32.9 million, including $17.3 million from discontinued operations.
- Net income was materially reduced by discontinued operations. The Company reported a $15.8 million quarterly loss and a $52.0 million nine-month loss from discontinued operations, compared with losses of $0.7 million and $0.4 million, respectively.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management forecast fiscal 2019 consolidated sales of $2.1 billion to $2.2 billion, including $200 million to $225 million from the INL/A WASS contract, and diluted EPS from continuing operations of $2.50 to $2.80.
- AAR began transition services on the ten-year INL/A WASS contract in November 2017 and expected to be fully operational by the end of fiscal fourth quarter 2018.
- The Company elected to pursue the sale of its contractor-owned, contractor-operated business. The business was classified as discontinued operations, and the Company recorded $54.2 million of impairment and other charges in the second quarter and a $9.8 million goodwill impairment charge in the third quarter. Discontinued operations included $65.2 million of asset impairments for the nine-month period.
- The Company stated that it was repositioning Expeditionary Services toward a capital-light government-owned, contractor-operated model.
- Interest-rate, foreign-exchange, credit, airline-industry, government-contracting, geopolitical, and general economic risks could affect results. The Company noted that its variable-rate debt exposes it to interest-rate changes and that financing access depends partly on credit-market and operating conditions.
- A DynCorp lawsuit concerning alleged misappropriation of information and the INL/A WASS award remained subject to post-settlement dispute. AAR stated that the parties had reached a settlement, while DynCorp sought to reopen the case; AAR requested enforcement of the settlement and dismissal with prejudice. Separately, DynCorp appealed the Court of Federal Claims decision upholding the contract award, and the appeal remained in briefing.
- AAR was in compliance with its debt covenants at February 28, 2018. Disclosure controls and procedures were assessed as effective, with no material changes to internal control over financial reporting.
- The Company will adopt the new revenue-recognition standard on June 1, 2018 using the modified retrospective method. Management identified potential changes involving over-time recognition for certain manufacturing and repair contracts and shorter percentage-of-completion periods; the cumulative effect had not yet been finalized.
Key Facts for Investors to Verify
- Whether the fiscal 2019 sales and EPS guidance is achieved, particularly the timing and profitability of the INL/A WASS ramp-up.
- The final sale terms, remaining assets, liabilities, and cash impact of the COCO discontinued operation.
- The ultimate resolution and financial exposure, if any, from the DynCorp litigation and related contract appeal.
- The effect of the new revenue-recognition standard on reported revenue, earnings, contract assets, and retained earnings beginning June 1, 2018.
- Whether receivables sales represent a sustainable liquidity source and the extent of any recourse obligations.
- Commercial Aviation Services growth and margins, government and defense demand, KC-10 wind-down effects, and working-capital requirements.
- Debt levels, variable-rate exposure, covenant compliance, and the planned refinancing of the $25.0 million industrial revenue bond due August 2018.