Constellis MDA FS FY16 Q3
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF CONSTELLIS HOLDINGS, LLC (“CONSTELLIS” OR THE “COMPANY”) UNAUDITED The following discussion and analysis of the Company’s financial condition and results of operations contains “forward-looking statements” that reflect our future plans, estimates, beliefs and expected performance. We caution that assumptions, expectations, projections, intentions, or beliefs about future events may, and often do, vary from actual results and the differences can be material. Company Overview Constellis Holdings, LLC and subsidiaries (the “Company”) provides vertically integrated risk management solutions and complex program management support solutions to governments and commercial customers worldwide. Its primary services include integrated security and technical operations, domestic and international training (to law enforcement, military, and civilian customers), security assessment and analysis, risk mitigation, and technology solutions. By integrating analysis, planning, program management and training with fundamentals such as security, logistics, information, medical and life support services, the Company creates and sustains a secure operational environment and provides analytical services for its customers. Primary customers include various branches of the U.S. government, foreign governments, and multinational corporations. The Company is headquartered in Reston, Virginia. Basis of Presentation For the purposes of discussion, we define financial information for 2016 “on a combined basis,” as either (i) the aggregation of our financial information for the period from July 1, 2016 to September 12, 2016 (the Predecessor period) and our financial information for the period from September 13, 2016 to September 30, 2016 (the Successor period), or (ii) the aggregation of our financial information for the period from January 1, 2016 to September 12, 2016 (the Predecessor period) and our financial information for the period from September 13, 2016 until September 30, 2016 (the Successor period). This aggregation is not in conformity with GAAP, since the results are not comparable on a period-to-period basis or to other issuers due to the new basis of accounting established at the consummation of the Acquisition, which affected certain line items on the financial statements. However, we believe that this approach is beneficial to the reader since it provides an easier-to-read discussion of the results of operations and provides the reader with information from which to analyze our financial results on a quarterly or nine months basis that is consistent with the manner in which management reviews and analyzes results of operations. The consolidated financial statements and the notes thereto included elsewhere in this reporting package comprise the financial statements of Constellis and its wholly-owned subsidiaries, prepared in accordance with U.S. GAAP. Pro Forma consolidated results presented on page 10 and thereafter reflect the combined performance of all entities as though all acquisitions occurred prior to January 1, 2015. Recent Acquisitions On September 13, 2016, Eagle LM5, LLC (“Acquirer”), a holding company established by certain funds affiliated with Apollo Global Management, LLC (“Apollo”), acquired the Company (the “Apollo Acquisition”) for an aggregate enterprise cash purchase price of $1.1 billion inclusive of
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a $100.0 million seller note. Additional future consideration can be paid in the form of cash or newly issued notes contingent on the collection of certain retained receivables collected during the six years following the closing date. In connection with the Acquisition, certain existing debt covenants of the asset-based revolving credit facility (“ABL Credit Facility”) and senior secured notes were modified to allow the change in control. On May 11, 2015, the Company acquired all of the outstanding shares of Olive Group Holdings Ltd (“Olive Group”) for a total purchase price of $215.6 million, which included $50.0 million of Class A Units of the Company at fair value. The acquisition was financed through initial borrowings under a $125.0 million ABL Credit Facility and the issuance of $450.0 million in senior secured notes, which also refinanced our existing senior credit facility, line of credit, and subordinated notes. The acquisition of Olive Group provides strategic expansion of our existing service lines into a high-growth commercial customer base. Key Components of our Results of Operations Revenues Revenues represent amounts billed on long-term contracts under cost reimbursement, time and material and fixed-price arrangements. Revenues from cost reimbursement contracts are recognized to the extent of costs incurred, plus a proportionate amount of fee earned. Revenues from time and material contracts are based on contractually defined billing rates applied to services performed and material delivered. Revenues from fixed-price contracts are recognized ratably over the period of contractual performance based on a ratio of costs incurred to date and total costs at completion. Cost of Revenues Cost of revenue includes all direct costs consisting of labor, travel, materials, equipment, subcontract, and other costs related to contract performance. All costs, both direct and indirect, are charged to expense as incurred. Other Operating Expenses Other operating expenses include all overhead and fringe costs, exclusive of depreciation and amortization, allocable to contracts. Selling, General and Administrative Expenses (“SG&A”) Our selling expenses consist primarily of salaries and other related expenses for our sales and marketing functions. Our general and administrative expenses consist primarily of salaries related to administration, finance, information technology, human resources, legal and compliance functions, as well as other related expenses, such as property costs, communication expenses and utility charges. Depreciation and Amortization Expense Depreciation and amortization expense represents the charge to earnings in respect of property and equipment, and other definite-lived intangible assets that we hold. Depreciation expense is charged mainly on a straight-line basis over the useful lives of the respective assets. Amortization expense relates primarily to intangibles assets and goodwill and is amortized using a term based on historical customer attrition rates.
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Other Income Other income represents income from ancillary services provided at our training and lodging facilities during normal course of operations. Interest Income (Expense) Interest income (expense) represents the interest charge related to borrowings under our prior and existing credit facilities and senior secured notes, as well as debt financing and other finance charges related to such borrowings. Results of Operations The following information should be read in conjunction with the information contained in our audited consolidated financial statements and the notes thereto.
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Operating Results for the Quarter Ended September 30, 2016, Compared to the Quarter Ended September 30, 2015 The following table set forth amounts from our consolidated financial statements for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015: Constellis Holdings, LLC & Subsidiaries CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (AMOUNTS IN MILLIONS)
Revenues
Three Months Ended September 30, 2016
Three Months Ended September 30,
$229.4
$255.7
Cost of Revenue
2015 (a)
$ Change
% Change
($26.3)
(10.3%) (13.9%)
167.9
195.1
(27.2)
61.5
60.6
0.9
16.2 38.7 14.4
20.5 21.4 11.2
(4.3) 17.4 3.2
(21.0%) 81.3% 28.6%
Operating Income
(7.9)
7.5
(15.4)
(205.3%)
Other (Income) Expense Interest Expense Loss on Extinguishment of Debt Other Income, net Total Other Income (Expense)
11.7 0.0 (0.3) 11.5
13.4 0.4 (0.1) 13.7
(1.6) (0.4) (0.2) (2.2)
(11.9%) (100.0%) 200.0% (16.1%)
(19.4)
(6.2)
(13.2)
212.9%
1.3
4.2
(2.9)
(69.0%)
($20.7)
($10.4)
($10.3)
99.0%
0.1
0.0
0.1
N/A
($20.8)
($10.4)
($10.4)
(100.0%)
Gross Profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Net Loss Before Taxes Income Tax Provision Net Loss Net Loss Attributed to Noncontrolling Interest Net Loss Attributed to Constellis Holdings, LLC
(a) 2015 has been restated to be consistent with 2016 reporting. See notes to consolidated financial statements under key components of our results of operation.
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1.5%
Operating Results for the Nine Months Ended September 30, 2016, Compared to the Nine Months Ended September 30, 2015 The following table set forth amounts from our consolidated financial statements for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015: Constellis Holdings, LLC & Subsidiaries CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (AMOUNTS IN MILLIONS)
Nine Months Ended September 30, 2016
Nine Months Ended September 30,
$704.3
$684.4
2015 (a)
$ Change
% Change
$20.0
2.9%
510.8
9.1
1.8%
184.4
173.6
10.9
6.3%
49.9 65.6 46.6
52.3 56.7 25.9
(2.4) 8.9 20.7
(4.6%) 15.7% 79.9%
Operating Income
22.3
38.7
(16.4)
(42.4%)
Other (Income) Expense Interest Expense Loss on Extinguishment of Debt Other Income, net Total Other Income (Expense)
37.6 0.0 (1.0) 36.6
28.6 7.5 (0.6) 35.4
9.1 (7.5) (0.4) 1.3
31.8% (100.0%) 42.9% 3.7%
(14.3)
3.3
(17.7)
(536.4%)
3.4
11.6
(8.2)
(70.7%)
($17.8)
($8.3)
($9.5)
114.5%
0.3
(0.1)
0.3
(300.0%)
($18.0)
($8.3)
($9.7)
119.5%
Revenues Cost of Revenue
519.9
Gross Profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Net (Loss) Income Before Taxes Income Tax Provision Net Loss Net Loss (Income) Attributed to Noncontrolling Interest Net Loss Attributed to Constellis Holdings, LLC
(a) 2015 has been restated to be consistent with 2016 reporting. See notes to consolidated financial statements under key components of our results of operation.
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Revenues. Total revenues decreased ($26.3) million, or (10.3%), to $229.4 million for the quarter ended September 30, 2016, as compared to the same period in 2015. Total revenues increased $20 million, or 2.9% to $704.3 million for the nine months ended September 30, 2016, as compared to the same period in 2015. The quarterly decrease in revenues was primarily driven by two factors: (i) continued softness in the commercial oil & gas business, and (ii) a lumpy construction-related task order, recorded in Q3 2015 that created a $15 million swing in yearover-year revenue comparisons for the quarters. These factors were partially offset by uplifts and extensions on existing contracts and new award activity. The increase in nine-month revenues was driven primarily by the acquisition of Olive Group on May 11, 2015. Cost of revenues. Cost of revenues decreased ($27.2) million, or (13.9%), for the quarter ended September 30, 2016, as compared to the same period in 2015. For the nine months ended September 30, 2016, cost of revenues increased $9.1 million, or 1.8%, as compared to the same period in 2015. The quarterly decrease in cost of revenues was directly related to the decrease in revenues for the period, as described above. The increase in cost of revenues in the nine-month period was driven by the acquisition of Olive Group as well as increased cost associated with ramp up expenses on newly awarded contracts. Direct labor and other direct costs are major components of our cost of revenues due to the servicerelated nature of the business. Direct labor costs expressed as a percentage of revenues were 25.3% for the third quarter of 2016 compared to 36.0% for 2015. This decrease in direct labor costs as percentage of revenues was the result of reductions in day rates paid to employees and contractors for their services. Other direct costs expressed as a percentage of revenues were 46.3% and 42.1% for the third quarters of 2016 and 2015, respectively. Direct labor costs expressed as a percentage of revenues were 24.6% for the nine months ended September 30, 2016, compared to 41.0% for 2015. As with the quarterly decrease, the decrease in direct labor costs as percentage of revenues for the nine months ended September 30, 2016, was the result of reductions in day rates paid to employees and contractors for their services. Other direct costs expressed as a percentage of revenues were 46.1% and 46.2% for the third quarters of 2016 and 2015, respectively. Gross profit. Gross profit for the quarter ended September 30, 2016, increased by $0.9 million to $61.5 million, an increase of 1.5% as compared to the same period in 2015. Gross Profit for the nine months ended September 30, 2016, increased by $10.9 million to $184.4, an increase of 6.3% as compared to the same period in 2015. The increases in gross profit for the 2016 periods were directly attributable to the reduction of direct labor costs described above and the effective implementation of other cost reduction strategies. Other operating expenses. Other operating expenses decreased ($4.3) million or (21.0%) for the quarter ended September 30, 2016, compared to the same period in 2015. Other operating expenses decreased by ($2.4) million, or (4.6%), for the nine months ended September 30, 2016, from other operating expenses of $52.3 million for the same period in 2015. The decrease in other operating expenses in the 2016 periods is the result of cost reductions achieved from the integration of acquired businesses, including Olive Group, and other cost savings initiatives implemented by management. Selling, general and administrative expenses. SG&A expenses increased $17.4 million, or 81.3%, for the quarter ended September 30, 2016, from SG&A expenses of $21.4 million for 2015. SG&A expenses increased $9.0 million, or 15.9%, for the nine months ended September 30, 2016, from SG&A expenses of $56.6 million for 2015. The increases are due to non-recurring transaction and legal related costs incurred as a result of the Apollo Acquisition, partially offset
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by decreases in the Company’s ongoing cost structure from cost efficiency initiatives implemented by management. Depreciation and amortization expense. Depreciation and amortization expense increased $3.2 million, or 28.6%, for the quarter ended September 30, 2016, from depreciation and amortization of $11.2 million in 2015. Depreciation and amortization expense increased $20.7 million, or 79.9%, for the nine months ended September 30, 2016, from depreciation and amortization of $25.9 million in 2015. These increases are primarily the result of adoption of the private company council accounting alternative to amortize goodwill over 10 years and other definite-lived intangible assets following the addition of such assets from the acquisition of Triple Canopy and Olive Group. In connection with the Apollo Acquisition, the Company has elected to apply push down accounting, thereby establishing a new basis for the assets and liabilities of the Company based on push down of the acquirer’s stepped up basis. Due to this adoption the Company has elected not to amortize goodwill post-closing of the Apollo Acquisition. Interest expense, net. Interest expense decreased ($1.6) million, or (11.9%), for the quarter ended September 30, 2016, from interest expense of $13.4 million for 2015. The decrease is primarily the result of reductions in the balance of the ABL following optional repayments during 2016. Interest expense increased $9.1 million, or 31.8%, for the nine months ended September 30, 2016, from interest expense of $28.6 million for 2015. This increase is due to an increase in borrowings during 2015, primarily related to the financing for the Olive Group acquisition. Income tax provision. Income tax provision decreased by ($2.9) million, or (69.0%) for the quarter ended September 30, 2016, from income tax expense of $4.2 million for 2015. Income tax provision decreased by ($8.2) million, or (70.7%) for the nine months ended September 30, 2016 from income tax expense of $11.6 million for 2015. The primary drivers of our effective tax rate decrease relates to the income tax benefits available to the Members of Constellis Holdings LLC resulting from the book losses in the partnership structure and the foreign tax credits generated from foreign taxes accrued by the partnership. The income tax benefits for these amounts are not recorded in the financial statements due to the flow through nature of the partnership structure. Net Income (Loss). Net Income (Loss) attributed to Constellis Holding, LLC increased ($10.4) million from loss of ($10.4) million for the quarter ended September 30, 2015 to ($20.8) million for the same period in 2016. Net Income (Loss) attributed to Constellis Holding, LLC increased ($9.7) million from ($8.3) million net loss for the nine months ended September 30, 2015, to ($18.0) million for the same period in 2016. Liquidity and Capital Resources Sources and Uses of Liquidity Our primary uses of cash have been to finance our operating cash requirements, service indebtedness and fund capital expenditures. Our primary operating cash requirements are personnel costs, other direct costs, insurance costs, administrative costs, taxes and capital expenditures. We fund our liquidity needs primarily with cash flow from operations and borrowings under the ABL Credit Facility. Based on management’s assessment of our business and prospects of future and current economic conditions, we believe that our cash and cash equivalents, cash flows from operations, and borrowing base availability under our credit facilities will be adequate to fund our liquidity needs for the next twelve months and beyond. Certain sources and uses of cash, such as the level of discretionary capital expenditures, borrowings and repayment of
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indebtedness, are generally within our control and are adjusted as necessary based on market conditions. However, our ability to meet our operating cash requirements and service our indebtedness are impacted by many factors outside of our control, including general economic conditions and the level of capital expenditures required to support growth from new contract wins. ABL Credit Facility Concurrent with the consummation of the Olive Group acquisition in May 2015, we entered into ABL Credit Facility to provide for borrowings and letters of credit of up to the lesser of (a) $125 million or (b) a borrowing base equal to billed receivables plus 60% of eligible unbilled receivables plus 50% of the fair market value of mortgaged property. All obligations under the ABL Credit Facility are unconditionally guaranteed by our existing and future domestic subsidiaries, subject to certain exceptions. In addition, ERSM (International) Limited and Olive Group, each a business company registered and incorporated in the British Virgin Islands, may borrow up to $40 million of the ABL Credit Facility. Any such borrowings will benefit from the guarantees and the collateral under the ABL Credit Facility. Obligations under the ABL Credit Facility and the related guarantees are secured, subject to certain exceptions, by substantially all of our material owned assets. The ABL Credit Facility contains customary provisions relating to mandatory prepayments, voluntary prepayments, affirmative and negative covenants, including a minimum consolidated interest coverage ratio, and events of default. On August 10, 2015, in accordance with our existing debt agreements, we amended our ABL Credit Facility by increasing the size of the facility from $125 million to $137.5 million. On August 12, 2016, the Company entered into a second amendment under the ABL Credit Facility to in conjunction with the Apollo Acquisition. Senior Secured Notes due 2020 To fund the Olive Group acquisition and re-finance our existing senior and subordinated indebtedness, we also issued senior secured Notes with an aggregate principal amount of $450.0 million (the “Notes”). The Notes are fully and unconditionally guaranteed on a senior basis by each of our existing and future domestic restricted subsidiaries (other than immaterial subsidiaries), and bear interest at 9.75%. Obligations under the Notes are secured, subject to certain exceptions, by substantially all of our material owned assets. The liens securing the Notes are contractually subordinated to the liens securing the ABL Credit Facility pursuant to an intercreditor agreement. The Notes limit our ability and the ability of our restricted subsidiaries to, among other things: pay dividends, redeem subordinated indebtedness or make other restricted payments; incur or guarantee additional indebtedness or issue preferred stock; create or incur liens; incur dividend or other payment restrictions affecting our restricted subsidiaries; consummate a merger, consolidation or sale of all or substantially all of our or our subsidiaries’ assets; enter into transactions with affiliates; transfer or sell assets; engage in businesses other than our current business and reasonably related extensions thereof; designate subsidiaries as unrestricted subsidiaries; or take or omit to take any actions that would adversely affect or impair in any material respect the collateral securing the Notes.
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Cash Flows The following table shows our sources and uses of cash for the nine months ended September 30, 2016 and 2015, respectively: Nine Months Ended September 30, 2016 2015 Net cash provided by (used in) Operating activities………………………………………………………… Investing activities…………………………………………………………. Financing activities………………………………………………………… Total………………………………………………………………………….
$27.2 (4.4) (43.4) ($20.6)
$30.9 (231.7) 263.1 $62.3
Operating activities. Net cash from operating activities decreased for the nine months ended September 30, 2016 compared to 2015 due to the decrease in net income for the period described above and an increase in accounts receivable balances driven by higher revenue, partially offset by decreases in accounts payable balances and accrued expenses attributable to higher costs of revenue. Investing activities. Net cash used in investing activities decreased substantially for the nine months ended September 30, 2016 as compared to 2015. Net Cash used for investing activities in 2015 was primarily related to the acquisition of Olive Group. Financing activities. Net cash from financing activities decreased for the nine months ended September 30, 2016 as compared to 2015. This decrease in 2016 was due primarily to the net payments made to the ABL Credit Facility offset by a cash infusion from Apollo in connection with the Apollo Acquisition. The net cash provided by financing activities in 2015 was due primarily to the net proceeds received from the issuance of a new ABL Credit Facility and $450 million senior secured notes, net of repayments of a $100 million revolving credit facility, a $175 million term loan, and a $50 million second lien term loan that were refinanced at the time. Partly offsetting this net increase in cash from debt financing was a net use of $48 million cash related to equity distributions to existing Constellis shareholders at the time of the Olive Group acquisition in May 2015. Capital Expenditures Capital expenditures for the nine months ended September 30, 2016 and 2015 were $2.9 million and $7.5 million, respectively. These ongoing capital expenditures related primarily to the following uses in operating our business:
Growth capital expenditures (capital expenditures to purchase equipment associated with new contracts and projects that expand our operating capacity); and Maintenance capital expenditures (major capital expenditures for maintaining the usefulness of assets used in supporting our operations, capitalized expenditures on IT systems and software, and leasehold improvements).
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PRO FORMA COMBINED CONSOLIDATED FINANCIAL INFORMATION FOR CONSTELLIS HOLDINGS, LLC The following unaudited pro forma combined consolidated financial information is intended to reflect how the acquisition of Olive Group in May 2015 would have impacted our financial statements. Select Operating Data for the Quarter Ended September 30, 2016, Compared to Quarter Ended September 30, 2015 (Pro Forma) Three Months Ended September 30, 2016 2015 Revenues
$ Change
% Change
$229.4
$255.7
($26.3)
(10.3%)
165.7
181.6
(15.9)
(8.8%)
63.7
74.1
(10.4)
(14.0%)
15.2 9.0 14.4
17.8 11.6 11.2
(2.6) (2.6) 3.2
(14.6%) (22.4%) 28.6%
Operating income
25.1
33.5
(8.4)
(25.1%)
Other (Income) Expense Interest Expense Other Income, Net Total Other (Income) Expense
11.7 (0.3) 11.4
13.4 (0.1) 13.3
(1.7) (0.2) (1.9)
(12.7%) 200.0% (14.3%)
Adjusted Net Income (Loss) Before Taxes
13.7
20.2
(6.5)
(32.2%)
Income Tax Provision
1.3
4.2
(2.9)
(69.0%)
Adjusted Net Income (Loss)
12.4
16.0
(3.6)
(22.5%)
Net (Income) Loss Attributed to Noncontrolling Interest
0.1
0.0
0.1
Adjusted Net Loss Attributed to Constellis Holding, LLC
12.3
16.0
(3.7)
(23.1%)
$39.7
$44.8
($5.1)
(11.4%)
Cost of Revenue Gross profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Adjusted EBITDA
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N/A
Select Operating Data for the Nine Months Ended September 30, 2016, Compared to Nine Months Ended September 30, 2015 (Pro Forma) Nine Months Ended September 30, 2015 2016
$ Change
% Change
$704.3
$754.8
($50.4)
(6.7%)
508.7
535.8
(27.2)
(5.1%)
195.7
219.0
(23.3)
(10.6%)
46.8 30.1 46.6
62.7 38.0 29.6
(15.9) (7.9) 17.0
(25.4%) (20.7%) 57.5%
Operating income
72.2
88.7
(16.5)
(18.6%)
Other (Income) Expense Interest Expense Other Income, Net Total Other (Income) Expense
37.6 (1.0) 36.6
29.7 (0.8) 28.8
8.0 (0.2) 7.8
27.0% 23.5% 27.1%
Adjusted Net Income (Loss) Before Taxes
35.6
59.9
(24.3)
(40.6%)
Income Tax Provision
3.4
12.0
(8.5)
(71.3%)
Adjusted Net Income (Loss)
32.1
47.9
(15.8)
(32.9%)
Net (Income) Loss Attributed to Noncontrolling Interest
0.3
(0.1)
0.3
(561.0%)
Adjusted Net Loss Attributed to Constellis Holding, LLC
31.9
48.0
(16.1)
(33.6%)
$119.6
$119.2
Revenues Cost of Revenue Gross profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Adjusted EBITDA
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$.4
0.3%
Select Operating Data for the Last Twelve Months (LTM) Ended September 30, 2016, Compared to Last Twelve Months Ended September 30, 2015 (Pro Forma) LTM Ended September 30, 2016
2015
$ Change
% Change
$958.3
$1016.2
($57.9)
(5.7%)
701.7
721.8
(20.1)
(2.8%)
256.6
294.4
(37.8)
(12.8%)
Other Operating Expenses
53.5
84.2
(30.7)
(36.5%)
Selling, General and Administrative Expenses
43.9
51.2
(7.3)
(14.3%)
Depreciation and Amortization
77.5
30.8
46.7
151.3%
81.7
128.1
(46.4)
(36.2%)
Interest Expense
50.2
42.2
8.0
19.0%
Other Income, Net
(0.8)
(0.7)
(0.1)
7.3%
Total Other (Income) Expense
49.5
41.5
8.0
19.2%
Adjusted Net Income (Loss) Before Taxes
32.2
86.6
(54.4)
(62.8%)
Income Tax Provision
(4.1)
12.7
(16.8)
(132.0%)
Adjusted Net Income (Loss)
36.3
73.9
(37.6)
(50.9%)
Net (Income) Loss Attributed to Noncontrolling Interest
0.5
(0.1)
0.6
(934.7%)
Adjusted Net Loss Attributed to Constellis Holding, LLC
35.8
74.0
(38.2)
(51.6%)
$159.5
$159.8
($0.3)
(0.2%)
Revenues Cost of Revenue Gross profit
Operating income Other (Income) Expense
Adjusted EBITDA
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The tables below represent Constellis’ revenues by service line during the quarter ended September 30, 2016 and 2015: REVENUE BY SERVICE THREE MONTHS ENDED SEP 30 2016
Safety and Risk Management Training Diversified Security Classified Mission Support Technology
2015
PERCENTAGE OF TOTAL 2016
2015
$9.4
$7.4
4%
3%
$10.5
$10.8
5%
4%
$166.9
$195.5
73%
76%
$27.6
$28.2
12%
11%
$13.1
$12.0
6%
5%
$1.8
$1.9
1%
1%
$229.4
$255.7
100%
100%
Revenues from diversified security accounted for $166.9 million, or 73%, of revenues for the quarter ended September 30, 2016, as compared to $195.5 million, or 76%, of revenues for the same period in 2015. Revenues from all other sources accounted for $62.5 million, or 27%, of revenue for the quarter ended September 30, 2016, as compared to $60.2 million, or 24%, of revenue for the same period in 2015. These changes are due to a change in service mix resulting from a shift in requirements on current contracts. Information Relating to Non-Guarantors In accordance with the Indenture, not all of our subsidiaries guarantee the senior secured notes. On a pro forma combined consolidated basis, non-guarantor subsidiaries (i) generated revenues for the nine months ended September 30, 2016, in an aggregate amount equal to $115.1 million, which was 16.3% of the pro forma combined consolidated revenues for such period; and (ii) held assets with an aggregate book value of $122.1 million as of September 30, 2016, which was 9.8% of the aggregate book value of the Company’s pro forma combined consolidated assets as of such date.
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a $100.0 million seller note. Additional future consideration can be paid in the form of cash or newly issued notes contingent on the collection of certain retained receivables collected during the six years following the closing date. In connection with the Acquisition, certain existing debt covenants of the asset-based revolving credit facility (“ABL Credit Facility”) and senior secured notes were modified to allow the change in control. On May 11, 2015, the Company acquired all of the outstanding shares of Olive Group Holdings Ltd (“Olive Group”) for a total purchase price of $215.6 million, which included $50.0 million of Class A Units of the Company at fair value. The acquisition was financed through initial borrowings under a $125.0 million ABL Credit Facility and the issuance of $450.0 million in senior secured notes, which also refinanced our existing senior credit facility, line of credit, and subordinated notes. The acquisition of Olive Group provides strategic expansion of our existing service lines into a high-growth commercial customer base. Key Components of our Results of Operations Revenues Revenues represent amounts billed on long-term contracts under cost reimbursement, time and material and fixed-price arrangements. Revenues from cost reimbursement contracts are recognized to the extent of costs incurred, plus a proportionate amount of fee earned. Revenues from time and material contracts are based on contractually defined billing rates applied to services performed and material delivered. Revenues from fixed-price contracts are recognized ratably over the period of contractual performance based on a ratio of costs incurred to date and total costs at completion. Cost of Revenues Cost of revenue includes all direct costs consisting of labor, travel, materials, equipment, subcontract, and other costs related to contract performance. All costs, both direct and indirect, are charged to expense as incurred. Other Operating Expenses Other operating expenses include all overhead and fringe costs, exclusive of depreciation and amortization, allocable to contracts. Selling, General and Administrative Expenses (“SG&A”) Our selling expenses consist primarily of salaries and other related expenses for our sales and marketing functions. Our general and administrative expenses consist primarily of salaries related to administration, finance, information technology, human resources, legal and compliance functions, as well as other related expenses, such as property costs, communication expenses and utility charges. Depreciation and Amortization Expense Depreciation and amortization expense represents the charge to earnings in respect of property and equipment, and other definite-lived intangible assets that we hold. Depreciation expense is charged mainly on a straight-line basis over the useful lives of the respective assets. Amortization expense relates primarily to intangibles assets and goodwill and is amortized using a term based on historical customer attrition rates.
2
Other Income Other income represents income from ancillary services provided at our training and lodging facilities during normal course of operations. Interest Income (Expense) Interest income (expense) represents the interest charge related to borrowings under our prior and existing credit facilities and senior secured notes, as well as debt financing and other finance charges related to such borrowings. Results of Operations The following information should be read in conjunction with the information contained in our audited consolidated financial statements and the notes thereto.
3
Operating Results for the Quarter Ended September 30, 2016, Compared to the Quarter Ended September 30, 2015 The following table set forth amounts from our consolidated financial statements for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015: Constellis Holdings, LLC & Subsidiaries CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (AMOUNTS IN MILLIONS)
Revenues
Three Months Ended September 30, 2016
Three Months Ended September 30,
$229.4
$255.7
Cost of Revenue
2015 (a)
$ Change
% Change
($26.3)
(10.3%) (13.9%)
167.9
195.1
(27.2)
61.5
60.6
0.9
16.2 38.7 14.4
20.5 21.4 11.2
(4.3) 17.4 3.2
(21.0%) 81.3% 28.6%
Operating Income
(7.9)
7.5
(15.4)
(205.3%)
Other (Income) Expense Interest Expense Loss on Extinguishment of Debt Other Income, net Total Other Income (Expense)
11.7 0.0 (0.3) 11.5
13.4 0.4 (0.1) 13.7
(1.6) (0.4) (0.2) (2.2)
(11.9%) (100.0%) 200.0% (16.1%)
(19.4)
(6.2)
(13.2)
212.9%
1.3
4.2
(2.9)
(69.0%)
($20.7)
($10.4)
($10.3)
99.0%
0.1
0.0
0.1
N/A
($20.8)
($10.4)
($10.4)
(100.0%)
Gross Profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Net Loss Before Taxes Income Tax Provision Net Loss Net Loss Attributed to Noncontrolling Interest Net Loss Attributed to Constellis Holdings, LLC
(a) 2015 has been restated to be consistent with 2016 reporting. See notes to consolidated financial statements under key components of our results of operation.
4
1.5%
Operating Results for the Nine Months Ended September 30, 2016, Compared to the Nine Months Ended September 30, 2015 The following table set forth amounts from our consolidated financial statements for the quarter ended September 30, 2016, compared to the quarter ended September 30, 2015: Constellis Holdings, LLC & Subsidiaries CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (AMOUNTS IN MILLIONS)
Nine Months Ended September 30, 2016
Nine Months Ended September 30,
$704.3
$684.4
2015 (a)
$ Change
% Change
$20.0
2.9%
510.8
9.1
1.8%
184.4
173.6
10.9
6.3%
49.9 65.6 46.6
52.3 56.7 25.9
(2.4) 8.9 20.7
(4.6%) 15.7% 79.9%
Operating Income
22.3
38.7
(16.4)
(42.4%)
Other (Income) Expense Interest Expense Loss on Extinguishment of Debt Other Income, net Total Other Income (Expense)
37.6 0.0 (1.0) 36.6
28.6 7.5 (0.6) 35.4
9.1 (7.5) (0.4) 1.3
31.8% (100.0%) 42.9% 3.7%
(14.3)
3.3
(17.7)
(536.4%)
3.4
11.6
(8.2)
(70.7%)
($17.8)
($8.3)
($9.5)
114.5%
0.3
(0.1)
0.3
(300.0%)
($18.0)
($8.3)
($9.7)
119.5%
Revenues Cost of Revenue
519.9
Gross Profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Net (Loss) Income Before Taxes Income Tax Provision Net Loss Net Loss (Income) Attributed to Noncontrolling Interest Net Loss Attributed to Constellis Holdings, LLC
(a) 2015 has been restated to be consistent with 2016 reporting. See notes to consolidated financial statements under key components of our results of operation.
5
Revenues. Total revenues decreased ($26.3) million, or (10.3%), to $229.4 million for the quarter ended September 30, 2016, as compared to the same period in 2015. Total revenues increased $20 million, or 2.9% to $704.3 million for the nine months ended September 30, 2016, as compared to the same period in 2015. The quarterly decrease in revenues was primarily driven by two factors: (i) continued softness in the commercial oil & gas business, and (ii) a lumpy construction-related task order, recorded in Q3 2015 that created a $15 million swing in yearover-year revenue comparisons for the quarters. These factors were partially offset by uplifts and extensions on existing contracts and new award activity. The increase in nine-month revenues was driven primarily by the acquisition of Olive Group on May 11, 2015. Cost of revenues. Cost of revenues decreased ($27.2) million, or (13.9%), for the quarter ended September 30, 2016, as compared to the same period in 2015. For the nine months ended September 30, 2016, cost of revenues increased $9.1 million, or 1.8%, as compared to the same period in 2015. The quarterly decrease in cost of revenues was directly related to the decrease in revenues for the period, as described above. The increase in cost of revenues in the nine-month period was driven by the acquisition of Olive Group as well as increased cost associated with ramp up expenses on newly awarded contracts. Direct labor and other direct costs are major components of our cost of revenues due to the servicerelated nature of the business. Direct labor costs expressed as a percentage of revenues were 25.3% for the third quarter of 2016 compared to 36.0% for 2015. This decrease in direct labor costs as percentage of revenues was the result of reductions in day rates paid to employees and contractors for their services. Other direct costs expressed as a percentage of revenues were 46.3% and 42.1% for the third quarters of 2016 and 2015, respectively. Direct labor costs expressed as a percentage of revenues were 24.6% for the nine months ended September 30, 2016, compared to 41.0% for 2015. As with the quarterly decrease, the decrease in direct labor costs as percentage of revenues for the nine months ended September 30, 2016, was the result of reductions in day rates paid to employees and contractors for their services. Other direct costs expressed as a percentage of revenues were 46.1% and 46.2% for the third quarters of 2016 and 2015, respectively. Gross profit. Gross profit for the quarter ended September 30, 2016, increased by $0.9 million to $61.5 million, an increase of 1.5% as compared to the same period in 2015. Gross Profit for the nine months ended September 30, 2016, increased by $10.9 million to $184.4, an increase of 6.3% as compared to the same period in 2015. The increases in gross profit for the 2016 periods were directly attributable to the reduction of direct labor costs described above and the effective implementation of other cost reduction strategies. Other operating expenses. Other operating expenses decreased ($4.3) million or (21.0%) for the quarter ended September 30, 2016, compared to the same period in 2015. Other operating expenses decreased by ($2.4) million, or (4.6%), for the nine months ended September 30, 2016, from other operating expenses of $52.3 million for the same period in 2015. The decrease in other operating expenses in the 2016 periods is the result of cost reductions achieved from the integration of acquired businesses, including Olive Group, and other cost savings initiatives implemented by management. Selling, general and administrative expenses. SG&A expenses increased $17.4 million, or 81.3%, for the quarter ended September 30, 2016, from SG&A expenses of $21.4 million for 2015. SG&A expenses increased $9.0 million, or 15.9%, for the nine months ended September 30, 2016, from SG&A expenses of $56.6 million for 2015. The increases are due to non-recurring transaction and legal related costs incurred as a result of the Apollo Acquisition, partially offset
6
by decreases in the Company’s ongoing cost structure from cost efficiency initiatives implemented by management. Depreciation and amortization expense. Depreciation and amortization expense increased $3.2 million, or 28.6%, for the quarter ended September 30, 2016, from depreciation and amortization of $11.2 million in 2015. Depreciation and amortization expense increased $20.7 million, or 79.9%, for the nine months ended September 30, 2016, from depreciation and amortization of $25.9 million in 2015. These increases are primarily the result of adoption of the private company council accounting alternative to amortize goodwill over 10 years and other definite-lived intangible assets following the addition of such assets from the acquisition of Triple Canopy and Olive Group. In connection with the Apollo Acquisition, the Company has elected to apply push down accounting, thereby establishing a new basis for the assets and liabilities of the Company based on push down of the acquirer’s stepped up basis. Due to this adoption the Company has elected not to amortize goodwill post-closing of the Apollo Acquisition. Interest expense, net. Interest expense decreased ($1.6) million, or (11.9%), for the quarter ended September 30, 2016, from interest expense of $13.4 million for 2015. The decrease is primarily the result of reductions in the balance of the ABL following optional repayments during 2016. Interest expense increased $9.1 million, or 31.8%, for the nine months ended September 30, 2016, from interest expense of $28.6 million for 2015. This increase is due to an increase in borrowings during 2015, primarily related to the financing for the Olive Group acquisition. Income tax provision. Income tax provision decreased by ($2.9) million, or (69.0%) for the quarter ended September 30, 2016, from income tax expense of $4.2 million for 2015. Income tax provision decreased by ($8.2) million, or (70.7%) for the nine months ended September 30, 2016 from income tax expense of $11.6 million for 2015. The primary drivers of our effective tax rate decrease relates to the income tax benefits available to the Members of Constellis Holdings LLC resulting from the book losses in the partnership structure and the foreign tax credits generated from foreign taxes accrued by the partnership. The income tax benefits for these amounts are not recorded in the financial statements due to the flow through nature of the partnership structure. Net Income (Loss). Net Income (Loss) attributed to Constellis Holding, LLC increased ($10.4) million from loss of ($10.4) million for the quarter ended September 30, 2015 to ($20.8) million for the same period in 2016. Net Income (Loss) attributed to Constellis Holding, LLC increased ($9.7) million from ($8.3) million net loss for the nine months ended September 30, 2015, to ($18.0) million for the same period in 2016. Liquidity and Capital Resources Sources and Uses of Liquidity Our primary uses of cash have been to finance our operating cash requirements, service indebtedness and fund capital expenditures. Our primary operating cash requirements are personnel costs, other direct costs, insurance costs, administrative costs, taxes and capital expenditures. We fund our liquidity needs primarily with cash flow from operations and borrowings under the ABL Credit Facility. Based on management’s assessment of our business and prospects of future and current economic conditions, we believe that our cash and cash equivalents, cash flows from operations, and borrowing base availability under our credit facilities will be adequate to fund our liquidity needs for the next twelve months and beyond. Certain sources and uses of cash, such as the level of discretionary capital expenditures, borrowings and repayment of
7
indebtedness, are generally within our control and are adjusted as necessary based on market conditions. However, our ability to meet our operating cash requirements and service our indebtedness are impacted by many factors outside of our control, including general economic conditions and the level of capital expenditures required to support growth from new contract wins. ABL Credit Facility Concurrent with the consummation of the Olive Group acquisition in May 2015, we entered into ABL Credit Facility to provide for borrowings and letters of credit of up to the lesser of (a) $125 million or (b) a borrowing base equal to billed receivables plus 60% of eligible unbilled receivables plus 50% of the fair market value of mortgaged property. All obligations under the ABL Credit Facility are unconditionally guaranteed by our existing and future domestic subsidiaries, subject to certain exceptions. In addition, ERSM (International) Limited and Olive Group, each a business company registered and incorporated in the British Virgin Islands, may borrow up to $40 million of the ABL Credit Facility. Any such borrowings will benefit from the guarantees and the collateral under the ABL Credit Facility. Obligations under the ABL Credit Facility and the related guarantees are secured, subject to certain exceptions, by substantially all of our material owned assets. The ABL Credit Facility contains customary provisions relating to mandatory prepayments, voluntary prepayments, affirmative and negative covenants, including a minimum consolidated interest coverage ratio, and events of default. On August 10, 2015, in accordance with our existing debt agreements, we amended our ABL Credit Facility by increasing the size of the facility from $125 million to $137.5 million. On August 12, 2016, the Company entered into a second amendment under the ABL Credit Facility to in conjunction with the Apollo Acquisition. Senior Secured Notes due 2020 To fund the Olive Group acquisition and re-finance our existing senior and subordinated indebtedness, we also issued senior secured Notes with an aggregate principal amount of $450.0 million (the “Notes”). The Notes are fully and unconditionally guaranteed on a senior basis by each of our existing and future domestic restricted subsidiaries (other than immaterial subsidiaries), and bear interest at 9.75%. Obligations under the Notes are secured, subject to certain exceptions, by substantially all of our material owned assets. The liens securing the Notes are contractually subordinated to the liens securing the ABL Credit Facility pursuant to an intercreditor agreement. The Notes limit our ability and the ability of our restricted subsidiaries to, among other things: pay dividends, redeem subordinated indebtedness or make other restricted payments; incur or guarantee additional indebtedness or issue preferred stock; create or incur liens; incur dividend or other payment restrictions affecting our restricted subsidiaries; consummate a merger, consolidation or sale of all or substantially all of our or our subsidiaries’ assets; enter into transactions with affiliates; transfer or sell assets; engage in businesses other than our current business and reasonably related extensions thereof; designate subsidiaries as unrestricted subsidiaries; or take or omit to take any actions that would adversely affect or impair in any material respect the collateral securing the Notes.
8
Cash Flows The following table shows our sources and uses of cash for the nine months ended September 30, 2016 and 2015, respectively: Nine Months Ended September 30, 2016 2015 Net cash provided by (used in) Operating activities………………………………………………………… Investing activities…………………………………………………………. Financing activities………………………………………………………… Total………………………………………………………………………….
$27.2 (4.4) (43.4) ($20.6)
$30.9 (231.7) 263.1 $62.3
Operating activities. Net cash from operating activities decreased for the nine months ended September 30, 2016 compared to 2015 due to the decrease in net income for the period described above and an increase in accounts receivable balances driven by higher revenue, partially offset by decreases in accounts payable balances and accrued expenses attributable to higher costs of revenue. Investing activities. Net cash used in investing activities decreased substantially for the nine months ended September 30, 2016 as compared to 2015. Net Cash used for investing activities in 2015 was primarily related to the acquisition of Olive Group. Financing activities. Net cash from financing activities decreased for the nine months ended September 30, 2016 as compared to 2015. This decrease in 2016 was due primarily to the net payments made to the ABL Credit Facility offset by a cash infusion from Apollo in connection with the Apollo Acquisition. The net cash provided by financing activities in 2015 was due primarily to the net proceeds received from the issuance of a new ABL Credit Facility and $450 million senior secured notes, net of repayments of a $100 million revolving credit facility, a $175 million term loan, and a $50 million second lien term loan that were refinanced at the time. Partly offsetting this net increase in cash from debt financing was a net use of $48 million cash related to equity distributions to existing Constellis shareholders at the time of the Olive Group acquisition in May 2015. Capital Expenditures Capital expenditures for the nine months ended September 30, 2016 and 2015 were $2.9 million and $7.5 million, respectively. These ongoing capital expenditures related primarily to the following uses in operating our business:
Growth capital expenditures (capital expenditures to purchase equipment associated with new contracts and projects that expand our operating capacity); and Maintenance capital expenditures (major capital expenditures for maintaining the usefulness of assets used in supporting our operations, capitalized expenditures on IT systems and software, and leasehold improvements).
9
PRO FORMA COMBINED CONSOLIDATED FINANCIAL INFORMATION FOR CONSTELLIS HOLDINGS, LLC The following unaudited pro forma combined consolidated financial information is intended to reflect how the acquisition of Olive Group in May 2015 would have impacted our financial statements. Select Operating Data for the Quarter Ended September 30, 2016, Compared to Quarter Ended September 30, 2015 (Pro Forma) Three Months Ended September 30, 2016 2015 Revenues
$ Change
% Change
$229.4
$255.7
($26.3)
(10.3%)
165.7
181.6
(15.9)
(8.8%)
63.7
74.1
(10.4)
(14.0%)
15.2 9.0 14.4
17.8 11.6 11.2
(2.6) (2.6) 3.2
(14.6%) (22.4%) 28.6%
Operating income
25.1
33.5
(8.4)
(25.1%)
Other (Income) Expense Interest Expense Other Income, Net Total Other (Income) Expense
11.7 (0.3) 11.4
13.4 (0.1) 13.3
(1.7) (0.2) (1.9)
(12.7%) 200.0% (14.3%)
Adjusted Net Income (Loss) Before Taxes
13.7
20.2
(6.5)
(32.2%)
Income Tax Provision
1.3
4.2
(2.9)
(69.0%)
Adjusted Net Income (Loss)
12.4
16.0
(3.6)
(22.5%)
Net (Income) Loss Attributed to Noncontrolling Interest
0.1
0.0
0.1
Adjusted Net Loss Attributed to Constellis Holding, LLC
12.3
16.0
(3.7)
(23.1%)
$39.7
$44.8
($5.1)
(11.4%)
Cost of Revenue Gross profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Adjusted EBITDA
10
N/A
Select Operating Data for the Nine Months Ended September 30, 2016, Compared to Nine Months Ended September 30, 2015 (Pro Forma) Nine Months Ended September 30, 2015 2016
$ Change
% Change
$704.3
$754.8
($50.4)
(6.7%)
508.7
535.8
(27.2)
(5.1%)
195.7
219.0
(23.3)
(10.6%)
46.8 30.1 46.6
62.7 38.0 29.6
(15.9) (7.9) 17.0
(25.4%) (20.7%) 57.5%
Operating income
72.2
88.7
(16.5)
(18.6%)
Other (Income) Expense Interest Expense Other Income, Net Total Other (Income) Expense
37.6 (1.0) 36.6
29.7 (0.8) 28.8
8.0 (0.2) 7.8
27.0% 23.5% 27.1%
Adjusted Net Income (Loss) Before Taxes
35.6
59.9
(24.3)
(40.6%)
Income Tax Provision
3.4
12.0
(8.5)
(71.3%)
Adjusted Net Income (Loss)
32.1
47.9
(15.8)
(32.9%)
Net (Income) Loss Attributed to Noncontrolling Interest
0.3
(0.1)
0.3
(561.0%)
Adjusted Net Loss Attributed to Constellis Holding, LLC
31.9
48.0
(16.1)
(33.6%)
$119.6
$119.2
Revenues Cost of Revenue Gross profit Other Operating Expenses Selling, General and Administrative Expenses Depreciation and Amortization
Adjusted EBITDA
11
$.4
0.3%
Select Operating Data for the Last Twelve Months (LTM) Ended September 30, 2016, Compared to Last Twelve Months Ended September 30, 2015 (Pro Forma) LTM Ended September 30, 2016
2015
$ Change
% Change
$958.3
$1016.2
($57.9)
(5.7%)
701.7
721.8
(20.1)
(2.8%)
256.6
294.4
(37.8)
(12.8%)
Other Operating Expenses
53.5
84.2
(30.7)
(36.5%)
Selling, General and Administrative Expenses
43.9
51.2
(7.3)
(14.3%)
Depreciation and Amortization
77.5
30.8
46.7
151.3%
81.7
128.1
(46.4)
(36.2%)
Interest Expense
50.2
42.2
8.0
19.0%
Other Income, Net
(0.8)
(0.7)
(0.1)
7.3%
Total Other (Income) Expense
49.5
41.5
8.0
19.2%
Adjusted Net Income (Loss) Before Taxes
32.2
86.6
(54.4)
(62.8%)
Income Tax Provision
(4.1)
12.7
(16.8)
(132.0%)
Adjusted Net Income (Loss)
36.3
73.9
(37.6)
(50.9%)
Net (Income) Loss Attributed to Noncontrolling Interest
0.5
(0.1)
0.6
(934.7%)
Adjusted Net Loss Attributed to Constellis Holding, LLC
35.8
74.0
(38.2)
(51.6%)
$159.5
$159.8
($0.3)
(0.2%)
Revenues Cost of Revenue Gross profit
Operating income Other (Income) Expense
Adjusted EBITDA
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The tables below represent Constellis’ revenues by service line during the quarter ended September 30, 2016 and 2015: REVENUE BY SERVICE THREE MONTHS ENDED SEP 30 2016
Safety and Risk Management Training Diversified Security Classified Mission Support Technology
2015
PERCENTAGE OF TOTAL 2016
2015
$9.4
$7.4
4%
3%
$10.5
$10.8
5%
4%
$166.9
$195.5
73%
76%
$27.6
$28.2
12%
11%
$13.1
$12.0
6%
5%
$1.8
$1.9
1%
1%
$229.4
$255.7
100%
100%
Revenues from diversified security accounted for $166.9 million, or 73%, of revenues for the quarter ended September 30, 2016, as compared to $195.5 million, or 76%, of revenues for the same period in 2015. Revenues from all other sources accounted for $62.5 million, or 27%, of revenue for the quarter ended September 30, 2016, as compared to $60.2 million, or 24%, of revenue for the same period in 2015. These changes are due to a change in service mix resulting from a shift in requirements on current contracts. Information Relating to Non-Guarantors In accordance with the Indenture, not all of our subsidiaries guarantee the senior secured notes. On a pro forma combined consolidated basis, non-guarantor subsidiaries (i) generated revenues for the nine months ended September 30, 2016, in an aggregate amount equal to $115.1 million, which was 16.3% of the pro forma combined consolidated revenues for such period; and (ii) held assets with an aggregate book value of $122.1 million as of September 30, 2016, which was 9.8% of the aggregate book value of the Company’s pro forma combined consolidated assets as of such date.
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