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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD ENDED FROM __________ TO __________
COMMISSION FILE NUMBER 1-12380
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AVIALL, INC.
(Exact name of Registrant as specified in its Charter)
DELAWARE 65-0433083
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2075 DIPLOMAT DRIVE
DALLAS, TEXAS 75234-8999
(Address of principal executive offices) (Zip Code)
(972) 406-2000
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
The number of shares of Common Stock, par value $.01 per share, outstanding
at November 5, 1999 was 18,271,576.
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PART I - FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
AVIALL, INC.
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
Three months ended Nine months ended
September 30, September 30,
----------------------------- -----------------------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
Net sales $ 92,811 102,126 275,537 305,105
Cost of sales 68,528 76,672 202,603 228,632
------------ ------------ ------------ ------------
Gross profit 24,283 25,454 72,934 76,473
Operating and other expenses:
Selling and administrative expenses 18,907 17,132 55,574 51,800
Nonrecurring item 1,772 -- 1,772 --
Interest expense 889 809 2,405 1,892
------------ ------------ ------------ ------------
Earnings from continuing operations before income taxes 2,715 7,513 13,183 22,781
Provision for income taxes 1,171 232 5,471 693
------------ ------------ ------------ ------------
Earnings from continuing operations 1,544 7,281 7,712 22,088
Discontinued operations:
Gain on disposal (net of income tax expense of $661
and $1,429 in 1999) 1,228 -- 2,654 2,083
------------ ------------ ------------ ------------
Earnings from discontinued operations 1,228 -- 2,654 2,083
------------ ------------ ------------ ------------
Net earnings $ 2,772 7,281 10,366 24,171
============ ============ ============ ============
Basic net earnings per share:
Earnings from continuing operations $ 0.08 0.39 0.42 1.13
Earnings from discontinued operations 0.07 -- 0.15 0.11
------------ ------------ ------------ ------------
Net earnings $ 0.15 0.39 0.57 1.24
============ ============ ============ ============
Weighted average common shares 18,241,764 18,742,140 18,215,104 19,474,933
============ ============ ============ ============
Diluted net earnings per share:
Earnings from continuing operations $ 0.08 $ 0.38 0.42 1.11
Earnings from discontinued operations 0.07 -- 0.14 0.11
------------ ------------ ------------ ------------
Net earnings $ 0.15 $ 0.38 0.56 1.22
============ ============ ============ ============
Weighted average common and potentially dilutive
common shares 18,590,107 19,038,745 18,538,951 19,844,491
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
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AVIALL, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
September 30, December 31,
1999 1998
------------- ------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 3,914 3,136
Receivables 66,470 59,357
Inventories 94,051 84,078
Prepaid expenses and other current assets 2,288 1,849
Deferred income taxes 18,174 7,674
---------- ----------
Total current assets 184,897 156,094
---------- ----------
Property, plant and equipment 10,933 10,331
Intangible assets 56,667 58,709
Deferred income taxes 59,931 76,222
Other assets 2,875 3,290
---------- ----------
Total assets $ 315,303 304,646
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 13,629 13,628
Accounts payable 31,899 31,615
Accrued expenses 27,963 34,934
---------- ----------
Total current liabilities 73,491 80,177
---------- ----------
Long-term debt 40,250 32,000
Other liabilities 21,825 23,880
Shareholders' equity (includes common stock of $.01 par value per share with
80,000,000 shares authorized; 20,269,521 shares and 20,180,267 shares issued
at September 30, 1999 and at December 31, 1998, respectively; 18,269,521
shares and 18,180,267 shares outstanding at September 30, 1999 and at December
31, 1998, respectively; preferred stock of $.01 par value per share with
10,000,000 shares authorized and no shares issued and outstanding) 179,737 168,589
---------- ----------
Total liabilities and shareholders' equity $ 315,303 304,646
========== ==========
See accompanying notes to consolidated financial statements.
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AVIALL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
Nine months ended
September 30,
----------------------------
1999 1998
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 10,366 24,171
Gain on disposal of discontinued operations (2,654) (2,083)
Nonrecurring item 1,772 --
Depreciation and amortization 4,971 4,307
Compensation expense on restricted stock awards 97 173
Deferred income taxes 2,638 19
Changes in:
Receivables (7,113) (1,648)
Inventories (9,854) (14,958)
Accounts payable 284 1,552
Accrued expenses (3,178) (3,828)
Other, net (2,230) (2,535)
---------- ----------
(4,901) 5,170
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (3,379) (2,621)
Sales of property, plant and equipment 121 95
---------- ----------
(3,258) (2,526)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in revolving credit facility 17,255 23,262
Debt repaid (9,004) (6,552)
Issuance of common stock 686 3,243
Purchase of treasury stock -- (27,733)
---------- ----------
8,937 (7,780)
---------- ----------
Change in cash and cash equivalents 778 (5,136)
Cash and cash equivalents, beginning of period 3,136 7,556
---------- ----------
Cash and cash equivalents, end of period $ 3,914 2,420
========== ==========
CASH PAID FOR INTEREST AND INCOME TAXES:
Interest $ 2,260 1,900
Income taxes $ 1,259 1,085
See accompanying notes to consolidated financial statements.
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AVIALL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, these financial statements do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of management, all adjustments
(consisting only of normal recurring adjustments) considered necessary for a
fair presentation have been included. Operating results for the three- and
nine-month periods ended September 30, 1999 are not necessarily indicative of
the results that may be expected for the year ending December 31, 1999. For
further information, refer to the financial statements and footnotes thereto
included in Aviall, Inc.'s Form 10-K for the year ended December 31, 1998.
NOTE 2 - SEGMENT INFORMATION
The following tables present information by operating segment (in
thousands):
Three months ended Nine months ended
September 30, September 30,
1999 1998 1999 1998
---------- ---------- ---------- ----------
Revenues (Unaudited)
Parts Distribution $ 85,295 94,904 253,132 283,773
ILS 7,516 7,222 22,405 21,332
---------- ---------- ---------- ----------
Total revenue $ 92,811 102,126 275,537 305,105
========== ========== ========== ==========
Profit (Unaudited)
Parts Distribution $ 2,619 5,429 9,147 17,023
ILS 4,222 4,394 12,726 12,279
---------- ---------- ---------- ----------
Reportable segment profit 6,841 9,823 21,873 29,302
Corporate (1,465) (1,501) (4,513) (4,629)
Interest expense (889) (809) (2,405) (1,892)
Nonrecurring item (1,772) -- (1,772) --
---------- ---------- ---------- ----------
Earnings from continuing operations before income taxes $ 2,715 7,513 13,183 22,781
========== ========== ========== ==========
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ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW. The following discussion and analysis should be read in conjunction
with the information set forth under Item 7: Management's Discussion and
Analysis of Financial Condition and Results of Operations on pages 11 through 19
of Aviall, Inc.'s (the "Company") Form 10-K for the year ended December 31,
1998.
RESULTS OF OPERATIONS-THREE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO THREE
MONTHS ENDED SEPTEMBER 30, 1998. Net sales in the Parts Distribution business
for the third quarter of 1999 were $85.3 million, a decline of $9.6 million, or
10.1%, from $94.9 million recorded in the same 1998 quarter. The decline
resulted primarily from operational issues related to the replacement of the
mainframe-based computer applications which began during the first quarter of
1999 and continued into the third quarter of 1999. Sales were lower in all major
business segments and geographic regions except Australia, New Zealand and the
region served by the Singapore facility which posted double digit increases. ILS
revenue increased $0.3 million or 4.1% from $7.2 million to $7.5 million year
over year.
Gross profit of $24.3 million was $1.2 million lower than the $25.5 million
in the 1998 third quarter. Gross profit as a percentage of sales increased to
26.2% from 24.9%. This increase in gross profit percentage resulted from the
higher percentage of ILS sales to total sales for the quarter and increased
margins in the Parts Distribution business.
Selling and administrative expenses increased $1.8 million or 10.4% to
$18.9 million in the third quarter of 1999. The increase resulted primarily from
increased severance expense, higher freight costs and increased property taxes.
A nonrecurring expense of $1.8 million was recorded in the third quarter of 1999
to reflect the fees paid for professional services and related costs incurred
during the review of strategic alternatives.
Tax expense for the third quarter of 1999 increased $0.9 million to $1.2
million from the $0.2 million in the third quarter of 1998. The effective tax
rate increased to 43.1% from 3.1% due to the year-end 1998 release of a U.S.
federal valuation allowance on deferred tax assets. This increase in the
provision for taxes reduces the Company's deferred tax asset, but does not
result in increased cash tax payments. The $1.2 million net gain in discontinued
operations for the third quarter 1999 resulted from changes in estimates for
certain retained liabilities.
Third quarter 1999 net earnings from continuing operations were $1.5
million, or $0.08 per share (diluted) compared to a reported $7.3 million, or
$0.38 per share (diluted) last year in the third quarter. Excluding the
nonrecurring item, net earnings from continuing operations would have been $2.6
million, or $0.14 per share (diluted). Using an effective tax rate of 43.1%, the
prior year results would have been $4.3 million, or $0.22 per share (diluted).
RESULTS OF OPERATIONS - NINE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO NINE
MONTHS ENDED SEPTEMBER 30, 1998. Net sales for the Parts Distribution business
were impacted by issues related to the February 1, 1999 implementation of the
new Lawson enterprise system and by the strategic review process. Net sales for
Parts Distribution for the first nine months of 1999 were $253.1 million, a
decline of $30.6 million, or 10.8%, from the $283.8 million recorded in the same
period of 1998. Sales were lower in all major business segments and geographic
regions except the Australian region which posted a slight increase. ILS revenue
increased $1.1 million or 5.0% from $21.3 million to $22.4 million year over
year.
Gross profit of $72.9 million was $3.5 million lower than the $76.5 million
in the first three quarters of 1998. Gross profit as a percentage of sales
increased to 26.5% from 25.1%. This increase in gross profit percentage was
primarily the result of the higher percentage of ILS sales to total sales for
the first nine months and increased margins in the Parts Distribution business.
Selling and administrative expenses increased $3.8 million or 7.3% to $55.6
million in the first nine months of 1999. The increase primarily resulted from
start-up expenses related to the first phase of the AviallOne project, costs
associated with the enhanced aviall.com website, higher freight costs and
severance expense. Interest expense was higher than in the same period of 1998
reflecting the higher debt levels.
The provision for income taxes for the first three quarters of 1999
increased $4.8 million to $5.5 million from the $0.7 million in the same period
of 1998. The effective tax rate increased to 41.5% from 3.0% due to the year-end
1998 release of a U.S. federal valuation allowance on deferred tax assets. This
increase in the provision for taxes reduces the Company's deferred tax asset,
but does not result in increased cash tax payments.
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Net earnings from continuing operations for the first three quarters of
1999 were $7.7 million, or $0.42 per share (diluted) compared to a reported
$22.1 million, or $1.11 per share (diluted) for the same period last year. Using
a 41.5% effective tax rate, the prior year results would have been $13.3
million, or $0.67 per share (diluted).
FINANCIAL CONDITION. Cash flows from operations were a negative $4.9 million in
the first nine months of 1999 and a positive $5.2 million in the comparable 1998
period. The reduced operating cash flow in 1999 resulted from lower sales and
gross profit, increased inventory purchases to support anticipated higher sales
volume that was not realized and increased accounts receivable due to
implementation issues with the new software.
The Company's cash income tax expense continues to be substantially lower
than the U.S. federal statutory rate due to the utilization of the large U.S.
federal net operating loss ("NOL"). The Company's cash tax expense is primarily
related to foreign taxes on foreign operations and U.S. federal alternative
minimum tax. For U.S. federal tax purposes as of December 31, 1998, the Company
had an estimated net operating loss carryforward of approximately $180 million
expiring in 2009-2011. Based on current and expected future earnings levels, the
NOLs may not be fully utilized for several years. If certain substantial changes
in the Company's ownership should occur, there would be an annual limitation on
the amount of the U.S. federal NOL carryforward that can be utilized. The amount
of the annual limitation can vary significantly based on certain factors
existing at the date of a change.
The Company expects to refinance its bank debt in the fourth quarter of
1999 to fund the recently announced new parts distribution contract with
Rolls-Royce (see "Outlook").
YEAR 2000 COMPUTER SYSTEM COMPLIANCE. Many existing computer software and
hardware programs refer to the year by only using the last two digits of the
year. These computer programs will not properly interpret the year 2000. These
programs, unless upgraded, could fail or create erroneous results causing a
disruption in the operations of a company.
STATE OF READINESS. During 1998, hardware and system software reviews for
Year 2000 compliance, including information technology ("IT") and non-IT
systems, were conducted by the Company with the assistance of outside
consultants. In addition, the Company is assessing its exposure from external
sources to Year 2000 failures, including major suppliers, customers and
third-party providers. The Company has replaced its financial and Parts
Distribution applications software with Year 2000 compliant systems. The
replacement of the financial software was implemented in the second quarter of
1998. The Parts Distribution applications software replacement was implemented
in the first quarter of 1999. ILS utilizes internally developed applications
software. The program modifications to make this proprietary software Year 2000
compliant have been completed. Testing and validation of these modifications
were completed in the third quarter of 1999. The following table shows the
Company's critical systems state of readiness for Year 2000 based on
management's assessment:
STATE OF READINESS AS OF SEPTEMBER 30, 1999
INTERNAL IT AND NON-IT SYSTEMS AND EQUIPMENT
ESTIMATED
PERCENT ESTIMATED
PHASE COMPLETE COMPLETION DATE
----- -------- ---------------
Awareness 100% Complete
Assessment of changes required 100% Complete
Remediation or replacement 100% Complete
Testing 95% 4th Quarter 1999
Contingency planning as applicable 95% 4th Quarter 1999
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SUPPLIERS, CUSTOMERS AND THIRD-PARTY PROVIDERS
ESTIMATED
PERCENT ESTIMATED
PHASE COMPLETE COMPLETION DATE
----- -------- ---------------
Awareness - identify companies 100% Complete
Assessment questionnaires completed by major suppliers 100% Complete
Risk assessment 100% Complete
Detailed assessment review with key third-party providers 90% 4th Quarter 1999
Contingency planning as applicable 90% 4th Quarter 1999
COSTS. The Company replaced its Parts Distribution applications and
financial software with an integrated enterprise system at a cost of
approximately $5 million which was capitalized. The replacement resulted from
both the need to enhance the efficiencies and effectiveness of the Parts
Distribution operating system by replacing several legacy systems and to address
the Year 2000 issue. Approximately $250,000 has been expensed to date related to
Parts Distribution for Year 2000 issues. An estimated additional $50,000 will be
expensed in the fourth quarter. The cost expensed to date to modify the ILS
operating software was $215,000. An additional $10,000 is expected to be
required to complete this project, including testing.
RISKS AND CONTINGENCY PLANS. In management's assessment, the most likely
worst case scenario for Year 2000 non-compliance for Parts Distribution would
result if suppliers were unable to ship inventory. The Company has distributed
questionnaires to its major suppliers to assess their Year 2000 readiness.
Management may adjust inventory purchasing prior to January 1, 2000 for any
suppliers with suspected Year 2000 issues. In addition, Parts Distribution
performs limited electronic data interchange ("EDI") with both suppliers and
customers. Purchase and sale orders from EDI suppliers or customers could be
processed manually if EDI failed from either side. Management's assessment of
the most likely worst case scenario for ILS would result if either the listing
companies were unable to update their data or clients were unable to access ILS'
database due to their own systems not being Year 2000 compliant. The Company has
distributed information through the mail and the ILS website on corrective
actions that clients can take to address Year 2000 compliance of their own
systems. The Company depends on third-party providers for key services such as
telecommunications, utilities and transportation. Interruption of these services
could, in management's view, have a material impact on the operations of the
Company. The Company continues to evaluate the readiness of these critical
suppliers. The Company will continue to assess and develop contingency plans
throughout the remainder of 1999. Although Aviall's management presently
believes the Company is taking appropriate steps to assess and correct its Year
2000 issues, due to the general uncertainty inherent in the Year 2000 issue and
the readiness of third parties, Aviall is unable to determine whether Year 2000
will have a material adverse effect on the Company's results of operations or
financial condition.
OUTLOOK. In November 1999, the Company announced that it had entered into a
ten-year exclusive agreement to distribute Rolls-Royce Model 250 turboshaft
(helicopter) and turboprop (fixed-wing aircraft) engine parts. The agreement,
which is effective January 1, 2000, is expected to add more than $90 million to
Aviall's net sales in 2000. Aviall will pay Rolls-Royce $16 million for these
distribution rights, which amount will be amortized over the 10-year term of the
agreement. In addition, the Company expects to purchase between $20 and $26
million of inventory from Rolls-Royce in the fourth quarter in anticipation of
the January 1, 2000 effective date of this agreement. The Company's overall
gross profit percentage is expected to decline by about 2% in 2000 as a result
of the sales generated under the Rolls-Royce agreement. In addition, incremental
selling and administrative expenses of approximately $5 million, including
amortization of distribution rights, are expected to be incurred in 2000 as a
result of this agreement.
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In order to fund its obligations under the Rolls-Royce agreement, Aviall
intends to replace its existing credit facility with a new bank credit agreement
in the fourth quarter increasing its borrowing capacity by $50 to $60 million.
The Company expects interest expense to increase under the new credit facility
resulting from increased borrowings and increased interest rate spreads. A one
time non-cash charge of approximately $300,000 will occur in the fourth quarter
in connection with the write-off of debt issue costs associated with the
existing bank credit agreement.
The operations modules of the Lawson Insight(TM) system were implemented by
the Parts Distribution business in February 1999. Normal systems implementation
issues and the learning curve associated with the new processes continued to
affect sales into the third quarter of 1999. The Company has addressed these
issues with the system, and management believes the issues related to
implementing the new enterprise system were resolved by the end of the third
quarter. The Company is focused on maximizing customer service to confirm our
market leadership position and aggressively recapture market share. As a result,
Aviall has initiated several programs designed to demonstrate to customers that
it is delivering high-quality customer service for which Aviall is known.
Information and communication technology is evolving rapidly, and
developments such as the Internet could affect proprietary database service
companies such as ILS and traditional distribution companies. Management
believes that the active employment by the Company of these new technologies,
such as the Internet, will enable it to maintain its technological leadership
and minimize the risk of obsolescence. A new version of the aviall.com website
was unveiled in the third quarter that offers significant improvements to the
functionality of the on-line Parts Distribution ordering system, drawing on
advanced Internet capabilities of the new Lawson Insight(TM) enterprise system.
Similarly, ILS has installed new content for its website that is available on
the Internet at ILSmart.com. ILS is also continuing its transition into
electronic commerce, and is working with a number of firms to offer new services
in this area.
On February 23, 1999, the Board of Directors authorized management to
explore alternatives to enhance shareholder value and the Company retained
Merrill Lynch to assist in that process. The Board reviewed a number of
alternatives. This review has led the Board of Directors to conclude that Aviall
should remain an independent public company. Aviall's management will continue
to build the franchise value of Aviall through improved profitability, increased
market share and continuing market leadership.
CERTAIN FORWARD-LOOKING STATEMENTS. This report contains certain forward-looking
statements (as such term is defined in the Private Securities Litigation Reform
Act of 1995) relating to the Company that are based on the beliefs of the
management of the Company, as well as assumptions and estimates made by and
information currently available to the Company's management. When used in this
report, the words "anticipate," "believe," "estimate," "expect," "intend" and
similar expressions, as they relate to the Company or the Company's management,
identify forward-looking statements. Such statements reflect the current views
of the Company with respect to future events and are subject to certain risks,
uncertainties and assumptions relating to the operations and results of
operations of the Company as well as its customers and suppliers, including as a
result of competitive factors and pricing pressures, shifts in market demand,
the new Rolls-Royce distribution agreement, Year 2000 issues, general economic
conditions and other factors including among others, those that effect flight
activity in commercial, business and general aviation, the business activities
of the Company's customers and suppliers and developments in information and
communication technology. Should one or more of these risks or uncertainties
materialize, or should underlying assumptions or estimates prove incorrect,
actual results may vary materially from those described herein as anticipated,
believed, estimated, expected or intended.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company has market risk exposure arising from changes in interest rates
and foreign exchange rates. The Company from time to time has used financial
instruments to offset such risks. Financial instruments are not used for trading
or speculative purposes. The Company has experienced no significant changes in
market risk during the first nine months of 1999. The Company's market risk is
described in more detail in the Company's Annual Report on Form 10-K for the
year ended December 31, 1998.
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PART II - OTHER INFORMATION
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule
(b) Reports on Form 8-K
No reports on Form 8-K have been filed during the quarter for which
this report is filed.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
AVIALL, INC.
November 11, 1999 By /s/ Jacqueline K. Collier
---------------------------------
Jacqueline K. Collier
Vice President and Controller
Principal Accounting Officer
November 11, 1999 /s/ Cornelius Van Den Handel
---------------------------------
Cornelius Van Den Handel
Vice President and Treasurer
Principal Financial Officer
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INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
------- -----------
27.1 Financial Data Schedule