Executive Overview
We provide sustainment services for legacy systems and equipment and
professional services to the U.S. Department of Defense ("DoD") and Federal
Civilian agencies, including the United States Postal Service ("USPS"). Our
operations consist primarily of logistics, engineering, equipment refurbishment,
supply chain management, IT solutions, health care IT, energy solutions,
construction management and consulting services performed on a contract basis.
Substantially all of our contracts are with United States Government
("government") agencies and other government prime contractors.
Organization and Reporting Segments
Our business is managed under operating groups consisting of one or more
divisions or wholly owned subsidiaries that perform our services. We have five
reportable segments aligned with our management groups: 1) Federal; 2)
International; 3) IT, Energy and Management Consulting; 4) Infrastructure; and
5) Supply Chain Management.
Federal Group - Our Federal Group provides engineering, technical, management,
and integrated logistics support services to U.S. military branches, government
agencies and other customers. These services include full life cycle
engineering, logistics, maintenance, field support, and refurbishment services
to extend and enhance the life of existing vehicles and equipment; comprehensive
systems and software engineering, systems technical support, configuration
management, obsolescence management, prototyping services, technology insertion
programs, and technical documentation and data packages; and management and
execution of programs under large multiple award contracts. This group provides
its services to the U.S. Army, Army Reserve, Marine Corps, and other customers.
Significant current and recent work efforts for this group include task orders
completed under our U.S. Army CECOM Rapid Response ("R2") contract, which
expired in 2011, our ongoing U. S. Army Reserve vehicle refurbishment program,
and our Driver's Vision Enhancer-Family of Systems ("DVE-FOS") program.
International Group - Our International Group provides engineering, industrial,
logistics, maintenance, information technology, fleet-wide ship and aircraft
support, and foreign military sales services to the U.S. military branches,
government agencies, and other customers. These services include program
management, engineering, technical support, logistics services, and follow-on
technical support for ship reactivations and transfers; field engineering, ship
repair and modernization, ship systems installations, ordnance engineering,
facility operations, war reserve materials management, and IT systems
integration; aircraft sustainment and maintenance services; and management,
maintenance, storage and disposal support for seized and forfeited general
property programs. This group provides its services to the U.S. Navy, Air Force,
Department of Treasury, Department of Justice, Bureau of Alcohol, Tobacco,
Firearms and Explosives ("ATF"), and other customers. Significant current and
recent work efforts for this group include ongoing assistance to the U.S. Navy
in executing its Foreign Military Sales ("FMS") Program for surface ships sold,
leased or granted to foreign countries, various task orders under the U.S. Air
Force Contract Field Teams ("CFT") Program, and management of Department of
Treasury and ATF seized and forfeited general property programs ("Seized Asset
Programs").
IT, Energy and Management Consulting Group - Our IT, Energy and Management
Consulting Group provides technical and consulting services primarily to various
DoD and civilian government agencies. The group consists of our wholly owned
subsidiaries Energetics Incorporated ("Energetics"), G&B Solutions, Inc.
("G&B"), and Akimeka, LLC ("Akimeka"). Energetics provides technical, policy,
business, and management support in areas of energy modernization, clean and
efficient energy, climate change mitigation, infrastructure protection,
measurement technology, and global health. G&B provides enterprise architecture
development, information assurance/business continuity, program and portfolio
management, network IT services, systems design and integration, quality
assurance services and product and process improvement services. Akimeka offers
solutions in fields that include medical logistics, medical command and control,
e-health, information assurance, and public safety. This group provides its
services to the U.S. Departments of Defense, Energy, Homeland Security,
Commerce, Interior, Labor, Agriculture and Housing and Urban Development; the
Social Security Administration; the Pension Benefit Guaranty Corporation; the
National Institutes of Health; customers in the military health system; and
other government agencies and commercial clients.
Infrastructure Group - Our Infrastructure Group is engaged principally in
providing engineering and transportation infrastructure services and
construction management services primarily to federal civilian agencies. This
group consists of our ICRC subsidiary. ICRC provides project design, planning
and integration management, environmental planning, construction management,
building renovation, and other technical services. ICRC provides services to
various DoD and federal civilian departments and agencies, and to other
customers. Prior to 2012, ICRC's largest contract was with the U.S. Department
of Transportation Maritime Administration ("MARAD") for services performed on
the Port of Anchorage Intermodal Expansion Project in Alaska (the "PIEP"). The
Port of Anchorage suspended the port expansion program due to technical
difficulties encountered and lack of sufficient funding. Accordingly, MARAD
declined to exercise future option years on the contract, ending our contract on
this project in May 2012.
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Supply Chain Management Group - Our Supply Chain Management Group provides
sourcing, acquisition, scheduling, transportation, shipping, logistics, data
management, and other services to assist our clients with supply chain
management efforts. This group is comprised of our Wheeler Bros., Inc. ("WBI")
subsidiary, acquired in June 2011, and other VSE Supply Chain Management work.
Significant current work efforts for this group include WBI's ongoing Managed
Inventory Program ("MIP") to USPS and direct sales to other clients.
Concentration of Revenues
(in thousands)
For the six months ended June 30,
2012 2011
Source of Revenue Revenues % Revenues %
USPS MIP $ 67,511 24 $ 9,581 3
FMS Program 45,614 16 50,459 16
U.S. Army Reserve 34,775 12 32,797 10
Treasury/ATF Seized Asset Programs 15,192 5 15,035
5
R2 and R2-3G Programs 7,600 3 51,399 17
Other 112,813 40 150,519 49
$ 283,505 100 $ 309,790 100
Management Outlook
Our company and our industry continue to face operating environment challenges
caused by changing federal government budgeting and spending priorities,
initiatives, and processes. These challenges have constrained our revenue levels
in recent reporting periods, but have also presented us the opportunity to
direct our efforts toward new and existing markets that are more sustainable in
this environment and offer improved income potential.
The operating environment challenges have affected the timeliness of awards and
the funding of new and existing contracts in our markets, impacted the flow of
work to federal contractors, caused increased competition in the federal
marketplace, and increased the frequency of protests of government contract
awards. Specific circumstances having an adverse impact on our revenues in
recent reporting periods include a slower than usual ramp up of our FMS Program
activity on the follow-on contract due to a lengthy award and protest process, a
reduction in our overseas equipment servicing opportunities as U.S. military
involvement winds down, and government delays in awarding and funding contracts.
While it appears that conditions will continue to be challenging through most of
2012, we believe we have made progress through our diversification efforts to
enhance our prospects for future revenue and income, and are positioned to
withstand market condition challenges in the longer term. Potential future
opportunities include an expansion of our vehicle and equipment refurbishment
program to additional U.S. Army Reserve locations, the U.S. Army, and other
clients; an increase in our FMS Program work as ship reactivations and transfers
are approved; and an expansion of our Supply Chain Management services to DoD
clients and other customers, including commercial.
We believe that our acquisition of WBI in 2011 positioned us to improve our
revenues and profit margins, diversify our product offerings and customer base,
and improve the balance between our services to DoD and federal civilian
agencies. WBI gives us a well established supply chain management capability,
which when combined with our existing client relationships, provides potential
for future revenue growth in the DoD market. Conversely, WBI's relationship with
the USPS, combined with our existing capabilities, also presents opportunities
to leverage our legacy vehicle life extension services to a new client. These
synergies are already producing results. We have delivered a vehicle for
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evaluation under our contract with the USPS to develop a more fuel efficient
repowered gasoline delivery vehicle. The engine WBI delivered is also capable of
using compressed natural gas ("CNG") as a fuel. If the USPS approves the engine
and we successfully move this effort to the production stage, we will generate
an additional future revenue stream. The WBI engine has the potential to have a
significant impact for the USPS in savings on fuel cost. Our acquisition of
WBI's supply chain and inventory management competencies also provides us
opportunities to further diversify our customer base to other markets, including
commercial work.
Sequestration - If automatic spending reductions mandated by the sequestration
provisions of the 2011 Budget Control Act were to be implemented, such spending
reductions would add to the financial challenges facing our industry.
Sequestration could result in delaying, postponing or canceling of awards across
all sectors of the federal government as each agency determines how to implement
budget impacts. Some of our smaller revenue programs, including some energy and
IT programs, may potentially be adversely impacted by sequestration. However, a
significant amount of our revenues come from our larger programs that either do
not rely on tax funded government spending or provide services that offer a
lower cost alternative to mission critical objectives. Our USPS MIP and Treasury
and ATF Seized Asset Programs are largely self-funded through collections of
postage and asset auction proceeds, and our FMS Program is largely funded by
foreign government clients. Our U. S. Army Reserve vehicle refurbishment program
provides our client with a means to maintain necessary levels of vital capital
assets while relieving the client of the need to spend larger amounts on
replacement assets. While all the specific effects of sequestration cannot yet
be determined, we believe that we are well positioned to minimize the negative
impact it could have on our financial results or condition in the coming years.
Although the inclusion of WBI in our operations and our strategic direction
toward expanding our Supply Chain Management services will lessen our reliance
on employee services to generate profitable revenue streams, our employee labor
continues to be an important part of our business operations. As of June 30,
2012, our employee count increased to 2,604 as compared to 2,516 as of December
31, 2011.
Bookings and Funded Backlog
Our revenues depend on contract funding ("bookings"), and bookings generally
occur at the time contract funding documentation is received. For our revenues
that depend on bookings arising from the receipt of contract funding
documentation, funded contract backlog is an indicator of potential future
revenues. Revenues for WBI are predominantly driven by the rate and timing of
parts failure on customer vehicles, and WBI bookings generally occur at the time
of sale instead of the receipt of contract funding documentation. Accordingly,
WBI does not generally have significant amounts of funded contract backlog and
it is not an indicator of potential future revenues for WBI. The funded contract
backlog for WBI was $3 million and $0 million as of June 30, 2012 and 2011,
respectively. A summary of our bookings and revenues for the six months ended
June 30, 2012 and 2011, and funded contract backlog as of June 30, 2012 and 2011
is as follows:
(in millions)
2012 2011
Bookings $ 273 $ 240
Revenues $ 284 $ 310
Funded Contract Backlog $ 275 $ 310
Critical Accounting Policies
Our consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States, which require us to make
estimates and assumptions. There have been no changes in our critical accounting
policies since December 31, 2011. Please refer to our Annual Report on Form 10-K
for the year ended December 31, 2011 filed with the SEC on March 7, 2012 for a
full discussion of our critical accounting policies.
Revenue by Contract Type
Our revenues by contract type were as follows (in thousands):
Six months ended June 30,
Contract Type 2012 % 2011 %
Cost-type $ 65,470 23 $ 92,075 30
Time and materials 100,214 35 164,182 53
Fixed-price 117,821 42 53,533 17
$ 283,505 100 $ 309,790 100
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A significant portion of our time and materials revenues in 2011 were from our
R2 contract, which expired in January 2011. WBI revenues are classified as
fixed-price revenue. Accordingly, the percentages of work performed by contract
type will differ in 2012 as compared to 2011.
Results of Operations
The results of operations are as follows (in thousands):
Three months Six months Change
ended June 30, ended June 30, Three Six
2012 2011 2012 2011 Months Months
Revenues $ 139,164 $ 158,546 $ 283,505 $ 309,790 $ (19,382 ) $ (26,285 )
Contract costs 125,753 149,344 257,196 292,858 (23,591 ) (35,662 )
Selling, general
and administrative
expenses 1,379 1,929 1,934 2,750 (550 ) (816 )
Operating Income 12,032 7,273 24,375 14,182 4,759 10,193
Interest expense, net 1,852 440 3,384 584 1,412 2,800
Income before income
taxes 10,180 6,833 20,991 13,598 3,347 7,393
Provision for income
taxes 3,885 2,622 8,028 5,215 1,263 2,813
Net Income $ 6,295 $ 4,211 $ 12,963 $ 8,383 $ 2,084 $ 4,580
Our revenues decreased approximately $19 million, or 12%, for the quarter ended
June 30, 2012, and approximately $26 million, or 8%, for the first six months of
2012, as compared to the same periods of 2011. These revenue decreases were
primarily due to the expiration of work on our R2 Program, which was completed
in 2011. Revenues in our Federal, International, IT, Energy and Management
Consulting, and Infrastructure Groups declined. These declines were partially
offset by the inclusion of revenues from our Supply Chain Management Group,
established in June 2011, in our operating results for 2012.
Our operating income increased approximately $4.8 million, or 65% for the
quarter ended June 30, 2012, and approximately $10.2 million, or 72%, for the
first six months of 2012, as compared to the same periods of 2011. The primary
reason for the increase was the inclusion of operating income from our Supply
Chain Management Group in our operating results for 2012.
Changes in revenues and operating income are further discussed in the summaries
of our segment results that follow.
Selling, general and administrative expenses consist primarily of costs and
expenses that are not chargeable or reimbursable on our operating unit
contracts. These expenses decreased in 2012 as compared to 2011 due to costs
associated with the acquisition of WBI in 2011.
Lease payments for our executive and administrative headquarters office building
began in May 2012. Terms of our lease agreement have required us to capitalize
the construction costs of the leased building. We are also required to classify
the monthly expense associated with the lease as depreciation and interest
expense instead of rent expense normally associated with an operating lease. The
depreciation from the building and interest expense will be a greater monthly
amount than the comparable operating rent expense would be in the beginning
years of the lease term, and a lesser amount in the later years of the lease.
Our effective income tax rates for the six months ended June 30, 2012 and 2011
were 38.2% and 38.4%, respectively.
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Federal Group Results
The results of operations for our Federal Group are as follows (in thousands):
Three months Six months Change
ended June 30, ended June 30, Three Six
2012 2011 2012 2011 Months Months
Revenues $ 32,942 $ 52,747 $ 63,697 $ 119,095 $
(19,805 ) $ (55,398 )
Operating Income $ 2,635$ 3,172$ 4,045$ 5,716 $
(537 ) $ (1,671 )
Profit percentage 8.0 % 6.0 % 6.4 % 4.8 %
Revenues for our Federal Group decreased approximately $20 million or 38%, for
the quarter ended June 30, 2012 as compared to the same period for the prior
year. Revenues decreased approximately $55 million or 47%, for the six months
ended June 30, 2011 as compared to the same period for the prior year. The
decreases in revenues for this segment resulted primarily from a decrease in
revenues associated with our expiring R2 contract of approximately $21 million
in the second quarter and approximately $60 million in the first six months of
2012.
Operating income for our Federal Group decreased approximately $537 thousand, or
17% for the quarter ended June 30, 2012, as compared to the same period for the
prior year. Operating income decreased approximately $1.7 million or 29%, for
the six months ended June 30, 2011 as compared to the same period for the prior
year. The declines were primarily due to operating income decreases of
approximately $647 thousand for the second quarter and approximately $1.2
million for the first six months associated with a decline in work on our
DVE-FOS program. The increase in the profit percentage in 2012 as compared to
2011 is primarily due to a decrease in the lower margin subcontract work
performed on our R2 contract which ended in early 2011.
International Group Results
The results of operations for our International Group are as follows (in
thousands):
Three months Six months Change
ended June 30, ended June 30, Three Six
2012 2011 2012 2011 Months Months
Revenues $ 42,281 $ 54,682 $ 88,045 $ 106,392 $
(12,401 ) $ (18,347 )
Operating Income $ 1,319$ 1,800$ 2,835$ 3,716 $
(481 ) $ (881 )
Profit percentage 3.1 % 3.3 % 3.2 % 3.5 %
Revenues for our International Group decreased approximately $12 million, or
23%, for the quarter ended June 30, 2012, as compared to the same period for the
prior year. Revenues decreased approximately $18 million or 17%, for the six
months ended June 30, 2012 as compared to the same period for the prior year.
The decreases in revenues resulted primarily from a decline in pass-through work
provided on engineering and technical services task orders of approximately $10
million in the second quarter and approximately $8 million in the first six
months of 2012, and to declines of approximately $5 million and $3 million on
our FMS and CFT programs in the first six months of 2012.
Operating income for our International Group decreased approximately $481
thousand, or 27%, for the quarter ended June 30, 2012, as compared to the same
period for the prior year. Operating income decreased approximately $881
thousand or 24%, for the six months ended June 30, 2012 as compared to the same
period for the prior year. The decreases in operating income resulted primarily
from a loss of $750 thousand associated with a work share agreement with a
subcontractor and reduced profits associated with the decreased revenue levels.
Profit margins in this group can vary due to fluctuations in contract activity
and the timing of contract award fees associated with our FMS Program.
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IT, Energy and Management Consulting Group Results
The results of operations for our IT, Energy and Management Consulting Group are
as follows (in thousands):
Three months Six months Change
ended June 30, ended June 30, Three Six
2012 2011 2012 2011 Months Months
Revenues $ 24,019 $ 27,603 $ 49,757 $ 54,966 $ (3,584 ) $ (5,209 )
Operating Income $ 2,867 $ 3,133 $ 5,948 $ 5,477 $ (266 ) $ 471
Profit percentage 11.9 % 11.4 % 12.0 % 10.0 %
Revenues for our IT, Energy and Management Consulting Group decreased
approximately $3.6 million, or 13% for the quarter ended June 30, 2012, as
compared to the same period for the prior year. Revenues decreased approximately
$5.2 million or 9%, for the six months ended June 30, 2012 as compared to the
same period for the prior year. The decreases in revenues were due primarily to
a general decline in services ordered by clients.
Operating income for this segment decreased approximately $266 thousand, or 8%,
for the quarter ended June 30, 2012, as compared to the same period for the
prior year. Operating income increased approximately $471 thousand or 9%, for
the six months ended June 30, 2012 as compared to the same period for the prior
year. The year over year changes in operating income are primarily attributable
to a decrease in profits associated with the revenue declines, offset by
increases to operating income from reductions in our accrued earn-out obligation
associated with our acquisition of Akimeka. Operating income increases from
reductions of our accrued earn-out obligation for Akimeka were approximately
$967 thousand for the second quarter and $1.9 million for the six months ended
June 30, 2012, compared to approximately $352 thousand and $955 thousand for the
same periods of the prior year.
Infrastructure Group Results
The results of operations for our Infrastructure Group are as follows (in
thousands):
Three months Six months Change
ended June 30, ended June 30, Three Six
2012 2011 2012 2011 Months Months
Revenues $ 3,493 $ 12,838 $ 7,847 $ 18,661 $ (9,345 ) $ (10,814 )
Operating (Loss) Income $ (520 ) $ 214 $ (670 ) $ 446 $ (734 ) $ (1,116 )
Profit percentage
-14.9 % 1.7 % -8.5 % 2.4 %
Revenues for our Infrastructure Group decreased approximately $9 million, or
73%, for the quarter ended June 30, 2012, as compared to the same period for the
prior year. Revenues decreased approximately $11 million or 58%, for the six
months ended June 30, 2012 as compared to the same period for the prior year.
The decreases in revenues were due primarily to a reduction in services ordered
on the PIEP. This segment had an operating loss of approximately $520 thousand
for the quarter ended June 30, 2012, as compared to earning operating income of
approximately $214 thousand for the same period of the prior year. For the six
months ending June 30, 2012, this segment had an operating loss of approximately
$670 thousand, as compared to earning operating income of approximately $446
thousand for the same period of the prior year. These changes in operating
income are primarily due to a reduction of income associated with the decline in
revenues, and to the adverse financial impact on this group's fixed price
construction projects resulting from the allocation of fixed costs over a
smaller revenue base.
Our customer has experienced delays in funding and defining the scope of work on
the PIEP, which have contributed to our decreased revenue levels for this
segment. Our customer chose not to exercise future option years on the contract
supporting the PIEP, ending our contract on this project in May 2012. We have
not recognized fee income associated with some of the work we performed on this
project prior to 2012, because the customer has not funded this fee income due
to pending resolution of environmental and technical issues impacting the work.
We are currently in discussions with our customer regarding resolution of the
fee issue. If the fees on this work are funded, we could recognize additional
revenue and operating income of between $1.8 million and $2.4 million. We are
unable to predict the outcome of the fee discussions and the eventual
realization of this fee income remains uncertain.
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Supply Chain Management Group Results
The results of operations for our Supply Chain Management Group are as follows
(in thousands):
Three months Six months Change
ended June 30, ended June 30, Three Six
2012 2011 2012 2011 Months Months
Revenues $ 36,429 $ 10,676 $ 74,159 $ 10,676 $
25,753 $ 63,483
Operating Income $ 5,629$ 1,959$ 12,385$ 1,959$ 3,670$ 10,426
Profit percentage 15.5 % 18.3 % 16.7 % 18.3 %
This group was established and began contributing to our operating results upon
our acquisition of WBI in June 2011. Financial performance comparisons to prior
year results are not yet meaningful. The operating income for 2012 was reduced
by an increase in the earn-out obligation for WBI of approximately $806 thousand
and $1.2 million for the three- and six-months ended June 30, 2012.
Financial Condition
Our financial condition did not change materially in the first six months of
2012. Changes to asset and liability accounts were due primarily to our
earnings, our level of business activity, contract delivery schedules,
subcontractor and vendor payments required to perform our work, and the timing
of associated billings to and collections from our customers.
Liquidity and Capital Resources
Cash Flows
Cash and cash equivalents decreased approximately $9 thousand during the first
six months of 2012.
Cash provided by operating activities increased approximately $21 million in the
first six months of 2012 as compared to the same period of 2011. The change is
attributable to an increase of approximately $7.8 million from an increase in
depreciation and amortization and other non-cash operating activities, an
increase of approximately $4.6 million in cash provided by net income, and an
increase of approximately $8.2 million due to changes in the levels of working
capital components. Of these working capital components, our largest asset is
our accounts receivable and our largest liability is our accounts payable. A
significant portion of our accounts receivable and accounts payable result from
the use of subcontractors to perform work on our contracts and from the purchase
of materials to fulfill our contract requirements. Accordingly, our levels of
accounts receivable and accounts payable may fluctuate depending on the timing
of the government services ordered, government funding delays, the timing of
billings received from subcontractors and materials vendors, and the timing of
payments received from government customers in payment of these services. Such
timing differences have the potential to cause significant increases and
decreases in our accounts receivable and accounts payable in short time periods.
Cash used in investing activities decreased approximately $161 million in the
first six months of 2012 as compared to the same period of 2011. This was
primarily due to cash used for our acquisition of WBI of approximately $175
million in 2011.
Cash used in financing activities was approximately $6 million in the first six
months of 2012 compared to cash provided by financing activities of
approximately $171 million for the same period of 2011. This difference was
primarily due to bank borrowing to finance our acquisition of WBI in 2011.
We paid quarterly cash dividends of $0.14 per share during the first six months
of 2012. Pursuant to our bank loan agreement, our payment of cash dividends is
subject to annual rate restrictions. We have paid cash dividends each year since
1973, and have increased the dividend each year since 2004.
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Liquidity
Our internal sources of liquidity are primarily from operating activities,
specifically from changes in the level of revenues and associated accounts
receivable and accounts payable, and from profitability. Significant increases
or decreases in revenues and accounts receivable and accounts payable can impact
our liquidity. Our accounts receivable and accounts payable levels can be
affected by changes in the level of the work we perform, by the timing of large
materials purchases and subcontractor efforts used in our contracts, and by
government delays in the award of contractual coverage and funding and payments.
Government funding delays have caused delays in our ability to invoice for
revenues earned, resulting in a negative impact on our days sales outstanding.
We also purchase property and equipment and invest in expansion, improvement,
and maintenance of our operational and administrative facilities. In the first
six months of 2012, we made approximately $9 million in capital investments
related to the move of our corporate headquarters offices in May 2012. From time
to time, we may also invest in the acquisition of other companies. Our
acquisition of WBI in 2011 required a significant use of our cash.
Our external financing consists of a loan agreement entered into in June 2011
with a group of banks to make our WBI acquisition and provide working capital
for our continuing operations. This loan agreement, which expires in June 2016,
replaced a previous loan agreement and consists of a term loan, revolving loans,
and letters of credit.
The term loan requires quarterly installments. Our scheduled term loan payments
following June 30, 2012 are: $9.4 million in 2012, $23.4 million in 2013, $25
million in 2014, $34.3 million in 2015, and $9.4 million in 2016. The amount of
term loan borrowings outstanding as of June 30, 2012 is approximately $101.5
million.
The maximum amount of credit available to us from the banking group for
revolving loans and letters of credit as of June 30, 2012 was $125 million and
under the loan agreement we may elect to increase this maximum availability up
to $175 million. We may borrow and repay the revolving loan borrowings as our
cash flows require or permit. We pay an unused commitment fee and fees on
letters of credit that are issued. We had approximately $58 million in revolving
loan funds borrowed and $5 million of letters of credit outstanding as of June
30, 2012. During 2012, the highest outstanding revolving loan amount was $81
million and the lowest was $51 million. The timing of certain payments made and
collections received associated with our subcontractor and materials
requirements and other operating expenses can cause fluctuations in our
outstanding revolving loan amounts. Delays in government funding of our work
performed can also cause additional borrowing requirements.
We pay interest on the term loan borrowings and revolving loan borrowings at
LIBOR plus a base margin or at a base rate (typically the prime rate) plus a
base margin. As of June 30, 2012, the LIBOR base margin is 2.5% and the base
rate base margin is 0.75%. The base margins increase or decrease in steps as our
Total Funded Debt/EBITDA Ratio increases or decreases. We have employed interest
rate hedges on a portion of our outstanding borrowings. After taking into
account the impact of hedging instruments, as of June 30, 2012, interest rates
on portions of our outstanding debt ranged from 2.49% to 4.12%, and the
effective interest rate on our aggregate outstanding debt was 3.52%.
The loan agreement contains collateral requirements that secure our assets,
restrictive covenants, other affirmative and negative covenants, and subjects us
to certain conditions and limitations. Restrictive covenants include a maximum
Total Funded Debt/EBITDA Ratio, which decreases over time, a minimum Fixed
Charge Coverage Ratio, and a minimum Asset Coverage Ratio, which increases over
time. We were in compliance with required ratios and other terms and conditions
at June 30, 2012.
Current Maximum Ratio Actual Ratio
Total Funded Debt/EBITDA Ratio 3.25 to 1 2.93 to 1
Minimum Ratio Actual Ratio
Fixed Charge Coverage Ratio 1.20 to 1 1.66 to 1
Minimum Ratio Actual Ratio
Asset Coverage Ratio 0.80 to 1 0.87 to 1
We currently do not use public debt security financing.
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Inflation and Pricing
Most of our contracts provide for estimates of future labor costs to be
escalated for any option periods, while the non-labor costs in our contracts are
normally considered reimbursable at cost. Our property and equipment consists
principally of computer systems equipment, furniture and fixtures, shop
equipment, and land and improvements. We do not expect the overall impact of
inflation on replacement costs of our property and equipment to be material to
our future results of operations or financial condition.
Disclosures About Market Risk
Interest Rates
Our bank loans provide available borrowing to us at variable interest rates.
Accordingly, future interest rate changes could potentially put us at risk for a
material adverse impact on future earnings and cash flows. To mitigate the risks
associated with future interest rate movements, in July 2011 we employed
interest rate hedges to fix the rate on a portion of our outstanding borrowings
for various periods of time. Fixing these rates increased our net effective rate
as compared to the effective interest rate on our aggregate outstanding debt
prior to July 2011, but has given us protection us against interest rate
increases.
In July 2011, we entered into a three-year amortizing LIBOR interest rate swap
on our term loan with a notional amount of $101 million. The swap amount
amortizes as the term loan amortizes, with reductions in the swap amount
occurring on the same dates and for approximately the same amounts as term loan
principal repayments. With the swap in place, we paid an effective rate on the
hedged term debt of 0.56% plus our base margin from July 2011 through June 2012,
and we pay an effective rate of 1.615% plus our base margin from July 2012
through June 2014. The amount of swapped term loan debt outstanding as of June
30, 2012 is $82.2 million.
In July 2011, we entered into a two-year LIBOR interest rate swap on the
revolving loan debt with a notional amount of $40 million. The swap amount
declined to $20 million in June 2012, and expires in June 2013. With the swap in
place, we pay an effective rate on the hedged term debt of 0.7775% plus our base
margin during the two years.
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Table of Contents
VSE CORPORATION AND SUBSIDIARIES
