Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Introduction
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and notes thereto included herein as Item 8. This discussion contains forward-looking statements. Refer to Part I, “Forward-Looking Statements” on page 2 and Part 1A, “Risk Factors” beginning on page 23, for a discussion of the uncertainties, risks and assumptions associated with these statements.
Overview
We design, develop, produce, deliver and support a technologically-advanced portfolio of intelligent, multi-domain robotic systems and related services for government agencies and businesses. We supply UAS, TMS, UGV and related services primarily to organizations within the U.S. DoD and to international allied governments. We derive the majority of our revenue from these business areas and we believe that the markets for these solutions offer the potential for significant long-term growth. Additionally, we believe that some of the innovative potential products, services and technologies in our research and development pipeline will emerge as new growth platforms in the future, creating additional market opportunities.
The success of our current product and service offerings stems from our investments in research and development and to invent and deliver advanced solutions, utilizing proprietary and commercially available technologies, and in acquiring leading businesses that help our customers achieve their desired outcomes. We develop and acquire these highly innovative solutions by working closely with our key customers to solve their most important challenges related to our areas of expertise. Our core technological capabilities, developed through more than 50 years of innovation or acquired through acquisitions, include robotics and robotics systems autonomy; sensor design, development, miniaturization and integration; embedded software and firmware; miniature, low power, secure wireless digital communications and networks; lightweight aerostructures; high-altitude systems design, integration and operations; machine vision, machine learning and autonomy; land, maritime and air deployment of missile and aircraft systems; design and qualification for robotics in extreme terrestrial and space environments; miniature internal combustion engine propulsion design and integration; missile systems warhead integration; low SWaP (Size, Weight and Power) system design and integration; manned-unmanned teaming and unmanned-unmanned teaming; power electronics and electric propulsion systems; efficient electric power conversion, storage systems and high density energy packaging; controls and systems integration; vertical takeoff and landing flight, fixed wing flight and hybrid aircraft flight; image stabilization and target tracking; advanced flight control systems; fluid dynamics; human-machine interface development; and integrated mission solutions for austere or extreme environments.
Our business focuses primarily on the design, development, production, marketing, support and operation of innovative UAS, TMS and UGV that provide situational awareness, remote sensing, multi band communications, force protection and other information and mission effects to increase the safety and effectiveness of our customers’ operations.
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Revenue
We generate our revenue primarily from the sale, support, design and operation of our UAS, TMS, HAPS and UGV. Support for our SUAS and TMS customers includes training, spare parts, product repair, product replacement, and the customer-contracted operation of our MUAS by our personnel. Under historical ISR services contracts we have delivered the information our MUAS produce to our customers, who use that information to support their missions, however these services are no longer a primary revenue driver. We refer to these support activities, in conjunction with customer-funded R&D, as our services operation. We derive most of our SUAS, MUAS, HAPS, and TMS revenue from fixed-price and cost-plus-fee contracts with the U.S. government and allied foreign governments.
Cost of Sales
Cost of sales consists of direct costs and allocated indirect costs. Direct costs include labor, materials, travel, subcontracts and other costs directly related to the execution of a specific contract. Indirect costs include overhead expenses, fringe benefits, depreciation of in-service ISR assets, which have been fully depreciated as of April 30, 2023, amortization of acquired intangible assets and other costs that are not directly charged to a specific contract.
Gross Margin
Gross margin is equal to revenue minus cost of sales. We use gross margin as a financial metric to help us understand trends in our direct costs and allocated indirect costs when compared to the revenue we generate.
Selling, General and Administrative
Our selling, general and administrative expenses (“SG&A”), include salaries, fringe benefits, and other expenses related to selling, marketing and proposal activities, and other administrative costs and amortization of acquired intangible assets. Some SG&A expenses relate to marketing and business development activities that support both ongoing business areas as well as new and emerging market areas. These activities can be directly associated with developing requirements for and applications of capabilities created in our R&D activities. SG&A is an important financial metric that we analyze to help us evaluate the contribution of our selling, marketing and proposal activities to revenue generation.
Research and Development Expense
R&D is an integral part of our business model. We normally conduct significant internally funded R&D. Our R&D activities focus specifically on creating capabilities that support our existing product portfolio as well as new solutions.
Impairment of Goodwill
Subsequent to the performance of our annual goodwill impairment test, in May 2023 a trigger event was identified that indicated that the carrying value of the MUAS reporting unit exceeded its fair value. Specifically, we received notification that we were not down selected for a US DOD program of record which resulted in a significant decrease in the projected future cash flows of the MUAS reporting unit. As a result we updated our estimates of long-term future cash flows to reflect lower revenue and EBITDA growth rate expectations used in the valuation of the MUAS reporting unit. These changes in estimates, resulted in the recognition of a goodwill impairment charge of $156.0 million. We determined that it was more likely than not that the fair value of the other reporting units were more than their carrying values as of the annual goodwill impairment test date.
Other (Loss) Income, net
Other expense, net includes unrealized losses associated with decreases in the fair market value for equity security investments, the gain on the sale of our equity interest in HAPSMobile, legal accruals related to our former EES Business, interest income, and interest expense.
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(Benefit from) Provision for Income Taxes
Our effective tax rates are lower than the statutory rates primarily due to the R&D tax credits, foreign derived intangible income (FDII) deduction, and excess tax benefit of equity awards in relation to income (loss) before income taxes.
Equity Method Investment (Loss) Income, Net of Tax
Equity method investment (loss) income, net of tax, includes equity method income or loss related to our investment in limited partnership funds for which we have concluded we have influence for holding more than a minor interest. Beginning October 14, 2022 equity method investment (loss) income, net of tax also includes our proportion of any gains or losses of our Turkish joint venture, Altoy Savunma Sanayi ve Havacilik Anonim Sirketi (“Altoy”), due to our share sale in which we decreased our ownership interest to 15% but concluded we retain significant influence. As of March 2022, equity method investment (loss) income, net of tax, no longer includes equity method income or loss related the HAPSMobile joint venture we formed in December 2017 with SoftBank as we sold our entire equity interest in HAPSMobile.
Net Income Attributable to Noncontrolling Interests
Net income attributable to noncontrolling interests includes the 50% interest in the income or losses of Altoy, between September 15, 2021 and October 14, 2022 and 85% interest for all prior periods presented. Subsequent to October 14, 2022, Altoy is no longer consolidated, and therefore, noncontrolling interest is no longer recorded.
Critical Accounting Policies and Estimates
This Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. When we prepare these consolidated financial statements, we are required to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Some of our accounting policies require that we make subjective judgments, including estimates that involve matters that are inherently uncertain. Our most critical estimates include those related to revenue recognition, inventory reserves for excess and obsolescence, intangible assets acquired in a business combination, goodwill, and income taxes. We base our estimates and judgments on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Our actual results may differ from these estimates under different assumptions or conditions.
We believe the following critical accounting estimates affect our more significant judgments and estimates used in preparing our consolidated financial statements. Please see Note 1 to our consolidated financial statements entitled “Organization and Significant Accounting Policies,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report. There have been no material changes made to the critical accounting estimates during the periods presented in the consolidated financial statements.
Revenue Recognition
Significant management judgments and estimates must be made and used in connection with the recognition of revenue in any accounting period. Material differences in the amount of revenue in any given period may result if these judgments or estimates prove to be incorrect or if management’s estimates change on the basis of development of the business or market conditions. Management judgments and estimates have been applied consistently and have been reliable historically. We believe that there are two key factors which impact the reliability of management’s estimates. The first of those key factors is that the terms of our contracts are typically less than six months. The short-term nature of such contracts reduces the risk that material changes in accounting estimates will occur on the basis of market conditions
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or other factors. The second key factor is that we have hundreds of contracts in any given accounting period, which reduces the risk that any one change in an accounting estimate on one or several contracts would have a material impact on our consolidated financial statements.
The substantial majority of our revenue is generated pursuant to written contractual arrangements to design, develop, manufacture and/or modify complex products, and to provide related engineering, technical and other services according to customer specifications. These contracts may be fixed price, cost-reimbursable, or time and materials. We account for all revenue contracts in accordance with ASC 606. A performance obligation is a promise in a contract to transfer distinct goods or services to a customer, and it is the unit of account in ASC 606. A contract’s transaction price is allocated to each distinct performance obligation and revenue is recognized when each performance obligation under the terms of a contract is satisfied. For contracts with multiple performance obligations, we allocate the contract’s transaction price to each performance obligation using observable standalone selling prices for similar products and services. When the standalone selling price is not directly observable, we use our best estimate of the standalone selling price of each distinct good or service in the contract using the cost plus reasonable margin approach.
Our performance obligations are satisfied over time or at a point in time. Revenue for TMS product deliveries, customization of UGV transport vehicles and customer-funded R&D contracts is recognized over time as costs are incurred. Contract services revenue is composed of revenue recognized on contracts for the provision of services, including repairs and maintenance, training, engineering design, development and prototyping activities, and technical support services. Contract services revenue, including ISR services, is recognized over time as services are rendered. We elected the right to invoice practical expedient in which if an entity has a right to consideration from a customer in an amount that corresponds directly with the value to the customer of the entity’s performance completed to date, such as flight hours for ISR services, the entity may recognize revenue in the amount to which the entity has a right to invoice. Training services are recognized over time using an output method based on days of training completed. For performance obligations satisfied over time, revenue is generally recognized using costs incurred to date relative to total estimated costs at completion to measure progress. Incurred costs represent work performed, which correspond with, and thereby best depict, transfer of control to the customer. Contract costs include labor, materials, subcontractors’ costs, other direct costs, and indirect costs applicable on government and commercial contracts.
For performance obligations which are not satisfied over time per the aforementioned criteria above, revenue is recognized at the point in time in which each performance obligation is fully satisfied. Our SUAS, MUAS and UGV product sales revenue is composed of revenue recognized on contracts for the delivery of SUAS, MUAS and UGV systems and spare parts, respectively. Revenue is recognized at the point in time when control transfers to the customer, which generally occurs when title and risk of loss have passed to the customer.
We review cost performance, estimates to complete and variable consideration at least quarterly and in many cases more frequently. Adjustments to original estimates for a contract’s revenue, estimated costs at completion and estimated profit or loss are often required as work progresses under a contract, as experience is gained and as more information is obtained, even though the scope of work required under the contract may not change, or if contract modifications, including the finalization of undefinitized contract actions, occur. The impact of revisions in estimate of completion and variable consideration for all types of contracts are recognized on a cumulative catch-up basis in the period in which the revisions are made. Changes in variable consideration associated with the finalization of undefinitized contract actions could result in cumulative catch up adjustments to revenue that could be material. During the fiscal years ended April 30, 2023, 2022 and 2021, changes in accounting estimates on contracts recognized using the over time method are presented below. Amounts representing contract change orders or claims are included in revenue if the order or claim meets the criteria of a contract or contract modification in accordance with ASC 606. Incentives or penalties and awards applicable to performance on contracts are considered in estimating revenue and profit rates, and are recorded when there is sufficient information to assess anticipated contract performance.
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For the years ended April 30, 2023, 2022 and 2021, favorable and unfavorable cumulative catch-up adjustments included in revenue were as follows (in thousands):
Year Ended April 30,
2023
2022
2021
Gross favorable adjustments
$
2,893
$
1,331
$
1,953
Gross unfavorable adjustments
(3,771)
(2,857)
(2,205)
Net adjustments
$
(878)
$
(1,526)
$
(252)
For the year ended April 30, 2023, favorable cumulative catch up adjustments of $2.9 million were primarily due to final cost adjustments on 23 contracts, which individually were not material. For the same period, unfavorable cumulative catch up adjustments of $3.8 million were primarily related to higher than expected costs on 5 contracts. During the year ended April 30, 2023, we revised our estimates of the total expected costs to complete a TMS variant contract. The aggregate impact of these adjustments in contract estimates on revenue related to performance obligations satisfied or partially satisfied in previous periods was a decrease to revenue of approximately $1.9 million.
For the year ended April 30, 2022, favorable cumulative catch up adjustments of $1.3 million were primarily due to final cost adjustments on 19 contracts, which individually were not material. For the same period, unfavorable cumulative catch up adjustments of $2.9 million were primarily related to higher than expected costs on 10 contracts. During the year ended April 30, 2022, we revised our estimates of the total expected costs to complete a TMS variant contract. The aggregate impact of these adjustments in contract estimates on revenue related to performance obligations satisfied or partially satisfied in previous periods was a decrease to revenue of approximately $1.1 million.
For the year ended April 30, 2021, favorable cumulative catch up adjustments of $2.0 million were primarily due to final cost adjustments on 12 contracts, which individually were not material. For the same period, unfavorable cumulative catch up adjustments of $2.2 million were primarily related to higher than expected costs on nine contracts. During the year ended April 30, 2021, we revised our estimates of the total expected costs to complete a TMS variant contract. The aggregate impact of these adjustments in contract estimates on revenue related to performance obligations satisfied or partially satisfied in previous periods was a decrease to revenue of approximately $1.0 million.
Inventories Reserves for Excess and Obsolescence
Our policy for valuation of inventory, including the determination of obsolete or excess inventory, requires us to perform a detailed assessment of inventory at each balance sheet date, which includes a review of, among other factors, an estimate of future demand for products within specific time horizons, valuation of existing inventory, as well as product lifecycle and product development plans. Inventory reserves are also provided to cover risks arising from slow-moving items. We write down our inventory for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated net realizable value based on assumptions about future demand and market conditions and record to cost of sales. We may be required to record additional inventory write-downs if actual market conditions are less favorable than those projected by our management.
Intangible Assets – Acquired in Business Combinations
We perform valuations of assets acquired and liabilities assumed on each acquisition accounted for as a business combination and allocate the purchase price of each acquired business to our respective net tangible and intangible assets. Acquired intangible assets include: technology, backlog, in-process research and development, customer relationships, licenses, trademarks and tradenames, and non-compete agreements. We use valuation techniques to value these intangibles assets, with the primary technique being a discounted cash flow analysis. A discounted cash flow analysis requires us to make various assumptions and estimates including projected revenue, gross margins, operating costs, growth rates, useful lives and discount rates. Intangible assets are amortized over their estimated useful lives using the straight-line method which approximates the pattern in which the economic benefits of such assets are consumed. Due to the closure of all of our MUAS COCO sites during the three months ended April 30, 2023, we revised the estimated useful life for MUAS customer relationships which resulted in accelerated intangible amortization expenses of $34.1 million during the fiscal year ended April 30, 2023.
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Goodwill
Goodwill represents the excess of the cost of an acquired entity over the fair value of the acquired net assets. We test goodwill for impairment annually during the fourth quarter of our fiscal year or when events or circumstances change in a manner that indicates goodwill might be impaired. Events or circumstances that could trigger an impairment review include, but are not limited to, a significant adverse change in legal factors or in the business or political climate, an adverse action or assessment by a regulator, unanticipated competition, a loss of key personnel, significant changes in the manner of our use of the acquired assets or the strategy for our overall business, significant negative industry or economic trends or significant underperformance relative to projected future results of operations.
Our evaluation of goodwill for impairment involves the comparison of the fair value of each reporting unit to its carrying value. For the impairment test, we first assess qualitative factors, macroeconomic conditions, industry and market considerations, triggering events, cost factors, and overall financial performance, to determine whether it is necessary to perform a quantitative goodwill impairment test. Alternatively, we may bypass the qualitative assessment for some or all of its reporting units and apply the quantitative impairment test. If determined to be necessary, the quantitative impairment test shall be used to identify goodwill impairment and measure the amount of a goodwill impairment loss to be recognized (if any). For the quantitative impairment test we estimate the fair value by weighting the results from the income approach and the market approach. These valuation approaches consider a number of factors that include, but are not limited to, prospective financial information, growth rates, terminal value, discount rates, and comparable multiples from publicly traded companies in our industry and require us to make certain assumptions and estimates regarding industry economic factors and future profitability of its business.
Subsequent to the performance of our annual goodwill impairment test, in May 2023 a trigger event was identified that indicated that the carrying value of the MUAS reporting unit exceeded its fair value. Specifically, we received notification that we were not down selected for a US DoD program of record which resulted in a significant decrease in the projected future cash flows of the MUAS reporting unit. As a result, we updated our estimates of long-term future cash flows to reflect lower revenue and EBITDA growth rate expectations used in the valuation of the MUAS reporting unit. These changes in estimates, resulted in the recognition of a goodwill impairment charge of $156.0 million in the MUAS reporting unit.
Income Taxes
Our income tax provision and related income tax assets and liabilities are based on actual and expected future income, U.S. and foreign statutory income tax rates, and tax regulations and planning opportunities in the various jurisdictions in which it operates. We believe that the accounting estimates related to income taxes are “critical accounting estimates” because significant judgment is required in interpreting tax regulations in the United States and in foreign jurisdictions, evaluating our worldwide uncertain tax positions, and assessing the likelihood of realizing certain tax benefits. Actual results could differ materially from those judgments, and changes in judgments could materially affect our consolidated financial statements.
We are required to estimate our income taxes, which includes estimating our current income taxes as well as measuring the temporary differences resulting from different treatment of items for tax and accounting purposes. We currently have significant deferred tax assets, which are subject to periodic recoverability assessments. Realizing our deferred tax assets principally depends on our achieving projected future taxable income. We may change our judgments regarding future profitability due to future market conditions and other factors, which may result in recording a valuation allowance against those deferred tax assets. We record a valuation allowance to reduce our deferred tax assets if, based on the weight of available evidence, we believe expected future taxable income is not likely to support the use of a deduction or credit in that jurisdiction. We evaluate the level of our valuation allowances during the interim and annually.
We record unrecognized tax benefits for U.S. federal, state, local, and foreign tax positions related primarily to tax credits claimed and tax nexus. For each reporting period, we apply a consistent methodology to measure unrecognized tax benefits and all unrecognized tax benefits are reviewed periodically and adjusted as circumstances
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warrant. Our measurement of our unrecognized tax benefits is based on our assessment of all relevant information, including prior audit experience, the status of audits, conclusions of tax audits, lapsing of applicable statutes of limitations, identification of new issues, and any administrative guidance or developments. We recognize unrecognized tax benefits in the first financial reporting period in which information becomes available indicating that such benefits will more likely than not (a greater than 50% likelihood) be realized.
We have various foreign subsidiaries to conduct or support our business outside the United States. We do not provide for U.S. income taxes on undistributed earnings for our foreign subsidiaries as we expect the foreign earnings will be indefinitely reinvested in such foreign jurisdictions.
Fiscal Periods
Our fiscal year ends on April 30. Due to our fixed year end date of April 30, our first and fourth quarters each consist of approximately 13 weeks. The second and third quarters each consist of exactly 13 weeks. Our first three quarters end on a Saturday.
Results of Operations
The following table sets forth certain historical consolidated income statement data expressed in dollars (in thousands) and as a percentage of revenue for the periods indicated. Certain amounts may not sum due to rounding.
Fiscal Year Ended April 30,
2023
2022
2021
Revenue
$
540,536
100
%
$
445,732
100
%
$
394,912
100
%
Cost of sales
367,022
68
%
304,496
68
%
230,354
58
%
Gross margin
173,514
32
%
141,236
32
%
164,558
42
%
Selling, general and administrative
131,905
24
%
96,434
22
%
67,481
17
%
Research and development
64,255
12
%
54,689
12
%
53,764
14
%
Impairment of goodwill
156,017
29
%
—
—
%
—
—
%
(Loss) income from continuing operations
(178,663)
(33)
%
(9,887)
(2)
%
43,313
11
%
Interest expense, net
(9,368)
(2)
%
(5,440)
(1)
%
(618)
—
%
Other expense, net
(346)
—
%
(10,313)
(2)
%
(8,330)
(2)
%
Sale of ownership in HAPSMobile Inc. joint venture
—
—
%
6,497
1
%
—
—
%
(Loss) income before income taxes
(188,377)
(35)
%
(19,143)
(4)
%
34,365
9
%
(Benefit from) provision for income taxes
(14,663)
(3)
%
(10,369)
(2)
%
539
—
%
Equity method investment (loss) income, net of tax
(2,453)
—
%
4,589
1
%
(10,481)
(3)
%
Net (loss) income
(176,167)
(33)
%
(4,185)
(1)
%
23,345
6
%
Net income attributable to noncontrolling interest
(45)
—
%
(3)
—
%
(14)
—
%
Net (loss) income attributable to AeroVironment, Inc.
$
(176,212)
(33)
%
$
(4,188)
(1)
%
$
23,331
6
%
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The Company identifies three reportable segments, SUAS, TMS, and MUAS as well as “All other”. The SUAS segment consists of our existing SUAS product lines. The TMS segment consists of our existing tactical missile systems product lines. The MUAS segment consists of the acquired Arcturus business. “All other” includes HAPS systems, MacCready Works and UGV, the acquired Telerob business. Effective May 1, 2023, the Company reorganized its product lines into the following segments: Unmanned Systems segment consisting of SUAS, MUAS and UGV product lines; Loitering Munition Systems segment, the renamed TMS segment; and the MacCready Works segment, consisting of the HAPS and the MacCready Works businesses. The following table (in thousands) sets forth our revenue, gross margin and adjusted operating income (loss) from operations generated by each reporting segment for the periods indicated. Adjusted operating income is defined as operating income before impairment of goodwill and accelerated amortization, intangible amortization, amortization of purchase accounting adjustments, and acquisition related expenses.
Year Ended April 30, 2023
SUAS
TMS
MUAS
All other
Total
Revenue
$
233,908
$
120,624
$
70,327
$
115,677
$
540,536
Gross margin
121,332
42,736
(24,355)
33,801
173,514
Income (loss) from operations
64,650
8,074
(252,568)
1,181
(178,663)
Impairment of goodwill and accelerated amortization
-
-
190,166
-
190,166
Acquisition-related expenses
-
-
604
781
1,385
Amortization of acquired intangible assets and other purchase accounting adjustments
2,688
-
21,573
5,157
29,418
Adjusted income (loss) from operations
$
67,338
$
8,074
$
(40,225)
$
7,119
$
42,306
Year Ended April 30, 2022
SUAS
TMS
MUAS
All other
Total
Revenue
$
178,201
$
76,415
$
93,156
$
97,960
$
445,732
Gross margin
83,759
24,486
6,155
26,836
141,236
Income (loss) from operations
28,980
(3,120)
(27,715)
(8,032)
(9,887)
Acquisition-related expenses
502
297
1,994
2,061
4,854
Amortization of acquired intangible assets and other purchase accounting adjustments
2,828
-
22,170
11,709
36,707
Adjusted income (loss) from operations
$
32,310
$
(2,823)
$
(3,551)
$
5,738
$
31,674
Year Ended April 30, 2021
SUAS
TMS
MUAS
All other
Total
Revenue
$
235,854
$
87,268
$
15,837
$
55,953
$
394,912
Gross margin
119,062
26,675
2,965
15,856
164,558
Income (loss) from continuing operations
58,194
(3,131)
(1,869)
(9,881)
43,313
Acquisition-related expenses
3,026
1,661
1,682
1,612
7,981
Amortization of acquired intangible assets and other purchase accounting adjustments
2,649
-
4,356
453
7,458
Adjusted income (loss) from operations
$
63,869
$
(1,470)
$
4,169
$
(7,816)
$
58,752
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The Company recorded intangible amortization expense and other purchase accounting adjustments in the following categories on the accompanying consolidated statements of (loss) income:
Year Ended
April 30,
April 30,
April 30,
2023
2022
2021
Cost of sales:
Product sales
$
4,091
$
8,301
$
3,492
Contract services
9,915
10,331
959
Selling, general and administrative
49,561
18,075
3,007
Total
$
63,567
$
36,707
$
7,458
Fiscal Year Ended April 30, 2023 Compared to Fiscal Year Ended April 30, 2022
Revenue. Revenue for the fiscal year ended April 30, 2023 was $540.5 million, as compared to $445.7 million for the fiscal year ended April 30, 2022, representing an increase of $94.8 million, or 21%. The increase in revenue was due to an increase in product revenue of $112.4 million, partially offset by a decrease in service revenue of $17.6 million. The increase in product revenue was due to increases in SUAS, TMS, MUAS and All other product revenue, primarily driven by increases in UGV product revenue. The decrease in service revenue was primarily due to a decrease in MUAS service revenue, partially offset by an increase in All other customer-funded R&D, TMS and SUAS service revenue. We expect the lower levels of MUAS service revenues to continue into fiscal 2024 due to the closure of all of our MUAS COCO operations site locations. Due to the higher backlog, the increase in the small UAS product revenues as compared to the prior year is expected to continue through the at least first half of the fiscal year ending April 30, 2024.
Cost of Sales. Cost of sales for the fiscal year ended April 30, 2023 was $367.0 million, as compared to $304.5 million for the fiscal year ended April 30, 2022, representing an increase of $62.5 million, or 21%. The increase in cost of sales was a result of an increase in product cost of sales of $62.8 million and an increase in service costs of sales of $0.3 million. The increase in product cost of sales was primarily due to the increase in product revenues. The increase in service costs of sales was primarily due to accelerated depreciation charges of certain deployed fixed assets related to the closure of all of our MUAS site locations of $11.5 million, largely offset by a decrease in service revenue and a decrease in intangible amortization expense and other purchase accounting adjustments. Cost of sales for the fiscal year ended April 30, 2023 included $14.0 million of intangible amortization and other related non-cash purchase accounting expenses as compared to $18.6 million for the fiscal year ended April 30, 2022. As a percentage of revenue, cost of sales remained consistent at 68%, with an increase in the proportion of product revenue to total revenues offset by the MUAS accelerated depreciation charges.
Gross Margin. Gross margin for the fiscal year ended April 30, 2023 was $173.5 million, as compared to $141.2 million for the fiscal year ended April 30, 2022, representing an increase of $32.3 million, or 23%. The increase in gross margin was due to an increase in product margin of $49.6 million, partially offset by a decrease in service margin of $17.3 million. The increase in product margin was primarily due to the increase in product revenue. The decrease in service margin was primarily due to the decrease in service revenue and accelerated depreciation charges of certain deployed fixed assets related to the closure of all of our MUAS site locations of $11.5 million, partially offset by a decrease in intangible amortization expense and other purchase accounting adjustments. As a percentage of revenue, gross margin remained consistent at 32%, primarily due to an increase in the proportion of product revenue to total revenues offset by the MUAS accelerated depreciation charges.
Selling, General and Administrative. SG&A expense for the fiscal year ended April 30, 2023 was $131.9 million, or 24% of revenue, as compared to SG&A expense of $96.4 million, or 22% of revenue, for the fiscal year ended April 30, 2022. The increase in SG&A expense was primarily due to accelerated amortization charges of certain intangibles related to the MUAS segment of $34.1 million and an increase in employee related expenses, partially offset by a decrease in acquisition-related expenses. SG&A included $50.9 million, inclusive of $34.1 million of MUAS accelerated intangible asset amortization expenses, and $22.9 million of intangible amortization expenses and acquisition-related expenses for the fiscal year ended April 30, 2023 and 2022, respectively.
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Research and Development. R&D expense for the fiscal year ended April 30, 2023 was $64.3 million, or 12% of revenue, as compared to R&D expense of $54.7 million, or 12% of revenue, for the fiscal year ended April 30, 2022. R&D expense increased by $9.6 million, or 17%, for the fiscal year ended April 30, 2023, primarily due to an increase in development activities regarding enhanced capabilities for our products, development of new product lines and to support our acquired businesses.
Impairment of Goodwill. In May 2023 a trigger event was identified that indicated that the carrying value of the MUAS reporting unit exceeded its fair value. Specifically, we received notification that we were not down selected for a US DOD program of record which resulted in a significant decrease in the projected future cash flows of the MUAS reporting unit. As a result, we updated our estimates of long-term future cash flows to reflect lower revenue and EBITDA growth rate expectations used in the valuation of the MUAS reporting unit. These changes in estimates, resulted in the recognition of a goodwill impairment charge of $156.0 million in the MUAS reporting unit
Interest Expense, net. Interest expense, net for the fiscal year ended April 30, 2023 was $9.4 million, as compared to interest expense net of $5.4 million for the fiscal year ended April 30, 2022. The increase in interest expense, net was primarily due to an increase in interest expense resulting from higher interest rates on our debt facility, partially offset by lower average outstanding balances.
Other Expense, net. Other expense, net for the fiscal year ended April 30, 2023 was $0.3 million, as compared to other expense, net of $10.3 million for the fiscal year ended April 30, 2022. Other expense, net for the fiscal year ended April 30, 2023 included unrealized losses associated with decreases in the fair market value for equity security investments. Other expense, net for the fiscal year ended April 30, 2022 included $10.0 million of expense related to the Webasto legal settlement.
Sale of ownership in HAPSMobile Inc. joint venture. Sale of ownership in HAPSMobile Inc. joint venture for the fiscal year ended April 30, 2022 was $6.5 million gain related to the sale of our equity interest in HAPSMobile.
Income Taxes. Our effective income tax rate was 7.8% for the fiscal year ended April 30, 2023, as compared to 54.2% for the fiscal year ended April 30, 2022. The decrease in our effective tax rate was primarily due to the loss before income taxes, non-deductible goodwill impairment expense, and foreign-derived intangible income deduction, partially offset by R&D tax credits.
Equity method investment (loss) income, net of tax. Equity method investment loss, net of tax for the fiscal year ended April 30, 2023 was $(2.5) million, as compared to equity method investment income, net of $4.6 million for the fiscal year ended April 30, 2022. In March 2022, the Company sold its 7% equity interest in HAPSMobile to SoftBank. Subsequent to the equity interest sale in HAPSMobile during the three months ended April 30, 2022, equity method investment loss, net of tax relates to activity of the investments in limited partnership funds.
Fiscal Year Ended April 30, 2022 Compared to Fiscal Year Ended April 30, 2021
Revenue. Revenue for the fiscal year ended April 30, 2022 was $445.7 million, as compared to $394.9 million for the fiscal year ended April 30, 2021, representing an increase of $50.8 million, or 13%. The increase in revenue was due to an increase in service revenue of $89.0 million, partially offset by a decrease in product revenue of $38.2 million. The increase in service revenue was primarily due to an increase in MUAS service revenue, resulting from our acquisition of Arcturus in February 2021, and an increase in customer-funded R&D largely resulting from our acquisition of ISG. The decrease in product revenue was primarily due to decreases in SUAS and TMS product revenue, partially offset by increases in UGV and MUAS product revenue, resulting from our acquisitions of Telerob and Arcturus.
Cost of Sales. Cost of sales for the fiscal year ended April 30, 2022 was $304.5 million, as compared to $230.4 million for the fiscal year ended April 30, 2021, representing an increase of $74.1 million, or 32%. The increase in cost of sales was a result of an increase in service cost of sales of $83.3 million, partially offset by a decrease in product costs of sales of $9.1 million. The increase in service cost of sales was primarily due to the increase in service revenues resulting from the acquisitions of Arcturus and ISG, and an increase in intangible amortization expense and other purchase accounting adjustments. The decrease in product costs of sales was primarily due to the decrease in product
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revenue, unfavorable product mix and an increase in intangible amortization expense and other purchase accounting adjustments. Cost of sales for the fiscal year ended April 30, 2022 included $18.6 million of intangible amortization and other related non-cash purchase accounting expenses as compared to $4.5 million for the fiscal year ended April 30, 2021. As a percentage of revenue, cost of sales increased from 58% to 68%, primarily due to an increase in the proportion of service revenue to total revenues resulting from the acquisitions of Arcturus and ISG, an increase in intangible amortization expense and other purchase accounting adjustments, and an unfavorable product mix.
Gross Margin. Gross margin for the fiscal year ended April 30, 2022 was $141.2 million, as compared to $164.6 million for the fiscal year ended April 30, 2021, representing a decrease of $23.3 million, or 14%. The decrease in gross margin was due to a decrease in product margin of $29.1 million, partially offset by an increase in service margin of $5.8 million. The decrease in product margin was primarily due to the decrease in product revenue, unfavorable product mix and an increase in intangible amortization expense and other purchase accounting adjustments. The increase in service margin was primarily due to the increase in service revenue, partially offset by an increase in intangible amortization expense and other purchase accounting adjustments. As a percentage of revenue, gross margin decreased from 42% to 32%, primarily due to an increase in the proportion of service revenue to total revenues resulting from the acquisitions of Arcturus and ISG, an increase in intangible amortization expense and other purchase accounting adjustments, and an unfavorable product mix. With the acquisitions of Arcturus and ISG we expect that we will continue to experience a higher proportion of service revenue, which generally has lower gross margins than our product revenue, in future quarters as compared to our historical trends. Additionally, we expect inflationary and supply chain constraint trends to continue throughout our fiscal year 2023, which will negatively impact our gross margin.
Selling, General and Administrative. SG&A expense for the fiscal year ended April 30, 2022 was $96.4 million, or 22% of revenue, as compared to SG&A expense of $67.5 million, or 17% of revenue, for the fiscal year ended April 30, 2021. The increase in SG&A expense was primarily due to an increase in headcount and related costs associated with our Arcturus, ISG and Telerob acquisitions and an increase in intangible amortization and acquisition related expenses. SG&A included $22.9 million and $11.0 million of intangible amortization expenses and acquisition-related expenses for the fiscal year ended April 30, 2022 and April 30, 2021, respectively.
Research and Development. R&D expense for the fiscal year ended April 30, 2022 was $54.7 million, or 12% of revenue, as compared to R&D expense of $53.8 million, or 14% of revenue, for the fiscal year ended April 30, 2021. R&D expense increased by $0.9 million, or 2%, for the fiscal year ended April 30, 2022, primarily due to an increase in development activities regarding enhanced capabilities for our products, development of new product lines and to support our recently acquired businesses.
Interest Expense, net. Interest expense, net for the fiscal year ended April 30, 2022 was $5.4 million, as compared to interest expense, net of $0.6 million for the fiscal year ended April 30, 2021. The increase in interest expense was primarily due to an increase in interest expense resulting from the term debt issued concurrent with the acquisition of Arcturus.
Other Expense, net. Other expense, net for the fiscal year ended April 30, 2022 was $10.3 million, as compared to other expense, net of $8.3 million for the fiscal year ended April 30, 2021. Other expense, net for the fiscal year ended April 30, 2022 included $10 million of expense related to the Webasto legal settlement. Other expense, net for the fiscal year ended April 30, 2021 included $9.3 million of expense related to the Webasto legal accrual.
Sale of ownership in HAPSMobile Inc. joint venture. Sale of ownership in HAPSMobile Inc. joint venture for the fiscal year ended April 30, 2022 was $6.5 million gain related to the sale of our equity interest in HAPSMobile.
Income Taxes. Our effective income tax rate was 54.2% for the fiscal year ended April 30, 2022, as compared to 1.6% for the fiscal year ended April 30, 2021. The increase in our effective tax rate was primarily due to the decrease in income before income taxes and an increase in certain federal income tax credits.
Equity method investment income (loss), net of tax. Equity method investment income, net of tax for the fiscal year ended April 30, 2022 was $4.6 million, as compared to equity method investment loss, net of $(10.5) million for the fiscal year ended April 30, 2021. The increase in equity method investment income, net of tax was primarily due to our
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proportionate share of the income from our limited partnership investment fund for the fiscal year ended April 30, 2022 and a loss of $8.4 million for our proportionate share of the HAPSMobile joint venture’s impairment of its investment in Loon LLC in the fiscal year ended April 30, 2021. With the sale of our equity interest in HAPSMobile during the fiscal year ended April 30, 2022, no future joint venture equity income or losses for HAPSMobile will be recorded.
Liquidity and Capital Resources
On September 8, 2022 we filed an S-3 shelf registration statement to offer and sell shares of our common stock, including a prospectus supplement in relation to an Open Market Sale Agreement SM , also dated September 8, 2022, with Jefferies LLC relating to the proposed offer and sale of shares of our common stock having an aggregate offering price of up to $200.0 million from time to time through Jefferies LLC as our sales agent. As of April 30, 2023, we have sold 1,109,730 of our shares for total gross proceeds of $108.7 million and $105.4 million proceeds received, net of commission expense and $104.6 million net of equity issuance costs. We have $91.3 million aggregate offering price remaining available under the registration.
On February 19, 2021 in connection with the consummation of the Arcturus acquisition, we entered into a credit agreement (as amended February 4, 2022 and June 6, 2023, the “Credit Agreement”) for (i) a five-year $100 million revolving credit facility, which includes a $25 million sublimit for the issuance of standby and commercial letters of credit (the “Revolving Facility”), and (ii) a five-year amortized $200 million term A loan (the “Term Loan Facility,” and together with the Revolving Credit Facility, the “Credit Facilities”). The Term Loan Facility requires payment of 5% of the outstanding obligations in each of the first four loan years, with the remaining 80.0% payable in loan year five, consisting of three quarterly payments of 1.25% each, with the remaining outstanding principal amount of the Term Loan Facility due and payable on the final maturity date. Proceeds from the Term Loan Facility were used in part to finance a portion of the cash consideration for the Arcturus acquisition. Our ability to borrow under the Revolving Facility is reduced by outstanding letters of credit of $5.0 million as of April 30, 2023. As of April 30, 2023, approximately $95.0 million was available under the Revolving Facility. Borrowings under the Revolving Facility may be used for working capital and other general corporate purposes. Refer to Note 11—Debt to our financial statements for further details. In addition, Telerob has a line of credit of €5.5 million (approximately $6.1 million) available for issuing letters of credit of which €2.8 million (approximately $3.0 million) was outstanding as of April 30, 2023.
We anticipate funding our normal recurring trade payables, accrued expenses, ongoing R&D costs and obligations under the Credit Facilities through our existing working capital and funds provided by operating activities including those provided by our acquisitions of Arcturus, ISG, Telerob and Planck. The majority of our purchase obligations are pursuant to funded contractual arrangements with our customers. We believe that our existing cash, cash equivalents, cash provided by operating activities and other financing sources will be sufficient to meet our anticipated working capital, capital expenditure requirements, future obligations related to the acquisitions and obligations under the Credit Facilities during the next twelve months. There can be no assurance, however, that our business will continue to generate cash flow at current levels. If we are unable to generate sufficient cash flow from operations, then we may be required to sell assets, reduce capital expenditures or draw on our Credit Facilities. We anticipate that existing sources of liquidity, Credit Facilities, and cash flows from operations will be sufficient to satisfy our cash needs for the foreseeable future.
Our primary liquidity needs are for financing working capital, investing in capital expenditures, supporting product development efforts, support our credit facility, introducing new products and enhancing existing products, marketing acceptance and adoption of our products and services. Our future capital requirements, to a certain extent, are also subject to general conditions in or affecting the defense industry and are subject to general economic, political, financial, competitive, legislative and regulatory factors that are beyond our control. Moreover, to the extent that existing cash, cash equivalents, cash from operations, and cash from our Credit Facilities and ATM shelf registration are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing, subject to the limitations specified in our Credit Agreement. In addition, we may also need to seek additional equity funding or debt financing if we become a party to any agreement or letter of intent for potential investments in, or acquisitions of, businesses, services or technologies.
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Our working capital requirements vary by contract type. On cost-plus-fee programs, we typically bill our incurred costs and fees monthly as work progresses, and therefore working capital investment is minimal. On fixed-price contracts, we typically are paid as we deliver products, and working capital is needed to fund labor and expenses incurred during the lead time from contract award until contract deliveries begin.
During the fiscal year ended April 30, 2022, we made certain commitments outside of the ordinary course of business, including capital contribution commitments to a second limited partnership fund. Under the terms of the new limited partnership agreement, we have committed to make capital contributions to such fund totaling $20.0 million, inclusive of the expected reinvestment of distributions from our existing limited partnership fund, of which $14.2 million was remaining at April 30, 2023. The remaining contributions are anticipated to be paid over the next four fiscal years. During the fiscal year ended April 30, 2022, the Telerob Seller earned the second year earnout of €2,000,000 (approximately $2,203,000) which we expect to pay during the first half of our fiscal year ending April 30, 2024.
Cash Flows
The following table provides our cash flow data from continuing operations for the periods ended:
Fiscal Year Ended April 30,
2023
2022
2021
(In thousands)
Net cash provided by (used in) operating activities
$
11,400
$
(9,618)
$
86,532
Net cash used in investing activities
$
(7,003)
$
(52,288)
$
(378,771)
Net cash provided by (used in) financing activities
$
50,834
$
(16,607)
$
194,160
Cash Provided by (Used in) Operating Activities. Net cash provided by operating activities for the fiscal year ended April 30, 2023 increased by $21.0 million to $11.4 million, compared to net cash used in operating activities of $9.6 million for the fiscal year ended April 30, 2022. This increase in net cash provided by operating activities was primarily due to an increase in non-cash expenses of $199.4 million, primarily due to a goodwill impairment of $156.0 million, an increase in depreciation and amortization, largely due to $34.1 million of accelerated MUAS intangible amortization expenses, losses from equity method investments, inventory reserve and stock based compensation, partially offset by a decrease in deferred income taxes and loss on disposal of property and equipment. The increase in non-cash expenses was partially offset by an increase in net loss of $172.0 million and an increase in the cash used as a result of changes in operating assets and liabilities largely resulting from increases in accounts receivable and inventory primarily due to year over year timing differences, partially offset by decreases in unbilled receivables and retentions and increases in accounts payable due to year over year timing differences.
Net cash used in operating activities for the fiscal year ended April 30, 2022 increased by $96.2 million to $9.6 million, compared to net cash provided by operating activities of $86.5 million for the fiscal year ended April 30, 2021. This increase in net cash used in operating activities was primarily due to an increase in the cash used as a result of changes in operating assets and liabilities of $98.5 million largely resulting from increases in accounts receivable and unbilled retentions and receivables due to year over year timing differences, increases in inventory primarily due to year over year timing differences in purchases to support anticipated product deliveries, and increases in accounts payable due to year over year timing differences, and an increase in net loss of $27.5 million, partially offset by an increase in non-cash expenses of $29.9 million primarily due to an increase in depreciation and amortization, partially offset by gains from equity method investments.
Cash Used in Investing Activities. Net cash used in investing activities decreased by $45.3 million to $7.0 million for the fiscal year ended April 30, 2023, compared to net cash used in investing activities of $52.3 million for the fiscal year ended April 30, 2022. The decrease in net cash used in investing activities was primarily due to a decrease in business acquisitions, net of cash acquired of $41.0 million, a decrease in net purchases of available-for-sale investments of $12.8 million and a decrease in the acquisition of property and equipment of $7.4 million, partially offset by an increase in equity security investments of $5.1 million, and a decrease in the proceeds from the sale of ownership in equity method investment and from loan repayment of $6.5 million and $4.3 million, respectively. During the fiscal years ended April 30, 2023 and 2022, we used cash to purchase property and equipment totaling $14.9 million and $22.3 million, respectively.
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Net cash used in investing activities decreased by $326.5 million to $52.3 million for the fiscal year ended April 30, 2022, compared to net cash used in investing activities of $378.8 million for the fiscal year ended April 30, 2021. The decrease in net cash used in investing activities was primarily due to the acquisitions of Arcturus and ISG, net of cash for $385.6 million in fiscal year ended April 30, 2021, partially offset by the acquisition of Telerob, net of cash for $46.2 million, and a decrease in purchases of available-for-sale investments of $101.8 million, partially offset by a decrease in redemptions of available-for-sale investments of $110.6 million and an increase in the acquisition of property and equipment of $11.0 million to support our existing and newly acquired businesses. During the fiscal years ended April 30, 2022 and 2021, we used cash to purchase property and equipment totaling $22.3 million and $11.3 million, respectively.
Cash Provided by (Used in) Financing Activities. Net cash provided by financing activities increased by $67.4 million to $50.8 million for the fiscal year ended April 30, 2022, compared to net cash used in financing activities of $16.6 million for the fiscal year ended April 30, 2022. The increase in net cash provided by financing activities was primarily due to the proceeds from shares issued, net of issuance costs of $104.6 million in the fiscal year ended April 30, 2022 and a decrease in holdback and retention payments of $7.8 million, partially offset by an increase in the principal payments on the debt facility of $45.0 million.
Net cash used in financing activities increased by $210.8 million to $16.6 million for the fiscal year ended April 30, 2022, compared to net cash provided by financing activities of $194.2 million for the fiscal year ended April 30, 2021. The increase in net cash provided by financing activities was primarily due to the proceeds of long-term debt of $200.0 million in the fiscal year ended April 30, 2021 and the principal payment of the loan in the fiscal year ended April 30, 2022 of $10.0 million.
Contractual Obligations
The following table describes our commitments to settle contractual obligations as of April 30, 2023:
Payments Due By Period (2)
Less Than
More Than
Total
1 Year
1 to 3 Years
3 to 5 Years
5 Years
(In thousands)
Operating lease obligations
$
35,983
$
8,933
$
13,944
$
7,211
$
5,895
Purchase obligations(1)
183,709
183,709
—
—
—
Long-term debt obligations
135,000
7,500
127,500
—
—
Total
$
354,692
$
200,142
$
141,444
$
7,211
$
5,895
(1) Consists of all cancelable and non-cancelable purchase orders as of April 30, 2023.
(2) Not included in the table above is additional capital contributions of $14.2 million committed under the terms of a limited partnership agreement.
Recently Adopted Accounting Standards
In October 2021, the Financial Accounting Standards Board issued Accounting Standard Update (“ASU”) 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers (“ASU 2021-08”). ASU 2021-08 requires an acquirer to apply the guidance in ASC 606, to recognize and measure contract assets and contract liabilities in a business combination, rather than using fair value. On May 1, 2022, we early adopted ASU 2021-08. ASU 2021-08 was adopted prospectively and did not have a material impact on our consolidated financial statements.
New Accounting Standards
No recently issued accounting standards are expected to impact the Company.
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.