1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements of HEICO Corporation and its subsidiaries (collectively, “HEICO,” or the “Company”) have been prepared in conformity with accounting principles generally accepted in the United States of America for interim financial information and in accordance with the instructions to Form 10-Q. Therefore, the condensed consolidated financial statements do not include all information and footnotes normally included in annual consolidated financial statements and should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended October 31, 2022. The October 31, 2022 Condensed Consolidated Balance Sheet has been derived from the Company’s audited consolidated financial statements. In the opinion of management, the unaudited condensed consolidated financial statements contain all adjustments (consisting principally of normal recurring accruals) necessary for a fair presentation of the condensed consolidated balance sheets, statements of operations, statements of comprehensive income, statements of shareholders' equity and statements of cash flows for such interim periods presented. The results of operations for the six months ended
April 30, 2023 are not necessarily indicative of the results which may be expected for the entire
fiscal year.
The Company has two operating segments: the Flight Support Group (“FSG”), consisting of HEICO Aerospace Holdings Corp. and HEICO Flight Support Corp. ("HFSC") and their respective subsidiaries; and the Electronic Technologies Group (“ETG”), consisting of HEICO Electronic Technologies Corp. and its subsidiaries.
Although the Company has largely emerged from the COVID-19 pandemic, HEICO’s results of operations in fiscal 2023 continue to reflect some of the pandemic’s lingering effects, including its impact on the Company's supply chain. Despite the aforementioned, the Company experienced continued improvement in operating results in the first six months and second quarter of fiscal 2023 as compared to the first six months and second quarter of fiscal 2022 principally reflecting improved demand for its commercial aerospace products and services. The FSG has reported eleven consecutive quarters of sequential growth in net sales and operating income resulting from commercial air travel recovery in certain domestic travel markets, moderated by a slower recovery in international travel markets.
New Accounting Pronouncement
In October 2021, the Financial Accounting Standards Board issued Accounting Standards Update ("ASU") 2021-08, "Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers," which requires contract assets and contract liabilities acquired in a business combination to be recognized and measured by the
acquirer on the acquisition date in accordance with ASC 606, "Revenue from Contracts with Customers," as if the acquirer had originated the contracts. The Company adopted ASU 2021-08 in the first quarter of fiscal 2023, resulting in no material effect on the Company's consolidated results of operations, financial position or cash flows.
2. ACQUISITIONS
In March 2023, the Company, through a subsidiary of HEICO Electronic, entered into an exclusive license and acquired certain assets for the Aircraft Emergency Locator Transmitter (“ELT”) product line from Honeywell International. ELTs provide critical emergency transmission signals in the event of aircraft impact on land or water to enable first responders to locate the aircraft. The transaction provides the HEICO Electronic subsidiary with all rights to produce, sell and repair both fixed and portable Honeywell ELTs, as well as various support equipment. The purchase price of this acquisition was paid in cash using cash provided by operating activities and is not material or significant to the Company's condensed consolidated financial statements.
On January 5, 2023, the Company, through HEICO Electronic, acquired 93.69% of the outstanding common stock and all of the preferred stock of Exxelia International SAS (“Exxelia”). Exxelia designs, manufactures and sells high reliability (“Hi-Rel”), complex, passive electronic components and rotary joint assemblies for mostly aerospace and defense applications, in addition to other high-end applications, such as medical and energy uses, including emerging “clean energy” and electrification applications. The Company believes that this acquisition will further HEICO's strategy of expanding its already wide range of mission-critical and Hi-Rel components for the most demanding applications, as well as provide HEICO with added broad geographic and product diversity, including in the important European market. The remaining 6.31% interest is owned by certain members of Exxelia's management team (see Note 3, Selected Financial Statement Information - Redeemable Noncontrolling Interests, for additional information). Additionally, as a result of this acquisition, the Company also obtained a 90% ownership interest in Alcon Electronics Pvt. Ltd. (“Alcon”), which is an existing subsidiary of Exxelia. The remaining 10% interest continues to be owned by a certain member of Alcon’s management team (See Note 3, Selected Financial Statement Information – Redeemable Noncontrolling Interests, for additional information). The purchase price of this acquisition was paid in cash, using proceeds from the Company's revolving credit facility.
The following table summarizes the total consideration for the acquisition of Exxelia (in thousands):
| | | | | | | | |
Cash paid | | $515,785 | |
Less: cash acquired | | (14,234) | |
Total consideration paid, net | | $501,551 | |
As noted above, the Company acquired all of the preferred stock of Exxelia. Pursuant to the terms of the acquisition, Exxelia’s preferred stock accrues dividends at 5.18% per annum. Additionally, in connection with the acquisition, HEICO issued Exxelia a ten-year, €150 million note, which accrues interest at 4.7% per annum on the principal outstanding. The Company records foreign currency transaction adjustments on the note receivable within selling, general and administrative ("SG&A") expenses in its Condensed Consolidated Statements of Operations.
The following table summarizes the allocation of the total consideration for the acquisition of Exxelia to the estimated fair values of the tangible and identifiable intangible assets acquired and liabilities and noncontrolling interests assumed (in thousands):
| | | | | | | | |
Assets acquired: | | |
Goodwill | | $332,033 | |
Customer relationships | | 64,935 | |
Intellectual property | | 44,044 | |
Trade name | | 21,703 | |
Inventories | | 55,922 | |
Property, plant and equipment | | 42,165 | |
Accounts receivable | | 41,113 | |
Other assets | | 11,254 | |
Total assets acquired, excluding cash | | 613,169 | |
| | |
Liabilities assumed: | | |
Deferred income taxes | | 31,975 | |
Accounts payable | | 22,369 | |
Accrued expenses | | 18,383 | |
Other liabilities | | 24,231 | |
Total liabilities assumed | | 96,958 | |
| | |
Noncontrolling interests in consolidated subsidiaries | | 14,660 | |
| | |
Net assets acquired, excluding cash | | $501,551 | |
The allocation of the total consideration to the tangible and identifiable intangible assets acquired and liabilities and noncontrolling interests assumed is preliminary until the Company obtains final information regarding their fair values. The primary items that generated the goodwill recognized were the premiums paid by the Company for the future earnings potential of Exxelia and the value of its assembled workforce that do not qualify for separate recognition, however, benefit both the Company and the noncontrolling interest holders. The fair value of the noncontrolling interests were determined based on the consideration paid by the Company for its controlling ownership interest adjusted for a lack of control that a market participant would consider when estimating the fair value of the noncontrolling interest. The weighted-average amortization periods of the customer relationships, intellectual property and trade names
acquired are 15 years, 15 years and indefinite, respectively. Acquisition costs associated with the purchase of Exxelia totaled $5.2 million for the six months ended April 30, 2023 and were recorded as a component of SG&A expenses in the Company's Condensed Consolidated Statement of Operations. The operating results of Exxelia were included in the Company’s results of operations from the effective acquisition date. The Company's consolidated net sales for the six and three months ended April 30, 2023, includes approximately $69.6 million and $54.6 million, respectively, from the acquisition of Exxelia. Net income attributable to HEICO for the six and three months ended April 30, 2023, was not materially impacted by the acquisition of Exxelia.
The following table presents unaudited pro forma financial information for the six and three months ended April 30, 2023 and April 30, 2022 as if the acquisition of Exxelia had occurred as of November 1, 2021 (in thousands, except per share data):
| | | | | | | | | | | | | | | | | | | | | | | |
| Six months ended April 30, | | Three months ended April 30, |
| 2023 | | 2022 | | 2023 | | 2022 |
Net sales | $1,348,159 | | | $1,125,052 | | | $687,841 | | | $586,039 | |
Net income from consolidated operations | $234,185 | | | $173,002 | | | $115,568 | | | $85,883 | |
Net income attributable to HEICO | $213,969 | | | $157,855 | | | $105,544 | | | $77,901 | |
Net income per share attributable to HEICO shareholders: | | | | | | | |
Basic | $1.56 | | | $1.16 | | | $.77 | | | $.57 | |
Diluted | $1.54 | | | $1.14 | | | $.76 | | | $.57 | |
| | | | | | | |
| | | | | | | |
The pro forma financial information is presented for comparative purposes only and is not necessarily indicative of the results of operations that actually would have been achieved if the acquisition had taken place as of November 1, 2021. The unaudited pro forma financial information includes adjustments to historical amounts such as increased interest expense associated with borrowings to finance the acquisition, foreign currency transaction adjustments on the note receivable from Exxelia, the reclassification of acquisition costs associated with the purchase of Exxelia from fiscal 2023 to fiscal 2022, additional amortization expense related to the intangible assets acquired, and inventory purchase accounting adjustments charged to cost of sales as the inventory is sold. Additionally, the pro forma information presented above reflects HEICO's initial ownership interest of 93.69% of Exxelia's common stock as of the date of acquisition. During the second quarter of fiscal 2023, the Company sold an additional 2.72% of the common stock of Exxelia to its existing noncontrolling interest holders and certain members of Exxelia's management team, which decreased the Company's ownership interest in the subsidiary to 90.97% (see Note 3, Selected Financial Statement Information - Redeemable Noncontrolling Interests, for additional information).
3. SELECTED FINANCIAL STATEMENT INFORMATION
Accounts Receivable
| | | | | | | | | | | | | | |
(in thousands) | | April 30, 2023 | | October 31, 2022 |
Accounts receivable | | $371,708 | | | $303,181 | |
Less: Allowance for doubtful accounts | | (10,651) | | | (8,333) | |
Accounts receivable, net | | $361,057 | | | $294,848 | |
Inventories
| | | | | | | | | | | | | | |
(in thousands) | | April 30, 2023 | | October 31, 2022 |
Finished products | | $353,668 | | | $285,024 | |
Work in process | | 69,700 | | | 59,739 | |
Materials, parts, assemblies and supplies | | 298,201 | | | 237,708 | |
Inventories, net of valuation reserves | | $721,569 | | | $582,471 | |
Property, Plant and Equipment
| | | | | | | | | | | | | | |
(in thousands) | | April 30, 2023 | | October 31, 2022 |
Land | | $19,232 | | | $17,579 | |
Buildings and improvements | | 168,689 | | | 148,598 | |
Machinery, equipment and tooling | | 360,894 | | | 322,252 | |
Construction in progress | | 23,578 | | | 14,533 | |
| | 572,393 | | | 502,962 | |
Less: Accumulated depreciation and amortization | | (298,537) | | | (277,083) | |
Property, plant and equipment, net | | $273,856 | | | $225,879 | |
Accrued Customer Rebates and Credits
The aggregate amount of accrued customer rebates and credits included within accrued expenses and other current liabilities in the accompanying Condensed Consolidated Balance Sheets was $19.5 million as of April 30, 2023 and $17.9 million as of October 31, 2022. The total customer rebates and credits deducted within net sales for the six months ended April 30, 2023 and 2022 was $4.2 million and $3.7 million, respectively. The total customer rebates and credits deducted within net sales for the three months ended April 30, 2023 and 2022 was $2.0 million and $2.0 million, respectively.
Research and Development Expenses
The amount of new product research and development ("R&D") expenses included in cost of sales for the six and three months ended April 30, 2023 and 2022 is as follows (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Six months ended April 30, | | Three months ended April 30, |
| 2023 | | 2022 | | 2023 | | 2022 |
R&D expenses | $43,134 | | | $37,147 | | | $22,896 | | | $18,751 | |
Redeemable Noncontrolling Interests
The holders of equity interests in certain of the Company's subsidiaries have rights ("Put Rights") that may be exercised on varying dates causing the Company to purchase their equity interests through fiscal 2032. The Put Rights, all of which relate either to common shares or membership interests in limited liability companies, provide that the cash consideration to be paid for their equity interests (the "Redemption Amount") be at fair value or a formula that management intended to reasonably approximate fair value based solely on a multiple of future earnings over a measurement period. Management's estimate of the aggregate Redemption Amount of all Put Rights that the Company could be required to pay is as follows (in thousands):
| | | | | | | | | | | |
| April 30, 2023 | | October 31, 2022 |
Redeemable at fair value | $300,756 | | | $300,693 | |
Redeemable based on a multiple of future earnings | 45,077 | | | 26,908 | |
Redeemable noncontrolling interests | $345,833 | | | $327,601 | |
As discussed in Note 2, Acquisitions, the Company, through HEICO Electronic,
acquired 93.69% of the common stock of Exxelia in January 2023. During the second quarter of fiscal 2023, the Company sold an additional 2.72% of the common stock of Exxelia to its existing noncontrolling interest holders and certain members of Exxelia's management team, which decreased the Company's ownership interest in the common stock of the subsidiary to 90.97%. As part of the liquidity agreement, the noncontrolling interest holders have the right to cause the Company to purchase their equity interest beginning in fiscal 2028, or sooner under certain conditions, and the Company has the right to purchase the same equity interest beginning in the same period.
As discussed in Note 2, Acquisitions, the Company, as a result of its acquisition of Exxelia, acquired 90% of the stock of Alcon in January 2023. As part of the shareholders' agreement, the noncontrolling interest holder has the right to cause the Company to purchase their equity interest beginning in fiscal 2025, or sooner under certain conditions, and the Company has the right to purchase the same equity interest beginning in the same period.
During fiscal 2022, the holder of a 19.9% noncontrolling equity interest in a subsidiary of the FSG that was acquired in fiscal 2015 exercised their option to cause the Company to purchase their noncontrolling interest over a four-year period ending in fiscal 2026. Accordingly, the Company acquired one-fourth of such interest in December 2022, which increased the Company's ownership interest in the subsidiary to 85.1%.
Accumulated Other Comprehensive Loss
Changes in the components of accumulated other comprehensive loss for the six months ended April 30, 2023 are as follows (in thousands):
| | | | | | | | | | | | | | | | | |
| Foreign Currency Translation | | Defined Benefit Pension Plan | | Accumulated Other Comprehensive Loss |
Balances as of October 31, 2022 | ($45,369) | | | ($1,130) | | | ($46,499) | |
Unrealized gain | 28,845 | | | — | | | 28,845 | |
Amortization of unrealized loss | — | | | 28 | | | 28 | |
Balances as of April 30, 2023 | ($16,524) | | | ($1,102) | | | ($17,626) | |
4. GOODWILL AND OTHER INTANGIBLE ASSETS
Changes in the carrying amount of goodwill by operating segment for the six months ended April 30, 2023 are as follows (in thousands):
| | | | | | | | | | | | | | | | | |
| Segment | | Consolidated Totals |
| FSG | | ETG | |
Balances as of October 31, 2022 | $561,961 | | | $1,110,464 | | | $1,672,425 | |
Goodwill acquired | — | | | 340,173 | | | 340,173 | |
Foreign currency translation adjustments | 4,242 | | | 12,559 | | | 16,801 | |
Adjustments to goodwill | (955) | | | 2,791 | | | 1,836 | |
Balances as of April 30, 2023 | $565,248 | | | $1,465,987 | | | $2,031,235 | |
The goodwill acquired pertains to the fiscal 2023 acquisitions described in Note 2, Acquisitions, and represents the residual value after the allocation of the total consideration to the tangible and identifiable intangible assets acquired and liabilities and noncontrolling interests assumed. The Company estimates that $21 million of the goodwill acquired in fiscal 2023 will be deductible for income tax purposes. Foreign currency translation adjustments are included in other comprehensive income (loss) in the Company's Condensed Consolidated Statements of Comprehensive Income. The adjustments to goodwill represent immaterial measurement period adjustments to the purchase consideration allocation of certain fiscal 2022 acquisitions.
Identifiable intangible assets consist of the following (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | As of April 30, 2023 | | As of October 31, 2022 |
| | Gross Carrying Amount | | Accumulated Amortization | | Net Carrying Amount | | Gross Carrying Amount | | Accumulated Amortization | | Net Carrying Amount |
Amortizing Assets: | | | | | | | | | | | | |
Customer relationships | | $611,547 | | | ($229,884) | | | $381,663 | | | $539,529 | | | ($208,127) | | | $331,402 | |
Intellectual property | | 333,249 | | | (111,233) | | | 222,016 | | | 284,171 | | | (98,983) | | | 185,188 | |
Other | | 8,681 | | | (7,191) | | | 1,490 | | | 8,700 | | | (7,017) | | | 1,683 | |
| | 953,477 | | | (348,308) | | | 605,169 | | | 832,400 | | | (314,127) | | | 518,273 | |
Non-Amortizing Assets: | | | | | | | | | | | | |
Trade names | | 239,150 | | | — | | | 239,150 | | | 215,054 | | | — | | | 215,054 | |
| | $1,192,627 | | | ($348,308) | | | $844,319 | | | $1,047,454 | | | ($314,127) | | | $733,327 | |
The increase in the gross carrying amount of customer relationships, intellectual property and trade names as of April 30, 2023 compared to October 31, 2022 principally relates to such intangible assets recognized in connection with the fiscal 2023 acquisitions (see Note 2, Acquisitions).
Amortization expense related to intangible assets for the six months ended April 30, 2023 and 2022 was $36.9 million and $30.2 million, respectively. Amortization expense for the three months ended April 30, 2023 and 2022 was $19.1 million and $15.2 million, respectively. Amortization expense for the remainder of fiscal 2023 is estimated to be $37.5 million. Amortization expense for each of the next five fiscal years and thereafter is estimated to be $71.5 million in fiscal 2024, $66.7 million in fiscal 2025, $61.8 million in fiscal 2026, $58.5 million in fiscal 2027, $54.1 million in fiscal 2028, and $255.1 million thereafter.
5. SHORT-TERM AND LONG-TERM DEBT
A subsidiary of the Company acquired in the first quarter of fiscal 2023 has a short-term borrowing arrangement with a balance of $15.1 million as of the acquisition date and $17.2 million as of April 30, 2023.
Long-term debt consists of the following (in thousands):
| | | | | | | | | | | |
| April 30, 2023 | | October 31, 2022 |
Borrowings under revolving credit facility | $723,000 | | | $275,000 | |
Finance leases and note payable | 14,397 | | | 15,274 | |
| 737,397 | | | 290,274 | |
Less: Current maturities of long-term debt | (1,618) | | | (1,654) | |
| $735,779 | | | $288,620 | |
The Company's borrowings under its revolving credit facility mature in fiscal 2025. As of April 30, 2023 and October 31 2022, the weighted average interest rate on borrowings under the Company's revolving credit facility was 6.1% and 4.6%, respectively. The revolving credit facility contains both financial and non-financial covenants. As of April 30, 2023, the Company was in compliance with all such covenants.
6. REVENUE
Contract Balances
Contract assets (unbilled receivables) represent revenue recognized on contracts using an over-time recognition model in excess of amounts invoiced to the customer. Contract liabilities (deferred revenue) represent customer advances and billings in excess of revenue recognized and are included within accrued expenses and other current liabilities in the Company’s Condensed Consolidated Balance Sheets.
Changes in the Company’s contract assets and liabilities for the six months ended April 30, 2023 are as follows (in thousands):
| | | | | | | | | | | | | | | | | |
| April 30, 2023 | | October 31, 2022 | | Change |
Contract assets | $103,448 | | | $93,978 | | | $9,470 | |
Contract liabilities | 85,381 | | 58,757 | | | 26,624 | |
Net contract assets | $18,067 | | | $35,221 | | | ($17,154) | |
The increase in the Company's contract assets during the first six months of fiscal 2023 mainly reflects additional unbilled receivables on certain customer contracts using an over-time recognition model in excess of billings on certain customer contracts at both the FSG and ETG.
The increase in the Company's contract liabilities during the first six months of fiscal 2023 principally reflects the receipt of advance deposits on certain customer contracts mainly at the FSG.
The amount of revenue that the Company recognized during the six and three months ended April 30, 2023 that was included in contract liabilities as of the beginning of fiscal 2023 was $30.1 million and $9.8 million, respectively.
Remaining Performance Obligations
As of April 30, 2023, the Company had $606.7 million of remaining performance obligations associated with contracts with an original duration of greater than one year pertaining to the majority of the products offered by the ETG as well as certain products of the FSG's specialty products and aftermarket replacement parts product lines. The Company will recognize net sales as these obligations are satisfied. The Company expects to recognize $217.4 million of
this amount during the remainder of fiscal 2023 and $389.3 million thereafter, of which more than half is expected to occur in fiscal 2024.
Disaggregation of Revenue
The following table summarizes the Company’s net sales by product line for each operating segment (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Six months ended April 30, | | Three months ended April 30, |
| 2023 | | 2022 | | 2023 | | 2022 |
Flight Support Group: | | | | | | | |
Aftermarket replacement parts (1) | $426,986 | | | $324,882 | | | $218,343 | | | $173,981 | |
Specialty products (2) | 187,493 | | | 126,579 | | | 96,008 | | | 67,286 | |
Repair and overhaul parts and services (3) | 149,001 | | | 127,533 | | | 77,851 | | | 65,046 | |
Total net sales | 763,480 | | | 578,994 | | | 392,202 | | | 306,313 | |
| | | | | | | |
Electronic Technologies Group: | | | | | | | |
Electronic component parts primarily for defense, space and aerospace equipment (4) | 395,320 | | | 319,909 | | | 220,742 | | | 162,441 | |
Electronic component parts for equipment in various other industries (5) | 161,498 | | | 139,820 | | | 81,017 | | | 74,952 | |
Total net sales | 556,818 | | | 459,729 | | | 301,759 | | | 237,393 | |
| | | | | | | |
Intersegment sales | (11,542) | | | (9,567) | | | (6,120) | | | (4,893) | |
| | | | | | | |
Total consolidated net sales | $1,308,756 | | | $1,029,156 | | | $687,841 | | | $538,813 | |
| | | | | | | |
(1) Includes various jet engine and aircraft component replacement parts.
(2) Includes primarily the sale of specialty components such as thermal insulation blankets, renewable/reusable insulation systems, advanced niche components, complex composite assemblies, and expanded foil mesh as well as machining, brazing, fabricating and welding services generally to original equipment manufacturers.
(3) Includes primarily the sale of parts consumed in various repair and overhaul services on selected jet engine and aircraft components, avionics, instruments, composites and flight surfaces of commercial and military aircraft.
(4) Includes various component parts such as electro-optical infrared simulation and test equipment, electro-optical laser products, electro-optical, microwave and other power equipment, high-speed interface products, power conversion products, underwater locator beacons, emergency locator transmission beacons, traveling wave tube amplifiers, microwave power modules, a wide variety of memory products and radio frequency (RF) and microwave products, crashworthy and ballistically self-sealing auxiliary fuel systems, high performance communications and electronic intercept receivers and tuners, high performance active antenna systems and airborne antennas, technical surveillance countermeasures (TSCM) equipment, custom high power filters and filter assemblies,
radiation assurance services and products, and high-reliability, complex, passive electronic components and rotary joint assemblies.
(5) Includes various component parts such as electromagnetic and radio frequency interference shielding, high voltage interconnection devices, high voltage advanced power electronics, harsh environment connectivity products, custom molded cable assemblies, silicone material for a variety of demanding applications, and rugged small form-factor embedded computing solutions, and high performance test sockets and adaptors.
The following table summarizes the Company’s net sales by industry for each operating segment (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | |
| Six months ended April 30, | | Three months ended April 30, |
| 2023 | | 2022 | | 2023 | | 2022 |
Flight Support Group: | | | | | | | |
Aerospace | $523,893 | | | $417,724 | | | $269,353 | | | $215,319 | |
Defense and Space | 196,909 | | | 136,258 | | | 101,267 | | | 77,603 | |
Other (1) | 42,678 | | | 25,012 | | | 21,582 | | | 13,391 | |
Total net sales | 763,480 | | | 578,994 | | | 392,202 | | | 306,313 | |
| | | | | | | |
Electronic Technologies Group: | | | | | | | |
Defense and Space | 260,571 | | | 265,861 | | | 138,609 | | | 134,414 | |
Other (2) | 215,794 | | | 156,135 | | | 118,024 | | | 82,772 | |
Aerospace | 80,453 | | | 37,733 | | | 45,126 | | | 20,207 | |
Total net sales | 556,818 | | | 459,729 | | | 301,759 | | | 237,393 | |
| | | | | | | |
Intersegment sales | (11,542) | | | (9,567) | | | (6,120) | | | (4,893) | |
| | | | | | | |
Total consolidated net sales | $1,308,756 | | | $1,029,156 | | | $687,841 | | | $538,813 | |
| | | | | | | |
(1) Principally industrial products.
(2) Principally other electronics and medical products.
7. INCOME TAXES
The Company's effective tax rate was 19.3% in the first six months of fiscal 2023, as compared to 15.0% in the first six months of fiscal 2022. The increase in the Company's effective tax rate principally reflects a larger tax benefit from stock option exercises recognized in the first quarter of fiscal 2022. The Company recognized a discrete tax benefit from stock option exercises in both the first quarter of fiscal 2023 and 2022 of $6.2 million and $17.8 million, respectively. This was partially offset by a favorable impact from tax-exempt unrealized gains in the cash surrender values of life insurance policies related to the HEICO Leadership Compensation Plan, net of the non-deductible portion related to executive
compensation, in the first six months of fiscal 2023 as compared tax-exempt unrealized losses recognized in the first six months of fiscal 2022.
The Company's effective tax rate decreased to 21.2% in the second quarter of fiscal 2023, as compared to 23.7% in the second quarter of fiscal 2022. The decrease in the Company's effective tax rate principally reflects a favorable impact from tax-exempt unrealized gains in the cash surrender values of life insurance policies related to the HEICO Leadership Compensation Plan, net of the non-deductible portion related to executive compensation, in the second quarter of fiscal 2023 as compared to tax-exempt unrealized losses recognized in the second quarter of fiscal 2022.
8. FAIR VALUE MEASUREMENTS
The Company's assets and liabilities that were measured at fair value on a recurring basis are set forth by level within the fair value hierarchy in the following tables (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | As of April 30, 2023 |
| | Quoted Prices in Active Markets for Identical Assets (Level 1) | | Significant Other Observable Inputs (Level 2) | | Significant Unobservable Inputs (Level 3) | | Total |
Assets: | | | | | | | | |
Deferred compensation plan: | | | | | | | | |
Corporate-owned life insurance | | $— | | | $229,241 | | | $— | | | $229,241 | |
Money market fund | | 7,677 | | | — | | | — | | | 7,677 | |
Total assets | | $7,677 | | | $229,241 | | | $— | | | $236,918 | |
| | | | | | | | |
Liabilities: | | | | | | | | |
Contingent consideration | | $— | | | $— | | | $56,831 | | | $56,831 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | As of October 31, 2022 |
| | Quoted Prices in Active Markets for Identical Assets (Level 1) | | Significant Other Observable Inputs (Level 2) | | Significant Unobservable Inputs (Level 3) | | Total |
Assets: | | | | | | | | |
Deferred compensation plan: | | | | | | | | |
Corporate-owned life insurance | | $— | | | $201,239 | | | $— | | | $201,239 | |
Money market fund | | 3,477 | | | — | | | — | | | 3,477 | |
Total assets | | $3,477 | | | $201,239 | | | $— | | | $204,716 | |
| | | | | | | | |
Liabilities: | | | | | | | | |
Contingent consideration | | $— | | | $— | | | $82,803 | | | $82,803 | |
The Company maintains the HEICO Corporation Leadership Compensation Plan (the "LCP"), which is a non-qualified deferred compensation plan. The assets of the LCP principally represent cash surrender values of life insurance policies, which derive their fair values from investments in mutual funds that are managed by an insurance company, and are classified within Level 2 and valued using a market approach. Certain other assets of the LCP represent investments in money market funds that are classified within Level 1. The assets of the LCP are held within an irrevocable trust and classified within other assets in the Company’s Condensed Consolidated Balance Sheets. The related liabilities of the LCP are included within other long-term liabilities and accrued expenses and other current liabilities in the Company’s Condensed Consolidated Balance Sheets and have an aggregate value of $235.0 million as of April 30, 2023 and $203.0 million as of October 31, 2022.
As part of the agreement to acquire 80.36% of the stock of a subsidiary by the ETG in fiscal 2022, the Company may be obligated to pay contingent consideration of up to $12.1 million in fiscal 2027 based on the earnings of the acquired entity during fiscal years 2025 and 2026 provided the entity meets a certain earnings objective during each of fiscal years 2024 to 2026. As of April 30, 2023, the estimated fair value of the contingent consideration was $6.3 million.
As part of the agreement to acquire 96% of the stock of a subsidiary by the FSG in fiscal 2022, the Company may be obligated to pay contingent consideration of up to $27.4 million in fiscal 2027 based on the earnings of the acquired entity during fiscal years 2025 and 2026 provided the entity meets certain earnings objectives during each of fiscal years 2022 to 2024. As of April 30, 2023, the estimated fair value of the contingent consideration was $16.1 million.
As part of the agreement to acquire 74% of the membership interests of a subsidiary by the FSG in fiscal 2022, the Company may be obligated to pay contingent consideration of $14.1 million in fiscal 2027 should the acquired entity meet a certain earnings objective during the five-year period following the acquisition. As of April 30, 2023, the estimated fair value of the contingent consideration was $6.5 million.
As part of the agreement to acquire 89% of the membership interests of a subsidiary by the FSG in fiscal 2021, the Company may have been obligated to pay contingent consideration of up to $26.7 million should the acquired entity have met certain earnings objectives following the acquisition. In March 2023, at the request of the noncontrolling interest holders, the agreement was amended and the Company paid $8.9 million to the noncontrolling interest holders in consideration for the termination of the contingent consideration arrangement. Accordingly, of the $18.0 million estimated fair value of contingent consideration as of October 31, 2022, the remaining $9.1 million (after the $8.9 million payment) was reversed in the second quarter of fiscal 2023.
As part of the agreement to acquire 89.99% of the equity interests of a subsidiary by the ETG in fiscal 2020, the Company may be obligated to pay contingent consideration of up to CAD $13.5 million, or $10.0 million, in fiscal 2025 should the acquired entity meet certain earnings objectives during fiscal 2023 and 2024. As of April 30, 2023, the estimated fair value
of the contingent consideration was CAD $11.5 million, or $8.5 million. Additionally, the acquired entity achieved a required earnings objective during fiscal years 2021 and 2022 that obligated the Company to pay additional contingent consideration of CAD $13.5 million, or $10.0 million, which was paid in the first quarter of fiscal 2023.
As part of the agreement to acquire a subsidiary by the ETG in fiscal 2017, the Company may be obligated to pay contingent consideration of $20.0 million in fiscal 2023 should the acquired entity meet a certain earnings objective during the first six years following the acquisition. As of April 30, 2023, the estimated fair value of the contingent consideration was $19.5 million.
The following unobservable inputs were used to derive the estimated fair value of the Company's Level 3 contingent consideration liabilities as of April 30, 2023 ($ in thousands):
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| | | | Unobservable | | | | Weighted |
Acquisition Date | | Fair Value | | Input | | Range | | Average (1) |
9-1-2022 | | $6,296 | | Compound annual revenue growth rate | | 0% - 17% | | 13% |
| | | | Discount rate | | 7.6% - 7.6% | | 7.6% |
| | | | | | | | |
7-18-2022 | | 16,068 | | Compound annual revenue growth rate | | 2% - 9% | | 5% |
| | | | Discount rate | | 7.6% - 7.6% | | 7.6% |
| | | | | | | | |
3-17-2022 | | 6,513 | | Compound annual revenue growth rate | | (3%) - 5% | | 0% |
| | | | Discount rate | | 6.6% - 6.6% | | 6.6% |
| | | | | | | | |
8-18-2020 | | 8,475 | | Compound annual revenue growth rate | | 15% - 24% | | 22% |
| | | | Discount rate | | 8.2% - 8.2% | | 8.2% |
| | | | | | | | |
9-15-2017 | | 19,479 | | Compound annual revenue growth rate | | 4% - 5% | | 5% |
| | | | Discount rate | | 6.3% - 6.3% | | 6.3% |
| | | | | | | | |
(1) Unobservable inputs were weighted by the relative fair value of the contingent consideration liability.
Changes in the Company’s contingent consideration liabilities measured at fair value on a recurring basis using unobservable inputs (Level 3) for the six months ended April 30, 2023 are as follows (in thousands):
| | | | | | | | |
| | Liabilities |
Balance as of October 31, 2022 | | $82,803 | |
Payment of contingent consideration | | (18,909) | |
Amendment and termination of contingent consideration agreement | | (9,057) | |
Increase in accrued contingent consideration, net | | 1,843 | |
Foreign currency transaction adjustments | | 151 | |
Balance as of April 30, 2023 | | $56,831 | |
| | |
Included in the accompanying Condensed Consolidated Balance Sheet under the following captions: | | |
Accrued expenses and other current liabilities | | $19,479 | |
Other long-term liabilities | | 37,352 | |
| | $56,831 | |
| | |
| | |
| | |
| | |
| | |
The Company records changes in accrued contingent consideration and foreign currency transaction adjustments within SG&A expenses in its Condensed Consolidated Statements of Operations.
The carrying amounts of the Company’s cash and cash equivalents, accounts receivable, trade accounts payable and accrued expenses and other current liabilities approximate fair value as of April 30, 2023 due to the relatively short maturity of the respective instruments. The carrying amount of long-term debt approximates fair value due to its variable interest rates.
9. NET INCOME PER SHARE ATTRIBUTABLE TO HEICO SHAREHOLDERS
The computation of basic and diluted net income per share attributable to HEICO shareholders is as follows (in thousands, except per share data):
| | | | | | | | | | | | | | | | | | | | | | | |
| Six months ended April 30, | | Three months ended April 30, |
| 2023 | | 2022 | | 2023 | | 2022 |
Numerator: | | | | | | | |
Net income attributable to HEICO | $198,147 | | | $171,931 | | | $105,120 | | | $85,010 | |
| | | | | | | |
Denominator: | | | | | | | |
Weighted average common shares outstanding - basic | 136,786 | | | 135,763 | | | 136,916 | | | 135,891 | |
Effect of dilutive stock options | 1,804 | | | 2,153 | | | 1,684 | | | 1,976 | |
Weighted average common shares outstanding - diluted | 138,590 | | | 137,916 | | | 138,600 | | | 137,867 | |
| | | | | | | |
Net income per share attributable to HEICO shareholders: | | | | | | | |
Basic | $1.45 | | | $1.27 | | | $.77 | | | $.63 | |
Diluted | $1.43 | | | $1.25 | | | $.76 | | | $.62 | |
| | | | | | | |
Anti-dilutive stock options excluded | 1,045 | | | 739 | | | 1,340 | | | 749 | |
10. OPERATING SEGMENTS
Information on the Company’s two operating segments, the FSG and the ETG, for the six and three months ended April 30, 2023 and 2022, respectively, is as follows (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | Other, Primarily Corporate and Intersegment (1) | | Consolidated Totals |
| | Segment | | |
| | FSG | | ETG | | |
Six months ended April 30, 2023: | | | | | | | | |
Net sales | | $763,480 | | | $556,818 | | | ($11,542) | | | $1,308,756 | |
Depreciation | | 8,152 | | | 9,461 | | | 535 | | | 18,148 | |
Amortization | | 13,286 | | | 24,802 | | | 548 | | | 38,636 | |
Operating income | | 183,521 | | | 124,516 | | | (21,513) | | | 286,524 | |
Capital expenditures | | 10,643 | | | 11,058 | | | 220 | | | 21,921 | |
| | | | | | | | |
Six months ended April 30, 2022: | | | | | | | | |
Net sales | | $578,994 | | | $459,729 | | | ($9,567) | | | $1,029,156 | |
Depreciation | | 7,411 | | | 6,792 | | | 493 | | | 14,696 | |
Amortization | | 11,262 | | | 20,179 | | | 570 | | | 32,011 | |
Operating income | | 118,573 | | | 121,576 | | | (18,550) | | | 221,599 | |
Capital expenditures | | 8,113 | | | 7,995 | | | 103 | | | 16,211 | |
| | | | | | | | |
Three months ended April 30, 2023: | | | | | | | | |
Net sales | | $392,202 | | | $301,759 | | | ($6,120) | | | $687,841 | |
Depreciation | | 3,974 | | | 5,523 | | | 265 | | | 9,762 | |
Amortization | | 6,555 | | | 13,133 | | | 274 | | | 19,962 | |
Operating income | | 99,912 | | | 67,979 | | | (10,801) | | | 157,090 | |
Capital expenditures | | 3,990 | | | 6,969 | | | 116 | | | 11,075 | |
| | | | | | | | |
Three months ended April 30, 2022: | | | | | | | | |
Net sales | | $306,313 | | | $237,393 | | | ($4,893) | | | $538,813 | |
Depreciation | | 3,693 | | | 3,426 | | | 247 | | | 7,366 | |
Amortization | | 5,749 | | | 10,087 | | | 283 | | | 16,119 | |
Operating income | | 66,197 | | | 65,988 | | | (9,408) | | | 122,777 | |
Capital expenditures | | 4,531 | | | 2,925 | | | 64 | | | 7,520 | |
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(1) Intersegment activity principally consists of net sales from the ETG to the FSG.
Total assets by operating segment are as follows (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | Other, Primarily Corporate | | Consolidated Totals |
| | Segment | | |
| | FSG | | ETG | | |
Total assets as of April 30, 2023 | | $1,685,580 | | | $2,914,082 | | | $270,537 | | | $4,870,199 | |
Total assets as of October 31, 2022 | | 1,635,229 | | | 2,230,744 | | | 229,523 | | | 4,095,496 | |
11. COMMITMENTS AND CONTINGENCIES
Guarantees
As of April 30, 2023, the Company has arranged for standby letters of credit aggregating $22.5 million, which are supported by its revolving credit facility and principally pertain to performance guarantees related to customer contracts entered into by certain of the Company's subsidiaries as well as payment guarantees related to potential workers' compensation claims and a facility lease.
Product Warranty
Changes in the Company’s product warranty liability for the six months ended April 30, 2023 and 2022, respectively, are as follows (in thousands):
| | | | | | | | | | | | | | |
| | Six months ended April 30, |
| | 2023 | | 2022 |
Balances as of beginning of fiscal year | | $3,296 | | | $3,379 | |
Accruals for warranties | | 1,222 | | | 622 | |
Warranty claims settled | | (1,074) | | | (1,012) | |
Balances as of April 30 | | $3,444 | | | $2,989 | |
Litigation
On April 20, 2021, an indirect subsidiary of HFSC, which was acquired in June 2020, received a grand jury subpoena from the United States District Court for the Southern District of California requiring the production of documents for the time period December 1, 2017 through February 4, 2019 related to the subsidiary's employment of a certain individual and its performance of work on certain Navy vessels during that time period. The Company is cooperating with the investigation. The Company has completed its production of documents responsive to the subpoena, although the Company has a continuing obligation to produce such documents should any be located. At this early stage in the investigation, the Company cannot predict the outcome of the investigation or when the investigation will ultimately be resolved; nor can the Company reasonably estimate the possible range of loss or impact to its business, if any, that may result from this matter.
With the exception of the matter noted above, the Company is involved in various legal actions arising in the normal course of business. Based upon the Company’s and its legal counsel’s evaluations of any claims or assessments, management is of the opinion that the outcome of these matters will not have a material adverse effect on the Company’s results of operations, financial position or cash flows.
12. SUBSEQUENT EVENT
Wencor Acquisition
On May 15, 2023, the Company and its newly formed wholly owned subsidiary, Magnolia Merge Inc., a Delaware corporation (“Merger Sub”), entered into an Agreement and Plan of Merger (the “Merger Agreement”) to acquire Jazz Parent, Inc., a Delaware corporation, the owner of Wencor Group (the “Target” or "Wencor"), with the Target and Jazz Topco GP LLC, a Delaware limited liability company, solely in its capacity as representative for purposes of certain provisions of the Merger Agreement. Merger Sub will merge with and into the Target, with the Target continuing as the surviving entity and a wholly owned subsidiary of the Company (the “Merger”), for an aggregate purchase price of $1.9 billion in cash (the “Cash Consideration”), subject to certain working capital, debt and other customary adjustments set forth in the Merger Agreement, and 1,137,656 shares of HEICO Class A Common Stock. Wencor is a large commercial and military aircraft aftermarket company offering factory-new FAA-approved aircraft replacement parts, value-added distribution of high-use commercial & military aftermarket parts and aircraft & engine accessory component repair and overhaul services. Subject to the satisfaction of the closing conditions, the Merger is expected to close by the end of calendar 2023.
The completion of the Merger is subject to customary closing conditions, including the expiration or termination of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and the receipt of certain other regulatory approvals. The Merger Agreement contains customary termination rights for the parties thereto, including by mutual consent of the Company and the representative and under certain other circumstances, including by the Company or the representative if the Merger has not occurred on or before the nine-month anniversary of the signing of the Merger Agreement subject to up to two 90-day extensions if on such date a closing condition related to regulatory approvals has not been satisfied or waived. The Company is required to pay Target a termination fee of $143.5 million in cash upon termination of the Merger Agreement under specified circumstances, including the failure to obtain regulatory approvals or, among others, if the Company materially breaches its regulatory covenants such that there is a failure of certain conditions to the Merger.
Wencor Acquisition Financing
In connection with the Merger, on May 14, 2023, the Company entered into an engagement letter with Truist Securities, Inc. to, among other things, increase the commitments under its existing credit facility from $1.5 billion to $2.0 billion and to extend the maturity date
thereunder to a date that is five years from the closing date, and has also entered into a commitment letter (the “Commitment Letter”) with Truist Bank (the “Bridge Lender”) and Truist Securities, Inc., pursuant to which the Bridge Lender has committed to provide a senior unsecured credit facility to the Company, as the borrower, in an aggregate amount of up to $1.5 billion (the “Bridge Facility”), with a maturity date of 364 days following the closing date. The obligation to fund the Bridge Facility is subject to the satisfaction of certain conditions set forth in the Commitment Letter. The Company's currently committed credit facilities, together with cash on hand, are sufficient to fund the purchase price for the Merger.