Aar Corp 10-K for FY2021
Aar Corp (AIR)
About this 10-K
Aar Corp filed this 10-K on July 21, 2021, covering the fiscal year ended May 31, 2021 (FY2021).
Headline figures
Fiscal year ended May 31, 2021, as reported in this filing, compared with the same period a year earlier where the filing states it.
- Revenue
- $1.65B
- down 20.3% from $2.07B a year earlier
- Net income
- $35.8M
- up 713.6% from net income of $4.4M a year earlier
- Diluted EPS
- $1.00
- up 669.2% from $0.13 a year earlier
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM
(Mark One)
Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 | |
For the fiscal year ended or | |
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 | |
For the transition period from to
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(Exact name of registrant as specified in its charter)
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Registrant's telephone number, including area code: (
Securities registered pursuant to Section 12(b) of the Act:
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Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ◻
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company," and "emerging growth company” in Rule 12b-2 of the Exchange Act.
☒ | Accelerated filer | ☐ | Non-accelerated filer | ☐ | | Smaller reporting company | Emerging growth company | |||
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If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ◻
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes
The aggregate market value of the registrant’s voting stock held by nonaffiliates was approximately $
On June 30, 2021, there were
Documents Incorporated by Reference
Portions of the Company’s proxy statement for the Company’s 2021 Annual Meeting of Stockholders, to be held September 28, 2021, are incorporated by reference in Part III of this report.
TABLE OF CONTENTS
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| Supplemental Item – Information about our Executive Officers | 18 |
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Management’s Discussion and Analysis of Financial Condition and Results of Operations | 21 | |
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Changes in and Disagreements With Accountants on Accounting and Financial Disclosure | 73 | |
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Disclosure Regarding Foreign Jurisdictions that Prevent Inspections | 75 | |
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Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | 75 | |
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Certain Relationships and Related Transactions, and Director Independence | 76 | |
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PART IV | | |
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PART I
ITEM 1.BUSINESS
General
AAR CORP. and its subsidiaries are referred to herein collectively as “AAR,” “Company,” “we,” “us,” and “our” unless the context indicates otherwise. AAR was founded in 1951, organized in 1955 and reincorporated in Delaware in 1966. We are a diversified provider of products and services to the worldwide aviation and government and defense markets.
Fiscal 2021 began with our focus centered on managing through the COVID-19 pandemic to ensure the safety of our team and navigating the unprecedented decline in commercial passenger flight hours. Our sales to commercial customers in fiscal 2021 decreased by $486.8 million or 37.6% from the prior year as the impact from COVID-19 affected all of our commercial businesses.
To mitigate the impact of COVID-19, we implemented a number of actions since the onset of the COVID-19 pandemic to align our costs with the anticipated lower levels of demand. These actions included facility consolidations, exiting or restructuring several underperforming contracts, and eliminating discretionary spending. We also implemented actions to reduce our fixed and variable cost base which will support improved operating efficiencies and margins as commercial demand recovers.
In addition to these actions, we have also taken steps to focus on our core aviation services offering by continuing the divestiture of non-core businesses. Following the fiscal 2020 exit from our Contractor-Owned, Contractor-Operated (“COCO”) business, we completed the sale of our composites manufacturing business in early fiscal 2021. All of these actions have simplified our portfolio and improved efficiency in our operations to position us to drive higher returns on capital.
As we continued to successfully execute on our recent government contract awards over the last few years, we achieved strong sales growth in fiscal 2021 with our government customers as sales increased $67.1 million or 8.6% over the prior year. This growth was driven from recent contract awards such as the $118 million contract from the Naval Air Systems Command in support of the U.S. Marine Corps for the procurement, modification and delivery of two C-40 aircraft.
During fiscal 2021, we also maintained a strong focus on working capital management with cash flows from operating activities from continuing operations of $108.5 million. Borrowings outstanding under the Revolving Credit Facility were $109.5 million at May 31, 2021 with an availability on the facility of $471.3 million.
Over the long-term, we expect to see strength in our Aviation Services segment given its offerings of value-added services to both commercial and government and defense customers. We believe long-term commercial aftermarket growth trends are favorable. As we continue to experience growth in our government businesses and recovery in some commercial markets, our long-term strategy continues to emphasize investing in the business and capitalizing on opportunities in those markets.
Business Segments
Aviation Services
The Aviation Services segment provides aftermarket support and services for the commercial aviation and government and defense markets and accounted for approximately 95% of our sales in fiscal 2021, 2020, and 2019. In this segment, we also provide inventory management and distribution services, maintenance, repair and overhaul (“MRO”), and engineering services. Business activities in this segment are primarily conducted through AAR Supply Chain, Inc.; AAR Government Services, Inc.; AAR Aircraft & Engine Sales & Leasing, Inc.; AAR Aircraft Services, Inc.; AAR Allen Services, Inc.; AAR Landing Gear LLC; AAR Airlift Group, Inc.; and AAR International, Inc.
We sell and lease a wide variety of new, overhauled and repaired engine and airframe parts and components and aircraft to our commercial aviation and government/defense customers.
2
We provide customized flight hour component inventory and repair programs, warranty claim management, and outsourcing programs for engine and airframe parts and components in support of our airline and government customers’ maintenance activities. The types of services provided under these programs include some or all of the following functions: material planning, sourcing, logistics, information and program management, and parts and component repair and overhaul. We are also an authorized distributor for more than 30 product lines which include parts from over 300 Federal Supply Class codes, which we source from over 25 leading aviation original equipment manufacturers (“OEM”s).
We provide fleet management and operations of customer-owned aircraft for the U.S. Department of State (“DoS”) under the INL/A WASS contract. We are the prime contractor on this ten-year performance-based contract which began in fiscal 2018. Our services under the contract include operating and maintaining the global DoS fleet of fixed- and rotary-wing aircraft.
We also provide customized performance-based supply chain logistics programs in support of the U.S. Department of Defense (“DoD”) and foreign governments. The types of services provided under these programs include some or all of the following functions: material planning, sourcing, logistics, information and program management, airframe maintenance and maintenance planning, and component repair and overhaul.
We provide major airframe inspection, maintenance, repair and overhaul, painting services, line maintenance, airframe modifications, structural repairs, avionics service and installation, exterior and interior refurbishment, and engineering services and support for many types of commercial and military aircraft. We also repair and overhaul various components, landing gears, wheels, and brakes for commercial and military aircraft.
We operate six airframe maintenance facilities and one landing gear overhaul facility. Our landing gear overhaul facility is in Miami, Florida, where we repair and overhaul landing gear, wheels, brakes, and actuators for different types of commercial and military aircraft. Our U.S. airframe maintenance facilities are in Indianapolis, Indiana; Oklahoma City, Oklahoma; Miami, Florida; and Rockford, Illinois and our Canadian airframe maintenance facilities are in Trois Rivieres, Quebec and Windsor, Ontario.
In addition to our North American facilities, we also have an interest in a joint venture to develop and operate an airframe maintenance facility in India. The facility is expected to receive regulatory certification in the first half of fiscal 2022 and would commence airframe maintenance operations shortly thereafter.
The majority of our product sales are made pursuant to standard commercial purchase orders. Government sales are generally made under standard types of government contracts, which can include firm fixed-price contracts, cost plus fixed fee contracts, and time-and-materials contracts. For cost plus fixed fee contracts, we typically receive reimbursement of our costs, to the extent the costs are allowable under contractual and regulatory provisions, in addition to receiving a fixed fee. Some of our contracts call for the performance of specified services or the delivery of specified products under indefinite delivery/indefinite quantity (“ID/IQ”) arrangements. Certain inventory supply and management and performance-based logistics program agreements reflect negotiated terms and conditions.
To support activities within the Aviation Services segment, we acquire aviation parts and components from domestic and foreign airlines, independent aviation service companies, aircraft leasing companies, and OEMs. We have ongoing arrangements with OEMs that provide us access to parts, repair manuals, and service bulletins in support of parts manufactured by them. Although the terms of each arrangement vary, they typically are made on standard OEM terms as to duration, price, and delivery. From time to time, we purchase airframes and engines for disassembly into individual parts and components. Airframes and engines may also be leased to airlines on a short-term basis prior to disassembly or sale.
Expeditionary Services
The Expeditionary Services segment primarily consists of products and services supporting the movement of equipment and personnel by the U.S. and foreign governments and non-governmental organizations. The Expeditionary Services segment accounted for approximately 5% of our sales in fiscal 2021, 2020, and 2019. Business activities in this segment are primarily conducted through AAR Manufacturing, Inc. and Brown International Corporation.
3
We design, manufacture, and repair transportation pallets and a wide variety of containers and shelters used in support of military and humanitarian tactical deployment activities. The containers and shelters are used in numerous mission requirements, including armories, supply and parts storage, refrigeration systems, tactical operation centers, briefing rooms, laundry and kitchen facilities, water treatment, and sleeping quarters. Shelters include both stationary and vehicle-mounted applications.We also provide engineering, design, and system integration services for specialized command and control systems.
During the first quarter of fiscal 2021, we sold our composites manufacturing business which resulted in a charge of $20.2 million. The sale of the Composites business is consistent with our multi-year strategy to focus our portfolio on our core services offerings, and the transaction has allowed us to further prioritize our efforts in our principal operations.
Sales in this segment are generally made to customers pursuant to standard commercial purchase orders and contracts. Government sales are generally made under standard types of government contracts, which can include firm fixed-price contracts, cost plus fixed fee contracts, and time-and-materials contracts. Some of our contracts call for the performance of specified services or the delivery of specified products under ID/IQ arrangements, however, the majority of our products and services are procured via definite contracts.
Raw Materials
Although we generated approximately 55% of our fiscal 2021 sales from the sale of products, we are generally engaged in only limited manufacturing activities and have minimal exposure to fluctuations in both the availability and pricing of raw materials. We purchase raw materials for our manufacturing operations, including steel, aluminum, extrusions, balsa, and other necessary supplies from several vendors. Where necessary, we have been able to obtain raw materials and other inventory items from numerous sources for each segment at competitive prices, terms, and conditions, and we expect to be able to continue to do so.
Terms of Sale
We generally sell our products and services under standard 30-day payment terms. On occasion, certain customers will negotiate extended payment terms of 60-90 days. Except for customary warranty provisions, customers neither have the right to return products nor do they have the right to extended financing. Our government contracts may extend several years and include one or more base years and one or more option years. The government generally has the right not to exercise options to extend or expand our contracts and may otherwise terminate, cancel, or modify some contracts at its convenience.
Customers
The principal customers for our products and services in the Aviation Services segment are domestic and foreign passenger airlines, domestic and foreign cargo airlines, regional and commuter airlines, business and general aviation operators, OEMs, aircraft leasing companies, aftermarket aviation support companies, the DoD and its contractors, the DoS, and foreign military organizations or governments. In the Expeditionary Services segment, our principal customers include the DoD and its contractors, foreign military organizations or governments, defense organizations, and OEMs.
Sales of aviation products and services to our commercial airline customers are generally affected by such factors as the number, type and average age of aircraft in service, the levels of aircraft utilization (e.g., frequency of schedules, flying hours, and take-off and landing cycles), the number of airline operators, the general economy, and the level of sales of new and used aircraft. Sales to the DoD and other government agencies are subject to a number of factors, including the level of troop deployment worldwide, government funding, competitive bidding, and requirements generated by worldwide geopolitical events.
We primarily market and sell products and services through our own employees. In certain markets outside of the United States, we rely on foreign sales representatives to assist in the sale of our products and services.
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Sales to Government and Defense Customers
Sales to global government and defense customers (including sales to branches, agencies, and departments of the U.S. government) were $845.9 million (51.2% of consolidated sales), $778.8 million (37.6% of consolidated sales) and $677.9 million (33.0% of consolidated sales) in fiscal 2021, 2020 and 2019, respectively. Sales to branches, agencies, and departments of the U.S. government and their contractors were $738.8 million (44.7% of consolidated sales), $668.2 million (32.2% of consolidated sales) and $546.2 million (26.6% of consolidated sales) in fiscal 2021, 2020, and 2019, respectively.
Sales to government and defense customers are reported in each of our reportable segments (See Note 14 of Notes to Consolidated Financial Statements). Since such sales are subject to competitive bidding and government funding, no assurance can be given that such sales will continue at levels previously experienced. The majority of our U.S. government sales are for products and services supporting the DoD logistics and mobility strategy and supporting DoS flight operations. Thus, our government contracts have changed, and may continue to change, with fluctuations in defense and other governmental agency spending and requirements. Our government contracts are also often subject to termination for convenience by the customer; in the event of such a termination, we are contractually entitled to recover all allowable costs incurred by us through the date of termination.
Government Regulation and Certificates
The Federal Aviation Administration (“FAA”) regulates the manufacture, repair, and operation of all aircraft and aircraft parts operated in the United States. Similar rules and regulatory authorities exist in other countries. The inspection, maintenance and repair procedures for the various types of aircraft and equipment are prescribed by these regulatory authorities and can be performed only by certified repair facilities utilizing certified technicians. The FAA requires that various maintenance routines be performed on aircraft engines, certain engine parts, and airframes at regular intervals based on take off and landing cycles or flight time. Our businesses, which sell defense products and services directly to the U.S. government or through its contractors, can be subject to various laws and regulations governing pricing and other factors.
We have nine FAA certificated repair stations in the United States, Canada, and Europe. Of the nine certificated FAA repair stations, seven are also European Aviation Safety Agency (“EASA”) and three are also Transport Canada Civil Aviation (“TCCA”) certificated repair stations. Such certificates, which are ongoing in duration, are required for us to perform authorized maintenance, repair, and overhaul services for our customers and are subject to revocation by the government for non-compliance with applicable regulations. All of the certificated repair stations are in the Aviation Services segment. We believe that we possess all licenses and certifications that are material to the conduct of our business.
Competition
Competition in each of our markets is based on quality, ability to provide a broad range of products and services, speed of delivery, and price. Competitors in our Aviation Services segment include OEMs, the service divisions of large commercial airlines, and other independent suppliers of parts, repair, and overhaul services to the commercial and defense markets. Our Expeditionary Services segment competes with a number of divisions of large corporations and other large and small companies. Although certain of our competitors have substantially greater financial and other resources than we do, we believe that we have maintained a satisfactory competitive position through our responsiveness to customer needs, our attention to quality, and our unique combination of market expertise and technical and financial capabilities.
Backlog
Backlog represents the amount of revenue that we expect to derive from unshipped orders or signed contracts. Backlog includes our remaining performance obligations based on the transaction price of firm orders for which work has not yet been performed as of May 31, 2021. Backlog excludes unexercised contract options and potential orders under contracts such as ID/IQ contracts.
At May 31, 2021, our firm backlog was approximately $750 million and we expect that approximately 40% of this backlog will be recognized as revenue over the next 12 months, with approximately 45% of the remaining balance recognized as revenue over the next three years.
5
Human Capital Resources
As of May 31, 2021, we had approximately 4,700 employees worldwide, with approximately 3,300 employees in the United States and approximately 1,400 employees outside of the United States. We also retained approximately 220 contract workers as of May 31, 2021, the majority of whom are located at our airframe maintenance facilities. We retain these contract workers as they provide unique skill sets which are necessary at certain facilities as well as mitigate the impact of demand variability with our customers.
Our employees set the foundation for our ability to achieve our strategic objectives. In particular, the employees in our MRO facilities, sales, and quality assurance departments are instrumental in driving operational execution and strong financial performance, and maintaining a strong quality and compliance program.
The success and growth of our business depend in large part on our ability to attract, retain and develop a population of talented and high-performing employees at all levels of our organization. To achieve this objective we have formulated a human capital management strategy, which includes the components below:
Commitment to Safety
One of our primary objectives is the health and safety of our employees. The commitment to safety starts at the top levels of our organization. In December 2020, our Board of Directors formed an Aviation Safety and Training Committee that oversees safety and training matters on the Board’s behalf. We believe a safe and secure workplace is fundamental and important to our success and we are committed to providing a safe and healthy workplace, and complying with applicable safety and health laws, regulations and internal requirements. We are also committed to engaging our employees to continually improve health and safety by acting upon opportunities to reduce risk and improve our safety and health performance. We maintain comprehensive safety programs focused on identifying hazards and eliminating risks that can lead to severe injuries.
Competitive Pay and Benefits
We focus on paying our employees competitively. We strive to provide competitive pay opportunities which reward our employees for achieving and exceeding objectives that create long-term value for shareholders. Providing competitive pay enhances our ability to attract and retain strong, innovative talent.
Providing comprehensive, competitive and affordable benefits is important to our attraction and retention strategy. We offer health benefits which include various medical/pharmacy plan options as well as a cost comparison tool to assist employees with their decisions. Health savings accounts for those in a high deductible health plan and flexible spending accounts for both health care and dependent care are also available to employees. The retirement, investment, and tax savings/deferral opportunities offered to employees include competitive 401k benefits and an Employee Stock Purchase Plan.
Employees are eligible for paid and unpaid leaves and, in addition, we offer a variety of other benefits to meet the needs of employees including an employee assistance program which provides some free counseling sessions, educational assistance and adoption assistance. Some of our facilities have fitness centers on site for employees to use.
Diversity, Inclusion and Engagement
We are an equal opportunity employer and recognize the value of a diverse workforce. We have established company-wide Employee Resource Groups (“ERGs”) where employees can foster connections and develop in a supportive environment.
We are continually seeking out new ways to broaden our exposure to underrepresented groups in the aviation industry and to develop a diverse talent pipeline. Our ERGs support the development of diverse talent internally and promote the acquisition of talent externally.
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Business Ethics
Our Code of Conduct ("Code") is a statement of the principles and standards that we expect our employees to follow. Each officer, director and employee is required to use good ethical judgement when conducting business and comply with applicable laws, rules and regulations. The Code describes what is appropriate behavior and guides ethical business decisions that maintain a commitment to integrity. Failure to comply with the Code and applicable laws can have severe consequences for both us and individuals involved, including disciplinary action, civil penalties or criminal prosecution under certain circumstances.
Available Information
For additional information concerning our business segments, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business Segment Information” in Note 14 of Notes to Consolidated Financial Statements under Item 8, “Financial Statements and Supplementary Data.”
Our internet address is www.aarcorp.com. We make available free of charge through our web site our Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission. Information contained on our web site is not a part of this report.
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ITEM 1A.RISK FACTORS
The following is a description of the principal risks inherent in our business. Any of the risks and uncertainties described below could materially and adversely affect our business, financial condition, and results of operations and should be considered in evaluating us. Although the risks are organized by heading, and each risk is described separately, many of the risks are interrelated. While we believe we have identified and discussed below the material risks affecting our business, there may be additional risks and uncertainties that we do not presently know or that we do not currently believe to be material that may adversely affect our business, financial condition, or results of operations in the future.
Risks Related to Our Business and Industry
We are affected by factors that adversely impact the commercial aviation industry.
As a provider of products and services to the commercial aviation industry, we are greatly affected by overall economic conditions of that industry. The commercial aviation industry is historically cyclical and has been negatively affected in the past by geopolitical events and conflicts, weather related events, natural disasters, disruption to fuel and oil production and supply shortages, high fuel and oil prices, environmental concerns (including climate change), lack of capital, and weak economic conditions. As a result of these and other events, from time to time certain of our customers have filed for bankruptcy protection or ceased operation. The impact of instability in the global financial markets may lead airlines to reduce domestic or international capacity. In addition, certain of our airline customers have in the past been impacted by tight credit markets, which limited their ability to buy parts, services, engines, and aircraft.
A reduction in the operating fleet of aircraft both in the U.S. and abroad will result in reduced demand for parts support and maintenance activities for the type of aircraft affected. A deteriorating airline environment may also result in additional airline bankruptcies, and in such circumstances we may not be able to fully collect outstanding accounts receivable, which was recently seen over the past year during the COVID-19 pandemic. Reduced demand from customers caused by weak economic conditions, including tight credit conditions and customer bankruptcies, may adversely impact our financial condition or results of operations. As an example, over the past year, as a result of the COVID-19 pandemic, which reduced demand, our revenue decreased by 20% largely due to reduced demand attributable to the COVID-19 pandemic.
Our business, financial condition, results of operations, and growth rates have been and may continue to be adversely affected by these and other events that impact the aviation industry, including the following:
| ● | deterioration in the financial condition of our existing and potential customers; |
| ● | reductions in the need for, or the deferral of, aircraft maintenance and repair services and spare parts support; |
| ● | retirement of older generation aircraft, resulting in lower prices for spare parts and services for those aircraft; |
| ● | reductions in demand for used aircraft and engines; |
| ● | increased in-house maintenance by airlines; |
| ● | lack of parts in the marketplace; |
| ● | acts of terrorism; |
| ● | future outbreaks of infectious diseases; and |
| ● | acts of God. |
8
Our U.S. government contracts may not continue at present sales levels, which may have a material adverse effect on our financial condition and results of operations.
Our sales to branches, agencies and departments of the U.S. government and their contractors were $738.8 million (44.7% of consolidated sales) in fiscal 2021 (See Note 14 of Notes to Consolidated Financial Statements). The majority of our U.S. government sales is for products and services supporting DoD logistics and mobility strategy and DoS flight operations and are, therefore, subject to changes in defense and other governmental agency funding and spending. Our contracts with the U.S. government and their contractors are typically agreements to provide products and services at a fixed price and have a term of one year or less, frequently subject to extension for one or more additional periods of one year at the option of the government customer. Sales to agencies of the U.S. government and their contractors are subject to a number of factors, including the level of troop deployment worldwide, competitive bidding, U.S. government funding, requirements generated by world events, and budgetary constraints.
U.S. government programs are subject to annual congressional budget authorization and appropriation processes. In recent years, U.S. government appropriations have been affected by larger U.S. government budgetary issues and related legislation, including the statutory limit on the amount of permissible federal debt. These issues could negatively affect the timely collection of our U.S. government invoices.
Future congressional appropriation and authorization of defense spending and the application of sequestration remain marked by significant debate and an uncertain schedule. The federal debt limit continues to be actively debated as plans for long-term national fiscal policy are discussed. The outcome of these debates could have a significant impact on defense spending broadly and programs we support in particular.
If there are funding delays and constraints, we may be required to continue to perform for some period of time on certain of our U.S. government contracts even if the U.S. government is unable to make timely payments. Future budget cuts, including cuts mandated by sequestration, or future procurement decisions could result in reductions, cancellations, and/or delays of existing contracts or programs which could adversely affect our results of operations and financial condition.
In addition, U.S. government programs budgets could be negatively impacted under President Biden’s administration, including possible policy changes on defense spending, spending priorities outside defense, reduction in military presence overseas and in general pressure to reduce U.S. defense spending. A significant reduction in defense spending could result in a reduction in the amount of our products and services furnished to the U.S. government.
In light of COVID-19, and the corresponding decrease in commercial airline activity, the percentage of our revenue that comes from government contracts increased and became more important to our overall business, which heightens the possible adverse effects on our results of operations and financial condition of any reduction in the sales levels of our U.S. government contracts.
We use estimates when accounting for long-term contracts and face risks of cost overruns and losses on these contracts.
We sell certain of our products and services to our commercial, government, and defense customers under firm contracts providing for fixed unit prices, regardless of costs incurred by us. The cost of producing products or providing services may be adversely affected by increases in the cost of labor, materials, fuel, overhead, and other unknown variants, including manufacturing and other operational inefficiencies and differences between assumptions used by us to price a contract and actual results. Increased costs may result in cost overruns and losses on such contracts, which could adversely affect our results of operations and financial condition.
We recognize revenue on our long-term contracts primarily over time as there is continuous transfer of control to the customer over the duration of the contract as the services are delivered, which generally requires estimates of total costs at completion, fees earned on the contract, or both. This estimation process is complex and involves significant judgment related to assumptions on flight hours, component repair costs, labor hours and rates, and contract penalties and incentives. Adjustments to estimates are often required as work progresses, experience is gained and additional information becomes known, even though the scope of the work required under the contract may not change. Any adjustment as a result of a change in estimate is recognized as events become known. Changes in the underlying assumptions, circumstances or estimates could result in adjustments that may adversely affect our future financial results.
9
If our subcontractors or suppliers fail to perform their contractual obligations, our contract profitability and our ability to win new contracts may be adversely affected.
We rely on subcontractors to perform a portion of the services we agree to provide our customers, and our suppliers provide necessary inventory and component parts. A failure by one or more of our subcontractors or suppliers to satisfactorily provide on a timely basis the agreed-upon services or supplies may affect our ability to perform our contractual obligations. Deficiencies in the performance of our subcontractors and/or suppliers could result in liquidated damages or our customer terminating our contract for default. A termination for default could expose us to liability and adversely affect our financial performance and our ability to win new contract awards.
Success at our airframe maintenance facilities is dependent upon continued outsourcing by the airlines.
We currently perform airframe maintenance, repair, and overhaul activities at six leased locations. If our maintenance facilities become unavailable either temporarily or permanently due to labor disruptions or circumstances beyond our control, such as geopolitical developments or logistical complications arising from acts of war, cyber-attacks, weather, global climate change, earthquakes or other natural disasters including public health crises, we may be unable to shift such work to other facilities or to make up for lost work. Revenues at these facilities fluctuate based on demand for maintenance which, in turn, is driven by the number of aircraft operating and the extent of outsourcing of maintenance activities by airlines. In addition, certain airlines operate certain new fleet types and/or newer generation aircraft and we may not have contractual arrangements to service these aircraft nor technicians trained and certified to perform the required airframe maintenance, repair, and overhaul activities. If either the number of aircraft operating or the level of outsourcing of maintenance activities declines, we may not be able to execute our operational and financial plans at our maintenance, repair, and overhaul facilities, which could adversely affect our results of operations and financial condition.
Our operations would be adversely affected by a shortage of skilled personnel or work stoppages.
Our business has historically been dependent on educated and skilled aviation mechanics because of the complex nature of many of our products and services. We face competition for management and qualified technical personnel from other companies and organizations. Furthermore, we have a collective bargaining agreement covering approximately 200 employees (4% of employees). Beginning in April 2020, we furloughed a significant portion of our skilled workforce as a result of the negative impact the COVID-19 pandemic has had on the demand for our services, with those employees being either terminated or brought back to work by November 16, 2020. Although we took measures to maintain good relationships with our workforce, there can be no assurance that the act of furloughing our employees did not damage employee relations or negatively impact our ability to be an employer of choice in our field. As the demand for skilled personnel begins to return to pre-COVID-19 levels, if we are unable to quickly reassemble our skilled workforce and subsequently retain a sufficient number of skilled personnel, or we experience a significant or prolonged work stoppage in such an environment, our ability to secure new work and our results of operations and financial condition could be adversely affected.
We operate in highly competitive markets, and competitive pressures may adversely affect us.
The markets for our products and services to our commercial, government, and defense customers are highly competitive, and we face competition from a number of sources, both domestic and international. Our competitors include aircraft manufacturers, aircraft component and parts manufacturers, airline and aircraft service companies, other companies providing maintenance, repair and overhaul services, other aircraft spare parts distributors and redistributors. Some of our competitors have substantially greater financial and other resources than we have and others may price their products and services below our selling prices. These competitive markets also create pressure on our ability to hire and retain qualified technicians and other skilled labor needs. We believe that our ability to compete depends on superior customer service and support, on-time delivery, sufficient inventory availability, competitive pricing, and effective quality assurance programs.
Our government customers, including the DoD and DoS, may turn to commercial contractors, rather than traditional defense contractors, for certain work, or may utilize set asides such as small business, women-owned, or minority-owned contractors or determine to source work internally rather than use us. We are also impacted by bid protests from unsuccessful bidders on new program awards and task orders. Bid protests could result in significant expense for us, contract modifications, or the award decision being overturned and loss of the contract award. Even where a bid protest does not result in the loss of an award, the resolution can extend the time until the contract activity can begin, and delay earnings. These competitive pressures, with potential impacts on both our commercial and government business, could adversely affect our results of operations and financial condition.
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We are exposed to risks associated with operating internationally.
We conduct our business in a number of foreign countries, some of which are politically unstable or subject to military or civil conflicts. Consequently, we are subject to a variety of risks that are specific to international operations, including the following:
| ● | military conflicts, civil strife, and political risks; |
| ● | export regulations that could erode profit margins or restrict exports; |
| ● | compliance with the U.S. Foreign Corrupt Practices Act, United Kingdom (“UK”) Bribery Act 2010, and other anti-bribery and anti-corruption laws; see Note 15 of Notes to Consolidated Financial Statements for information about certain pending proceedings; |
| ● | the burden and cost of compliance with foreign laws, treaties, and technical standards and changes in those regulations; |
| ● | contract award and funding delays; |
| ● | potential restrictions on transfers of funds; |
| ● | import and export duties and value added taxes; |
| ● | foreign exchange risk; |
| ● | transportation delays and interruptions, including the inability to move personnel out of foreign jurisdictions due to COVID-19 travel restrictions; |
| ● | uncertainties arising from foreign local business practices and cultural considerations; and |
| ● | changes in U.S. policies on trade relations and trade policy, including implementation of or changes in trade sanctions, tariffs, and embargoes. |
Any measures adopted to reduce the potential impact of losses resulting from the risks of doing business internationally, may not be adequate, and the regions in which we operate might not continue to be stable enough to allow us to operate profitably or at all.
Acquisitions expose us to risks, including the risk that we may be unable to effectively integrate acquired businesses.
We have completed acquisitions in the past and we have discussions with third parties regarding acquisitions on a regular basis. Acquisitions involve risks, including difficulties in integrating the operations and personnel, the effects of amortization of any acquired intangible assets and the potential impairment of goodwill, and the potential loss of key employees of the acquired business. In addition, acquisitions often require substantial management resources and have the potential to divert our attention from our existing business. For any businesses we may acquire in the future, we may not be able to execute our operational, financial, or integration plans for the acquired businesses, which could adversely affect our results of operations and financial condition.
Market values for our aviation products fluctuate and we may be unable to recover our costs incurred on engines, rotable components and other aircraft parts.
We make a number of assumptions when determining the recoverability of rotable components, engines, and other assets which are on lease, available for lease, or supporting our long-term programs. These assumptions include historical sales trends, current and expected usage trends, replacement values, current and expected lease rates, residual values, future demand, and future cash flows. Reductions in demand for these assets or declining market values, as well as differences between actual results and the assumptions utilized by us when determining the recoverability of our aircraft, engines, and other assets, could result in impairment charges in future periods, which would adversely affect our results of operations and financial condition.
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Our business could be negatively affected by cyber or other security threats or other disruptions.
Our business depends heavily on information technology and computerized systems to communicate and operate effectively. We store sensitive data including proprietary business information, intellectual property and confidential employee or other personal data on our servers and databases. Our systems and technologies, or those of third parties on which we rely, could fail or become unreliable due to equipment failures, software viruses, cyber threats, ransomware attacks, terrorist acts, natural disasters, power failures, political or social unrest, pandemics or other public health issues or other causes. These threats arise in some cases as a result of our role as a defense contractor.
Cyber security threats are evolving and include, but are not limited to, malicious software, attempts to gain unauthorized access to our sensitive information, business e-mail compromises, ransomware attacks, and other electronic security breaches, including at our customers, suppliers, subcontractors, and joint venture partners, that could lead to disruptions in mission critical systems, unauthorized release of confidential or otherwise protected information, and corruption of data.
A theft, loss, fraudulent use or misuse of customer, stockholder, employee or our proprietary data by cybercrime or otherwise, noncompliance with our contractual or other legal obligations regarding such data or a violation of our privacy and security policies with respect to such data could adversely impact our reputation and could result in costs, fines, litigation or regulatory action against us. Security breaches can create system disruptions and shutdowns that could result in disruptions to our operations. We cannot be certain that advances in criminal capabilities, new vulnerabilities or other developments will not compromise or breach the security solutions protecting our information technology, networks and systems. A failure of or cyber‐attack on our information systems technology or those of our partners, customers, vendors, or suppliers could adversely affect our ability to process orders, maintain proper levels of inventory, collect accounts receivable and pay expenses; all of which could have an adverse effect on our results of operations, financial condition and cash flows. Such serious harm can involve, among other things, misuse of our assets, business disruptions, loss of data, unauthorized access to trade secrets and confidential business information, unauthorized access to personal information, legal claims or proceedings, reporting errors, processing inefficiencies, negative media attention, reputational harm, loss of sales, remediation and increased insurance costs, and interference with regulatory compliance. We have experienced and expect to continue to experience some of these types of cybersecurity threats and incidents, which could be material in the future.
The procedures and controls we utilize to monitor and mitigate these threats may not be sufficient to prevent security threats from materializing. If any of these events were to materialize, the costs related to cyber or other security threats or disruptions may not be fully insured or indemnified and could have a material adverse effect on our reputation, operating results, and financial condition.
Moreover, expenditures incurred in implementing and maintaining cyber security and other procedures and controls could adversely affect our results of operations and financial condition.
We may need to make significant capital expenditures to keep pace with technological developments in our industry.
The industries in which we participate are constantly undergoing development and change, and it is likely that new products, equipment, and methods of repair and overhaul services will be introduced in the future. We may need to make significant expenditures to purchase new equipment and to train our employees to keep pace with any new technological developments. These expenditures could adversely affect our results of operations and financial condition.
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Risk Related to Financial Matters
We may need to reduce the carrying value of our assets.
We own and distribute a significant amount of engines, aircraft parts and components, as well as own manufacturing facilities and joint venture investments. Recurring losses in certain operations could require us to evaluate the recoverability of the carrying value of the related assets and recognize an impairment charge through earnings to reduce the carrying value. During fiscal 2020, and 2019, we recognized impairment charges of $11.8 million and $74.1 million, respectively, related to our COCO business which is classified as a discontinued operation. In addition, if aircraft or engines for which we offer replacement parts or supply repair and overhaul services are retired and there are fewer aircraft that require these parts or services, our revenues may decline.
We make a number of assumptions when determining the recoverability of our assets, including historical sales trends, current and expected usage trends, replacement values, current and expected lease rates, residual values, future demand, and future cash flows. Differences between actual results and the assumptions utilized by us when determining the recoverability of our assets could result in impairment charges in future periods, which would adversely affect our results of operations and financial condition.
We have recorded goodwill and other intangible assets related to acquisitions. If we are unable to achieve the projected levels of operating results, it may be necessary to record an impairment charge to reduce the carrying value of goodwill and related intangible assets. Similarly, if we were to lose a key customer or if a regulator were to terminate any of our repair certificates at our airframe maintenance or landing gear facilities, we might be required to record an impairment charge if we were unable to operate.
We are dependent upon continued availability of financing to manage our business and to execute our business strategy, and additional financing may not be available on terms acceptable to us.
Our ability to manage our business and to execute our business strategy is dependent, in part, on the continued availability of debt and equity capital. Access to the debt and equity capital markets may be limited by various factors, including the condition of overall credit markets, general economic factors, state of the aviation industry, our financial performance, and credit ratings. Debt and equity capital may not continue to be available to us on favorable terms, or at all. Our inability to obtain financing on favorable terms could adversely affect our results of operations and financial condition.
LIBOR, the London interbank offered rate, is the basic rate of interest used in lending between banks on the London interbank market and is widely used as a reference for setting the interest rate on loans globally. Interest rates under our Revolving Credit Facility (as defined below) are based partly on LIBOR. On March 5, 2021, the UK Financial Conduct Authority, which regulates LIBOR, announced that it would cease publication of the one-week and two-month U.S. dollar LIBOR immediately after December 31, 2021 and cease publication of the remaining tenors immediately after June 30, 2023. Additionally, the Federal Reserve Board has advised banks to stop entering into new U.S. dollar LIBOR based contracts. The U.S. Federal Reserve has begun publishing a Secured Overnight Funding Rate which is currently intended to serve as an alternative reference rate to LIBOR. If lenders have increased costs due to changes in LIBOR, we may suffer from potential increases in interest rates on our borrowings. Further, we may need to renegotiate our credit facilities or any other borrowings that utilize LIBOR as a factor in determining the interest rate to replace LIBOR with the new standard that is established.
Our existing debt and expected government funding includes restrictive and/or financial covenants.
Certain financing arrangements, including our Revolving Credit Facility and our accounts receivable financing program, require us to comply with various restrictive covenants and some contain financial covenants that require us to comply with specified financial ratios and tests. Our failure to meet these covenants could result in default under these loan and debt agreements and may result in a cross-default under other debt agreements. In the event of a default and our inability to obtain a waiver of the default, all amounts outstanding under our debt agreements could be declared immediately due and payable. Our failure to comply with these covenants could adversely affect our results of operations and financial condition.
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In addition, our receipt of funding from the Payroll Support Program under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) requires us to comply with certain covenants. If we do not comply with these covenants, or if the government issues new guidance regarding existing covenants, the government may require us to repay the support given to us.
We currently are prohibited from paying dividends under the Payroll Support Program under the CARES Act and, in the future, may not be able to pay or maintain dividends, or we may choose not to pay dividends, and the failure to pay or maintain dividends may adversely affect our share price.
The Payroll Support Program under the CARES Act prohibits the Company from paying dividends to our stockholders through September 30, 2021, accordingly no dividend has been paid since April 2020 or will be paid by the Company prior to September 30 of this year.
After the restrictions on paying dividends under the CARES Act lapse, our ability to pay, maintain or increase cash dividends to our stockholders is subject to the discretion of our Board of Directors and will depend on many factors, including: our ability to comply with financial covenants, the economic condition of the commercial aviation industry, the level and timing of capital expenditures, principal repayments and other capital needs, maintaining our credit ratings, our results of operations, financial condition and liquidity, and legal restrictions on the payment of dividends, including government imposed restrictions. In the future, we may choose to not pay dividends or may not be able to pay dividends, maintain our historical level of dividends, or increase them over time. The failure to maintain or pay dividends may adversely affect our share price.
Risks Related to COVID-19
The COVID-19 pandemic has had a material adverse impact on our business, results of operations, financial condition, and liquidity, and the duration and extent of the pandemic could prolong or increase the adverse impact.
In December 2019, an outbreak of COVID-19 originated in Wuhan, China, and in March 2020, the World Health Organization characterized COVID-19 as a pandemic. Many countries, including the United States, declared states of emergency and took steps to restrict air travel, and many companies adopted policies prohibiting non-essential business travel by their employees. Even in the absence of formal restrictions and prohibitions, contagious illness and fear of contagion has adversely affected travel demand and travel behavior. Passenger airline traffic declined significantly since March 2020, and the decrease has since had a material negative impact on our financial results.
With the roll-out of the COVID-19 vaccines, many countries have started to lift their states of emergency and restrictions on air travel. With the easing of these restrictions, passenger airline traffic has started to pick-up in the United States, but business travel in particular remains well below pre-pandemic levels. In addition, we have seen and expect to continue to see reduced demand in our non-cargo commercial businesses in certain markets. In some cases, airlines have reduced their operating fleet of aircraft both in the U.S. and abroad which results in reduced demand for parts support and maintenance activities for the type of aircraft affected. Moreover, if the COVID-19 pandemic continues to result in decreased worldwide commercial activity, it could also adversely affect the demand for airline cargo services. Reduced numbers of aircraft flying or flight hours has and will continue to negatively impact the demand for our services, and any prolonged reduction could materially and adversely affect our business, operating results, financial condition, and liquidity.
While some of our employees were able to work remotely during spikes in COVID-19 cases, a significant number can only perform their job functions on site. We have promulgated policies designed to provide for appropriate protections for employees in light of relevant government guidance. We evaluate and modify these policies as needed on an ongoing basis, but there remains the risk of disruption or reduced efficiency caused by social distancing and other protective measures as well as elevated employee absence because of illness or required quarantines.
In addition, we source parts and components for our business from various suppliers around the world. Disruptions to our supply chain and business operations, or to our suppliers’ or customers’ supply chains and business operations, could have adverse effects on our ability to provide aftermarket support and services. Moreover, a prolonged epidemic or pandemic, or the threat thereof, could result in worker absences, lower productivity, voluntary closure of our offices and facilities, travel restrictions for our employees and other disruptions to our business. These impacts have had and could continue to have a material adverse effect on our business, financial condition or results of operations.
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We have taken a number of actions in response to decreased demand. In addition to reducing operating expenditures for fiscal 2021, we received financial assistance under the CARES Act. Certain of our subsidiaries received $57.2 million from the U.S. Treasury Department (“Treasury”) through the Payroll Support Program under the CARES Act. In connection with the financial assistance these subsidiaries received under the Payroll Support Program, we are required to comply with certain provisions of the CARES Act, including provisions prohibiting the repurchase of common stock and the payment of common stock dividends through September 30, 2021; and limitations on the payment of certain employee compensation through March 24, 2022. These restrictions have and may continue to materially affect our operations, and we may not be successful in managing these impacts for the duration of the restrictions. In particular, limitations on compensation may adversely impact our ability to attract and retain senior management or attract other key employees during this critical time.
Risks Related to Legal and Regulatory Matters
If we fail to comply with government procurement laws and regulations, we could lose business and be liable for various penalties or sanctions.
We must comply with laws and regulations relating to the formation, administration, and performance of government contracts. In the U.S., these laws and regulations include the Federal Acquisition Regulations, Defense Federal Acquisition Regulations, the Truth in Negotiations Act, Cost Accounting Standards, and laws, regulations, and orders restricting the use and dissemination of classified information under the U.S. export control laws and the export of certain products and technical information and safeguarding of contractor information systems.
In addition, we are subject to U.S. government inquiries and investigations, including periodic audits of costs that we determine are reimbursable under government contracts. U.S. government agencies routinely audit government contractors, including the Company, to review performance under contracts, cost structure and compliance with applicable laws, regulations, and standards, as well as the adequacy of and compliance with internal control systems and policies, including the contractor’s purchasing, property, estimating, compensation and management information systems. Any costs found to be misclassified or inaccurately allocated to a specific contract are not reimbursable, and to the extent already reimbursed, must be refunded. Also, any inadequacies in our systems and policies could result in payments being withheld, penalties and reduced future business.
U.S. government rules allow contracting officers to impose contractual withholdings at no less than certain minimum levels if a contracting officer determines that one or more of a contractor’s business systems have one or more significant deficiencies. If a contracting officer were to impose such a withholding on us or even one of our prime contractors, it would increase the risk that we would not be paid in full or paid timely. If future audit adjustments exceed our estimates, our profitability could be adversely affected.
If a government inquiry or investigation uncovers improper or illegal activities, we could be subject to civil or criminal penalties or administrative sanctions, including contract termination, fines, forfeiture of fees, suspension of payment and suspension or debarment from doing business with government agencies, any of which could materially adversely affect our reputation, business, financial condition and results of operations. See Note 15 of Notes to Consolidated Financial Statements for information about certain pending proceedings.
We are subject to significant government regulation and may need to incur significant expenses to comply with new or more stringent governmental regulation.
The aviation industry is highly regulated by the FAA in the United States and equivalent regulatory agencies in other countries. Before we sell any of our products that are to be installed in an aircraft, such as engines, engine parts and components, and airframe and accessory parts and components, they must meet certain standards of airworthiness established by the FAA or the equivalent regulatory agencies in certain other countries. We operate repair stations that are licensed by the FAA and the equivalent regulatory agencies in certain other countries, and hold certificates to operate aircraft. Specific regulations vary from country to country; although regulatory requirements in other countries are generally satisfied by compliance with FAA requirements. New and more stringent governmental regulations may be adopted in the future that, if enacted, may have an adverse impact on us.
If any of our material licenses, certificates, authorizations, or approvals were revoked or suspended by the FAA or equivalent regulatory agencies in other countries, our results of operations and financial condition may be adversely affected.
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Our industry is susceptible to product and other liability claims, and claims not adequately covered by insurance may adversely affect our financial condition.
Our business exposes us to possible claims for property damage and bodily injury or death, which may result if an engine, engine part or component, airframe part or accessory, or any other aviation product that we have sold, manufactured, or repaired fails, or if an aircraft we operated, serviced, or in which our products are installed, has an accident. Claims may arise in the future, and our insurance coverage may not be adequate to protect us in all circumstances. Additionally, we might not be able to maintain adequate insurance coverage in the future at an acceptable cost. Any liability claim not covered by adequate insurance could adversely affect our results of operations and financial condition.
We must comply with extensive environmental requirements, and any exposure to environmental liabilities may adversely affect us.
Federal, state, and local requirements relating to the discharge and emission of substances into the environment, the disposal of hazardous wastes, the remediation and abatement of contaminants, and other activities affecting the environment have had and may continue to have an impact on our operations. Management cannot assess the possible effect of compliance with future environmental requirements or of future environmental claims for which we may not have adequate indemnification or insurance coverage. If we were required to pay the expenses related to any future environmental claims for which neither indemnification nor insurance coverage were available, these expenses could have an adverse impact on our results of operations and financial condition.
Future environmental regulatory developments in the United States and abroad concerning environmental issues, such as climate change, could adversely affect our operations and increase operating costs and, through their impact on our customers, reduce demand for our products and services. Actions may be taken in the future by the U.S. government, state governments within the United States, foreign governments, or the International Civil Aviation Organization to regulate the emission of greenhouse gases by the aviation industry. The precise nature of any such requirements and their applicability to us and our customers are difficult to predict, but the impact to us and the aviation industry would likely be adverse and could be significant, including the potential for increased fuel costs, carbon taxes or fees, or a requirement to purchase carbon credits.
ITEM 1B.UNRESOLVED STAFF COMMENTS
Not Applicable.
ITEM 2.PROPERTIES
In the Aviation Services segment, we conduct parts supply activities from our headquarters in Wood Dale, Illinois, which we own. In addition to warehouse space, this facility includes executive, sales and administrative offices. Our principal maintenance, repair, overhaul, engineering and other service activities for this segment are conducted at U.S. facilities leased by us in Indianapolis, Indiana; Oklahoma City, Oklahoma; Miami, Florida; Medley, Florida; and Rockford, Illinois and at Canadian facilities leased by us in Trois Rivieres, Quebec and Windsor, Ontario.
We also lease facilities in Garden City, New York; Jacksonville, Florida; Rockledge, Florida; Brussels, Belgium; London, England; and Crawley, England, and own a building near Schiphol International Airport in the Netherlands to support activities in the Aviation Services segment.
Our principal activities in the Expeditionary Services segment are conducted at a facility we own in Cadillac, Michigan.
We also operate sales offices that support all our activities and are leased in London, England; Crawley, England; Paris, France; Rio de Janeiro, Brazil; Tokyo, Japan; Shanghai, China; Singapore, Republic of Singapore; and Dubai, UAE.
We believe that our owned and leased facilities are suitable and adequate for our operational requirements.
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ITEM 3.LEGAL PROCEEDINGS
Note 15 of the Notes to our Consolidated Financial Statements for the year ended May 31, 2021 contained in Item 8 of this Annual Report on Form 10-K includes information on legal proceedings that constitute material contingencies for financial reporting purposes that could have a material adverse effect on our consolidated financial position or liquidity if they were resolved in a manner that is adverse to us. The information in Note 15 is incorporated by reference in this Item 3.
There are no matters which constitute material pending legal proceedings to which we are a party other than those incorporated into this item by reference from Note 15 to our Consolidated Financial Statements for the year ended May 31, 2021 contained in this Annual Report on Form 10-K.
ITEM 4.MINE SAFETY DISCLOSURES
Not Applicable.
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Supplemental Item:
INFORMATION ABOUT OUR EXECUTIVE OFFICERS
Information concerning each of our executive officers is set forth below:
Name |
| Age |
| Present Position with the Company |
John M. Holmes | | 44 | | Chief Executive Officer and President, Director |
Sean M. Gillen | | 35 | | Vice President and Chief Financial Officer |
Jessica A. Garascia | | 42 | | Vice President, General Counsel, Chief Compliance Officer and Secretary |
Chris Jessup | | 43 | | Vice President, Chief Commercial Officer |
Eric S. Pachapa | | 48 | | Vice President, Controller and Chief Accounting Officer |
Mr. Holmes is Chief Executive Officer and President, having served in that capacity since June 2018. From June 2017 to May 2018, Mr. Holmes served as President and Chief Operating Officer. From February 2015 to June 2017, Mr. Holmes served as Chief Operating Officer – Aviation Services. Prior to that, Mr. Holmes served as Group Vice President, Aviation Services – Inventory Management and Distribution from 2012 to 2015, General Manager and Division President of our Allen Asset Management business from 2003 to 2012, and in various other positions since joining the Company in September 2001. Mr. Holmes has been a director of the Company since 2017.
Mr. Gillen is Vice President and Chief Financial Officer, having served in that capacity since January 2019. Prior to joining AAR, Mr. Gillen was Vice President and Treasurer of USG Corporation since 2017. Prior to USG, Mr. Gillen spent nine years in investment banking with Goldman Sachs, most recently as a Vice President in their Global Industrials Group.
Ms. Garascia is Vice President, General Counsel, Chief Compliance Officer and Secretary, having served in the capacity of General Counsel and Secretary since February 2020 and Chief Compliance Officer since May 2021. Prior to joining the Company, from September 2013 through February 2020, Ms. Garascia served in positions of increasing responsibility for USG Corporation, most recently as Deputy General Counsel. Prior to USG, Ms. Garascia was an attorney for the Museum of Science and Industry and the law firm of Jenner & Block.
Mr. Jessup is Vice President, Chief Commercial Officer, having served in that capacity since June 2017. Mr. Jessup previously served as Chief Commercial Officer for the Company’s Aviation Services segment since February 2015, and prior to that, he served in various capacities within the Company’s Maintenance, Repair and Overhaul business. Prior to joining the Company in 2008, Mr. Jessup was Vice President, Sales and Marketing at Avborne Heavy Maintenance, Inc. in Miami, Florida.
Mr. Pachapa is Vice President, Controller and Chief Accounting Officer, having served in that capacity since July 2016. Mr. Pachapa previously served as Controller since October 2015 and Senior Director of Accounting and Reporting since April 2014. Prior to joining the Company, Mr. Pachapa was with Glanbia plc from 2011 to 2014, and with Ernst & Young LLP from 1996 to 2011.
Each executive officer is elected annually by the Board of Directors. Executive officers continue to hold office until their successors are duly elected or until their death, resignation, termination or reassignment.
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PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock is traded on the New York Stock Exchange and the Chicago Stock Exchange under the symbol “AIR.” On June 30, 2021, there were approximately 820 holders of common stock, including participants in security position listings.
Stockholder Return Performance Graph
The following graph compares the total return on a cumulative basis of $100 invested, and reinvestment of dividends in our common stock on May 31, 2016 to the Standard and Poor’s (“S&P”) 500 Index and the Proxy Peer Group:
The S&P 500 Index is comprised of domestic industry leaders in four major sectors: Industrial, Financial, Utility, and Transportation, and serves as a broad indicator of the performance of the U.S. equity market. The Company’s Fiscal 2021 Proxy Peer Group companies are listed as follows:
Aerojet Rocketdyne Holdings, Inc. |
| Kaman Corporation |
Applied Industrial Technologies, Inc. a | | Moog Inc. |
Barnes Group Inc. | | MSC Industrial Direct Co., Inc. |
CACI International Inc | | Teledyne Technologies Incorporated |
Crane Co. | | The Timken Company a |
Cubic Corporation | | TriMas Corporation |
Curtiss-Wright Corporation | | Triumph Group, Inc. |
Heico Corporation | | Woodward, Inc. |
Hexcel Corporation | | |
| a | New peer group company added for fiscal 2021 due to its business and financial comparability to the Company. |
Two companies were removed from the prior year’s peer group: Esterline Technologies Corporation and Wesco Aircraft Holdings were acquired.
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The Company annually revisits the composition of the peer group to ensure that the Company's performance is measured against those of comparably-sized and situated companies. The mix of the Company's commercial and government/defense markets presents a challenge in constructing a peer group, given that many government/defense contractors have substantially greater resources than the Company.
Dividends
The declaration and payment of cash dividends is at the discretion of our Board of Directors and will be dependent upon our future earnings, cash flows, financial condition, capital requirements and any government restrictions. Specifically, the Payroll Support Program under the CARES Act prohibits the Company from paying stock dividends through September 30, 2021, accordingly no dividend will be paid by the Company prior to that time.
ITEM 6. (Reserved)
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars in millions)
Background and Forward-Looking Statements
The following discussion and analysis of our financial condition and results of operations, and quantitative and qualitative disclosures about market risk should be read in conjunction with our consolidated financial statements and the related notes included in this Form 10-K. For a discussion of the comparison of fiscal 2020 and 2019, refer to Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations of our Annual Report on Form 10-K for the year ended May 31, 2020 (filed July 20, 2020).
Management’s Discussion and Analysis of Financial Condition and Results of Operations contain certain statements relating to future results, which are forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements may also be identified because they contain words such as ‘‘anticipate,’’ ‘‘believe,’’ ‘‘continue,’’ ‘‘could,’’ ‘‘estimate,’’ ‘‘expect,’’ ‘‘intend,’’ ‘‘likely,’’ ‘‘may,’’ ‘‘might,’’ ‘‘plan,’’ ‘‘potential,’’ ‘‘predict,’’ ‘‘project,’’ ‘‘seek,’’ ‘‘should,’’ ‘‘target,’’ ‘‘will,’’ ‘‘would,’’ or similar expressions and the negatives of those terms. These forward-looking statements are based on the beliefs of management, as well as assumptions and estimates based on information available to us as of the dates such assumptions and estimates are made, and are subject to certain risks and uncertainties, including those factors discussed under Item 1A, “Risk Factors,” that could cause actual results to differ materially from those anticipated. Should one or more of those risks or uncertainties materialize adversely, or should underlying assumptions or estimates prove incorrect, actual results may vary materially from those described. Those events and uncertainties are difficult or impossible to predict accurately and many are beyond our control. We assume no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.
General Overview
We report our activities in two business segments: Aviation Services comprised of supply chain and maintenance, repair and overhaul (“MRO”) activities and Expeditionary Services comprised of manufacturing activities.
The Aviation Services segment consists of aftermarket support and services offerings that provide spare parts and maintenance support for aircraft operated by our commercial and government/defense customers. Sales in the Aviation Services segment are derived from the sale and lease of a wide variety of new, overhauled and repaired engine and airframe parts and components to the commercial aviation and government and defense markets. We provide customized inventory supply chain management, performance based logistics programs, customer fleet management and operations, and aircraft component repair management services. The segment also includes repair, maintenance and overhaul of aircraft, landing gear and components. Cost of sales consists principally of the cost of product, direct labor, and overhead.
The Expeditionary Services segment consists of primarily manufacturing operations with sales derived from the design and manufacture of pallets, shelters, and containers used to support the U.S. military’s requirements for a mobile and agile force including engineering, design, and system integration services for specialized command and control systems. Cost of sales consists principally of the cost of material to manufacture products, direct labor and overhead.
Our chief operating decision making officer (Chief Executive Officer) evaluates performance based on the reportable segments and utilizes gross profit as a primary profitability measure. Gross profit is calculated by subtracting cost of sales from sales. The assets and certain expenses related to corporate activities are not allocated to the segments. Our reportable segments are aligned principally around differences in products and services.
Business Trends and Outlook
Fiscal 2021 began with our focus centered on managing through the COVID-19 pandemic to ensure the safety of our team and navigating the unprecedented decline in commercial passenger flight hours. Our sales to commercial customers in fiscal 2021 decreased by $486.8 million or 37.6% from the prior year as the impact from COVID-19 affected all of our commercial businesses.
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To mitigate the impact of COVID-19, we implemented a number of actions since the onset of the COVID-19 pandemic to align our costs with the anticipated lower levels of demand. These actions included facility consolidations, exiting or restructuring several underperforming contracts, and eliminating discretionary spending. We also implemented actions to reduce our fixed and variable cost base which will support improved operating efficiencies and margins as commercial demand recovers.
In addition to these actions, we have also taken steps to focus on our core aviation services offering by continuing the divestiture of non-core businesses. Following the fiscal 2020 exit from our Contractor-Owned, Contractor-Operated (“COCO”) business, we completed the sale of our composites manufacturing business in early fiscal 2021. All of these actions have simplified our portfolio and improved efficiency in our operations to position us to drive higher returns on capital.
As we continued to successfully execute on our recent government contract awards over the last few years, we achieved strong sales growth in fiscal 2021 with our government customers as sales increased $67.1 million or 8.6% over the prior year. This growth was driven from recent contract awards such as the $118 million contract from the Naval Air Systems Command in support of the U.S. Marine Corps for the procurement, modification and delivery of two C-40 aircraft.
During fiscal 2021, we also maintained a strong focus on working capital management with cash flows from operating activities from continuing operations of $108.5 million. Borrowings outstanding under the Revolving Credit Facility were $109.5 million at May 31, 2021 with an availability on the facility of $471.3 million.
Over the long-term, we expect to see strength in our Aviation Services segment given its offerings of value-added services to both commercial and government and defense customers. We believe long-term commercial aftermarket growth trends are favorable. As we continue to experience growth in our government businesses and recovery in some commercial markets, our long-term strategy continues to emphasize investing in the business and capitalizing on opportunities in those markets.
Results of Operations – Fiscal 2021 Compared with Fiscal 2020
Sales and gross profit for our two business segments for the two years ended May 31, 2021 and 2020 were as follows:
| | For the Year Ended May 31, |
| ||||||
|
| 2021 |
| 2020 |
| % Change |
| ||
Sales: |
| |
|
| |
|
|
| |
Aviation Services |
| |
|
| |
|
|
| |
Commercial | | $ | 793.9 | | $ | 1,268.9 |
| (37.4) | % |
Government and defense | |
| 759.8 | |
| 695.3 | | 9.3 | % |
| | $ | 1,553.7 | | $ | 1,964.2 |
| (20.9) | % |
Expeditionary Services | |
|
| |
|
|
|
| |
Commercial | | $ | 12.5 | | $ | 24.3 |
| (48.6) | % |
Government and defense | |
| 86.1 | |
| 83.5 |
| 3.1 | % |
| | $ | 98.6 | | $ | 107.8 |
| (8.5) | % |
| | For the Year Ended May 31, |
| ||||||
|
| 2021 |
| 2020 |
| % Change |
| ||
Gross Profit (Loss): | | |
|
| |
|
|
| |
Aviation Services | | |
|
| |
|
|
| |
Commercial | | $ | 136.2 | | $ | 148.0 |
| (8.0) | % |
Government and defense | |
| 127.0 | |
| 119.3 |
| 6.5 | % |
| | $ | 263.2 | | $ | 267.3 |
| (1.5) | % |
Expeditionary Services | |
|
| |
|
|
|
| |
Commercial | | $ | (1.1) | | $ | (3.6) |
| 69.4 | % |
Government and defense | |
| 13.8 | |
| 5.5 |
| 150.9 | % |
| | $ | 12.7 | | $ | 1.9 |
| 568.4 | % |
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Aviation Services Segment
Sales in the Aviation Services segment decreased $410.5 million or 20.9% from the prior year. Sales to government and defense customers increased $64.5 million or 9.3% primarily attributable to new contracts recently awarded. During fiscal 2021, sales in this segment to commercial customers decreased $475.0 million or 37.4% from the prior year. The decrease in sales to commercial customers was primarily attributable to the impact of COVID-19 and the resultant decrease in commercial passenger air traffic which significantly reduced our volumes in our supply chain and MRO activities.
Changes in estimates and assumptions related to our programs accounted for using the cost-to-cost method are recorded using the cumulative catch-up method of accounting. In fiscal 2021, we recognized favorable and unfavorable cumulative catch-up adjustments of $16.1 million and $4.1 million, respectively, compared to favorable and unfavorable cumulative catch-up adjustments of $6.1 million and $2.2 million, respectively, in fiscal 2020. When considering these adjustments on a net basis, we recognized favorable cumulative catch-up adjustments of $12.0 million and $3.9 million for fiscal 2021 and 2020, respectively. These adjustments primarily relate to our long-term programs where we provide component inventory management and/or repair services.
Cost of sales in Aviation Services decreased $406.4 million or 23.9% from the prior year which was largely in line with the sales decrease of 20.9% discussed above. Gross profit in the Aviation Services segment decreased $4.1 million or 1.5% from the prior year. Gross profit in this segment on sales to commercial customers decreased $11.8 million or 8.0% from the prior year primarily due to the COVID-19 impact discussed above. The impact of COVID-19 on our gross profit on sales to commercial customers was partially mitigated by a net benefit of $53.8 million in government workforce subsidies from the Payroll Support Program in the CARES Act and other subsidies provided by foreign governments.
Gross profit on sales to commercial customers was also impacted in fiscal 2021 from asset impairment charges of $8.4 million. In fiscal 2020, gross profit on sales to commercial customers was impacted by contract termination and restructuring charges of $31.3 million across certain power-by-the-hour contracts, impairment charges of $6.9 million related to the exit of certain product lines across our operations and $4.3 million related to the closure of our Duluth airframe maintenance facility.
The gross profit margin on sales to commercial customers increased to 17.2% from 11.7% in the prior year with the increased margin largely attributable to the net benefit from the government workforce subsidies.
Gross profit on sales to government and defense customers increased $7.7 million or 6.5% over the prior year. Gross profit margin on sales to government and defense customers decreased to 16.7% from 17.2% as the gross profit margin on our recent contract awards is lower than our existing government and defense activity.
Expeditionary Services Segment
Sales in the Expeditionary Services segment decreased $9.2 million or 8.5% from the prior year primarily due to the divestiture of our composites manufacturing business.
Gross profit in the Expeditionary Services segment increased $10.8 million or 568.4% over the prior year due to the divestiture of our composites manufacturing business as it was not profitable in the prior year period. Gross profit margin increased to 12.9% from 1.8% in the prior year primarily as a result of such divestiture.
Provision for Doubtful Accounts
Provision for doubtful accounts increased $3.1 million from the prior year primarily related to increased customer credit charges in fiscal 2021.
Selling, General and Administrative Expenses
Selling, general and administrative expenses decreased $38.2 million from the prior year due to our actions to reduce both our fixed and variable cost structure in light of the reduced commercial volumes resulting from the COVID-19 pandemic. As a percent of sales, selling, general and administrative expenses increased to 11.0% in fiscal 2021 from 10.6% in fiscal 2020. This increase is
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primarily attributable to the significant decrease in commercial sales more than offsetting the favorable impact from the cost reduction actions.
Interest Expense
Interest expense decreased $4.3 million in fiscal 2021 reflecting the impact of both lower average borrowing rates and average borrowings on our Revolving Credit Facility during fiscal 2021.
Income Taxes
Our fiscal 2021 effective income tax rate for continuing operations was 28.2% compared to 18.4% in the prior year. In fiscal 2021, we recognized additional tax expense of $0.7 million for stock compensation while we recognized favorable excess tax benefits of $2.1 million related to stock compensation in fiscal 2020.
Discontinued Operations
Loss from discontinued operations was $10.5 million in fiscal 2021 compared to $20.4 million in the prior year. The fiscal 2021 loss was primarily attributable to an $11.0 million increase in our legal reserve to reflect the agreement with the U.S. Department of Justice to settle their investigation of our COCO business under the federal civil False Claims Act. The prior period loss includes both operating losses incurred by our COCO business prior to the sale of its last operating contract in the fourth quarter of fiscal 2020 and impairment charges of $11.8 million.
Liquidity, Capital Resources and Financial Position
Our operating activities are funded and commitments met through the generation of cash from operations. In addition to operations, our current capital resources include an unsecured Revolving Credit Facility and an accounts receivable financing program. Periodically, we may also raise capital through common stock and debt financings in the public or private markets. We continually evaluate various financing arrangements, including the issuance of common stock or debt, which would allow us to improve our liquidity position and finance future growth on commercially reasonable terms. Our continuing ability to borrow from our lenders and issue debt and equity securities to the public and private markets in the future may be negatively affected by a number of factors, including the overall health of the credit markets, general economic conditions, airline industry conditions, geo-political events, and our operating performance. Our ability to generate cash from operations is influenced primarily by our operating performance and changes in working capital.
We maintain a Revolving Credit Facility with various financial institutions, as lenders, and Bank of America, N.A., as administrative agent for the lenders, which provides the Company an aggregate revolving credit commitment of $600 million that matures September 25, 2024. Under certain circumstances, we have the ability to request, but our lenders are not required to grant, an increase to the revolving credit commitment by an aggregate amount of up to $300 million, not to exceed $900 million in total.
Borrowings under the Revolving Credit Facility bear interest at the offered Eurodollar Rate plus 87.5 to 175 basis points based on certain financial measurements if a Eurodollar Rate loan, or at the offered fluctuating Base Rate plus 0 to 75 basis points based on certain financial measurements if a Base Rate loan.
Borrowings outstanding under the Revolving Credit Facility at May 31, 2021 were $109.5 million and there were approximately $19.2 million of outstanding letters of credit, which reduced the availability of this facility to $471.3 million. There are no other terms or covenants limiting the availability of this facility.
As of May 31, 2021, we also had other financing arrangements that did not limit availability on our Revolving Credit Facility including outstanding letters of credit of $11.6 million and foreign lines of credit of $10.4 million.
On October 18, 2017, we entered into the Credit Agreement with the Canadian Imperial Bank of Commerce, as lender. The Credit Agreement provided a Canadian $31 million term loan with the proceeds used to fund the acquisition of two maintenance, repair, and overhaul facilities in Canada from Premier Aviation. Interest is payable monthly on the term loan at the offered fluctuating Canadian
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Dollar Offer Rate plus 125 to 225 basis points based on certain financial measurements if a Bankers’ Acceptances loan, or at the offered fluctuating Prime Rate plus 25 to 125 basis points based on certain financial measurements, if a Prime Rate loan.
The term loan under the Credit Agreement is due in full at the expiration of the Credit Agreement on November 1, 2021. We intend to retire this loan at maturity using proceeds from our Revolving Credit Facility.
We maintain a Purchase Agreement with Citibank N.A. (“Purchaser”) for the sale, from time to time, of certain accounts receivable due from certain customers (the “Purchase Agreement”). Under the Purchase Agreement, the maximum amount of receivables sold is limited to $150 million and Purchaser may, but is not required to, purchase the eligible receivables we offer to sell. The term of the Purchase Agreement runs through February 22, 2022, however, the Purchase Agreement may also be terminated earlier under certain circumstances. The term of the Purchase Agreement shall be automatically extended for annual terms unless either party provides advance notice that they do not intend to extend the term.
We have no retained interests in the sold receivables, other than limited recourse obligations in certain circumstances, and only perform collection and administrative functions for the Purchaser. We account for these receivable transfers as sales under ASC 860, Transfers and Servicing, and de-recognize the sold receivables from our Consolidated Balance Sheet.
Receivables sold under the Purchase Agreement during fiscal 2021, 2020, and 2019 were $440.6 million, $746.4 million, and $744.2 million, respectively. Amounts remitted to the Purchaser on their behalf during fiscal 2021, 2020, and 2019 were $476.3 million, $758.3 million, and $729.7 million, respectively. As of May 31, 2021 and May 31, 2020, we had collected cash of $8.4 million and $20.0 million, respectively, which was not yet remitted to the Purchaser as of those dates and was classified as Restricted cash on our Consolidated Balance Sheets.
At May 31, 2021, we complied with all financial and other covenants under each of our financing arrangements.
Cash Flows – Fiscal 2021 Compared with Fiscal 2020
Cash Flows from Operating Activities
Net cash provided from operating activities–continuing operations was $108.5 million in fiscal 2021 compared to cash used of $19.1 million in fiscal 2020. The increase from the prior period of $127.6 million was primarily attributable to a reduction in inventory levels and the proceeds of a $48.5 million grant from the Payroll Support Program of the CARES Act. These items were partially offset by a $25 million license fee paid to Unison Industries for our expanded and extended exclusive distribution agreement and the timing of our cash receipts and disbursements on long-term programs.
Cash Flows from Investing Activities
Net cash used in investing activities–continuing operations was $0.5 million in fiscal 2021 compared to $24.8 million in fiscal 2020. The decrease over the prior period was primarily related to lower expenditures for property and equipment in the current year period as compared to the prior year period. In addition, we received proceeds of $10.0 million from the termination of split-dollar life insurance policies in fiscal 2021.
Cash Flows from Financing Activities
Net cash used in financing activities–continuing operations was $469.5 million in fiscal 2021 compared to cash provided of $444.5 million in fiscal 2020. The decrease was primarily related to the repayment in fiscal 2021 of the additional draw down on our Revolving Credit Facility from late fiscal 2020. These funds were originally drawn in late fiscal 2020 as a precautionary measure in light of the economic and market uncertainty presented by COVID-19.
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Contractual Obligations and Off-Balance Sheet Arrangements
A summary of contractual cash obligations and off-balance sheet arrangements as of May 31, 2021 is as follows:
| | Payments Due by Period | |||||||||||||||||||
| | | | | Due in | | Due in | | Due in | | Due in | | Due in | | After | ||||||
| | | | | Fiscal | | Fiscal | | Fiscal | | Fiscal | | Fiscal | | Fiscal | ||||||
|
| Total |
| 2022 |
| 2023 |
| 2024 |
| 2025 |
| 2026 |
| 2026 | |||||||
On Balance Sheet: |
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
Bank borrowings | | $ | 135.2 | | $ | 25.7 | | $ | — | | $ | — | | $ | 109.5 | | $ | — | | $ | — |
Facilities and equipment operating leases | |
| 84.9 | |
| 13.7 | |
| 11.9 | |
| 9.9 | |
| 8.8 | |
| 7.7 | |
| 32.9 |
Interest1 | | | 7.2 | | | 2.2 | | | 2.2 | | | 2.1 | | | 0.7 | | | — | | | — |
| | | | | | | | | | | | | | | | | | | | | |
Off Balance Sheet: | |
| | |
| | |
| | |
| | |
| | |
| | |
| |
Purchase obligations2 | |
| 381.7 | |
| 102.2 | |
| 208.5 | |
| 53.0 | |
| 15.2 | |
| 2.0 | |
| 0.8 |
Pension contribution3 | |
| 2.3 | |
| 2.3 | |
| — | |
| — | |
| — | |
| — | |
| — |
Notes:
| 1 | Interest associated with variable rate debt was determined using the interest rate in effect on May 31, 2021. |
| 2 | Purchase obligations arise in the ordinary course of business and represent a binding commitment to acquire inventory, including raw materials, parts, and components, as well as equipment to support the operations of our business. |
| 3 | Our contribution policy for the domestic plans is to contribute annually, at a minimum, an amount which is deductible for federal income tax purposes and that is sufficient to meet actuarially computed pension benefits. For our Netherlands pension plan, our policy is to fund at least the minimum amount required by the local laws and regulations. We anticipate contributing approximately $2.3 million to our pension plans during fiscal 2022. |
We routinely issue letters of credit and performance bonds in the ordinary course of business. These instruments are typically issued in conjunction with insurance contracts or other business requirements. The total of these instruments outstanding at May 31, 2021 was $30.8 million.
Critical Accounting Policies and Significant Estimates
Our Consolidated Financial Statements are prepared in conformity with accounting principles generally accepted in the United States. Management has made estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent liabilities to prepare the Consolidated Financial Statements. The most significant estimates made by management include those related to assumptions used in assessing goodwill impairment, adjustments to reduce the value of inventories and certain rotable assets, revenue recognition, allowance for doubtful accounts, and assumptions used in determining pension plan obligations. Accordingly, actual results could differ materially from those estimates. The following is a summary of the accounting policies considered critical by management.
Goodwill
Under accounting standards for goodwill and other intangible assets, goodwill and other intangible assets deemed to have indefinite lives are not amortized, but are subject to annual impairment tests. We review and evaluate our goodwill and indefinite life intangible assets for potential impairment at a minimum annually, on May 31, or more frequently if circumstances indicate that impairment is possible.
The accounting standards for goodwill allow for either a qualitative or quantitative approach for the annual impairment test. Under the qualitative approach, factors such as macroeconomic conditions, industry and market conditions and company-specific events or circumstances are assessed to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. When the quantitative approach is utilized, we compare the fair value of each reporting unit with the carrying value of the reporting unit, including goodwill. If the estimated fair value of the reporting unit is less than the carrying value of the reporting unit, we would be required to recognize an impairment loss for the excess carrying value of the reporting unit’s assets.
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As of May 31, 2021, we had three reporting units, which included two in our Aviation Services segment (Aviation Supply Chain and Maintenance, Repair, and Overhaul) and one comprised of our Expeditionary Services segment. In fiscal 2021 and 2019, we utilized the qualitative assessment approach for all reporting units. Under this approach, we considered the overall industry and market conditions related to the aerospace and government/defense markets as well as conditions in the global capital markets. We also considered the long-term forecasts for each reporting unit, which incorporated specific opportunities and risks, working capital requirements, and capital expenditure needs. We concluded it was more likely than not that the fair value of each reporting unit exceeded its carrying value at the respective measurement dates, and thus no impairment charges were recorded in those fiscal years.
In fiscal 2020, we elected to forego the qualitative assessment due to the unprecedented impact of COVID-19 and utilized a quantitative assessment approach for all reporting units. We estimated the fair value of each reporting unit using primarily an income approach based on discounted cash flows. The assumptions we used to estimate the fair value of our reporting units are based on historical performance, as well as forecasts used in our business plan, and required considerable management judgment in light of the impact of COVID-19. Our Aviation Services reporting units were impacted by the reduced numbers of commercial aircraft flying and the overall decline in flight hours. We incorporated the decline in demand from commercial airline customers followed by a multiple year recovery as passenger miles and flight hours progressively increase.
We used discount rates based on our consolidated weighted average cost of capital which was adjusted for each of our reporting units based on their specific risk, size, and industry characteristics. The fair value measurements used for our goodwill impairment testing used significant unobservable inputs, which reflected our own assumptions about the inputs that market participants would use in measuring fair value. The fair value of our reporting units is also impacted by our overall market capitalization and may be impacted by volatility in our stock price and assumed control premium, among other items.
Upon completion of the annual quantitative goodwill impairment analysis as of May 31, 2020 for our reporting units, we concluded the fair value of each reporting unit exceeded its carrying values, and thus no impairment charges were recorded.
We also evaluate the sensitivity of the discounted cash flow valuations by assessing the impact of changes in certain assumptions on the estimated fair value of each reporting unit by increasing the discount rates and/or adjusting our business plan assumptions including slower recovery of sales from COVID-19 and reduced profitability. All of our reporting units would have had fair values substantially in excess of their carrying values under all our sensitivity scenarios.
Inventories
Inventories are valued at the lower of cost or market (estimated net realizable value). Cost is determined by the specific identification, average cost or first-in, first-out methods. Write-downs are made for excess and obsolete inventories and inventories that have been impaired as a result of industry conditions. We have utilized certain assumptions when determining the market value of inventories, such as inventory quantities and aging, historical sales of inventory, current and expected future aviation usage trends, replacement values, expected future demand, and historical scrap recovery rates. Reductions in demand for certain of our inventories or declining market values, as well as differences between actual results and the assumptions utilized by us when determining the market value of our inventories, could result in the recognition of impairment charges in future periods.
In conjunction with the decision to exit certain product lines and facilities, we recognized inventory impairment charges of $3.9 million in fiscal 2020. We also recognized rotable asset impairment charges of $1.9 million in fiscal 2020 in conjunction with reclassifying the rotable assets as inventory held for sale. In fiscal 2021, we recognized additional impairment charges of $1.4 million on these assets.
Revenue Recognition
Revenue is measured based on consideration specified in a contract with a customer, and excludes any sales incentives and amounts collected on behalf of third parties. We recognize revenue when we satisfy a performance obligation by transferring control over a product or service to a customer.
Our unit of accounting for revenue recognition is a performance obligation included in our customer contracts. A performance obligation reflects the distinct good or service that we must transfer to a customer. At contract inception, we evaluate if the contract should be accounted for as a single performance obligation or if the contract contains multiple performance obligations. In some cases,
27
our contract with the customer is considered one performance obligation as it includes factors such as whether the good or service being provided is significantly integrated with other promises in the contract, whether the service provided significantly modifies or customizes another good or service or whether the good or service is highly interdependent or interrelated. If the contract has more than one performance obligation, we determine the standalone price of each distinct good or service underlying each performance obligation and allocate the transaction price based on their relative standalone selling prices.
The transaction price of a contract, which can include both fixed and variable amounts, is allocated to each performance obligation identified. Some contracts contain variable consideration, which could include incremental fees or penalty provisions related to performance. Variable consideration that can be reasonably estimated based on current assumptions and historical information is included in the transaction price at the inception of the contract but limited to the amount that is probable that a significant reversal in the amount of cumulative revenue recognized will not occur. Variable consideration that cannot be reasonably estimated is recorded when known.
Our performance obligations are satisfied over time as work progresses or at a point in time based on transfer of control of products and services to our customers. The majority of our sales from products are recognized at a point in time upon transfer of control to the customer, which generally occurs upon shipment. In connection with certain sales of products, we also provide logistics services, which include inventory management, replenishment, and other related services. The price of such services is generally included in the price of the products delivered to the customer, and revenues are recognized upon delivery of the product, at which point the customer has obtained control of the product. We do not account for these services separate from the related product sales as the services are inputs required to fulfill part orders received from customers.
For our performance obligations that are satisfied over time, we measure progress in a manner that depicts the performance of transferring control to the customer. As such, we utilize the input method of cost-to-cost to recognize revenue over time as this depicts when control of the promised goods or services are transferred to the customer. Revenue is recognized based on the relationship of actual costs incurred to date to the estimated total cost at completion of the performance obligation. We are required to make certain judgments and estimates, including estimated revenues and costs, as well as inflation and the overall profitability of the arrangement. Key assumptions involved include future labor costs and efficiencies, overhead costs, and ultimate timing of product delivery. Differences may occur between the judgments and estimates made by management and actual program results.
Changes in estimates and assumptions related to our arrangements accounted for using the cost-to-cost method are recorded using the cumulative catch-up method of accounting. These changes are primarily adjustments to the estimated profitability for our long-term programs where we provide component inventory management and/or repair services.
When contracts are modified, we consider whether the modification either creates new or changes the existing enforceable rights and obligations. Contract modifications that are for goods or services that are not distinct from the existing contract, due to the significant integration with the original goods or services provided, are accounted for as if they were part of that existing contract with the effect of the contract modification recognized as an adjustment to revenue on a cumulative catch-up basis. When the modifications include additional performance obligations that are distinct, they are accounted for as a new contract and performance obligation, which are recognized prospectively.
Under most of our U.S. government contracts, if the contract is terminated for convenience, we are entitled to payment for items delivered and fair compensation for work performed, the costs of settling and paying other claims, and a reasonable profit on the costs incurred or committed.
Shipping and handling fees and costs incurred associated with outbound freight after control over a product has transferred to a customer are accounted for as a fulfillment cost and are included in Cost of sales on our Consolidated Statements of Income, and are not considered a performance obligation to our customers. Our reported sales on our Consolidated Statements of Income are net of any sales or related non-income taxes. We also utilize the “as invoiced” practical expedient in certain cases where performance obligations are satisfied over time and the invoiced amount corresponds directly with the value we are providing to the customer.
The timing of revenue recognition, customer billings, and cash collections results in a contract asset or contract liability at the end of each reporting period. Contract assets consist of unbilled receivables or costs incurred where revenue recognized over time using the cost-to-cost model exceeds the amounts billed to customers. Contract liabilities include advance payments and billings in excess of revenue recognized. Certain customers make advance payments prior to the satisfaction of our performance obligations on the contract.
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These amounts are recorded as contract liabilities until such performance obligations are satisfied, either over time as costs are incurred or at a point in time when deliveries are made. Contract assets and contract liabilities are determined on a contract-by-contract basis.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts to reflect the expected uncollectibility of accounts receivable based on past collection history and specific risks identified among uncollected accounts. In determining the required allowance, we consider factors such as general and industry-specific economic conditions, customer credit history, and our customers’ current and expected future financial performance. The majority of our customers are recurring customers with an established payment history. Certain customers are required to undergo an extensive credit check prior to delivery of products or services.
We perform regular evaluations of customer payment experience, current financial condition, and risk analysis. We may require collateral in the form of security interests in assets, letters of credit, and/or obligation guarantees from financial institutions for transactions executed on other than normal trade terms. We also maintain trade credit insurance for certain customers to provide coverage, up to a certain limit, in the event of insolvency of some customers.
In fiscal 2019, we recognized a provision for doubtful accounts of $12.4 million related to the bankruptcy of a European airline customer. The provision consisted of impairment of non-current contract assets of $7.6 million, allowance for doubtful accounts of $3.3 million, and other liabilities of $1.5 million.
In addition, we currently have past due accounts receivable owed by former commercial program customers primarily related to our exit from customer contracts in certain geographies, including Colombia, Peru, and Spain. Our past due accounts receivable owed by these customers was $4.7 million as of May 31, 2021 which was net of allowance for doubtful accounts of $8.8 million.
Impairment of Long-Lived Assets
We are required to test for impairment of long-lived assets whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable from its undiscounted cash flows. When applying accounting standards addressing impairment of long-lived assets, we have utilized certain assumptions to estimate future undiscounted cash flows, including current and future sales volumes or lease rates, expected changes to cost structures, lease terms, residual values, market conditions, and trends impacting future demand. Differences between actual results and the assumptions utilized by us when determining undiscounted cash flows could result in future impairments of long-lived assets. We recognized pre-tax asset impairment charges related to our COCO business of $11.8 million and $74.1 million in fiscal 2020 and 2019, respectively, related to assets included in our COCO business, which is classified as a discontinued operation. In our Expeditionary Services segment, we consolidated manufacturing facilities and recognized impairment and related charges of $2.6 million during fiscal 2021.
We maintain a significant inventory of rotable parts and equipment to service customer aircraft and components. Portions of that inventory are used parts that are often exchanged with parts removed from aircraft or components, and are reworked to a useable condition. We may have to recognize an impairment of our rotable parts and equipment if we discontinue using or servicing certain aircraft models or if an older aircraft model is phased-out in the industry. In light of declines in commercial airline volumes and commercial program contract terminations, we evaluated future cash flows related to certain rotable assets supporting long-term programs and recognized asset impairment charges of $5.8 million and $1.9 million in fiscal 2021 and 2020, respectively.
Pension Plans
The projected benefit obligation for our benefit plans exceeds our plan assets by $0.6 million as of May 31, 2021. This underfunded position is driven by our Netherlands plan where its projected benefit obligation exceeds its plan assets by $6.6 million. For our U.S. plans, assets exceed the projected benefit obligations by $6.0 million.
The liabilities and net periodic cost of our pension plans are determined utilizing several actuarial assumptions, the most significant of which are the discount rate and the expected long-term rate of return on plan assets.
AAR uses discount rates to measure our benefit obligation and net periodic benefit cost for our pension plans. We used a broad population of Aa-rated corporate bonds as of May 31, 2021 to determine the discount rate assumption. All bonds were denominated in U.S. Dollars, with a minimum outstanding of $50.0 million. This population of bonds was narrowed from a broader universe of over
29
500 Moody’s Aa-rated, non-callable (or callable with make-whole provisions) bonds by eliminating the top 10th percentile and the bottom 40th percentile to adjust for any pricing anomalies and to represent the bonds we would most likely select if we were to actually annuitize our pension plan liabilities. This portfolio of bonds was used to generate a yield curve and associated spot rate curve to discount the projected benefit payments for the domestic plans. The discount rate is the single level rate that produces the same result as the spot rate curve.
We establish the long-term asset return assumption based on a review of historical compound average asset returns, both company-specific and relating to the broad market, as well as analysis of current market and economic information and future expectations. The current asset return assumption is supported by historical market experience for both our actual and target asset allocation. In calculating the net pension cost, the expected return on assets is applied to a calculated value on plan assets, which recognizes changes in the fair value of plan assets in a systematic manner over five years. The difference between this expected return and the actual return on plan assets is a component of the total net unrecognized gain or loss and is subject to amortization in the future.
New Accounting Pronouncements Adopted
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments. This ASU requires a change in the measurement approach for credit losses on financial assets measured on an amortized cost basis from an incurred loss method to an expected loss method, thereby eliminating the requirement that a credit loss be considered probable to impact the valuation of a financial asset measured on an amortized cost basis. This ASU also requires the measurement of expected credit losses to be based on relevant information about past events, including historical experience, current conditions, and a reasonable and supportable forecast of the collectability of the related financial asset. Our adoption of this ASU on June 1, 2020 did not have a material impact on our Consolidated Financial Statements.
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ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk includes fluctuating interest rates under our credit agreements, changes in foreign exchange rates, and credit losses on accounts receivable. See Note 1 of Notes to Consolidated Financial Statements for a discussion on accounts receivable exposure.
We are exposed to the risk that our earnings and cash flows could be adversely impacted by fluctuations in interest rates. A 10 percent increase in the average interest rate affecting our financial instruments, including the average outstanding balance of our debt obligations would not have had a significant impact on our pre-tax income during fiscal 2021.
Revenues and expenses of our foreign operations are translated at average exchange rates during the year, and balance sheet accounts are translated at year-end exchange rates. Balance sheet translation adjustments are excluded from the results of operations and are recorded in stockholders’ equity as a component of accumulated other comprehensive loss. A hypothetical 10 percent devaluation of the U.S. dollar against foreign currencies would not have had a material impact on our financial position or continuing operations during fiscal 2021.
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ITEM 8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
AAR CORP.:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of AAR CORP. and subsidiaries (the Company) as of May 31, 2021 and 2020, the related consolidated statements of income, comprehensive income (loss), changes in equity, and cash flows for each of the years in the three year period ended May 31, 2021, and the related notes (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of May 31, 2021 and 2020, and the results of its operations and its cash flows for each of the years in the three year period ended May 31, 2021, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of May 31, 2021, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated July 20, 2021 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Change in Accounting Principle
As discussed in Note 1 to the consolidated financial statements, the Company has changed its method of accounting for leases as of June 1, 2019 due to the adoption of Accounting Standards Update No. 2016-02, Leases.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matters
The critical audit matters communicated below are matters arising from the current period audit of the consolidated financial statements that were communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.
Assessment of the write-down of inventories
As discussed in Note 1 to the consolidated financial statements, the inventory balance as of May 31, 2021 was $540.6 million. The Company records inventory within the Aviation Services segment at the lower of cost or net realizable value. The write-
32
down of slow moving inventory is recorded for excess or obsolete inventory based on certain inputs and assumptions used to determine the net realizable value. These assumptions include the number of days transpiring from the date the inventory was originally received and the historical sales of inventory to determine recovery rates. Other inputs include current and expected future aviation usage trends, replacement values, expected future demand, and historical scrap recovery rates.
We identified the assessment of the write-down of inventories for a portion of the inventory within the Aviation Services segment as a critical audit matter. The primary inputs and assumptions used in determining the write-down of slow moving inventory include the historical recovery rates, which are based on the number of days transpiring from the date the inventory was originally received, the historical sales of inventory, and the identification of specific inventories associated with aircraft with declining usage trends. The assessment of these inputs required a higher degree of subjective auditor judgment in evaluating the future customer demand for slow moving inventory.
The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls over the Company’s inventory process, including controls over the Company’s evaluation of the impact on the estimate of net realizable value based on 1) the number of days transpiring from the date the inventory was originally received, 2) historical sales of inventory, and 3) specific inventories associated with aircraft with declining usage trends. We also tested relevant information technology application controls over the determination of the number of days transpiring from the date the inventory was originally received. We evaluated the write-down to determine that it was recorded using the Company’s policy based on the number of days transpiring from the date the inventory was originally received and the recovery rates of existing inventory based on historical sales. We also assessed that the recovery rates applied to slow moving inventory were consistent with historical sales of these inventory items. We assessed the identification of specific inventory with declining usage trends by evaluating external industry information.
Evaluation of the estimate of costs at completion of certain performance obligations
As discussed in Note 1 to the consolidated financial statements, for revenue in the Aviation Services segment with performance obligations that are satisfied over time, the Company recognizes revenue using the cost-to-cost input method, which depicts when control of the promised goods or services are transferred to the customer. Revenue is recognized based on the relationship of costs incurred to date to the estimated total costs at completion of the performance obligation. The net favorable cumulative catch-up adjustments recognized during fiscal year 2021 associated with Aviation Services revenue recognized over time totaled $12.0 million, which resulted from changes in the estimated billings and costs at completion of the performance obligations.
We identified the evaluation of the estimate of total costs at completion of the performance obligations for certain contracts within the Aviation Services segment as a critical audit matter. The key inputs and assumptions used in determining the revenue to be recognized include current and future costs to support the program, and future labor costs. The testing of the key inputs and assumptions required the application of subjective auditor judgment because of the estimation uncertainty associated with the inputs and assumptions.
The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls over the Company’s revenue process, including controls over 1) the assessment of the estimated future costs, 2) actual costs incurred for each performance obligation that are used by the Company in their assessment of the measure of progress, and 3) the approval of costs recorded for each performance obligation to assess the allowability per the contract. We obtained the Company’s forecast for the cost of a selection of Aviation Services revenue contracts and assessed that the measure of progress was determined using actual costs to date plus the estimated future costs to support the satisfaction of performance obligations. We selected a sample of contract costs where revenue is recognized over time to test actual fiscal year 2021 program costs by comparing them to underlying documentation. We evaluated the Company’s historical estimates to assess their consistency with the Company’s historical actual costs.
| /s/ KPMG LLP |
| |
We have served as the Company’s auditor since 1985. | |
| |
Chicago, Illinois | |
July 20, 2021 | |
33
AAR CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
| | (In millions, except per share data) | |||||||
Sales: | | | | | | | | | |
Sales from products | | $ | | | $ | | | $ | |
Sales from services | |
| | |
| | |
| |
| |
| | |
| | |
| |
Costs and operating expenses: | | | | | | | | | |
Cost of products | |
| | |
| | |
| |
Cost of services | |
| | |
| | |
| |
Provision for doubtful accounts | | | | | | | | | |
Selling, general and administrative | |
| | |
| | |
| |
| |
| | |
| | |
| |
Earnings (Loss) from joint ventures | | | | | | ( | | | ( |
Operating income | |
| | |
| | |
| |
Loss on sale of business | | | ( | | | — | | | — |
Other income (expense), net | | | | | | ( | | | ( |
Interest expense | |
| ( | |
| ( | |
| ( |
Interest income | |
| | |
| | |
| |
Income from continuing operations before provision for income taxes | | | | | | | | | |
Provision for income taxes | | | | | | | | | |
Income from continuing operations | | | | | | | | | |
Loss from discontinued operations, net of tax | | | ( | | | ( | | | ( |
Net income | | $ | | | $ | | | $ | |
| | | | | | | | | |
Earnings per share – basic: | | | | | | | | | |
Earnings from continuing operations | | $ | | | $ | | | $ | |
Loss from discontinued operations | | | ( | | | ( | | | ( |
Earnings per share – basic | | $ | | | $ | | | $ | |
| | | | | | | | | |
Earnings per share – diluted: | | | | | | | | | |
Earnings from continuing operations | | $ | | | $ | | | $ | |
Loss from discontinued operations | | | ( | | | ( | | | ( |
Earnings per share – diluted | | $ | | | $ | | | $ | |
The accompanying notes to consolidated financial statements are an integral part of these statements.
34
AAR CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
| | For the Year Ended May 31, |
| |||||||
|
| 2021 |
| 2020 |
| 2019 |
| |||
| | (In millions) |
| |||||||
Net income | | $ | | | $ | | | $ | | |
Other comprehensive income (loss), net of tax: | | | | | | | | | | |
Currency translation adjustments, net of tax | |
| | |
| | |
| ( | |
Unrecognized pension and post retirement costs, net of tax benefit (expense) of $ | |
| | |
| ( | |
| ( | |
Total other comprehensive income (loss), net of tax | |
| | |
| ( | |
| ( | |
Comprehensive income (loss) | | $ | | | $ | | | $ | ( | |
The accompanying notes to consolidated financial statements are an integral part of these statements.
35
AAR CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
| | (In millions, except share data) | ||||
Current assets: | | |
| | |
|
Cash and cash equivalents | | $ | | | $ | |
Restricted cash | | | | | | |
Accounts receivable, net | | | | | | |
Contract assets | | | | | | |
Inventories | |
| | |
| |
Rotable assets and equipment on or available for short-term lease | |
| | |
| |
Assets of discontinued operations | | | | | | |
Prepaid expenses and other current assets | | | | | | |
Total current assets | |
| | |
| |
| | | | | | |
Property, plant and equipment, at cost: | | | | | | |
Land | | | | | | |
Buildings and improvements | | | | | | |
Equipment and furniture and fixtures | | | | | | |
| | | | | | |
Accumulated depreciation | | | ( | | | ( |
| | | | | | |
| | | | | | |
Other assets: | | | | | | |
Goodwill and intangible assets, net | |
| | |
| |
Operating lease right-of-use assets, net | | | | | | |
Rotable assets supporting long-term programs | | | | | | |
Other non-current assets | |
| | |
| |
| |
| | |
| |
| | $ | | | $ | |
The accompanying notes to consolidated financial statements are an integral part of these statements.
36
AAR CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
LIABILITIES AND EQUITY
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
| | (In millions, except share data) | ||||
Current liabilities: | | |
| | |
|
Accounts payable | |
| | |
| |
Accrued liabilities | |
| | |
| |
Liabilities of discontinued operations | | | | | | |
Total current liabilities | |
| | |
| |
| | | | | | |
Long-term debt | |
| | |
| |
Operating lease liabilities | | | | | | |
Deferred revenue on long-term contracts | |
| | |
| |
Other liabilities | |
| | |
| |
| |
| | |
| |
Equity: | | | | | | |
Preferred stock, $ | |
| |
| ||
Common stock, $ | |
| | |
| |
Capital surplus | |
| | |
| |
Retained earnings | |
| | |
| |
Treasury stock, | |
| ( | |
| ( |
Accumulated other comprehensive loss | |
| ( | |
| ( |
Total equity | |
| | |
| |
| | $ | | | $ | |
The accompanying notes to consolidated financial statements
are an integral part of these statements.
37
AAR CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
FOR THE THREE YEARS ENDED MAY 31, 2020
(In millions) | | | | | | | | | | | | | | Accumulated | | | | |
| | | | | | | | | | | | | | Other | | | ||
| | Common | | Capital | | Retained | | Treasury | | Comprehensive | | Total | ||||||
|
| Stock |
| Surplus |
| Earnings |
| Stock |
| Income (Loss) |
| Equity | ||||||
Balance, May 31, 2018 | | $ | | | $ | | | $ | | | $ | ( | | $ | ( | | $ | |
Cumulative effect adjustment upon adoption of ASC 606 on June 1, 2018 | | | — | | | — | | | ( | | | — | | | — | | | ( |
Net income | |
| — | |
| — | |
| | |
| — | |
| — | |
| |
Cash dividends | |
| — | |
| — | |
| ( | |
| — | |
| — | |
| ( |
Stock option activity | |
| — | |
| | |
| — | |
| | |
| — | |
| |
Restricted stock activity | |
| — | |
| | |
| — | |
| ( | |
| — | |
| |
Repurchase of shares | |
| — | | | — | | | — | | | ( | | | — | | | ( |
Other comprehensive loss, net of tax | |
| — | |
| — | |
| — | |
| — | |
| ( | |
| ( |
Balance, May 31, 2019 | | $ | | | $ | | | $ | | | $ | ( | | $ | ( | | $ | |
Cumulative effect adjustment upon adoption of ASC 842 on June 1, 2019 | | | — | | | — | | | | | | — | | | — | | | |
Net income | |
| — | |
| — | |
| | |
| — | |
| — | |
| |
Cash dividends | |
| — | |
| — | |
| ( | |
| — | |
| — | |
| ( |
Stock option activity | |
| — | |
| | |
| — | |
| | |
| — | |
| |
Restricted stock activity | |
| — | |
| ( | |
| — | |
| | |
| — | |
| ( |
Repurchase of shares | | | — | | | — | | | — | | | ( | | | — | | | ( |
Other comprehensive loss, net of tax | |
| — | |
| — | |
| — | |
| — | |
| ( | | | ( |
Balance, May 31, 2020 | | $ | | | $ | | | $ | | | $ | ( | | $ | ( | | $ | |
Net income | |
| — | |
| — | |
| | |
| — | |
| — | |
| |
Cash dividends | |
| — | |
| — | |
| ( | |
| — | |
| — | |
| ( |
Stock option activity | |
| — | |
| | |
| — | |
| | |
| — | |
| |
Restricted stock activity | |
| — | |
| ( | |
| — | |
| | |
| — | |
| |
Other comprehensive income, net of tax | |
| — | |
| — | |
| — | |
| — | |
| | | | |
Balance, May 31, 2021 | | $ | | | $ | | | $ | | | $ | ( | | $ | ( | | $ | |
The accompanying notes to consolidated financial statements are an integral part of these statements.
38
AAR CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In millions) | For the Year Ended May 31, | ||||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Cash flows provided from (used in) operating activities: | | |
| | |
| | |
|
Net income | | $ | | | $ | | | $ | |
Less: Loss from discontinued operations | | | ( | | | ( | | | ( |
Income from continuing operations | | | | | | | | | |
Adjustments to reconcile income to net cash provided from (used in) operating activities: | | | | | | | | | |
Depreciation and intangible amortization | |
| | |
| | |
| |
Stock-based compensation expense | |
| | |
| | |
| |
Provision for doubtful accounts | | | | | | | | | |
Deferred tax provision (benefit) | | | | | | | | | ( |
Loss (Earnings) from joint ventures | | | ( | | | | | | |
Customer contract termination and restructuring costs | | | | | | | | | — |
Impairment charges | |
| | |
| | |
| — |
Loss on sale of business | | | | | | — | | | — |
Changes in certain assets and liabilities, net of acquisitions: | | | | | | | | | |
Accounts receivable | |
| ( | |
| | |
| ( |
Contract assets | | | ( | | | | | | ( |
Inventories | |
| | |
| ( | |
| ( |
Prepaid expenses and other current assets | | | | | | ( | | | ( |
Rotable assets supporting long-term programs | |
| | |
| ( | |
| ( |
Accounts payable | |
| ( | |
| | |
| |
Accrued and other liabilities | |
| | | | | | | |
Deferred revenue on long-term programs | | | ( | |
| ( | |
| |
Other | |
| ( | |
| ( | |
| |
Net cash provided from (used in) operating activities—continuing operations | |
| | |
| ( | |
| |
Net cash provided from (used in) operating activities—discontinued operations | | | ( | | | ( | | | |
Net cash provided from (used in) operating activities | | | | | | ( | | | |
Cash flows used in investing activities: | | | | | | | | | |
Property, plant and equipment expenditures | |
| ( | |
| ( | |
| ( |
Proceeds from termination of life insurance policies | | | | | | — | | | — |
Other | | | | | | ( | | | ( |
Net cash used in investing activities–continuing operations | | | ( | | | ( | | | ( |
Net cash used in investing activities—discontinued operations | | | — | | | — | | | ( |
Net cash used in investing activities | |
| ( | |
| ( | |
| ( |
Cash flows provided from (used in) financing activities: | | | | | | | | | |
Short-term borrowings (repayments), net | |
| ( | |
| | |
| ( |
Repayments on long-term borrowings | |
| — | | | — | | | ( |
Cash dividends | |
| ( | |
| ( | |
| ( |
Purchase of treasury stock | |
| — | |
| ( | |
| ( |
Stock compensation activity | |
| | |
| | |
| |
Other | |
| — | |
| ( | |
| — |
Net cash provided from (used in) financing activities—continuing operations | |
| ( | |
| | |
| ( |
Net cash used in financing activities—discontinued operations | | | — | | | — | | | ( |
Net cash provided from (used in) financing activities | | | ( | | | | | | ( |
Effect of exchange rate changes on cash | |
| | |
| — | |
| ( |
Increase (Decrease) in cash and cash equivalents | |
| ( | |
| | |
| ( |
Cash, cash equivalents, and restricted cash at beginning of year | |
| | |
| | |
| |
Cash, cash equivalents, and restricted cash at end of year | | $ | | | $ | | | $ | |
The accompanying notes to consolidated financial statements
are an integral part of these statements.
39
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies
Description of Business
AAR CORP. (the “Company”) is a diversified provider of services and products to the worldwide commercial aviation and government and defense markets. Services and products include: aviation supply chain and parts support programs; customer fleet management and operations; maintenance, repair and overhaul of airframes, landing gear, and certain other airframe components; design and manufacture of specialized pallets, shelters, and containers; aircraft modifications and aircraft and engine sales and leasing. We serve commercial, government and defense aircraft fleet operators, original equipment manufacturers, and independent service providers around the world, and various other domestic and foreign military customers.
Principles of Consolidation
The accompanying Consolidated Financial Statements include the accounts of the Company and its majority-owned subsidiaries after elimination of intercompany accounts and transactions.
Certain reclassifications have been made to the 2020 presentation to conform to the 2021 presentation.
New Accounting Pronouncements Adopted
In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-13, Financial Instruments—Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments. This ASU requires a change in the measurement approach for credit losses on financial assets measured on an amortized cost basis from an incurred loss method to an expected loss method, thereby eliminating the requirement that a credit loss be considered probable to impact the valuation of a financial asset measured on an amortized cost basis. This ASU also requires the measurement of expected credit losses to be based on relevant information about past events, including historical experience, current conditions, and a reasonable and supportable forecast of the collectability of the related financial asset. Our adoption of this ASU on June 1, 2020 did not have a material impact on our Consolidated Financial Statements.
In February 2016, the FASB issued ASU No. 2016-02, Leases (“ASC 842”), which amended the existing accounting standards for lease accounting. ASC 842 requires lessees to recognize a right-of-use (“ROU”) asset and lease liability on the balance sheet for most lease arrangements, including those classified as operating leases. In addition, ASC 842 requires new qualitative and quantitative disclosures about our leasing activities.
We adopted ASC 842 on June 1, 2019 using the modified retrospective transition approach. Under that approach, prior periods have not been restated and continue to be reported under the accounting standards in effect for those periods. We elected the package of practical expedients, which must be elected as a package and applied consistently to all leases. This package permitted us to not reassess our prior conclusions about lease identification, lease classification and initial direct costs. In addition, we elected the practical expedients to not separate lease and non-lease components for both lessee and lessor relationships and to not apply the recognition requirements to leases with terms of less than twelve months.
Upon adoption of ASC 842 on June 1, 2019, we recognized operating lease ROU assets of $
40
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (“ASC 606”), which provides guidance for revenue recognition. ASC 606 superseded the revenue recognition requirements in Accounting Standards Codification (“ASC”) 605, Revenue Recognition, and most industry-specific guidance.
We adopted ASC 606 on June 1, 2018 using the modified retrospective method. Under that approach, prior periods were not restated and continue to be reported under the accounting standards in effect for those periods. We elected to use the allowing for the application of ASC 606 only to contracts that were not completed as of June 1, 2018. We recognized the cumulative effect of initially applying ASC 606 as a decrease of $
Revenue Recognition
Revenue is measured based on consideration specified in a contract with a customer, and excludes any sales incentives and amounts collected on behalf of third parties. We recognize revenue when we satisfy a performance obligation by transferring control over a product or service to a customer.
Our unit of accounting for revenue recognition is a performance obligation included in our customer contracts. A performance obligation reflects the distinct good or service that we must transfer to a customer. At contract inception, we evaluate if the contract should be accounted for as a single performance obligation or if the contract contains multiple performance obligations. In some cases, our contract with the customer is considered one performance obligation as it includes factors such as whether the good or service being provided is significantly integrated with other promises in the contract, whether the service provided significantly modifies or customizes another good or service or whether the good or service is highly interdependent or interrelated. If the contract has more than one performance obligation, we determine the standalone price of each distinct good or service underlying each performance obligation and allocate the transaction price based on their relative standalone selling prices.
The transaction price of a contract, which can include both fixed and variable amounts, is allocated to each performance obligation identified. Some contracts contain variable consideration, which could include incremental fees or penalty provisions related to performance. Variable consideration that can be reasonably estimated based on current assumptions and historical information is included in the transaction price at the inception of the contract but limited to the amount that is probable that a significant reversal in the amount of cumulative revenue recognized will not occur. Variable consideration that cannot be reasonably estimated is recorded when known.
Our performance obligations are satisfied over time as work progresses or at a point in time based on transfer of control of products and services to our customers. The majority of our sales from products typically represent distinct performance obligations and are recognized at a point in time upon transfer of control to the customer, which generally occurs upon shipment. In connection with certain sales of products, we also provide logistics services, which include inventory management, replenishment, and other related services. The price of such services is generally included in the price of the products delivered to the customer, and revenues are recognized upon delivery of the product, at which point the customer has obtained control of the product. We do not account for these services separate from the related product sales as the services are inputs required to fulfill part orders received from customers.
For our performance obligations that are satisfied over time, we measure progress in a manner that depicts the performance of transferring control to the customer. As such, we utilize the input method of cost-to-cost to recognize revenue over time as this depicts when control of the promised goods or services are transferred to the customer. Revenue is recognized based on the relationship of actual costs incurred to date to the estimated total cost at completion of the performance obligation. We are required to make certain judgments and estimates, including estimated revenues and costs, as well as inflation and the overall profitability of the arrangement. Key assumptions involved can include customer volume, future labor costs and efficiencies, repair or overhaul costs, overhead costs, and ultimate timing of product delivery. Differences may occur between the judgments and estimates made by management and actual program results. For contracts that are deemed to be loss contracts, we establish forward loss reserves for total estimated costs that are in excess of total estimated consideration in the period in which they become known.
41
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
When contracts are modified, we consider whether the modification either creates new or changes the existing enforceable rights and obligations. Contract modifications that are for goods or services that are not distinct from the existing contract, due to the significant integration with the original goods or services provided, are accounted for as if they were part of that existing contract with the effect of the contract modification recognized as an adjustment to revenue on a cumulative catch-up basis. When the modifications include additional performance obligations that are distinct, they are accounted for as a new contract and performance obligation, which are recognized prospectively.
Under most of our U.S. government contracts, if the contract is terminated for convenience, we are entitled to payment for items delivered and fair compensation for work performed, the costs of settling and paying other claims, and a reasonable profit on the costs incurred or committed.
We have elected to use certain practical expedients permitted under ASC 606. Shipping and handling fees and costs incurred associated with outbound freight after control over a product has transferred to a customer are accounted for as a fulfillment cost and are included in Cost of sales on our Consolidated Statements of Income, and are not considered a performance obligation to our customers. Our reported sales on our Consolidated Statements of Income are net of any sales or related non-income taxes. We also utilize the “as invoiced” practical expedient in certain cases where performance obligations are satisfied over time and the invoiced amount corresponds directly with the value we are providing to the customer.
Cumulative Catch-up Adjustments
Changes in estimates and assumptions related to our arrangements accounted for using the cost-to-cost method are recorded using the cumulative catch-up method of accounting. These changes are primarily adjustments to the estimated profitability for our long-term programs where we provide component inventory management and/or repair services.
Favorable and unfavorable cumulative catch-up adjustments were as follows:
| | | | | | | | | |
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Favorable cumulative catch-up adjustments | | $ | | | $ | | | $ | |
Unfavorable cumulative catch-up adjustments | |
| ( | |
| ( | |
| ( |
Net cumulative catch-up adjustments | | $ | | | $ | | | $ | |
Contract Assets and Liabilities
The timing of revenue recognition, customer billings, and cash collections results in a contract asset or contract liability at the end of each reporting period. When an unconditional right to consideration exists, we record an unbilled receivable. When amounts are dependent on factors other than the passage of time in order for payment from a customer to be due, we record a contract asset which consists of costs incurred where revenue recognized over time using the cost-to-cost model exceeds the amounts billed to customers. Contract liabilities include advance payments and billings in excess of revenue recognized. Certain customers make advance payments prior to the satisfaction of our performance obligations on the contract. These amounts are recorded as contract liabilities until such performance obligations are satisfied, either over time as costs are incurred or at a point in time when deliveries are made. Contract assets and contract liabilities are determined on a contract-by-contract basis.
42
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
Net contract assets and liabilities are as follows:
| | May 31, |
| | | ||||
|
| 2021 |
| 2020 |
| Change | |||
Contract assets – current | | $ | | | $ | | | $ | |
Contract assets – non-current | |
| | |
| | |
| ( |
Contract liabilities – current | |
| ( | |
| ( | |
| ( |
Deferred revenue on long-term contracts | |
| ( | |
| ( | |
| |
Net contract assets (liabilities) | | $ | | | $ | ( | | $ | |
Contract assets – non-current is reported within Other non-current assets, and Contract liabilities – current is reported within Accrued Liabilities on our Consolidated Balance Sheet. Changes in contract assets and contract liabilities primarily result from the timing difference between our performance of services and payments from customers.
During the fiscal 2021 and 2020, we terminated or restructured certain commercial power-by-the-hour (“PBH”) customer contracts resulting in charges of $
As of May 31, 2021, our Consolidated Balance Sheet included remaining forward loss reserves of $
One of our PBH customers notified us in June 2021 that the contract would be terminating earlier than originally anticipated. In conjunction with the early termination, we expect to recognize contract asset and rotable asset impairment charges of $
To support our PBH customer contracts, we previously entered into an agreement with a component repair facility to outsource a portion of the component repair and overhaul services. The agreement included certain minimum repair volume guarantees which we have not met due to the impact of COVID-19 on commercial passenger aircraft flight hours. During fiscal 2021, we recognized a $
Changes in our deferred revenue were as follows:
| | | | | | |
| | | ||||
| | Year ended May 31, | ||||
|
| 2021 |
| 2020 | ||
Deferred revenue at beginning of period | | $ | | $ | ( | |
Revenue deferred | |
| ( | |
| ( |
Revenue recognized | |
| | |
| |
Other | |
| | |
| |
Deferred revenue at end of period | | $ | ( | | $ | ( |
43
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
Remaining Performance Obligations
As of May 31, 2021, we had approximately $
Financial Instruments and Concentrations of Market or Credit Risk
Financial instruments that potentially subject us to concentrations of market or credit risk consist principally of trade receivables. While our trade receivables are diverse and represent a number of entities and geographic regions, the majority are with the U.S. government and its contractors and entities in the aviation industry. The composition of our accounts receivable is as follows:
| | | | | | |
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
U.S. Government contracts: | | | | | | |
Trade receivables | | $ | | | $ | |
Unbilled receivables | |
| | |
| |
| |
| | |
| |
All other customers: | |
|
| |
|
|
Trade receivables | |
| | |
| |
Unbilled receivables | |
| | |
| |
| |
| | |
| |
| | $ | | | $ | |
In addition, we currently have past due accounts receivable owed by former commercial program customers primarily related to our exit from customer contracts in certain geographies, including Colombia, Peru, and Spain. Our past due accounts receivable owed by these customers was $
The carrying amounts of cash and cash equivalents, accounts receivable, and accounts and trade notes payable approximate fair value because of the short-term maturity of these instruments. The carrying value of long-term debt bearing a variable interest rate approximates fair value.
Fair value estimates are made at a specific point in time based on relevant market information about the financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts to reflect the expected uncollectibility of accounts receivable based on past collection history and specific risks identified among uncollected accounts. In determining the required allowance, we consider factors such as general and industry-specific economic conditions, customer credit history, and our customers’ current and expected future financial performance. The majority of our customers are recurring customers with an established payment history. Certain customers are required to undergo an extensive credit check prior to delivery of products or services.
44
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
Our allowance for doubtful accounts also includes reserves for estimated product returns based on historical return rates. The reserve for estimated product returns is recognized as a reduction to sales with a corresponding reduction to cost of sales for the estimated cost of inventory that is expected to be returned.
We perform regular evaluations of customer payment experience, current financial condition, and risk analysis. We may require collateral in the form of security interests in assets, letters of credit, and/or obligation guarantees from financial institutions for transactions executed on other than normal trade terms. We also maintain trade credit insurance for certain customers to provide coverage, up to a certain limit, in the event of insolvency of some customers.
In fiscal 2019, we recognized a provision for doubtful accounts of $
The change in our allowance for doubtful accounts was as follows:
| | | | | | | | | |
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Balance, beginning of year | | $ | | $ | | | $ | | |
Provision charged to operations | |
| | |
| | |
| |
Recoveries, deductions for accounts written off and other reclassifications | |
| ( | |
| |
| ( | |
Balance, end of year | | $ | | | $ | | | $ | |
Goodwill and Other Intangible Assets
In accordance with ASC 350, Intangibles–Goodwill and Other, goodwill and other intangible assets deemed to have indefinite lives are not amortized, but are subject to annual impairment tests. We review and evaluate our goodwill and indefinite life intangible assets for potential impairment at a minimum annually, on May 31, or more frequently if circumstances indicate that impairment is possible.
As of May 31, 2021, we had
In fiscal 2020, we elected to forego the qualitative assessment due to the unprecedented impact of the COVID-19 pandemic and utilized a quantitative assessment approach for all reporting units. We estimated the fair value of each reporting unit using primarily an income approach based on discounted cash flows. The assumptions we used to estimate the fair value of our reporting units were based on historical performance, as well as forecasts used in our business plan and required considerable management judgment in light of the impact of COVID-19. We used discount rates based on our consolidated weighted average cost of capital which is adjusted for each of our reporting units based on their specific risk, size, and industry characteristics. The fair value measurements used for our goodwill impairment testing use significant unobservable inputs, which reflected our own assumptions about the inputs that market participants would use in measuring fair value. The fair value of our reporting units is also impacted by our overall market capitalization and may be impacted by volatility in our stock price and assumed control premium, among other items. We concluded the fair value of each reporting unit exceeded its carrying values as of May 31, 2020, and thus
45
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
Changes in the carrying amount of goodwill by segment for fiscal 2021 and 2020 are as follows:
| | | | | | | | | |
| | Aviation | | Expeditionary | | | | ||
|
| Services |
| Services |
| Total | |||
Balance as of May 31, 2019 | | $ | | | $ | | | $ | |
Foreign currency translation adjustments |
| | ( | | | — | | | ( |
Balance as of May 31, 2020 |
| | |
| | |
| | |
Sale of Composites | | | — | | | ( | | | ( |
Foreign currency translation adjustments | | | | | | — | | | |
Balance as of May 31, 2021 | | $ | | | $ | | | $ | |
Intangible assets with finite useful lives are amortized on a straight-line basis over their estimated useful lives. Intangible assets, other than goodwill, are comprised of the following:
| | May 31, 2021 | |||||||
| | | | | Accumulated | | | | |
Amortizable intangible assets: |
| Gross |
| Amortization |
| Net | |||
Customer relationships | | $ | | | $ | ( | | $ | |
Unamortized intangible assets: | | | | | | | | | |
Trademarks | |
| | |
| — | |
| |
| | $ | | | $ | ( | | $ | |
| | May 31, 2020 | |||||||
| | | | | Accumulated | | | | |
Amortizable intangible assets: |
| Gross |
| Amortization |
| Net | |||
Customer relationships | | $ | | | $ | ( | | $ | |
Unamortized intangible assets: | | | | | | | | | |
Trademarks | |
| | |
| — | |
| |
| | $ | | | $ | ( | | $ | |
In conjunction with the adoption of ASC 842 on June 1, 2019, our net intangible asset for lease agreements of $
Customer relationships are being amortized over
Foreign Currency
Our foreign subsidiaries utilize the local currency as their functional currency. All balance sheet accounts of foreign subsidiaries transacting business in currencies other than the U.S. dollar are translated at year-end exchange rates. Revenues and expenses are translated at average exchange rates during the year. Translation adjustments are excluded from the results of operations and are recorded in stockholders’ equity as a component of accumulated other comprehensive loss until such subsidiaries are liquidated.
46
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
Cash
Cash and cash equivalents consist of highly liquid instruments which have original maturities of three months or less when purchased. Restricted cash represents cash on hand required to be set aside by a contractual agreement related to receivable securitization arrangements. Generally, the restrictions related to the receivable securitization arrangements lapse at the time we remit the customer payments collected by us as servicer of previously sold customer receivables to the purchaser.
Inventories
Inventories are valued at the lower of cost or market (estimated net realizable value). Cost is determined by the specific identification, average cost, or first-in, first-out methods. From time-to-time, we purchase aircraft and engines for disassembly to individual parts and components. Costs are assigned to these individual parts and components utilizing list prices from original equipment manufacturers and recent sales history. Expenditures for the repair of parts and components are capitalized as inventory.
The following is a summary of inventories:
| | | | | | | |
| | May 31, |
| ||||
|
| 2021 |
| 2020 |
| ||
Aircraft and engine parts, components and finished goods | | $ | | | $ | | |
Raw materials and parts | | | | | | | |
Work-in-process | |
| | |
| | |
| | $ | | | $ | | |
Rotable Assets and Equipment under Leases
The cost of the asset under lease is the original purchase price plus overhaul costs. Depreciation is computed using the straight-line method over the estimated service life of the equipment. The balance sheet classification of equipment under lease is generally based on lease term, with fixed-term leases less than twelve months generally classified as short-term and all others generally classified as long-term.
Equipment on short-term lease includes aircraft engines and parts on or available for lease to satisfy customers’ immediate short-term requirements. The leases are renewable with fixed terms, which generally vary from to
Property, Plant and Equipment and Other Non-Current Assets
We record property, plant and equipment at cost. Depreciation is computed on the straight-line method over useful lives of
Repair and maintenance expenditures are expensed as incurred. Upon sale or disposal, cost and accumulated depreciation are removed from the accounts, and related gains and losses are included in results of operations.
Rotable assets supporting long-term programs consist of rotable component parts used to support long-term supply chain programs. The assets are being depreciated on a straight-line basis over their estimated useful lives.
47
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
In accordance with ASC 360, Property, Plant and Equipment, we are required to test for impairment of long-lived assets whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable from its undiscounted cash flows. We utilize certain assumptions to estimate future undiscounted cash flows, including demand for our services, future market conditions and trends, business development pipeline of opportunities, current and future lease rates, lease terms, and residual values.
In our Aviation Services segment, we evaluated future cash flows related to certain rotable assets supporting long-term programs in light of declines in commercial airline volumes and commercial program contract terminations We recognized asset impairment charges of $
In conjunction with the decision to exit certain product lines, we recognized rotable asset impairment charges of $
Future rent due to us under non-cancelable leases during each of the next five fiscal years is $
Investments
Investments where we have the ability to exercise significant influence, but do not control the entity, are accounted for under the equity method of accounting. Significant influence generally exists if we have a 20% to 50% ownership interest in the investee. Our share of the net earnings or loss of our investees is included in operating income on our Consolidated Statements of Income since the activities of the investees are closely aligned with our operations. Equity investments in entities over which we do not have the ability to exercise significant influence and whose securities do not have a readily determinable fair value are carried at cost less impairment, if any, adjusted for changes resulting from qualifying observable price changes.
We evaluate our investments for impairment whenever events or changes in circumstances indicate that the carrying amounts of such investments may be impaired. If a decline in the value of an investment is determined to be other than temporary, a loss is recorded in earnings in the current period.
Our investments are classified in Other non-current assets on our Consolidated Balance Sheets. Distributions from joint ventures are classified as operating or investing activities in the Consolidated Statements of Cash Flows based upon an evaluation of the specific facts and circumstances of each distribution.
Restructuring and Other Exit Costs
We recognize charges for restructuring and other exit costs such as product line exits and facility closures at their fair value when incurred. In cases where employees are required to render service until they are terminated in order to receive the termination benefits and will be retained beyond the minimum retention period, we record the expense ratably over the future service period.
During fiscal 2021 and 2020, we incurred severance and furlough-related costs of $
48
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
1. Summary of Significant Accounting Policies (Continued)
Income Taxes
We are subject to income taxes in the U.S., state, and several foreign jurisdictions. In the ordinary course of business, there can be transactions and calculations where the ultimate tax determination is uncertain. We recognize deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns in accordance with applicable accounting guidance for accounting for income taxes, using currently enacted tax rates in effect for the year in which the differences are expected to reverse.
We record a valuation allowance when necessary to reduce deferred tax assets to the amount expected to be realized. Deferred tax assets are reduced by a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Both positive and negative evidence are considered in forming our judgment as to whether a valuation allowance is appropriate, and more weight is given to evidence that can be objectively verified. Valuation allowances are reassessed whenever there are changes in circumstances that may cause a change in judgment.
The accounting for uncertainty in income taxes requires a more-likely-than-not threshold for financial statement recognition of tax positions taken or expected to be taken in a tax return. Where necessary, we record a liability for the difference between the benefit recognized for financial statement purposes and the tax position taken or expected to be taken on our tax return. To the extent that our assessment of such tax positions changes, the change in estimate is recorded in the period in which the determination is made.
Supplemental Information on Cash Flows
Supplemental information on cash flows is as follows:
| | | | | | | | | |
| | For the Year Ended | |||||||
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Interest paid | | $ | | | $ | | | $ | |
Income taxes paid | |
| | |
| | |
| |
Income tax refunds and interest received | |
| | |
| | |
| |
During fiscal 2021, treasury stock decreased $
During fiscal 2020, treasury stock decreased $
During fiscal 2019, treasury stock increased $
Use of Estimates
We have made estimates and utilized certain assumptions relating to the reporting of assets and liabilities and the disclosures of contingent liabilities to prepare these Consolidated Financial Statements in conformity with accounting principles generally accepted in the United States. Actual results could differ from those estimates.
49
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
2. Discontinued Operations
During the third quarter of fiscal 2018, we decided to pursue the sale of our Contractor-Owned, Contractor-Operated (“COCO”) business previously included in our Expeditionary Services segment. Due to this strategic shift, the assets, liabilities, and results of operations of our COCO business have been reported as discontinued operations for all periods presented. Unless otherwise noted, amounts and disclosures throughout these Notes to Consolidated Financial Statements relate to our continuing operations.
In the fourth quarter of fiscal 2020, we completed the sale of the last operating contract of the COCO business shortly after government approval. Our continuing involvement in the COCO business is limited to the lease of certain aircraft which is an obligation of the acquirer of this contract. The assets and liabilities of our discontinued operations are primarily comprised of right-of-use assets, lease-related liabilities and reserves for certain legal proceedings which are discussed in Note 15.
3. Sale of Receivables
On February 23, 2018, we entered into a Purchase Agreement with Citibank N.A. (“Purchaser”) for the sale, from time to time, of certain accounts receivable due from certain customers (the “Purchase Agreement”). Under the Purchase Agreement, the maximum amount of receivables sold is limited to $
We have
Receivables sold under the Purchase Agreement during fiscal 2021, 2020, and 2019 were $
We recognize discounts on the sale of our receivables and other fees related to the Purchase Agreement in Other expense, net on our Consolidated Statements of Income. During fiscal 2021, 2020 and 2019, we incurred discounts on the sale of our receivables and other fees of $
50
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
4. Financing Arrangements
Debt Outstanding
A summary of the carrying amount of our debt is as follows:
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
Revolving Credit Facility expiring September 25, 2024 with interest payable monthly | | $ | | | $ | |
Term loan due November 1, 2021 with interest payable monthly | | | | | | |
Total debt | |
| | |
| |
Debt issuance costs, net | | | ( | | | ( |
Long-term debt | | $ | | | $ | |
At May 31, 2021, our variable rate debt had a fair value that approximates its carrying value and is classified as Level 2 in the fair value hierarchy.
On October 18, 2017, we entered into a Credit Agreement with the Canadian Imperial Bank of Commerce, as lender (the “Credit Agreement”). The Credit Agreement provided a Canadian $
We maintain a Revolving Credit Facility with various financial institutions, as lenders, and Bank of America, N.A., as administrative agent for the lenders, which provides the Company an aggregate revolving credit commitment of $
Borrowings under the Revolving Credit Facility bear interest at the offered Eurodollar Rate plus
Borrowings outstanding under the Revolving Credit Facility at May 31, 2021 were $
The term loan under the Credit Agreement that matures on November 1, 2021 has been classified as a long-term liability due to our intent and ability to refinance this loan on a long-term basis using our Revolving Credit Facility.
Our financing arrangements also require us to comply with leverage and interest coverage ratios, maintain a minimum net working capital level, and comply with certain affirmative and negative covenants, including those relating to financial reporting and notification, payment of indebtedness, cash dividends, taxes and other obligations, compliance with applicable laws, and limitations on additional liens, indebtedness, acquisitions, investments and disposition of assets. The Revolving Credit Facility also requires our significant domestic subsidiaries, and any subsidiaries that guarantee our other indebtedness, to provide a guarantee of payment under the Revolving Credit Facility. At May 31, 2021, we were in compliance with the financial and other covenants in our financing agreements.
51
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
4. Financing Arrangements (Continued)
Borrowing activity under the Revolving Credit Facility during fiscal 2021, 2020 and 2019 is as follows:
| | For the Year Ended May 31, | | |||||||
|
| 2021 |
| 2020 |
| 2019 |
| |||
Maximum amount borrowed | | $ | | | $ | | | $ | | |
Average daily borrowings | |
| | |
| | |
| | |
Average interest rate during the year | |
| | % |
| | % |
| | % |
We also have $
5. Equity
Stock-Based Compensation
We have granted stock-based awards under the AAR CORP. 2013 Stock Plan, as Amended and Restated Effective July 13, 2020 (the “2013 Stock Plan”) and the AAR CORP. Stock Benefit Plan (“Stock Benefit Plan”) each of which has been approved by our stockholders. No further awards will be made under the Stock Benefit Plan. Under the 2013 Stock Plan, we are authorized to issue stock options to employees and non-employee directors that allow the grant recipients to purchase shares of common stock at a price not less than the fair market value of the common stock on the date of grant. Generally, stock options awarded expire
Restricted stock grants (whether time-based or performance-based) are designed, among other things, to align employee interests with the interests of stockholders and to encourage the recipient to build a career with us. Restricted stock typically vests over periods of to
Substantially all stock options and restricted stock are subject to forfeiture prior to vesting if the employee’s employment terminates for any reason other than death, disability or retirement. Since inception, a total of
52
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
5. Equity (Continued)
Stock Options
During fiscal 2021, 2020, and 2019, we granted stock options with respect to
| | Stock Options Granted |
| ||||
| | In Fiscal Year |
| ||||
|
| 2021 |
| 2020 |
| 2019 |
|
Risk-free interest rate | | | % | | % | | % |
Expected volatility of common stock |
| | % | | % | | % |
Dividend yield |
| | % | | % | | % |
Expected option term in years |
| | | | |||
The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant. The expected volatility is based on historical volatility of our common stock, and the expected option term represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The dividend yield represents our anticipated cash dividends at the grant date over the expected option term.
A summary of stock option activity for the three years ended May 31, 2021 consisted of the following (shares in thousands):
| | 2021 | | 2020 | | 2019 | |||||||||
| | | | Weighted | | | | Weighted | | | | Weighted | |||
| | | | Average | | | | Average | | | | Average | |||
|
| Shares |
| Exercise Price |
| Shares |
| Exercise Price |
| Shares |
| Exercise Price | |||
Outstanding at beginning of year | | | | $ | | | | | $ | | | | | $ | |
Granted |
| | | | |
| | | | |
| | | | |
Exercised |
| ( | | | |
| ( | | | |
| ( | | | |
Cancelled |
| ( | | | |
| ( | | | |
| ( | | | |
Outstanding at end of year |
| | | $ | |
| | | $ | |
| | | $ | |
Options exercisable at end of year |
| | | $ | |
| | | $ | |
| | | $ | |
The total fair value of stock options that vested during fiscal 2021, 2020, and 2019 was $
53
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
5. Equity (Continued)
Restricted Stock
We provide executives and other key employees an opportunity to be awarded performance-based and time-based restricted stock. The performance-based awards are contingent upon the achievement of certain objectives, which generally include cumulative income, average return on capital, and relative total shareholder return over a three-year performance period. Performance-based restricted shares of
The fair value of restricted shares is the market value of our common stock on the date of grant. Expense recognized in selling, general and administrative expenses for all restricted share programs during fiscal 2021, 2020, and 2019 was $
Restricted share activity during fiscal 2021 was as follows (shares in thousands):
|
| |
| Weighted Average | |
| | Number of | | Fair Value | |
|
| Shares |
| on Grant Date | |
Nonvested at May 31, 2020 |
| | | $ | |
Granted |
| | | | |
Vested |
| ( | | | |
Forfeited |
| ( | | | |
Nonvested at May 31, 2021 |
| | | | |
As of May 31, 2021 we had $
6. Income Taxes
The provision for income tax on income from continuing operations includes the following components:
| | For the Year Ended | |||||||
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Current: | | | | | | | | | |
Federal | | $ | | | $ | | | $ | |
State | |
| | |
| | |
| |
Foreign | |
| | |
| | |
| |
| |
| | |
| | |
| |
Deferred | |
| | |
| | | | ( |
| | $ | | | $ | | | $ | |
54
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
6. Income Taxes (Continued)
The provision for income taxes on pre-tax income differs from the amount computed by applying the U.S. federal statutory income tax rate of
| | For the Year Ended | |||||||
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Provision for income tax at the federal statutory rate | | $ | | | $ | | | $ | |
Tax expense (benefits) from stock-based compensation | | | | | | ( | | | ( |
State income taxes, net of federal benefit | | | | | | | | | |
Change in valuation allowance for state deferred tax assets | | | — | | | ( | | | ( |
Effective settlement of prior tax positions | |
| — | |
| — | |
| ( |
Other | |
| | |
| | |
| ( |
Provision for income tax | | $ | | | $ | | | $ | |
Income before provision for income taxes includes the following components:
| | For the Year Ended | |||||||
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Domestic | | $ | | | $ | | | $ | |
Foreign | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
Our foreign earnings are comprised primarily of the results of our operations in the United Kingdom, Canada, and the Netherlands.
Deferred tax assets and liabilities result primarily from the differences in the timing of the recognition of transactions for financial reporting and income tax purposes. Our deferred tax assets and liabilities consist of the following components:
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
Deferred tax assets: | | |
| | |
|
Operating lease liabilities | | $ | | | $ | |
Employee and retirement benefits | | | | | | |
State net operating losses | | | | | | |
Allowance for doubtful accounts | | | | | | |
Credits and incentives | | | | | | |
Other | |
| | |
| |
Total deferred tax assets | | | | | | |
Deferred tax liabilities: | | | | | | |
Tangible and intangible assets | | | ( | | | ( |
ROU operating lease assets | |
| ( | |
| ( |
Other | |
| ( | |
| ( |
Total deferred tax liabilities | | | ( | | | ( |
Net deferred tax assets (liabilities) | | $ | ( | | $ | |
55
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
6. Income Taxes (Continued)
As of May 31, 2021, we have determined that the realization of our deferred tax assets is more likely than not and that a valuation allowance is not required. Our net operating losses have carry forward periods that range from
Income tax payable was $
Our federal income tax returns for fiscal years 2018 and subsequent are open for examination. Various states and foreign jurisdictions also remain open subject to their applicable statute of limitations.
7. Earnings Per Share
The computation of basic earnings per share is based on the weighted average number of common shares outstanding during each period. The computation of diluted earnings per share is based on the weighted average number of common shares outstanding during the period plus, when their effect is dilutive, incremental shares consisting of shares subject to stock options and shares issuable upon vesting of restricted stock awards.
In accordance with ASC 260-10-45, Share-Based Payment Arrangements and Participating Securities and the Two-Class Method, our unvested restricted stock awards are deemed participating securities since these shares are entitled to participate in dividends declared on common shares. During periods of net income, the calculation of earnings per share for common stock excludes income attributable to unvested restricted stock awards from the numerator and excludes the dilutive impact of those shares from the denominator. During periods of net loss,
56
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
7. Earnings Per Share (Continued)
The following tables provide a reconciliation of the computations of basic and diluted earnings per share information for each of the years in the three-year period ended May 31, 2021 (shares in millions).
| | For the Year Ended | |||||||
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Basic and Diluted EPS: | | | | | | | | | |
Income from continuing operations | | $ | | | $ | | | $ | |
Less income attributable to participating shares | |
| ( | |
| ( | |
| ( |
Income from continuing operations attributable to common stockholders | | | | | | | | | |
Loss from discontinued operations attributable to common stockholders | | | ( | | | ( | | | ( |
Net income attributable to common stockholders for earnings per share | | $ | | | $ | | | $ | |
| | | | | | | | | |
| | | | | | | | | |
Weighted average common shares outstanding - basic | |
| | |
| | |
| |
Additional shares from assumed exercise of stock options | | | | | | | | | |
Weighted average common shares outstanding - diluted | | | | | | | | | |
| | | | | | | | | |
Earnings per share – basic: | | | | | | | | | |
Earnings from continuing operations | | $ | | | $ | | | $ | |
Loss from discontinued operations | |
| ( | |
| ( | |
| ( |
Earnings per share - basic | | $ | | | $ | | | $ | |
| | | | | | | | | |
Earnings per share – diluted: | | | | | | | | | |
Earnings from continuing operations | | $ | | | $ | | | $ | |
Loss from discontinued operations | |
| ( | |
| ( | |
| ( |
Earnings per share - diluted | | $ | | | $ | | | $ | |
At May 31, 2021, 2020 and 2019 respectively, outstanding options to purchase
8. Employee Benefit Plans
Defined Benefit Plans
Prior to January 1, 2000, the pension plan for domestic salaried and non-union hourly employees (“U.S. Retirement Plan”) had a benefit formula based primarily on years of service and compensation. Effective January 1, 2000, we converted our defined benefit plan for substantially all domestic salaried and certain hourly employees to a cash balance pension plan. Under the cash balance pension plan, the retirement benefit is expressed as a dollar amount in an account that grows with annual pay-based credits and interest on the account balance. The interest crediting rate under our cash balance plan is determined quarterly and is equal to
Our domestic plans also include a defined benefit pension plan for certain union hourly employees in which benefits are based primarily on a fixed amount per year of service. This plan was frozen in fiscal 2018.
57
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
8. Employee Benefit Plans (Continued)
We also have a defined benefit pension plan covering certain employees in the Netherlands. Benefit formulas are based generally on years of service and compensation.
We also have a benefit plan which provides benefits to certain retired outside directors. In fiscal 2001, we froze the plan for any new members of the Board of Directors and no current directors participate in this plan.
The change to our projected benefit obligation and the fair value of our plan assets for our pension plans was as follows:
| | | | | | |
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
Change in projected benefit obligation: | | | | | | |
Projected benefit obligation at beginning of year | | $ | | | $ | |
Service cost | |
| | |
| |
Interest cost | |
| | |
| |
Participant contributions | |
| | |
| |
Net actuarial (gain) loss | |
| ( | |
| |
Benefits and administrative payments | |
| ( | |
| ( |
Settlements | | | ( | | | ( |
Curtailment | | | ( | | | — |
Foreign currency translation adjustment | |
| | |
| — |
Projected benefit obligation at end of year | | $ | | | $ | |
| | | | | | |
Change in the fair value of plan assets: | | | | | | |
Fair value of plan assets at beginning of year | | $ | | | $ | |
Actual return on plan assets | |
| | |
| |
Employer contributions | |
| | |
| |
Participant contributions | |
| | |
| — |
Benefits and administrative payments, including settlements | |
| ( | |
| ( |
Foreign currency translation adjustment | |
| | |
| — |
Fair value of plan assets at end of year | | $ | | | $ | |
Funded status at end of year | | $ | ( | | $ | ( |
Amounts recognized in the Consolidated Balance Sheets consisted of the following:
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
Other non-current assets | | $ | | | $ | — |
Accrued liabilities | | | ( | | | ( |
Other liabilities | | | ( | | | ( |
Funded status at end of year | | $ | ( | | $ | ( |
Accumulated other comprehensive loss | | $ | | | $ | |
58
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
8. Employee Benefit Plans (Continued)
The following tables provide the projected benefit obligation, accumulated benefit obligation, and fair value of plan assets for all pension plans with a projected benefit obligation or accumulated benefit obligation in excess of plan assets:
| | May 31, | ||||
Projected benefit obligation in excess of plan assets |
| 2021 |
| 2020 | ||
Projected benefit ohbligation | | $ | | | $ | |
Fair value of plan assets | |
| | |
| |
| | May 31, | ||||
Accumulated benefit obligation in excess of plan assets |
| 2021 |
| 2020 | ||
Projected benefit obligation | | $ | | | $ | |
Accumulated benefit obligation | |
| | |
| |
Fair value of plan assets | |
| | |
| |
The accumulated benefit obligation for all pension plans was $
Net Periodic Benefit Cost
Pension expense charged to the Consolidated Statements of Income includes the following components:
| | For the Year Ended | |||||||
| | May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Service cost | | $ | | | $ | | | $ | |
Interest cost | |
| | |
| | |
| |
Expected return on plan assets | |
| ( | |
| ( | |
| ( |
Settlements | | | | | | | | | |
Amortization of prior service credit | |
| — | |
| — | |
| ( |
Recognized net actuarial loss | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
The non-service cost components above are classified in Other income (expense), net on the Statements of Income. The estimated amount of net actuarial loss to be amortized from accumulated other comprehensive loss into expense during fiscal 2022 is $
59
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
8. Employee Benefit Plans (Continued)
Assumptions
The assumptions used in accounting for our plans are estimates of factors including, among other things, the amount and timing of future benefit payments. The following table presents the key weighted-average assumptions used in the measurement of our projected benefit obligations:
| | May 31, |
| ||
|
| 2021 |
| 2020 |
|
Discount rate: | | | | | |
Domestic plans |
| | % | | % |
International plan |
| | | | |
| | | | | |
Rate of compensation increase: | | | | | |
Domestic plans |
| n/a | | n/a | |
International plans |
| | % | | % |
A summary of the weighted-average assumptions used to determine net periodic pension expense is as follows:
| | For the Year Ended |
| ||||
| | May 31, |
| ||||
|
| 2021 |
| 2020 |
| 2019 |
|
Discount rate: | | | | | | | |
Domestic plans |
| | % | | % | | % |
International plan |
| | | | | | |
| | | | | | | |
Expected long-term rate on plan assets: | | | | | | | |
Domestic plans |
| | % | | % | | % |
International plan |
| | | | | | |
The discount rate was determined by projecting the expected future benefit payments as defined for the projected benefit obligation, discounting those expected payments using a theoretical zero-coupon spot yield curve derived from a universe of high-quality bonds as of the measurement date, and solving for the single equivalent discount rate that resulted in the same projected benefit obligation.
Plan Assets
The following table sets forth the actual asset allocation and target allocations for our U.S. pension plans:
| | May 31, | | Target Asset | | ||
|
| 2021 |
| 2020 |
| Allocation | |
Equity securities | | | % | | % | % | |
Fixed income securities |
| | | | | % | |
Other |
| | | | | % | |
|
| | % | | % | | |
60
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
8. Employee Benefit Plans (Continued)
The assets of U.S pension plans are invested in compliance with the Employee Retirement Income Security Act of 1974. The investment goals are to provide a total return that, over the long term, optimizes the long-term return on plan assets at an acceptable risk, and to maintain a broad diversification across asset classes and among investment managers. We believe that there are no significant concentrations of risk within our plan assets as of May 31, 2021. The use of derivatives for the purpose of speculation are not permitted. The assets of the U.S. pension plans are invested primarily in equity and fixed income mutual funds, individual common stocks, and fund-of-funds hedge funds. The assets of the non-domestic plan are invested in funds-of-funds where each fund holds a portfolio of equity and fixed income mutual funds.
To develop our expected long-term rate of return assumption on domestic plans, we use long-term historical return information for our targeted asset mix and current market conditions. The expected return for each asset class is weighted based on the target asset allocation to develop the expected long-term rate of return on plan assets assumption. While consideration is given to recent performance, the assumption represents a long-term, prospective rate of return.
The following table sets forth by level, within the fair value hierarchy, pension plan assets at their fair value as of May 31, 2021:
|
| Level 1(1) |
| Level 2(2) |
| Level 3(3) |
| Total | ||||
Equity securities: | | | | | | | | | | | | |
U.S. mutual funds | | $ | | | $ | — | | $ | — | | $ | |
International mutual funds | |
| | |
| — | |
| — | |
| |
Fixed income: | | | | | | | | | | | | |
Government securities and corporate bond mutual funds | |
| — | |
| | |
| — | |
| |
Funds-of-funds | |
| — | |
| | |
| — | |
| |
Insurance annuities | | | — | | | — | | | | | | |
Cash and cash equivalents | |
| | |
| — | |
| — | |
| |
| | $ | | | $ | | | $ | | | | |
Other investments measured at net asset value (4) | | | | | | | | | | | | |
Total pension plan assets | | | | | | | | | | | $ | |
61
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
8. Employee Benefit Plans (Continued)
The following table sets forth by level, within the fair value hierarchy, pension plan assets at their fair value as of May 31, 2020:
|
| Level 1(1) |
| Level 2(2) |
| Level 3(3) |
| Total | ||||
Equity securities: | | | | | | | | | | | | |
U.S. mutual funds | | $ | | | $ | — | | $ | — | | $ | |
International mutual funds | |
| | | | — | |
| — | |
| |
Fixed income: | | | | | | | | | | | | |
Government securities and corporate bond mutual funds | |
| | | | | |
| — | |
| |
Funds-of-funds | |
| — | | | | |
| — | |
| |
Insurance annuities | | | — | | | — | | | | | | |
Cash and cash equivalents | |
| | | | — | |
| — | |
| |
| | $ | | | $ | | | $ | | | | |
Other investments measured at net asset value (4) | | | | | | | | | | | | |
Total pension plan assets | | | | | | | | | | | $ | |
| (1) | Quoted prices in active markets for identical assets that we have the ability to access as of the reporting date. |
| (2) | Inputs other than quoted prices included within Level 1 that are directly observable for the asset or indirectly observable through corroboration with observable market data. |
| (3) | Unobservable inputs, such as internally developed pricing models or third party valuations for the asset due to little or no market activity for the asset. |
| (4) | Other investments measured at net asset value included alternative investments, such as hedge funds, which are valued using the net asset value as a practical expedient. |
The following table presents the reconciliation of Level 3 pension assets and other investments measured at net asset value for the fiscal years ended May 31, 2021 and 2020:
|
| Hedge Funds |
| Fund-of-funds |
| Insurance Annuities |
| Total | ||||
Balance as of May 31, 2019 | | $ | | | $ | | | $ | | | $ | |
Purchases | |
| — | | | — | | | | | | |
Sales | | | ( | | | — | | | — | | | ( |
Return on plan assets related to assets still held at May 31, 2020 | | | | | | | | | — | | | |
Balance as of May 31, 2020 | |
| | | | | | | | | | |
Purchases | | | — | | | — | | | | | | |
Return on plan assets related to assets still held at May 31, 2021 | | | | | | | | | — | | | |
Balance as of May 31, 2021 | | $ | | | $ | | | $ | | | $ | |
Valuation Techniques Used to Determine Fair Value
Cash equivalents are investments with maturities of three months or less when purchased. The fair values are based on observable market prices and categorized as Level 1.
62
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
8. Employee Benefit Plans (Continued)
With respect to individually held equity securities, including investments in U.S. and international securities, the trustees obtain prices from pricing services, whose prices are obtained from direct feeds from market exchanges, which we are able to independently corroborate. Equity securities held individually are primarily traded on exchanges that contain only actively traded securities, due to the volume trading requirements imposed by these exchanges. Equity securities are valued based on quoted prices in active markets and categorized as Level 1.
Equity and fixed income mutual funds are maintained by investment companies that hold certain investments in accordance with a stated set of fund objectives, which are consistent with our overall investment strategy. The values of some of these funds are publicly quoted. For equity and fixed income mutual funds which are publicly quoted, the funds are valued based on quoted prices in active markets and have been categorized as Level 1. As certain of our funds-of-funds investments are also derived from quoted prices in active markets, we have categorized certain funds-of-funds investments as Level 2.
Insurance annuities require the utilization of unobservable inputs, including undiscounted cash flow techniques which results in Level 3 treatment in the fair value hierarchy.
Hedge fund investments include those seeking to maximize absolute returns using a broad range of strategies to enhance returns and provide additional diversification. The fair value of hedge funds is determined using net asset value or its equivalent subject to certain restrictions, such as a lock-up period and a redemption notice period.
Future Benefit Payments and Funding
The following table summarizes our estimated future pension payments by fiscal year:
| | Fiscal Year | ||||||||||||||||
| | | | | | | | | | | | | | | | | 2027 to | |
|
| 2022 |
| 2023 |
| 2024 |
| 2025 |
| 2026 |
| 2031 | ||||||
Estimated future pension payments | | $ | | | $ | | | $ | | | $ | | | $ | | | $ | |
Our contribution policy for the domestic plans is to contribute annually, at a minimum, an amount which is deductible for federal income tax purposes and that is sufficient to meet actuarially computed pension benefits. For our Netherlands pension plan, our policy is to fund at least the minimum amount required by the local laws and regulations. We anticipate contributing approximately $
Defined Contribution Plans
Our defined contribution plans are intended to qualify as a 401(k) plans under the Internal Revenue Code. Employees may contribute up to
In response to the impact from COVID-19, we temporarily suspended our matching contributions to the defined contribution plans effective June 1, 2020. Contributions were reinstated effective December 1, 2020. Expense charged to the Consolidated Statements of Income for our matching contributions, including profit sharing contributions, was $
63
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
9. Accumulated Other Comprehensive Loss
Changes in our accumulated other comprehensive loss (“AOCL”) by component for each of the years in the three-year period ended May 31, 2021 were as follows (all amounts are net of tax):
|
| Currency |
| | |
| | | |
| | Translation | | Pension | | | |||
| | Adjustments | | Plans | | Total | |||
Balance as of June 1, 2018 | | $ | | | $ | ( | | $ | ( |
Other comprehensive loss before reclassifications | |
| ( | |
| ( | |
| ( |
Amounts reclassified from AOCL | |
| — | |
| | |
| |
Total other comprehensive loss | |
| ( | |
| ( | |
| ( |
Balance as of May 31, 2019 | |
| ( | |
| ( | |
| ( |
Other comprehensive income (loss) before reclassifications | |
| | | | ( | | | ( |
Amounts reclassified from AOCL | |
| — | |
| | | | |
Total other comprehensive income (loss) | |
| | |
| ( | | | ( |
Balance as of May 31, 2020 | |
| ( | | | ( | | | ( |
Other comprehensive income before reclassifications | |
| | | | | | | |
Amounts reclassified from AOCL | |
| | |
| | | | |
Total other comprehensive income | |
| | | | | | | |
Balance as of May 31, 2021 | | $ | | | $ | ( | | $ | ( |
10. Other Non-current Assets
At May 31, 2021 and 2020, other non-current assets consisted of the following:
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
License fees | | $ | | | $ | |
Contract assets | | | | | | |
Investments in joint ventures | | | | | | |
Assets under deferred compensation plan | |
| | |
| |
Pension assets | | | | | | — |
Cash surrender value of life insurance | | | | | | |
Other | |
| | |
| |
| | $ | | | $ | |
Investments in Joint Ventures
Under the terms of servicing agreements with certain of our aircraft joint ventures, we provide administrative services and technical advisory services, including aircraft evaluations, oversight and logistical support of the maintenance process and records management. We also provide evaluation and inspection services prior to the purchase of an aircraft and remarketing services with respect to the divestiture of aircraft by the joint ventures. During fiscal 2021, 2020, and 2019, we were paid $
Our investments in joint ventures include $
64
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
10. Other Non-current Assets (Continued)
The investment balance as of May 31, 2021 includes $
In the fourth quarter of fiscal 2020, we decided to exit our joint venture which operates a landing gear wheel and brake repair and overhaul facility in Malaysia. In conjunction with the decision to exit the joint venture, we recognized an impairment charge of $
License Fees
In June 2011, we entered into a
Split-Dollar Life Insurance Arrangements
We previously entered into split-dollar life insurance agreements to benefit certain former executives and officers. Under the terms of the arrangements, we made premium payments on the individuals’ behalf and we retained a collateral interest in the policies generally to the extent of the premiums we previously paid. As of May 31, 2021, our Consolidated Balance Sheet included $
During the second quarter of fiscal 2021, certain split-dollar life insurance agreements were terminated and we received $
11. Leases
We lease facilities, offices, vehicles, and equipment. We determine at inception whether an arrangement that provides us control over the use of an asset is a lease. ROU assets and lease liabilities are recognized on the Consolidated Balance Sheet at lease commencement date based on the present value of the future minimum lease payments over the lease term. Our lease agreements do not provide a readily determinable implicit rate nor is it available to us from our lessors. We estimate our incremental borrowing rate based on information available at lease commencement in order to discount lease payments to present value.
Our lease costs are allocated over the remaining lease term on a straight-line basis unless another systematic or rational basis is more representative of the pattern in which the underlying asset is expected to be used. ROU assets are evaluated for impairment in a manner consistent with the treatment of other long-lived assets.
65
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
11. Leases (Continued)
Certain leases include options to renew or extend the terms of the lease, which are included in the determination of the ROU assets and lease liabilities when it is reasonably certain that the option will be exercised. Our leases may also include variable lease payments such as escalation clauses based on consumer price index rates, maintenance costs and utilities. Variable lease payments that depend on an index or a rate are included in the determination of ROU assets and lease liabilities using the index or rate at the lease commencement date, whereas variable lease payments that do not depend on an index or rate are recorded as lease expense in the period incurred. Our lease agreements do not contain any significant residual value guarantees or restrictive covenants.
The summary of our operating lease cost is as follows:
|
| For the Year Ended May 31, | ||||
| | 2021 |
| 2020 | ||
Operating lease cost | | $ | | | $ | |
Short-term lease cost | |
| | |
| |
Variable lease cost | |
| | |
| |
| | $ | | | $ | |
Rental expense for facilities and equipment during fiscal year 2019 was $
With the exception of a land lease for one of our airframe maintenance facilities that expires in 2108, our operating leases expire at various dates through 2034. Maturities of our operating lease payments as of May 31, 2021 are as follows:
2022 |
| $ | |
2023 | |
| |
2024 | |
| |
2025 | |
| |
2026 | |
| |
Thereafter | |
| |
Total undiscounted payments | |
| |
Less: Imputed interest | |
| ( |
Present value of minimum lease payments | |
| |
|
| (11.5) | |
Operating lease liabilities – non-current | | $ | |
The current portion of operating lease liabilities are presented within Accrued liabilities on our Consolidated Balance Sheet.
Excluding leases related to our discontinued operations, the weighted average remaining lease term and discount rate for our operating leases were approximately
Supplemental cash flow information related to leases was as follows:
|
| For the Year Ended May 31, | ||||
|
| 2021 |
| 2020 | ||
Cash paid for amounts included in the measurement of lease liabilities | | $ | | | $ | |
Operating lease liabilities arising from obtaining ROU assets | |
| | |
| |
66
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
12. Commitments and Contingencies
We enter into purchase obligations, which arise in the ordinary course of business and represent a binding commitment to acquire inventory, including raw materials, parts and components, as well as equipment to support the operations of our business. The aggregate amount of purchase obligations due in each of the next five fiscal years is $
We routinely issue letters of credit and performance bonds in the ordinary course of our business. These instruments are typically issued in conjunction with insurance contracts or other business requirements. The total of these instruments outstanding at May 31, 2021 was approximately $
We are involved in various claims and legal actions, including environmental matters, arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on our consolidated financial condition or results of operations.
Government Subsidies
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was enacted in the U.S. in response to the COVID-19 pandemic. The CARES Act includes provisions relating to refundable payroll tax credits, deferral of the employer portion of certain payroll taxes, net operating loss carrybacks, and other areas. The payroll tax deferral requires that the deferred payroll taxes be paid over two years, with half of the amount required to be paid by December 31, 2021 and the other half by December 31, 2022. As of May 31, 2021, we deferred $
During the three-month period ended August 31, 2020, we received $
The remaining funding of $
Other countries have enacted legislation similar to the CARES Act to provide relief and stimulus measures to assist companies in mitigating the financial impact from COVID-19 and supporting their employees. During fiscal 2021, our foreign subsidiaries recognized subsidies of $
67
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
13. Sale of Composites Business
On August 31, 2020, we completed the sale of our aerostructures and aerospace products operations located in Clearwater, Florida and Sacramento, California ("Composites"). The Composites business was formerly included in our Expeditionary Services segment. The sale of Composites is consistent with our multi-year strategy to focus our portfolio on our core services offerings and the transaction has allowed us to further prioritize our efforts in our principal businesses.
We recognized a loss on the sale of the Composites business of $
14. Business Segment Information
Segment Reporting
Consistent with how our chief operating decision making officer (Chief Executive Officer) evaluates performance and the way we are organized internally, we report our activities in
The Aviation Services segment consists of aftermarket support and services offerings that provide spare parts and maintenance support for aircraft operated by our commercial and government/defense customers. Sales in the Aviation Services segment are derived from the sale and lease of a wide variety of new, overhauled and repaired engine and airframe parts and components to the commercial aviation and government and defense markets. We provide customized inventory supply chain management, performance-based logistics programs, customer fleet management and operations, and aircraft component repair management services. The segment also includes repair, maintenance and overhaul of aircraft, landing gear and components. Cost of sales consists principally of the cost of product, direct labor, and overhead.
The Expeditionary Services segment consists of primarily manufacturing operations with sales derived from the design and manufacture of pallets, shelters, and containers used to support the U.S. military’s requirements for a mobile and agile force including engineering, design, and system integration services for specialized command and control systems. Cost of sales consists principally of the cost of material to manufacture products, direct labor and overhead.
The accounting policies for the segments are the same as those described in Note 1. Our chief operating decision making officer (Chief Executive Officer) evaluates performance based on the reportable segments and utilizes gross profit as a primary profitability measure. Gross profit is calculated by subtracting cost of sales from sales. The assets and certain expenses related to corporate activities are not allocated to the segments. Our reportable segments are aligned principally around differences in products and services.
68
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
14. Business Segment Information (Continued)
Selected financial information for each segment is as follows:
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Net sales: | | | | | | | | | |
Aviation Services | | $ | | | $ | | | $ | |
Expeditionary Services | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Gross profit: | | | | | | | | | |
Aviation Services | | $ | | | $ | | | $ | |
Expeditionary Services | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
Total assets: | | | | | | |
Aviation Services | | $ | | | $ | |
Expeditionary Services | |
| | |
| |
Corporate and discontinued operations | | | | | | |
| | $ | | | $ | |
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Capital expenditures: | | | | | | | | | |
Aviation Services | | $ | | | $ | | | $ | |
Expeditionary Services | |
| | |
| | |
| |
Corporate | |
| | |
| | |
| |
Total continuing operations | | | | | | | | | |
Discontinued operations | | | — | | | — | | | |
| | $ | | | $ | | | $ | |
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Depreciation and amortization:1 | | | | | | | | | |
Aviation Services | | $ | | | $ | | | $ | |
Expeditionary Services | |
| | |
| | |
| |
Corporate | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
| 1 | Includes amortization of stock-based compensation. |
69
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
14. Business Segment Information (Continued)
The following table reconciles segment gross profit to income from continuing operations before provision for income taxes.
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Segment gross profit | | $ | | | $ | | | $ | |
Provision for doubtful accounts | | | ( | | | ( | | | ( |
Selling, general and administrative | |
| ( | |
| ( | |
| ( |
Earnings (Loss) from joint ventures | | | | | | ( | | | ( |
Loss on sale of business | | | ( | | | — | | | — |
Other income (expenses), net | | | | | | ( | | | ( |
Interest expense | |
| ( | |
| ( | |
| ( |
Interest income | |
| | |
| | |
| |
Income from continuing operations before provision for income taxes | | $ | | | $ | | | $ | |
The U.S. Department of Defense, U.S. Department of State, other U.S. government agencies and their contractors are our only customers representing 10% or more of total sales in any of the last three fiscal years. Sales by segment for these customers are as follows:
| | For the Year Ended May 31, |
| |||||||
|
| 2021 |
| 2020 |
| 2019 |
| |||
Aviation Services | | $ | | | $ | | | $ | | |
Expeditionary Services | |
| | |
| | |
| | |
| | $ | | | $ | | | $ | | |
Percentage of total sales | |
| | % |
| | % |
| | % |
Sales across the major customer markets for each of our operating segments for the fiscal years ended May 31, 2021, 2020 and 2019 were as follows:
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Aviation Services: | | |
|
| |
|
| |
|
Commercial | | $ | | | $ | | | $ | |
Government and defense | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
Expeditionary Services: | |
|
| |
|
| |
|
|
Commercial | | $ | | | $ | | | $ | |
Government and defense | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
70
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
14. Business Segment Information (Continued)
Sales by type of product/service was as follows:
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Aviation supply chain | | $ | | | $ | | | $ | |
Maintenance, repair and overhaul services | | | |
| | |
| | |
Mobility products | | | |
| | |
| | |
| | $ | | | $ | | | $ | |
Geographic Data
Sales by geographic region for the fiscal years ended May 31, 2021, 2020 and 2019 were as follows:
| | For the Year Ended May 31, | |||||||
|
| 2021 |
| 2020 |
| 2019 | |||
Aviation Services: | | |
|
| |
|
| |
|
North America | | $ | | | $ | | | $ | |
Europe/Africa | |
| | |
| | |
| |
Other | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
Expeditionary Services: | |
|
| |
|
| |
|
|
North America | | $ | | | $ | | | $ | |
Europe/Africa | |
| | |
| | |
| |
Other | |
| | |
| | |
| |
| | $ | | | $ | | | $ | |
| | May 31, | ||||
|
| 2021 |
| 2020 | ||
Long-lived assets: | | |
| | |
|
United States | | $ | | | $ | |
Europe | |
| | |
| |
Other | |
| | |
| |
| | $ | | | $ | |
Sales to unaffiliated customers in foreign countries (including sales through foreign sales offices of domestic subsidiaries) were approximately $
71
AAR CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in millions, except per share amounts)
15. Legal Proceedings
We are not a party to any material pending legal proceeding (including any governmental or environmental proceeding) other than routine litigation incidental to our business except for the following:
Department of Justice Investigation
As previously reported, the U.S. Department of Justice (“DoJ”), acting through the U.S. Attorney’s Office for the Southern District of Illinois, conducted an investigation of AAR Airlift Group, Inc. (“Airlift”), a wholly-owned subsidiary of AAR CORP., under the federal civil False Claims Act (“FCA”). The investigation related to Airlift’s performance of several contracts awarded by the U.S. Transportation Command (“TRANSCOM”) concerning the operations and maintenance of rotary-wing and fixed-wing aircraft in Afghanistan and Africa, as well as several U.S. Navy contracts. In June 2018, the DoJ informed Airlift that part of the investigation was precipitated by a lawsuit filed under the qui tam provisions of the FCA by a former employee of Airlift.
In June 2021, Airlift and the DoJ reached an agreement to settle the FCA investigation and related matters for approximately $
We recognized charges of $
Self-Reporting of Potential Foreign Corrupt Practices Act Violations
The Company retained outside counsel to investigate possible violations of the Company’s Code of Conduct, the U.S. Foreign Corrupt Practices Act, and other applicable laws, relating to the Company’s activities in Nepal and South Africa. Based on these investigations, in fiscal 2019, we self-reported these matters to the DoJ, the U.S. Securities and Exchange Commission and the UK Serious Fraud Office. The Company is fully cooperating with the reviews by these agencies, although we are unable at this time to predict what action, if any, they may take.
72
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable.
ITEM 9A.CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Act”), as of May 31, 2021. This evaluation was carried out under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures. Therefore, effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives.
Based upon our evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective as of May 31, 2021, ensuring that information required to be disclosed in the reports that are filed under the Act is recorded, processed, summarized and reported in a timely manner.
Management Report on Internal Control Over Financial Reporting
Management of AAR CORP. is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) of the Act. The Company’s internal control over financial reporting is a process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with U.S. GAAP and includes those policies and procedures that (1) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of assets of the Company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements. Internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems which are determined to be effective provide only reasonable assurance with respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer and oversight of the Board of Directors, assessed the effectiveness of our internal control over financial reporting as of May 31, 2021 based on the criteria for effective internal control over financial reporting described in Internal Control–Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
Based on our assessment, management concluded that the Company maintained effective internal control over financial reporting as of May 31, 2021.
KPMG LLP, our independent registered public accounting firm, has issued a report on the effectiveness of our internal control over financial reporting. That report appears below.
Changes in Internal Control Over Financial Reporting
There were no changes in the Company’s internal control over financial reporting during the quarter ended May 31, 2021, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
73
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
AAR CORP.:
Opinion on Internal Control Over Financial Reporting
We have audited AAR CORP.’s and subsidiaries’ (the Company) internal control over financial reporting as of May 31, 2021, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of May 31, 2021, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of May 31, 2021 and 2020, the related consolidated statements of income, comprehensive income (loss), changes in equity, and cash flows for each of the years in the three-year period ended May 31, 2021, and the related notes (collectively, the consolidated financial statements), and our report dated July 20, 2021 expressed an unqualified opinion on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
| /s/ KPMG LLP |
| |
Chicago, Illinois | |
July 20, 2021 | |
74
ITEM 9B.OTHER INFORMATION
Not applicable.
ITEM 9C.DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS
Not applicable.
PART III
ITEM 10.DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this item regarding the Directors of the Company and nominees for election of the Board is incorporated by reference to the information contained under the caption “Information about Our Director Nominees and Our Continuing Directors” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
The information required by this item regarding the Executive Officers of the Company appears under the caption “Supplemental Item: Information about our Executive Officers” following Part I, Item 4 above.
The information required by this item regarding the compliance with Section 16(a) of the Securities Exchange Act of 1934 is incorporated by reference to the information contained under the caption “Delinquent Section 16(a) Reports” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
The information required by this item regarding the identification of the Audit Committee as a separately-designated standing committee of the Board and the status of one or more members of the Audit Committee being an “audit committee financial expert” is incorporated by reference to the information contained under the caption “The Board’s Role and Responsibilities – Role and Responsibilities of the Board Committees” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
The information required by this item regarding our Code of Conduct applicable to our directors, officers and employees is incorporated by reference to the information contained under the caption “Board Practices and Policies – Code of Conduct” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
There have been no material changes to the procedures by which stockholders may recommend nominees to the Company’s board of directors. The information regarding these procedures is incorporated by reference to the information contained under the caption “Director Nominations and Qualifications” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
ITEM 11.EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the information contained under the captions ‘‘Executive Compensation” and ‘‘Director Compensation” of our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this item regarding security ownership of certain beneficial owners and management is incorporated by reference to the information contained under the caption “Stock Ownership Information” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
The information required by this item regarding equity compensation plan information is incorporated by reference to the information contained under the caption “Equity Compensation Plan Information” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
75
ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this item is incorporated by reference to the information contained under the captions “Director Independence” and “Board Practices and Policies – Related Person Transaction Policy” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
ITEM 14.PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this item is incorporated by reference to the information contained under the caption “Independent Registered Public Accounting Firm Fees and Services” in our definitive proxy statement for the 2021 Annual Meeting of Stockholders.
ITEM 15.EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) (1) Financial Statements
Our consolidated financial statements are as set forth under Item 8 of this report on Form 10-K.
(a) (2) Financial Statement Schedules
All schedules are omitted because they are not applicable, not required, or the information is included in the consolidated financial statements.
(a) (3) Exhibits
Management contracts and compensatory arrangements have been marked with an asterisk (*) on the Exhibit Index which is contained below:
| Index | | Exhibits |
|---|---|---|---|
| | | |
3. | Articles of Incorporation and By-Laws | 3.1 | |
| | | |
| | 3.2 | |
| | | |
| | 3.3 | |
| | | |
| | 3.4 | |
| | | |
4. | Instruments defining the rights of security holders | 4.1 | |
| | | |
| | 4.2 | |
| | | |
| | 4.3 | |
| | | |
76
77
| Index | | Exhibits |
|---|---|---|---|
| | | |
| | 10.3* | |
| | | |
| | 10.4* | |
| | | |
| | 10.5* | |
| | | |
| | 10.6* | Form of Fiscal 2022 Director Restricted Stock Agreement (filed herewith) |
| | | |
| | 10.7* | |
| | | |
| | 10.8* | |
| | | |
| | 10.9* | |
| | | |
| | 10.10* | |
| | | |
| | 10.11* | |
| | | |
| | 10.12 | |
| | | |
| | 10.13 | |
| | | |
| | 10.14 | |
| | | |
78
| Index | | Exhibits |
|---|---|---|---|
| | | |
| | 10.15 | |
| | | |
| | 10.16 | |
| | | |
| | 10.17 | |
| | | |
| | 10.18* | |
| | | |
| | 10.19* | |
| | | |
| | 10.20* | |
| | | |
| | 10.21* | |
| | | |
| | 10.22* | |
| | | |
| | 10.23* | |
| | | |
| | 10.24 |
79
| Index | | Exhibits |
|---|---|---|---|
| | | |
| | | |
| | 10.25* | |
| | | |
21. | Subsidiaries of the | 21.1 | |
| Registrant | | |
| | | |
23. | Consents of experts and counsel | 23.1 | Consent of Independent Registered Public Accounting Firm (filed herewith) |
| | | |
31. | 31.1 | ||
| | | |
| | 31.2 | |
| | | |
32. | 32.1 | ||
| | | |
| | 32.2 | |
| | | |
101. | 101 | The following materials from the Registrant’s Annual Report on Form 10-K for the fiscal year ended May 31, 2021, formatted in XBRL (eXtensible Business Reporting Language): (i) Consolidated Balance Sheets at May 31, 2021 and 2020, (ii) Consolidated Statements of Income for the fiscal years ended May 31, 2021, 2020, and 2019 , (iii) Consolidated Statements of Comprehensive Income for fiscal years ended May 31, 2021, 2020, and 2019, (iv) Consolidated Statements of Cash Flows for the fiscal years ended May 31, 2021, 2020, and 2019, (v) Consolidated Statement of Changes in Equity for the three years ended May 31, 2021 and (vi) Notes to Consolidated Financial Statements.** |
** Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files on Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.
ITEM 16.FORM 10-K SUMMARY
Not applicable.
80
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Annual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
| AAR CORP. | |
| (Registrant) | |
| | |
Date: July 20, 2021 | BY: | /s/ JOHN M. HOLMES |
| | John M. Holmes |
| | President and Chief Executive Officer |
81
Pursuant to the requirements of the Securities Exchange Act of 1934, this Annual Report on Form 10-K has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature |
| Title |
|
| Date |
|---|---|---|---|---|---|
| | | | | |
/s/ JOHN M. HOLMES | | President and Chief Executive Officer; | | | |
John M. Holmes | | Director (Principal Executive Officer) | | | |
/s/ SEAN M. GILLEN | | Vice President and Chief Financial Officer | | | |
Sean M. Gillen | | (Principal Financial Officer) | | | |
/s/ ERIC S. PACHAPA | | Vice President, Controller and Chief Accounting | | | |
Eric S. Pachapa | | Officer (Principal Accounting Officer) | | | |
| | | | | |
/s/ DAVID P. STORCH | | Chairman of the Board; Director | | | |
David P. Storch | | | | | |
| | | | | |
/s/ ANTHONY K. ANDERSON | | Director | | | |
Anthony K. Anderson | | | | | |
| | | | | |
/s/ MICHAEL R. BOYCE | | Director | | | |
Michael R. Boyce | | | | | |
| | | | | |
/s/ H. JOHN GILBERTSON, JR. | | Director | | | |
H. John Gilbertson, Jr. | | | | | |
| | | | | July 20, 2021 |
/s/ JAMES E. GOODWIN | | Director | | | |
James E. Goodwin | | | | | |
/s/ ROBERT F. LEDUC | | Director | | | |
Robert F. Leduc | | | | | |
| | | | | |
/s/ ELLEN M. LORD | | Director | | | |
Ellen M. Lord | | | | | |
/s/ DUNCAN J. MCNABB | | Director | | | |
Duncan J. McNabb | | | | | |
| | | | | |
/s/ PETER PACE | | Director | | | |
Peter Pace | | | | | |
/s/ JENNIFER L. VOGEL | | Director | | | |
Jennifer L. Vogel | | | | | |
/s/ MARC J. WALFISH | | Director | | | |
Marc J. Walfish | | | | | |
82