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The Science of Hitting
The Science of Hitting
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FLIR - First Quarter Results and the Resignation of CEO Earl Lewis

April 30, 2013 | About:
FLIR reported first quarter 2013 earnings last Friday (press release); let’s jump right in:

Revenue was$349 million, essentially flat with the year ago results. Revenue from the Commercial Systems division increased 5% to$212 million; after adjusting for M&A, revenue was off 6% from a year ago. Within the Commercial Systems division, revenue from the Thermal Vision and Measurement (TVM) segment was$167 million, an increase of 7% from a year ago (with booking dollars up 11%). Raymarine revenue of $44 million was off 5% from the comparable period, as continued weakness in EMEA continues to impact the segment (booking dollars were down 8% at quarter-end from a year ago, with strength in Asia-Pacific being outweighed by weakness in the U.S. retail channel and EMEA).

Revenue from the Government Systems division fell 6%, to $137 million. Within the division, revenue from the Surveillance segment was$110.2 million, a decrease of 4% from the first quarter of 2012. Revenue from the Detection & Integrated Systems (collectively) came in at $27 million, down high-teens from a year ago. Backlog of firm orders for delivery within the next year was approximately $505 million as of March 31, 2013, an increase of 10% from the end of first quarter 2012; the increase was split between Government (up $22 million, with international orders accounting for 60% of total bookings) and Commercial (up $27 million).

These comments on Surveillance (where revenue was down 4%, due to a 23% decline in U.S. government customer revenues) from Bill Sundermeier nicely sums up Commercial results:

“As expected, the quarter proved difficult for our U.S. customers, who faced the sequestration and continuing resolution uncertainties for most of the quarter. At the end of the quarter, we had a last-minute delay of a major order for additional review that substantially impacted our bookings forecast. We expect the review will be completed, and we will see this order in Q2. We also saw customer-imposed delivery push outs caused by program integration delays during the quarter.”

Total sales to the U.S. government were 22.3% of the total in quarter one, down from 28.3% of revenue in the first quarter of last year. I assure you that anybody focused solely on the U.S. government business will look back in a few years and realize just how misguided that fixation really was.

CEO Earl Lewis summed up the combined results of Commercial & Government Systems with the following: "Despite the difficult funding and macro environment our customers are experiencing, both of our divisions have meaningfully higher backlog than they did a year ago and our focus on organizational efficiency and cost control resulted in increased margins and net earnings growth. In addition, we continue to generate operating cash at a rate that significantly exceeds net income, which will allow us to generate strong returns for our shareholders."

Operating income in the first quarter was up marginally, to $69 million; underlying operating margins improved materially in both divisions (“We see signs of returning growth. But until it's reflected in our order book, we will continue to manage cost to maintain strong profitability.”). First, diluted EPS was$0.35 per share, up 13% from the $0.31 per share earned in the first quarter a year ago; this was due to a combination of share repurchases (shares out down 6.8% year over year) and a lower effective tax rate. During the quarter, the company continued buying back its own stock — FLIR repurchased 3.8 million shares at an average price of $26.22 per share (total cost of $100 million).

As is always the case with FLIR, I want to point out the fact that it has a track record on repurchases that is matched by few in corporate America; when it says “opportunistically,” it means it. Here’s CFO Anthony Trunzo discussing the quarter-one repurchase:

“I would expect that we'll continue to be active buying back shares during the course of the year. So the activity, obviously, depends on the price. Clearly, in Q1, you saw that we were willing to put capital against the share repurchase program in the mid-20s. And going forward, we'll keep a close eye on opportunities to take chunks of shares out of the market at what we think are attractive prices to drive a higher return on equity and help support the EPS going forward.”

In addition to buying back common stock, the company invested $37 million in research and development (10.6% of sales), paid $13 million in dividends, and made $12 million in capital expenditures; I think it’s quite relevant to consider this $37 million R&D spend in the context of what I wrote about in my recent article entitled “R&D Expense & Hewlett-Packard.”

FLIR reaffirmed its outlook for revenue ($1.5 to $1.6 billion) and earnings per share ($1.56 to $1.66 per share) for the full year 2013; the midpoint of the EPS guidance implies a 10% increase in year-over-year earnings.

The big announcement on the call was the resignation of CEO Earl Lewis (effective May 19), who will be replaced by Andrew Teich (currently the President of the Company’s Commercial Systems division). Here’s what Mr. Lewis said on the transition:

"This is the culmination of a process that began more than two years ago with three of my direct reports completing the Harvard Advanced Management Program. Approximately a year ago, we formed a special committee of the Board of Directors and hired outside consultants to begin the difficult process of selecting one person from among three excellent internal candidates in Bill Sundermeier, Tony Trunzo, and Andy. The difficulty in making a final decision was a result of the Board's strong belief that all three were highly competent and capable leaders."

Mr. Lewis will be missed; his 13-year tenure as CEO coincided with a period of strong revenue and earnings growth, culminating in considerable value creation for shareholders. The fact that the board has chosen Mr. Teich, who headed the Commercial Systems division to this point, is worth thinking about; this decision, in addition to the recent acquisitions of Lorex, Traficon, and Raymarine (in 2010), speaks volumes about where this company is heading in the next decade.

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About the author:

The Science of Hitting
I'm a value investor with a long-term focus. As it relates to portfolio construction, my goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach to investing is "patience followed by pretty aggressive conduct". I run a concentrated portfolio, with a handful of equities accounting for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

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