Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Dollar and share amounts in thousands, except per share data)
Overview
We are a global business that designs, manufactures and sells critical equipment for the defense/space, energy/new energy and chemical/petrochemical industries. For the defense and space industry, our equipment is used in nuclear propulsion power systems, for undersea and space propulsion, power and energy management systems and for life support systems in space. Our energy and new energy markets include oil refining, cogeneration, and alternative power to produce hydrogen. For the chemical and petrochemical industries, our equipment is used in fertilizer, ethylene, methanol and downstream chemical facilities.
Our brands are built upon engineering expertise and close customer collaboration to design, develop, and produce mission critical equipment and systems that enable our customers to meet their economic and operational objectives. Continual improvement of our processes and systems to ensure qualified and compliant equipment are hallmarks of our brand. Our early engagement with customers and support until the end of service life are values upon which our brands are built.
Our corporate headquarters are located in Batavia, New York. We have production facilities co-located with our headquarters in Batavia. Our wholly-owned subsidiary, Barber-Nichols, LLC ("BN"), based in Arvada, Colorado, designs, develops, manufactures and sells specialty turbomachinery products for the aerospace, cryogenic, defense and energy markets (see "Acquisition" below). We also have wholly-owned foreign subsidiaries, Graham Vacuum and Heat Transfer Technology (Suzhou) Co., Ltd. ("GVHTT"), located in Suzhou, China and Graham India Private Limited ("GIPL"), located in Ahmedabad, India. GVHTT provides sales and engineering support for us in the People's Republic of China and management oversight throughout Southeast Asia. GIPL serves as a sales and market development office focusing on the refining, petrochemical and fertilizer markets in India.
Our current fiscal year (which we refer to as "fiscal 2022") ends March 31, 2022.
Acquisition
We completed the acquisition of BN on June 1, 2021. Founded as a specialty turbomachinery engineering company in 1966, BN has grown rapidly from programs that involve complex production and systems integration. By integrating knowledge in rotating equipment, power generation cycles, and electrical management systems, BN has successfully won the design and development of different power and propulsion systems used in underwater vehicles among many other accomplishments.
The acquisition of BN has changed the composition of the Company’s end market mix. Year-to-date, sales to the defense industry were 52% of our business compared with just 25% of sales to the defense industry in all of fiscal 2021. Space industry sales represent 4% of our year-to-date business, compared with 0% in all of fiscal 2021. The remaining 44% of our year-to-date sales came from the refining, chemical/petrochemical and other commercial markets. These markets represented 75% of our fiscal 2021 sales. BN has outperformed expectations since being acquired.
The BN transaction was accounted for as a business combination, which requires that assets acquired and liabilities assumed be recognized at their fair value as of the acquisition date. The purchase price of $72,014 was comprised of 610 shares of the Company’s common stock, representing a value of $8,964 at $14.69 per share, and cash consideration of $61,150, subject to certain potential adjustments, including a customary working capital adjustment. The cash consideration was funded through cash on-hand and debt proceeds (See Note 15 to the Condensed Consolidated Financial Statements included in Item 1 in this Quarterly Report on Form 10-Q). The purchase agreement with respect to the acquisition also included a contingent earn-out dependent upon certain financial measures of BN post-acquisition, pursuant to which the sellers were eligible to receive up to $14,000 in additional cash consideration. Subsequent to the acquisition, the earn out agreement was terminated. Acquisition related costs of $373 were expensed in the first nine months of fiscal 2022 and are included in Selling, general and administrative expenses for the nine months ended December 31, 2021 in the Condensed Consolidated Statement of Operations. As of October 26, 2021, the Company entered into a Performance Bonus Agreement (the "Bonus Agreement") to provide certain employees of BN with performance-based awards considering the BN business results on a stand-alone basis. The purpose of the bonus arrangement is to align a broader number of the BN leadership team with the achievement of BN performance objectives. The Bonus Agreement provides for payments to be made for certain performance-based results of BN for fiscal years ending March 31, 2024, 2025 and 2026.
Summary
Highlights for the three and nine months ended December 31, 2021 include:
•
Barber-Nichols has outperformed our expectations during the first seven months of ownership. Sales at BN were ahead of those expectations and its profit margins have expanded further.
21
•
Orders booked in the third quarter of fiscal 2022 of $67,964 increased 10% compared with $61,753 of orders booked in the third quarter of fiscal 2021. Orders booked in the first nine months of fiscal 2022 were up 11% to $120,217, compared with the first nine months of fiscal 2021 when orders booked were $108,195. The BN contributed $37,251 and $53,301 in orders in the quarter and year-to-date period, respectively. For more information on this performance indicator see "Orders and Backlog" below.
•
Backlog reached a record $272,599 at December 31, 2021, with BN contributing $119,096 to that backlog. Backlog was $233,247 at September 30, 2021. For more information on this performance indicator see "Orders and Backlog" below.
•
Net sales for the third quarter of fiscal 2022 were $28,774, up 6% , or $1,590, compared with $27,154 for the third quarter of the fiscal year ended March 31, 2021 (which we refer to as "fiscal 2021"). Sales in the quarter include $11,968 related to the BN acquisition which more than offsets declines of $10,378 in the organic business. Net sales for the first nine months of fiscal 2022 were $83,077, up 16%, or $12,259, from $71,818 in the first nine months of fiscal 2021. Sales in the first nine months of fiscal 2022 include $31,925 from the BN acquisition, more than offsetting a reduction of $20,666 in the organic business.
•
Gross profit margin and operating margin for the third quarter of fiscal 2022 were 2% and (16%), respectively, compared with 23% and 5%, respectively, for the third quarter of fiscal 2021. Gross profit margin and operating margin for the first nine months of fiscal 2022 were 6% and (11%), respectively, compared with 22% and 3%, respectively, for the first nine months of fiscal 2022.
•
Net loss and loss per diluted share for the third quarter of fiscal 2022 were $3,730 and $0.35, respectively, compared with net income and income per diluted share of $1,060 and $0.11, respectively, for the third quarter of fiscal 2021. Net loss and loss per diluted share for the first nine months of fiscal 2022 were $7,348 and $0.70, respectively, compared with net income of $1,986 and income per diluted share of $0.20 for the first nine months of fiscal 2021. The net losses incurred in the first three and nine-month periods of fiscal 2022 were primarily due to Navy project labor and material cost overruns related to defense contracts at our Batavia facility. The losses at our Batavia facility were partly offset by over achievement at our BN subsidiary.
•
Cash and short-term investments at December 31, 2021 were $13,991, compared with $16,463 at September 30, 2021.
•
We have suspended our dividend due to missing two bank covenants in the third quarter of fiscal 2022. We have obtained a waiver of financial covenants and are working with the bank to amend our credit facility in the fourth quarter.
Forward-Looking Statements
This report and other documents we file with the Securities and Exchange Commission include "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act").
These statements involve known and unknown risks, uncertainties and other factors that may cause actual results to be materially different from any future results implied by the forward-looking statements. Such factors include, but are not limited to, the risks and uncertainties identified by us under the headline "Risk Factors" in Item 1A of our Annual Report on Form 10-K for fiscal 2021 and included under Item 1A, "Risk Factors", in this Quarterly Report on Form 10-Q.
Forward-looking statements may also include, but are not limited to, statements about:
•
the ability to execute historic U.S. Navy projects to estimates;
•
our ability to amend our loan agreement for out term loan and revolving credit facility;
•
the continuing impacts of, and risks caused by, the COVID-19 pandemic on our business operations, our customers and our markets;
•
the current and future economic environments, including the volatility associated with the COVID-19 pandemic, affecting us and the markets we serve;
•
the impact of potential government COVID-19 vaccine mandates on our ability to attract and retain employees and on our business and results of operations;
•
our ability to successfully integrate and operate BN;
•
expectations regarding investments in new projects by our customers;
•
sources of revenue and anticipated revenue, including the contribution from anticipated growth;
•
expectations regarding achievement of revenue and profitability;
22
•
plans for future products and services and for enhancements to existing products and services;
•
our operations in foreign countries, including among other things, the impact of nationalization in certain countries of suppliers for the markets we serve;
•
political instability in regions in which our customers are located;
•
tariffs and trade relations between the United States and its trading partners;
•
our ability to affect our growth and acquisition strategy;
•
our ability to maintain or expand work for the U.S. Navy;
•
our ability to maintain or expand work for the commercial space market;
•
our ability to successfully execute our existing contracts;
•
estimates regarding our liquidity and capital requirements;
•
timing of conversion of backlog to sales;
•
production preferences directed toward Navy orders with priority ratings;
•
our ability to attract or retain customers;
•
the outcome of any existing or future litigation; and
•
our ability to increase our productivity and capacity.
Forward-looking statements are usually accompanied by words such as "anticipate," "believe," "contemplate," "continue," "could," "estimate," "may," "might," "intend," "interest," "appear," "expect," "suggest," "plan," "predict," "project," "encourage," "potential," "should," "view," "will," and similar expressions. Actual results could differ materially from historical results or those implied by the forward-looking statements contained in this report.
Undue reliance should not be placed on our forward-looking statements. Except as required by law, we undertake no obligation to update or announce any revisions to forward-looking statements contained in this report, whether as a result of new information, future events or otherwise.
Current Market Conditions
Demand for our equipment and systems for the defense industry is expected to remain strong and continue to expand, based on the planned procurement of submarines, aircraft carriers and undersea propulsion and power systems. Based on defense budget plans and the solutions we provide, we anticipate demand for our equipment and systems will continue to increase in coming years. With the addition of revenue from the BN acquisition, consolidated revenue to the U.S. Navy for the nine-month period was $43.5 million sales, or 52% of total, and is expected to be $60 million to $65 million in fiscal 2022. In addition to U.S. Navy applications, we also provide specialty pumps, turbines, compressors and controllers for various fluid and thermal management systems used in DoD radar, laser, electronics and power systems. We have built a leading position, and in some instances, a sole source position, for certain systems and equipment for the defense/space industry and others.
Our traditional energy markets are undergoing significant transition. While we expect that fossil fuels will continue to be an important component in the energy industry for many years to come, there are significant changes in the priorities for capital investments by our customers and the regions in which those investments are being made. We expect that the systemic changes in the energy markets, which are influenced by the increasing use by consumers of alternative fuels, will lead to demand growth for fossil-based fuels that is less than the global GDP growth rate. Accordingly, we expect that crude oil refiners will focus new investments toward the installed base, that inefficient refineries will close and new refining capacity will be co-located where fuels and petrochemicals are produced. We also anticipate that future investment by refiners in renewable fuels (e.g., renewable diesel), in existing refineries (e.g., to expand feedstock processing flexibility and to improve conversion of oil to refined products) to gain greater throughput, or to build new capacity (e.g., integrated refineries with petrochemical products capabilities), will continue to drive demand for our products and services. The timing and catalyst for a recovery in these markets (crude oil refining and chemical/petrochemical) remains uncertain. Accordingly, we believe that in the near term the quantity of projects available for us to compete for will be fewer and that the pricing environment will remain challenging. We also expect that new capacity investment will occur within new or emerging markets over the next several years. Given the growing awareness of supply chain and distribution challenges, these markets are expected to require additional local refining capacity to meet local demand for petroleum products. Therefore, we expect Asia will lead the recovery with new capacity rebuilding there over the next 12-18 months.
23
Of note, we have experienced a noticeable increase in our short cycle and aftermarket orders in the second and third quarters of fiscal 2022, primarily from the domestic market. Aftermarket orders have historically been a leading indicator of future capital investment by our customers in their facilities for upgrades and expansions. Industry analysts have pointed to expectations of increased investment by our customers to address the shortages in supply of refined petrochemical products resulting from the downturn in production following the economic lockdowns which have occurred since the global pandemic, and the subsequent strong global economic recovery.
The alternative and clean energy opportunities for our heat transfer, power production and fluid transfer systems are expected to continue to grow. We assist in designing, developing and producing equipment for hydrogen production, distribution and fueling systems, concentrated solar power and storage, and small modular nuclear systems. We believe that we are positioning the Company to be a more significant contributor as these markets continue to develop.
We believe in the near and medium-term that chemical and petrochemical capital investment will continue to decouple from energy investment. Over the long term, we expect that population growth, an expanding global middle class and an increasing desire for improved quality of life and access to consumer products will drive increased demand for industrial goods within the plastics and resins value chain along with fertilizers or related products. Consequently, when global economies return to stable growth, we expect investment in new global chemical and petrochemical capacity will resume and that such investments will in turn drive growth in demand for our products and services.
BN products and market access provide revenue and growth potential in the commercial space/aerospace markets. The commercial space market has grown and evolved rapidly, and BN has provided rocket engine turbo pump systems and components for many of the launch providers. We expect that in the long term extended space exploration will become more prevalent, and we anticipate that our thermal/fluid management and environmental control and life support system turbomachinery will play important roles. BN is also participating in future aerospace power and propulsion system development through supply of fluid and thermal management systems components. Small power dense systems are imperative for these applications and we believe our technology and expertise will enable us to achieve sales in this market as well.
The chart below shows our strategy to increase our participation in the defense market. The defense market comprised 77% of our total backlog at December 31, 2021. We believe this diversification is especially beneficial when our commercial markets are weak, as is presently the case.
*Note: FYE refers to fiscal year ended March 31
24
Results of Operations
To better understand the significant factors that influenced our performance during the periods presented, the following discussion should be read in conjunction with our Condensed Consolidated Financial Statements and the notes to our Condensed Consolidated Financial Statements included in Part I, Item 1, of this Quarterly Report on Form 10-Q. Results for the three-month and nine-month periods in 2021 include the results of BN which was acquired on June 1, 2021.
The following table summarizes our results of operations for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2021
|
|
|
2020
|
|
|
2021
|
|
|
2020
|
|
Net sales
|
|
$
|
28,774
|
|
|
$
|
27,154
|
|
|
$
|
83,077
|
|
|
$
|
71,818
|
|
Gross profit
|
|
$
|
561
|
|
|
$
|
6,227
|
|
|
$
|
4,918
|
|
|
$
|
15,488
|
|
Gross profit margin
|
|
|
2
|
%
|
|
|
23
|
%
|
|
|
6
|
%
|
|
|
22
|
%
|
SG&A expenses (1)
|
|
$
|
5,003
|
|
|
$
|
4,936
|
|
|
$
|
15,173
|
|
|
$
|
13,091
|
|
SG&A as a percent of sales
|
|
|
17
|
%
|
|
|
18
|
%
|
|
|
18
|
%
|
|
|
18
|
%
|
Net (loss) income
|
|
$
|
(3,730
|
)
|
|
$
|
1,060
|
|
|
$
|
(7,348
|
)
|
|
$
|
1,986
|
|
Diluted (loss) income per share
|
|
$
|
(0.35
|
)
|
|
$
|
0.11
|
|
|
$
|
(0.70
|
)
|
|
$
|
0.20
|
|
Total assets
|
|
$
|
196,080
|
|
|
$
|
144,986
|
|
|
$
|
196,080
|
|
|
$
|
144,986
|
|
Total assets excluding cash, cash equivalents and investments
|
|
$
|
182,089
|
|
|
$
|
75,694
|
|
|
$
|
182,089
|
|
|
$
|
75,694
|
|
(1)
Selling, general and administrative expenses are referred to as "SG&A".
The Third Quarter and First Nine Months of Fiscal 2022 Compared With the Third Quarter and First Nine Months of Fiscal 2021
Sales for the third quarter of fiscal 2022 were $28,774, a 6% increase from sales of $27,154 for the third quarter of fiscal 2021. Sales from the acquisition in the quarter were $11,968. Our domestic sales, as a percentage of aggregate sales, were 86% in the third quarter of fiscal 2022 compared with 39% in the third quarter of fiscal 2021. Domestic sales increased $14,020 in the third quarter of fiscal 2022, or 131% year-over-year, reflecting the contribution of the acquisition which helped to offset lower international refining sales. International sales decreased $12,400, or 75%, in the third quarter of fiscal 2022 compared with the third quarter of fiscal 2021, primarily due to significant China refining sales which occurred in the prior year period. Sales in the three months ended December 31, 2021 were 58% for the defense (U.S. Navy) industry, 14% to the refining industry, 11% to the chemical and petrochemical industries, 5% to space, and 12% to other commercial and industrial applications. Sales in the three months ended December 31, 2020 were 17% for the defense (U.S. Navy) industry, 60% to the refining industry, 18% to the chemical and petrochemical industries, and 5% to other commercial and industrial applications. Fluctuation in sales among markets, products and geographic locations varies, sometimes significantly, from quarter-to-quarter based on timing and magnitude of projects. See also "Current Market Conditions," above. For additional information on anticipated future sales and our markets, see "Orders and Backlog" below.
Sales for the first nine months of fiscal 2022 were $83,077, an increase of $11,259, or 16% compared with $71,818 for the first nine months of fiscal 2021. Sales from the acquisition in the first nine months of fiscal 2022 were $31,925. Our domestic sales, as a percentage of aggregate product sales, were 78% in the first nine months of fiscal 2022 compared with 52% in the same period in fiscal 2021. Domestic sales increased $27,426, or 73%, while international sales decreased by $16,167, or 47%, as compared with the same prior year period. The reduction in international sales is related to the refining and petrochemical markets. International sales accounted for 22% and 48% of total sales for the first nine months of fiscal 2022 and fiscal 2021, respectively. Sales in the nine months ended December 31, 2021 were 52% for the defense industry (U.S. Navy), 18% to the refining industry, 13% to the chemical and petrochemical industries, 4% to space and 13% to other commercial and industrial applications. Sales in the nine months ended December 31, 2020 were 24% for the defense (U.S. Navy) industry, 41% to the refining industry, 26% to the chemical and petrochemical industries, and 9% to other commercial and industrial applications.
Gross profit margin and operating margin for the third quarter of fiscal 2022 were 2% and (16%), respectively, compared with 23% and 5%, respectively, for the third quarter of fiscal 2021. Gross profit for the third quarter of fiscal 2022 decreased compared with fiscal 2021, to $561 from $6,227. The decline in gross profit margin was the result of continued cost and schedule issues related to our defense business at our Batavia operation. We have chosen, in the near term, to over-resource certain critical defense orders to ensure we meet delivery expectations of our customers. We have continued to be challenged by labor shortages in our local market and to meet delivery schedule we increased our use of external contract welders, at a much higher cost. Redirecting resources to defense contracts at our Batavia operation has also impacted our commercial market orders which we had to outsource. In addition, we identified the
25
requirement for more production hours and material costs for certain large orders, primarily defense projects, in our Batavia operation. The positive contribution from the BN acquisition in the quarter was not sufficient to offset the combination of execution-related challenges which impacted gross margin in the quarter.
Gross profit margin for the first nine months of fiscal 2022 was 6% compared with 22% for the first nine months of fiscal 2021. Gross profit for the first nine months of fiscal 2022 compared with the first nine months of fiscal 2021, decreased to $4,918 from $15,488. Gross profit and margin declined due to the same factors which impacted the third quarter as described above. The flow of low margin defense projects and cost overruns for those projects through the Batavia operation was more heavily weighted in the first nine months of fiscal 2022 and are expected to be nearing completion in fiscal 2022. The BN acquisition contribution to gross profit helped to offset the losses from the Batavia defense projects and other cost overruns.
SG&A expenses as a percent of sales for both the three-month periods ended December 31, 2021 and 2020 was 17% and 18%, respectively. SG&A expenses in the third quarter of fiscal 2022 were $5,003, an increase of $67 compared with the third quarter of fiscal 2021 SG&A expenses of $4,936. SG&A expenses included intangible amortization of $274. SG&A expenses in the first nine months of fiscal 2022 were $15,173, an increase of $2,082, compared with SG&A expenses of $13,091 in the first nine months of fiscal 2021. The increase was due to the addition of BN, including $639 of intangible amortization.
Interest income for the three-month period and nine-month ended December 31, 2021 were $12 and $43, respectively, compared with $23 and $143, respectively, for the same periods ended December 31, 2020. The decrease in interest income was due to less cash and investments after the BN acquisition.
Interest expense for the three and nine-month periods ended December 31, 2021 was $132 and $300, respectively, compared with $1 and $9, respectively, for the same periods ended December 31, 2020. The increase was due to increased borrowings related to the BN acquisition.
Our effective tax rate for the three and nine-month periods ended December 31, 2021 was 19% and 20%, respectively. The effective tax rate for the three and nine-month periods ended December 31, 2020 was 23% and 26%, respectively.
Net loss and loss per diluted share for the third quarter of fiscal 2022 were $3,730 and $0.35, respectively, compared with net income and income per diluted share of $1,060 and $0.11, respectively, in the third quarter of fiscal 2021. Net loss and loss per diluted share for the first nine months of fiscal 2022 were $7,348 and $0.70, respectively, compared with net income of $1,986 and income per diluted share of $0.20 for the first nine months of fiscal 2021.
Liquidity and Capital Resources
The following discussion should be read in conjunction with our Condensed Consolidated Balance Sheets and Statements of Cash Flows:
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
March 31,
|
|
|
|
2021
|
|
|
2021
|
|
Cash and investments
|
|
$
|
13,991
|
|
|
$
|
65,032
|
|
Working capital
|
|
|
32,007
|
|
|
|
76,675
|
|
Working capital ratio(1)
|
|
|
1.5
|
|
|
|
2.8
|
|
Working capital excluding cash and investments
|
|
|
18,016
|
|
|
|
11,643
|
|
Working capital excluding cash and investments as a percent
of net sales(2)
|
|
|
13.5
|
%
|
|
|
11.9
|
%
|
(1)
Working capital ratio equals current assets divided by current liabilities.
(2)
Working capital excluding cash and investments as a percent of net sales is based upon trailing twelve month sales, including BN pre-acquisition sales.
Net cash used by operating activities for the first nine months of fiscal 2022 was $14,552 compared with $670 of cash generated for the first nine months of fiscal 2021. The increase in cash used was primarily due to operating earnings and changes in accounts receivable, income taxes and accounts payable, partly offset by a decrease in unbilled revenue and increased customer deposits.
Capital expenditures were $1,909 for the nine-month period and are expected to be approximately $2,500 to $3,000 for fiscal 2022. Dividend payments in the first nine months of fiscal 2022 were $3,524 compared with $3,292 in the same period of fiscal 2021.
26
Cash and investments were $13,991 at December 31, 2021 compared with $16,463 on September 30, 2021, down $2,472, and down from $65,032, on March 31, 2021.
We invest net cash generated from operations in excess of cash held for near-term needs in short-term, or less than 365 days, certificates of deposit, money market accounts or U.S. government instruments, generally with maturity periods of up to 180 days. Approximately 70% of our cash and investments are held in the U.S. The remaining 30% is held by our China and India operations.
On June 1, 2021, we entered into a $20,000 five-year term loan with Bank of America. The term loan requires monthly principal payments of $167 through June 1, 2026, with the remaining principal amount plus all interest due on the maturity date. The interest rate on the term loan is the applicable Bloomberg Short-Term Bank Yield Index ("BSBY"), plus 1.50%, subject to a 0.00% floor. The BSBY rate at December 31, 2021 was 0.0558%. In addition, on June 1, 2021, we terminated our revolving credit facility agreement with JPMorgan Chase Bank, N.A. and entered into a revolving credit facility with Bank of America that provides a $30,000 line of credit, including letters of credit and bank guarantees, expandable at our option and the bank’s approval at any time up to $40,000. The agreement has a five-year term. Amounts outstanding under the facility agreement bear interest at a rate equal to BSBY plus 1.50% per annum of the outstanding undrawn amount of each letter of credit that is not secured by cash and 0.6% of each commercial letter of credit that is secured by cash, subject to a 0.00% floor. Outstanding letters of credit under the agreement are subject to a fee of 1.50%. The upfront fee for both the term loan and revolving credit facility was 0.20% of the committed facilities and amounts available for borrowing under the revolving credit facility are subject to an unused commitment fee of 0.25%. Under the term loan agreement and revolving credit facility, we covenant to maintain a maximum total leverage ratio, as defined in such agreements, of 3.0 to 1.0, which may be increased to 3.25 to 1.0 following an acquisition for a period of twelve months following the close of the acquisition. In addition, we covenant to maintain a minimum fixed charge coverage ratio, as defined in such agreements, of 1.2 to 1.0 and minimum margined assets, as defined in such agreements, of 100% of total amounts outstanding on the revolving credit facility, including letters of credit.
We determined that as of December 31, 2021, we did not meet the financial covenants required by our loan agreement to maintain a maximum total leverage ratio of 3.25 to 1.0, nor did we maintain a minimum fixed charge coverage ratio of 1.2 to 1.0. On February 4, 2022, we obtained a waiver from Bank of America waiving their right to call the debt immediately due and payable as of December 31, 2021. As a term of receiving the waiver, until such time as Bank of America has received all required financial information with respect to the Company for the period ending on or about March 31, 2022, and such financial information confirms to the Bank of America's satisfaction that no default exists at such time, The Company will not permit the principal balance outstanding under the line of credit with Bank of America to exceed $15,000. Absent a waiver or amendment of the loan agreement, we anticipate that we will not meet these covenants as of March 31, 2022, which would be an event of default. Violation of the covenants under the loan agreement provides the bank with the option to accelerate the maturity of the term loan, which carries a balance of $19,000 as of December 31, 2021 and the revolving credit facility, which has a principal balance outstanding of $9,750 as of December 31, 2021. If our lenders accelerate the maturity of the term loan and the revolving credit facility, we do not have sufficient cash to repay the outstanding debt. These conditions and events raise substantial doubt about our ability to continue as a going concern within one year after the date that the financial statements were issued.
In response to these conditions, we have begun to actively engage in negotiations with the bank regarding amendments to our term loan and our revolving credit facility and related financial covenants. However, this plan has not been finalized and is not within our control, and therefore cannot be deemed probable. As a result, we have concluded that our plans do not alleviate substantial doubt about our ability to continue as a going concern. The condensed consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts and classification of liabilities that might result from the outcome of this uncertainty.
On June, 1, 2021, we entered into an agreement to amend and restate our letter of credit facility agreement with HSBC Bank USA, N.A. and decreased our line of credit from $15,000 to $7,500. Under the amended agreement, we incur an annual facility fee of $5 and outstanding letters of credit are subject to a fee of between 0.75% and 0.85%, depending on the term of the letter of credit. Interest is payable on the principal amounts of unreimbursed letter of credit draws under the facility at a rate of 3% plus the bank’s prime rate.
Letters of credit outstanding on December 31, 2021 and March 31, 2021 were $8,399 and $11,567, respectively. The outstanding letters of credit as of December 31, 2021 were issued by Bank of America, HSBC and residual items from our prior agreement with JP Morgan. There was $9,750 outstanding on our Bank of America revolving credit facilities at December 31, 2021. Availability under the Bank of America line of credit and HSBC secured line of credit on December 31, 2021 was $19,608. We believe that cash generated from operations, combined with our investments and available financing capacity under our credit facility, will be adequate to meet our cash needs for the immediate future and to support our growth strategies.
Dividend payments in the first nine months of fiscal 2022 were $3,524 and $1,909, respectively, compared with $3,292 and $1,462, respectively, for the first nine months of fiscal 2021. Graham has suspended its dividend as a condition to the waiver of financial covenants and is working with the bank to amend its loan agreement in the fourth quarter.
Orders and Backlog
27
Management uses orders and backlog as measures of our current and future business and financial performance. Orders for the three-month period ended December 31, 2021 were $67,964, an increase of $6,211, or 10%, and were driven by the acquisition which contributed $37,251 of orders in the quarter. This compared with $61,753 for the same period of fiscal 2021. Orders represent written communications received from customers requesting us to supply products and/or services. Domestic orders were 89% of total orders, or $60,655, and international orders were 11% of total orders, or $7,309, in the third quarter of fiscal 2022 compared with the third quarter of fiscal 2021 when domestic orders were 94%, or $58,110, of total orders, and international orders were 6%, or $3,643, of total orders.
During the first nine months of fiscal 2022, orders grew 11%, or $12,022, to $120,217, compared with $108,195 for the same period of fiscal 2021. The acquisition was the primary driver of the growth and contributed $53,301 in orders for the nine-month period. Domestic orders were 84% of total orders, or $101,022, and international orders were 16% of total orders, or $19,195, in the first nine months of fiscal 2022 compared with the same period of fiscal 2021 when domestic orders were 72%, or $77,459, of total orders, and international orders were 28%, or $30,736, of total orders.
Backlog was $272,599 at December 31, 2021, up 17% compared with $233,247 at September 30, 2021 and nearly double from $137,567 at March 31, 2021. Included in backlog at December 31, 2021 was $119,096 from BN. Backlog is defined as the total dollar value of orders received for which revenue has not yet been recognized. Approximately 40% to 50% of orders currently in our backlog are expected to be converted to sales within one year. The majority of the orders that are expected to convert beyond twelve months are for the defense industry, specifically the U.S. Navy. At December 31, 2021, 77% of our backlog was attributable to U.S. Navy projects, 11% for refinery project work, 5% for chemical and petrochemical projects, 3% for space projects and 4% for other industrial applications. At September 30, 2021, 78% of our backlog was attributable to U.S. Navy projects, 11% was for refinery project work, 4% for chemical and petrochemical projects, 3% for space projects and 4% for other industrial applications. At December 31, 2021, we had no projects on hold.
Outlook
Our defense business continues to be strong. With the acquisition of BN, 77% of our $272,599 backlog is in defense. While much of the defense backlog includes projects with order to shipment of up to five years, we expect 45% to 50% of our sales in fiscal 2022 to be from the defense market. Defense spending, specifically for the U.S. Navy, is expected to remain steady over the foreseeable future.
Near term opportunities in the global energy and petrochemical markets have slowed significantly due to the combined impact of the COVID-19 pandemic and the supply and demand imbalance. However, the recent improvements in our aftermarket and short cycle business in North America is encouraging. We believe when our energy markets do recover, it will be more muted and not to historical levels of strength. Strategically, we are implementing efforts to capture more aftermarket opportunity less oriented to capital projects.
Our objective is to leverage our engineering knowhow and depth of application experience to identify more opportunities for our products and technologies in our targeted markets.
All of the below expectations are inclusive of BN for the ten-month period we will own it during fiscal 2022.
Our expectations for sales and profitability assume that we are able to operate our production facilities in Batavia, New York and Arvada, Colorado at or near "normal" (pre-COVID-19 pandemic) capacity throughout fiscal 2022. We project that approximately 40% to 50% of backlog will convert to sales over the next 12 months. We expect the remaining backlog will convert beyond fiscal 2022, which includes a combination of U.S. Navy orders that have a long conversion cycle (up to six years) as well as certain commercial orders, the conversion of which has been extended by our customers.
Revenue in fiscal 2022 is expected to be $120,000 to $125,000, inclusive of $45,000 to $48,000 related to BN for the ten-month period we will own the business in fiscal 2022. We expect to have approximately $2,700 of acquisition related purchase price accounting costs to be recognized in fiscal 2022, which primarily will be amortization of intangible assets. Approximately $1,600 are expected to be charged to cost of goods sold and the remaining $1,100 to SG&A. Inclusive of the purchase accounting costs, we expect gross profit margins to be 8% to 10% of sales and SG&A to be 16% to 17% of sales. Our expected effective tax rate for fiscal 2022 is 18% to 20%. Adjusted earnings before net interest expense, income taxes, depreciation and amortization for the combined business is expected to be a loss of approximately $5,0001.
Although cash flow was negative in the first three quarters of fiscal 2022, we expect positive cash flow from operations for the remaining three months of fiscal 2022. While we paid a dividend in the first nine months of fiscal 2022, we have suspended the dividend.
28
1 We have not reconciled non-GAAP forward-looking adjusted earnings before net interest expense, income taxes, depreciation and amortization for the combined business to its most directly comparable GAAP measure, as permitted by Item 10(e)(1)(i)(B) of Regulation S-K. Such reconciliation would require unreasonable efforts to estimate and quantify various necessary GAAP components largely because forecasting or predicting our future operating results is subject to many factors out of our control or not readily predictable.
29
Contingencies and Commitments
We have been named as a defendant in lawsuits alleging personal injury from exposure to asbestos allegedly contained in or accompanying our products. We are a co-defendant with numerous other defendants in these lawsuits and intend to vigorously defend ourselves against these claims. The claims in our current lawsuits are similar to those made in previous asbestos lawsuits that named us as a defendant. Such previous lawsuits either were dismissed when it was shown that we had not supplied products to the plaintiffs’ places of work, or were settled by us for immaterial amounts.
As of December 31, 2021, we are subject to the claims noted above, as well as other legal proceedings and potential claims that have arisen in the ordinary course of business. Although the outcome of the lawsuits, legal proceedings or potential claims to which we are or may become a party cannot be determined and an estimate of the reasonably possible loss or range of loss cannot be made for the majority of the claims, we do not believe that the outcomes, either individually or in the aggregate, will have a material adverse effect on our results of operations, financial position or cash flows.
Critical Accounting Policies, Estimates, and Judgments
Our unaudited condensed consolidated financial statements are based on the selection of accounting policies and the application of significant accounting estimates, some of which require management to make significant assumptions. We believe that the most critical accounting estimates used in the preparation of our condensed consolidated financial statements relate to labor hour and total cost estimates and establishment of operational milestones which are used to recognize revenue under the overtime recognition model, accounting for contingencies, under which we accrue a loss when it is probable that a liability has been incurred and the amount can be reasonably estimated, and accounting for pensions and other postretirement benefits. For further information, refer to Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Item 8 "Financial Statements and Supplementary Data" included in our Annual Report on Form 10-K for the year ended March 31, 2021.
In addition to the critical accounting policies noted above, the Company has one additional critical accounting policy as follows:
Business Combinations and Intangible Assets. Assets and liabilities acquired in a business combination are recorded at their estimated fair values at the acquisition date. The fair value of identifiable intangible assets is based upon detailed valuations that use various assumptions made by management. Goodwill is recorded when the purchase price exceeds the estimated fair value of the net identifiable tangible and intangible assets acquired. Definite lived intangible assets are amortized over their estimated useful lives and are assessed for impairment if certain indicators are present. Goodwill and intangible assets deemed to have indefinite lives are not amortized but are subject to impairment testing annually or earlier if an event or change in circumstances indicates that the fair value of a reporting unit may have been reduced below its carrying value.