The Evolution of MDA Into Maxar Hits a Market Snag

Credit: Maxar.

MDA’s plan to reimagine itself as a U.S. based company has hit a big pothole along its path. This is primarily due to the significant downturn in sales of larger satellites, communication satellites destined for geosynchronous orbit (GEO), which is hitting its SSL unit hard.

The U.S. strategy

It was never going to be a completely smooth road that MDA travelled when it first implemented its U.S. strategy plan with the acquisition of SSL. At the time it was a great move. After all, the SSL acquisition 2012 led to where the company is now, which from a strategic point, is a good place to be when you look at the big picture and see how the company has been positioning itself. And the acquisition of DigitalGlobe is one of the keys to Maxar’s future growth, with the fusion of imagery, data and analytics along with its current and planned satellites.

It’s also important to remember why MDA went down this road. With a limited domestic market and needing to grow, its best option was to expand into the much larger and lucrative U.S. market. That need hasn’t changed.

Market forces

Markets change.

As MDA implemented its U.S. strategy and made strategic acquisitions, the market changed. Could the new MDA, now Maxar, have predicted that the GEO communications satellite segment would drop off a cliff? It’s unlikely.

Those market changes have resulted in Maxar announcing that it would sell its GEOComm business. In the investors call Wednesday, Maxar CEO Howard Lance discussed the sale of the GEOComm business.

“…I can’t be specific but I can tell you we’re in a number of discussions and our primary path remains to sell the business. So we’ve multiple interested parties. We’re in discussions and we’re still hopeful to have an answer that we can announce between now and the end of the year.”

That doesn’t mean Maxar is selling SSL, the Maxar unit that builds satellites, in its entirety, only the assets SSL had been using directly related to the GEOComm business. SSL had already started a shift to building smaller satellites. This includes the recent delivery of SkySat 14 and 15 for Planet which will launch later this month.

As well, Maxar had already begun the transition of some SSL assets to a new facility designed to meet the need of the growing small satellite market. In its Q2 analyst call on July 31 Lance said they were “establishing a separate organization structure and bringing in new talent to focus on execution of the U.S. government and commercial SmallSat’s growth opportunities,” with a facility opening in San Jose. Lance also said Maxar believes there is “a healthy pipeline of SmallSat in U.S. government opportunities” and that there will be “sustained growth well into the 2020’s.”

Q3 pain for long term gain?

Maxar’s GeoComm unit which includes SSL recorded an impairment loss of US$383.6 million in its Q3 results. This was attributed to the continuing decline in sales in the GEO satellite business segment and included the loss of the AMOS 8 contract after the Israeli government stepped in to have the satellite built by an Israeli company.

Consolidated revenues were US$508.2 million compared to an analysts expectation of US$560 million. As well analysts were expecting US$1.06 per share in net income but instead were treated to a huge loss of $7.31-per-share.

Maxar’s stock was down over 40% on the news, though it may have hit bottom yesterday as its rebounded a bit today.

Motley Fool, a financial services company that provides financial advice to investors put it this way in a note to investors Wednesday;

The news isn’t quite as terrible as it appears at first glance — but it’s still pretty terrible.

Much of Maxar’s loss came about as a result of a $383.6 million noncash charge to earnings for impairment and obsolescence. But even backing out that (hopefully) one-time charge, Maxar would have lost $0.83 per share for the quarter and still fallen far short of Wall Street’s estimates.

On the plus side, Maxar did report $29.2 million in adjusted free cash flow for the quarter. According to data from S&P Global Market Intelligence, that means that despite being in a net loss position on its income statement, Maxar is still generating strong free cash flow of approximately $286 million over the past 12 months.

Just two weeks ago another Motley Fool (Canada) analyst was singing the praises of Maxar’s stock. In a post titled Forget SpaceX. The Most Interesting Space Company Is Listed in Canada the author states “I believe investors have overlooked this company since the merger flew under the radar last year. Maxar may not have SpaceX’s brand power or media attention, but it does have experience, a strong balance sheet, and a long-term acquisition-driven strategy that I think is worth a closer look.”

So is Maxar in trouble or are they adapting to the shifting market?

Biggs Porter, Maxar’s new Chief Financial Officer in responding to an analysts question on returning to double digit margins for the Space Systems segment said “I think without GEO, we would say pretty strongly we will have excellent Space Systems margins. The margins for the rest of the business are solid.”

It’s clear the GEOComm business has tanked, but if you look at the whole of Maxar, their strategy, and the results of the other business segments, they just might be fine after the GEOComm business is dealt with.

What’s does this mean for Maxar’s MDA unit in Canada?

Lance addressed MDA’s growth going forward by saying this in the investor call. “At this point we’re coming off of tough comparables with our MDA company because of the wind down of the RCM business. As that winds down and the year-over-year comparables kind of go to zero and then you put on top the growth programs that Mike Greenley and his team are driving, most notably continued growth in our satellite subsystems business, growth in robotics both from our Brampton operations, as well as our operations with the acquisition of Neptec, and then on top of that the great news with the Canadian Combatant Ship program, you’re going to see accelerating growth there.”

Lance is bullish about its growth in Canada because of the Canadian Combatant Ship program. Lockheed Martin is the lead in that program and they recently won the right to be the first to negotiate a contract with the government. Should the contract be signed it would mean hundreds of new jobs for MDA.

Plans are also underway at the Canadian Space Agency for a follow-on to the RADARSAT Constellation Mission (RCM). Should the government move forward with a next phase in the RCM it’s likely MDA will benefit.

And let’s not forget the OneWeb contract for antennas in the satellite subsystems business. Work on that contract is ramping up.

While SSL GEOComm business is experiencing serious problems, it seems Maxar’s MDA, DigitalGlobe and Radiant Solutions units are executing their integrated plans.

A deep dive into Maxar’s impairment loss

Maxar provided a detailed explanation of the impairment loss in its SEDAR MD&A – English filing.

Impairment of Non-Financial Assets

Non-financial assets are tested annually for impairment in the fourth quarter or whenever there is an indication that an asset may be impaired. Non-financial assets that do not generate independent cash flows are grouped together into a cash generating unit (“CGU”), which represent the level at which largely independent cash flows are generated. An impairment loss is recognized in earnings to the extent that the carrying value of an asset, CGU or group of CGUs exceeds its recoverable amount. Impairment is first evaluated by management at the CGU level, absent allocated goodwill.

The Company considers whether any indicators of impairment exist each quarter. The GeoComm business, a CGU within the Space Systems segment, forecasted it would have a significantly different mix of programs at the beginning of the year. Additionally, the GeoComm business predicted it would be awarded approximately three to four contracts for geocomm satellites, or approximately thirty percent of the overall 2018 industry awards. During Q1 2018, the Company was awarded a contract to provide the B-SAT satellite, and it was also selected to build the AMOS-8 satellite, a key program with the Israeli government. By the end of Q2 2018, the Company was still confident in its prediction of three to four geocomm satellite builds. For the three months ended March 31, 2018 and six months ended June 30, 2018, the Company concluded that no indicators of impairment were present.

In the third quarter of 2018, it became clear that industry and macroeconomic factors had declined substantially from earlier forecasts. By August 2018, there were only five winnable programs across the industry for the entire year, and two to three other satellites from the total industry outlook of eight to twelve awards were delayed. In addition, in Q3 2018 it became apparent that the Israeli government intended to use an Israeli satellite manufacturer in place of SSL to build AMOS 8. The Company does not expect the long-term outlook for the GeoComm business to rebound significantly from current year award levels. Lower award volumes also contribute to reduced profitability from under-absorbed fixed indirect overhead costs, as the Company’s facilities in Palo Alto, CA are significantly over-sized for today’s business volume. As a result of these and other factors, the Company commenced an effort in the third quarter of 2018 to assess strategic alternatives for its GeoComm business, including a potential sale, and implemented a major restructuring initiative to right size the GeoComm business for its current environment.

The aggregation of the above factors resulted in an impairment trigger being identified as at August 31, 2018 at the GeoComm CGU. The Company first performed an impairment test of the GeoComm CGU. The impairment test of the GeoComm CGU evaluated the non-financial assets held by the Company based on an asset group level, absent allocated goodwill. Assets were aggregated to the level in which independent cash flows could be generated for their respective groupings. The carrying values of these asset groups were compared against their fair value less costs of disposal for possible impairment and an impairment loss of $345.9 million related to property, plant and equipment and intangible assets was recorded for the three months ended September 30, 2018.

Goodwill is tested annually in the fourth quarter or whenever there is an indication that an asset may be impaired. The Company performs its goodwill impairment testing based on three groups of Cash Generating Unit’s (“CGU’s”) representing its three operating segments as this is the lowest level at which management monitors goodwill. The GeoComm CGU represents a material portion of the Space Systems segment, and as such, the Company identified an indicator of goodwill impairment at the Space Systems segment. The Space Systems segment is comprised of multiple CGU’s, which include the GeoComm CGU, Smallsat CGU and numerous CGU’s within the MDA Canada business. The goodwill impairment test yielded no impairment, as the fair value of the Space Systems segment exceeded its carrying value by 87%.

Inventory Obsolescence

The significant decrease in the Company’s GeoComm forecast and declining macroeconomic environment in which the GeoComm business operates also caused a significant decrease in the forecasted usage of inventory held by the Company. The Company was previously holding inventory on hand in anticipation of awards to be won during the second half of 2018 and for the AMOS 8 program. The impacts from the loss of AMOS 8 and inability to obtain the forecasted awards culminated during the third quarter of 2018. These factors compelled the Company to re-evaluate its inventory reserves for inventory that was previously pegged to forecasted usage.

All GeoComm inventory subject to discernment over future use based on forecasts was assessed for possible obsolescence. The result of the re-assessment of future usage of the on-hand inventory was an incremental inventory obsolescence reserve of $37.7 million for the three months ended September 30, 2018.

About Marc Boucher

Boucher is an entrepreneur, writer, editor & publisher. He is the founder of SpaceQ Media Inc. and CEO and co-founder of SpaceRef Interactive LLC. Boucher has 20+ years working in various roles in the space industry and a total of 30 years as a technology entrepreneur including creating Maple Square, Canada's first internet directory and search engine.

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