TMCnet News
DYCOM INDUSTRIES INC - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations.(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion and analysis should be read in conjunction with our consolidated financial statements and the accompanying notes thereto, as well as Part I, Item 1, Business, and Part II, Item 1A, Risk Factors, of this Annual Report on Form 10-K. Introduction We are a leading provider of specialty contracting services throughout the United States and in Canada. Our services are provided on a decentralized basis through our subsidiary companies and include engineering, construction, maintenance and installation services to telecommunications providers, underground facility locating services to various utilities, including telecommunications providers, and other construction and maintenance services to electric and gas utilities and others. Our subsidiaries provide the labor, tools and equipment necessary to design, engineer, locate, maintain, expand, install and upgrade the telecommunications infrastructure of our customers. The telecommunications industry has undergone and continues to undergo significant changes due to advances in technology, increased competition as the telephone and cable companies have converged, growing consumer demand for enhanced and bundled services, and rural broadband funding through government programs. As a result of these factors, the networks of our customers increasingly face demands for more capacity and greater reliability. Telecommunications providers continue to outsource a significant portion of their engineering, construction, maintenance, and installation requirements in order to reduce their investment in capital equipment, provide flexibility in workforce sizing, expand product offerings without large increases in incremental hiring, and focus on those competencies they consider core to their business success. These factors drive customer demand for our services. 18-------------------------------------------------------------------------------- Table of Contents Demand for our services may be impacted by the cyclical nature of the industry we serve. Our revenues and results of operations are influenced by the capital expenditure and maintenance budgets of our customers, including seasonal budgetary spending patterns and timing of their budget approvals, as well as the timing and volume of customers' construction and maintenance projects. The capital expenditures and maintenance budgets of our telecommunications customers may be impacted by consumer and business demands on telecommunications providers, the introduction of new communication technologies, the physical maintenance needs of their infrastructure, the actions of our government and the Federal Communications Commission, and overall economic conditions. Changes in our mix of customers, contracts and business activities, as well as changes in the general level of construction activity also drive cyclical variations in revenues and results of operations. Customer Relationships and Contractual Arrangements We have established relationships with many leading telephone companies, cable television multiple system operators, telecommunication equipment and infrastructure providers, and electric and gas utilities and other. Our customer base is highly concentrated, with our top five customers accounting for approximately 58.3%, 58.5% and 59.6% of our total revenues in fiscal 2014, 2013 and 2012, respectively. The following reflects the percentage of total revenue from those customers who contributed at least 2.5% to our total revenue in fiscal 2014, 2013 or 2012: Fiscal Year Ended 2014 2013 2012 AT&T Inc. 19.2% 15.5% 13.7% CenturyLink, Inc. 13.8% 14.6% 13.6% Comcast Corporation 11.7% 10.9% 12.6% Verizon Communications Inc. 8.2% 9.6% 11.3% Time Warner Cable Inc. 5.5% 4.5% 4.6% Windstream Corporation 5.3% 7.9% 8.4% Charter Communications, Inc. 4.5% 5.7% 6.5% In addition, another customer contributed 3.2% to our total revenue during fiscal 2014. There was an immaterial amount of revenue derived from this customer during fiscal 2013 and fiscal 2012. We generally have multiple agreements with each of our significant customers. To the extent that such agreements specify exclusivity, there are often a number of exceptions, including the ability of the customer to issue work orders valued above a specified dollar amount to other service providers, the performance of work with the customer's own employees, and the use of other service providers when jointly placing facilities with another utility. In most cases, a customer may terminate an agreement for convenience with written notice. Historically, master service agreements have been awarded primarily through a competitive bidding process; however, occasionally we are able to extend some of these agreements on a negotiated basis. Revenues from multi-year master service agreements were 65.2%, 65.2% and 70.3% as a percentage of total contract revenues during fiscal 2014, 2013 and 2012, respectively. The remainder of our services are provided pursuant to contracts for specific projects. Other long-term contracts relate to specific projects with terms in excess of one year from the contract date. Revenues from other long-term contracts were 13.7%, 11.8% and 10.3% as a percentage of total contract revenues during fiscal 2014, 2013 and 2012, respectively. The percentage of revenue from long-term contracts varies from period to period depending on the mix of work performed. Short-term contracts for specific projects are generally three to four months in duration. A portion of our contracts include retainage provisions by which 5% to 10% of the invoiced amounts may be withheld by the customer pending project completion. Acquisitions As part of our growth strategy, we may acquire companies that expand, complement or diversify our business. We regularly review opportunities and periodically engage in discussions regarding possible acquisitions. Our ability to sustain our growth and maintain our competitive position may be affected by our ability to identify, acquire, and successfully integrate companies. Fiscal 2013 - On December 3, 2012, we acquired substantially all of the telecommunications infrastructure services subsidiaries (the "Acquired Subsidiaries") of Quanta Services, Inc. for the sum of $275.0 million in cash, an adjustment of 19-------------------------------------------------------------------------------- Table of Contents approximately $40.4 million for working capital received in excess of a target amount and approximately $3.7 million for other specified items. We recognized approximately $6.5 million of acquisition costs during fiscal 2013 related to the acquisition of the Acquired Subsidiaries, which are included within general and administrative expenses. The Acquired Subsidiaries provide specialty contracting services, including engineering, construction, maintenance and installation services to telecommunications providers, and other construction and maintenance services to electric and gas utilities and others. Principal business facilities are located in Arizona, California, Florida, Georgia, Minnesota, New York, Pennsylvania and Washington. During the fourth quarter of fiscal 2013, we acquired Sage Telecommunications Corp. of Colorado, LLC ("Sage"). Sage provides telecommunications construction and project management services primarily for cable operators in the Western United States. Additionally, during the fourth quarter of fiscal 2013 we acquired certain assets of a tower construction and maintenance company. Fiscal 2014 - During the third quarter of fiscal 2014, we acquired a telecommunications specialty construction contractor in Canada for $0.7 million. We also acquired Watts Brothers Cable Construction, Inc. ("Watts Brothers") for $16.4 million during the fourth quarter of fiscal 2014. Watts Brothers provides specialty contracting services primarily for telecommunication and cable operators in the Midwest and Southeastern United States. Purchase price allocations of businesses acquired during fiscal 2014 are preliminary and will be completed during fiscal 2015 when the valuations for intangible assets and other amounts are finalized. Understanding Our Results of Operations The following information is presented in order for the reader to better understand certain factors impacting our results of operations and profitability and should be read in conjunction with Critical Accounting Policies and Estimates below as well as Note 1, Accounting Policies, in the Notes to the Consolidated Financial Statements in this Annual Report on Form 10-K. Revenues. We recognize revenues under the percentage of completion method of accounting as more fully described within Critical Accounting Policies and Estimates below. Cost of Earned Revenues. Cost of earned revenues includes all direct costs of providing services under our contracts, including costs for direct labor provided by employees, services by independent subcontractors, operation of capital equipment (excluding depreciation and amortization), direct materials, other direct costs and insurance claims. For insurance claims, we retain the risk of loss, up to certain limits, related to automobile liability, general liability, workers' compensation, employee group health, and damages relating to underground facility locating services. A change in claims experience or actuarial assumptions related to these risks could materially affect our results of operations. General and Administrative Expenses. General and administrative expenses primarily consist of employee compensation and related expenses, including stock-based compensation, legal, consulting and professional fees, information technology and development costs, provision for or recoveries of bad debt expense, acquisition and integration costs of businesses acquired, and other costs that are not directly related to the provision of our services under customer contracts. Our senior management, including the senior managers of our subsidiaries, perform substantially all of our sales and marketing functions as part of their management responsibilities and, accordingly, we have not incurred material sales and marketing expenses. Information technology and development costs included in general and administrative expenses are primarily incurred to support and to enhance our operating efficiency. To protect our rights, we have filed for patents on certain of our innovations. Depreciation and Amortization. Our property and equipment primarily consists of vehicles, equipment and machinery, and computer hardware and software. Property and equipment is depreciated on a straight-line basis over their estimated useful lives. In addition, certain of our reporting units have intangible assets, including customer relationships, contract backlog, trade names, and non-compete intangibles, which are amortized over their estimated useful lives. Interest Expense, Net and Other Income, Net. Interest expense, net, consists of interest expense on outstanding debt obligations, amortization of deferred financing costs and other interest expense. Other income, net, primarily consists of gains or losses from sales of fixed assets. Seasonality and Quarterly Fluctuations. Our revenues and results of operations exhibit seasonality as a significant portion of our work is performed outdoors. Consequently, our operations are impacted by extended periods of adverse weather which are more likely to occur during the winter season, impacting our second and third fiscal quarters. Several of the businesses acquired during fiscal 2013 are located and perform work in geographies more prone to cold weather, further impacting seasonal variations during our second and third fiscal quarters. Also, a disproportionate percentage of paid holidays fall within 20-------------------------------------------------------------------------------- Table of Contents our second quarter, which decreases the number of available workdays. Additionally, our customer premise equipment installation activities for cable providers historically decrease around the calendar year-end holidays as their customers generally require less activity during this period. As a result of these factors, we may experience reduced revenue and profitability in the second and/or third quarters of our fiscal year. During the second and third quarters of fiscal 2014, we experienced the impact of such adverse weather conditions, which negatively impacted productivity and our results for those periods. We have experienced and expect to continue to experience quarterly variations in revenues and results of operations as a result of other factors as well. Such factors include fluctuations in insurance expense due to changes in claims experience and actuarial assumptions, variances in incentive pay and stock-based compensation expense a result of operating results and vesting provisions, and changes in the employer portion of payroll taxes as a result of reaching the limitation on payroll withholdings obligations. Other factors that may contribute to quarterly variations in results of operations include interest expense due to levels of borrowings, other income as a result of the timing and levels of capital assets sold during the period, and income tax expense due to levels of taxable earnings, the impact of non-deductible items and tax credits, and the impact of disqualifying dispositions of incentive stock option expenses. Accordingly, operating results for any fiscal period are not necessarily indicative of results that may be achieved for any subsequent fiscal period. Critical Accounting Policies and Estimates The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). The preparation of these financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in these consolidated financial statements and accompanying notes. These estimates and assumptions require the use of judgment as to the likelihood of various future outcomes and, as a result, actual results could differ materially from these estimates. We have identified the accounting policies below as critical to the accounting for our business operations and the understanding of our results of operations because they involve making significant judgments and estimates that are used in the preparation of our consolidated financial statements. The impact of these policies affect our reported and expected financial results and are discussed below. We have discussed the development, selection and application of our critical accounting policies with the Audit Committee of our Board of Directors, and the Audit Committee has reviewed the disclosure relating to our critical accounting policies herein. Other significant accounting policies, primarily those with lower levels of uncertainty than those discussed below, are also important to understanding our consolidated financial statements. The Notes to Consolidated Financial Statements in this Annual Report on Form 10-K contain additional information related to our accounting policies, including the critical accounting policies described herein, and should be read in conjunction with this discussion. Revenue Recognition. We recognize revenues under the percentage of completion method of accounting using the units-of-delivery or cost-to-cost measures. A majority of our services are performed under master service agreements with customers which contain customer-specified service requirements, such as discrete pricing for individual tasks. Revenue is recognized under these arrangements based on units-of-delivery and revenue is recognized as each unit is completed. There were no material amounts of unapproved change orders or claims recognized during fiscal 2014, 2013 or 2012. Revenues from contracts using the cost-to-cost measures of completion are recognized based on the ratio of contract costs incurred to date to total estimated contract costs and represented less than 10% of our contract revenues during each of fiscal 2014, 2013 and 2012. In addition, we have an immaterial amount of revenue for services provided under time and material contracts that are recognized as the work is performed. The current asset "Costs and estimated earnings in excess of billings" represents revenues recognized in excess of amounts billed. The current liability "Billings in excess of costs and estimated earnings" represents billings in excess of revenues recognized. Application of the percentage of completion method of accounting requires the use of estimates of costs to be incurred for the performance of the contract. The cost estimation process is based on the knowledge and experience of our project managers and financial professionals. Factors that we consider in estimating the work to be completed and ultimate contract recovery include the availability and productivity of labor, the nature and complexity of the work to be performed, the effect of change orders, the availability of materials, the effect of any delays in performance and the recoverability of any claims. Changes in job performance, job conditions, estimated profitability and final contract settlements may result in changes to costs and income and their effects are recognized in the period in which the revisions are determined. At the time a loss on a contract 21-------------------------------------------------------------------------------- Table of Contents becomes known, the entire amount of the estimated ultimate loss is accrued. For fiscal 2014, 2013 and 2012, there have been no material changes in estimates for amounts in the consolidated financial statements. Allowance for Doubtful Accounts. We grant credit under normal payment terms, generally without collateral, to our customers. We maintain an allowance for doubtful accounts for estimated losses resulting from the failure of our customers to make required payments. With respect to certain customers, we have statutory lien rights which may assist in our collection efforts. Management analyzes the collectability of accounts receivable balances each period. This analysis considers the aging of account balances, historical bad debt experience, changes in customer creditworthiness, current economic trends, customer payment activity and other relevant factors. Should any of these factors change, the estimate made by management may also change, which could affect the level of our future provision for doubtful accounts. We recognize an increase in the allowance for doubtful accounts when it is probable that a receivable is not collectible and the loss can be reasonably estimated. Any increase in the allowance account has a corresponding negative effect on our results of operations. Accrued Insurance Claims. Within our insurance program, we retain the risk of loss, up to certain limits, for claims related to automobile liability, general liability, workers' compensation, employee group health, and damages relating to underground facility locating services. We have established reserves that we believe to be adequate based on current evaluations and our experience with these types of claims. A liability for unpaid claims and the associated claim expenses, including incurred but not reported losses, is determined with the assistance of an actuary and reflected in the consolidated financial statements as accrued insurance claims. The effect on our financial statements is generally limited to the amount needed to satisfy our insurance deductibles or retentions. The liability for accrued claims and related accrued processing costs was $66.0 million and $56.3 million at July 26, 2014 and July 27, 2013, respectively, and included incurred but not reported losses of approximately $32.1 million and $26.0 million, respectively. Based on prior payment patterns for similar claims, $32.3 million and $29.1 million of the amounts accrued at July 26, 2014 and July 27, 2013, respectively, were expected to be paid within the next twelve months. We estimate the liability for claims based on facts, circumstances and historical evidence. When loss reserves are recorded they are not discounted, even though they will not be paid until sometime in the future. Factors affecting the determination of the expected cost for existing and incurred but not reported claims include, but are not limited to, the estimated number of future claims, the payment pattern of claims which have been incurred, changes in the medical condition of claimants, and other factors such as inflation, tort reform or other legislative changes, unfavorable jury decisions and court interpretations. With regard to losses occurring in fiscal 2012 through fiscal 2014, we retain the risk of loss of up to $1.0 million on a per occurrence basis for automobile liability, general liability and workers' compensation. We have maintained this same level of retention for fiscal 2015. These retention amounts are applicable to all of the states in which we operate, except with respect to workers' compensation insurance in two states in which we participate in a state sponsored insurance fund. Aggregate stop loss coverage for automobile liability, general liability and workers' compensation claims is $56.3 million for fiscal 2014 and $59.5 million for fiscal 2015. The risk of loss for insured claims of the Acquired Subsidiaries, including those incurred but not reported, as of the date of acquisition has been retained by Quanta Services, Inc. We are party to a stop-loss agreement for losses under our employee group health plan. We retain the risk of loss, on an annual basis, of the first $250,000 of claims per participant. In addition, we retain the risk of loss for the first $550,000 of claim amounts that aggregate across all participants having claims that exceed $250,000. Stock-Based Compensation. Our stock-based award programs are intended to attract, retain and reward talented employees, officers and directors, and to align stockholder and employee interests. We have granted stock-based awards under our 2012 Long-Term Incentive Plan ("2012 Plan"), 2003 Long-Term Incentive Plan ("2003 Plan") and 2007 Non-Employee Directors Equity Plan ("2007 Directors Plan" and, together with the 2012 Plan and 2003 Plan, the "Plans"). In addition, awards are outstanding under other plans under which no further awards will be granted. Our policy is to issue new shares to satisfy equity awards under the Plans. The Plans provide for several types of stock-based awards, including stock options, restricted shares, performance shares, restricted share units, performance share units, and stock appreciation rights. The total number of shares available for grant under the Plans as of July 26, 2014 was 1,433,653. Compensation expense for stock-based awards is based on the fair value at the measurement date and is included in general and administrative expenses in the consolidated statements of operations. The fair value of time-based restricted share units ("RSUs") and performance-based restricted share units ("Performance RSUs") is estimated on the date of grant and is generally equal to the closing stock price on that date. RSUs and Performance RSUs are settled in one share of the our common stock upon vesting. RSUs vest ratably over a period of four years and generally, upon each annual vesting, 50% of the newly vested shares (net of any shares used to satisfy tax withholding obligations) are restricted from sale or transferability ("restricted holdings"). The restrictions on sale or transferability of the restricted holdings will end 90 days after termination of 22-------------------------------------------------------------------------------- Table of Contents employment of the holder. When the holder has accumulated restricted holdings having a value equal to or greater than the holder's annual base salary then in effect, future grants will no longer be subject to the restriction on transferability. Performance RSUs vest over a period of three years from the date of grant if certain performance goals are achieved. The performance targets are based on our fiscal year operating earnings (adjusted for certain amounts) as a percentage of contract revenues and our fiscal year operating cash flow level. For the fiscal 2014 performance period, the performance targets exclude amounts recorded for the amortization of intangible assets of businesses acquired in fiscal 2013. Additionally, certain awards include three-year performance goals which, if met, result in supplemental shares awarded. The three-year performance criteria required to earn supplemental awards is more difficult than that required to earn annual target awards and is based on our three-year cumulative operating earnings (adjusted for certain amounts) as a percentage of contract revenues and our three-year cumulative operating cash flow level. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model based on certain assumptions including: expected volatility based on the historical price of our stock over the expected life of the option; the risk free rate of return based on the U.S. Treasury yield curve in effect at the time of grant for the expected term of the option; the expected life based on the period of time the options are expected to be outstanding using historical data to estimate option exercise and employee termination; and dividend yield based on our history and expectation of dividend payments. Stock options generally vest ratably over a four-year period and are exercisable over a period of up to ten years. The total amount of stock-based compensation expense ultimately recognized is based on the number of awards that actually vest and fluctuates as a result of performance criteria for performance-based awards, as well as the vesting period of all stock-based awards. For Performance RSUs, we evaluate compensation expense quarterly and recognize expense for performance-based awards only if we determine it is probable that the performance criteria for the awards will be met. Accordingly, the amount of compensation expense recognized during any fiscal year may not be representative of future stock-based compensation expense. Income Taxes. We account for income taxes under the asset and liability method. This approach requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the carrying amounts and the tax bases of assets and liabilities. Our effective income tax rate differs from the statutory rate for the tax jurisdictions where we operate primarily as the result of the impact of state income taxes, non-deductible and non-taxable items and tax credits recognized in relation to pre-tax results. Measurement of certain aspects of our tax position is based on interpretations of tax regulations, federal and state case law and the applicable statutes. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date. We record net deferred tax assets to the extent we believe these assets will more likely than not be realized. In making such determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent financial operations. In the event we determine that we would be able to realize deferred income tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance, which would reduce the provision for income taxes. In the normal course of business, tax positions exist for which the ultimate outcome is uncertain. ASC Topic 740, Income Taxes ("ASC Topic 740") prescribes a two-step process for the financial statement recognition and measurement of income tax positions taken or expected to be taken in an income tax return. The first step involves an evaluation of the underlying tax position based solely on technical merits (such as tax law) and the second step involves measuring the tax position based on the probability of it being sustained in the event of a tax examination. We recognize tax benefits at the largest amount that it deems more likely than not will be realized upon ultimate settlement of any tax uncertainty. Tax positions that fail to qualify for recognition are recognized in the period in which the more-likely-than-not standard has been reached, when the tax positions are resolved with the respective taxing authority or when the statute of limitations for tax examination has expired. We recognize interest related to unrecognized tax benefits in interest expense and penalties in general and administrative expenses. Contingencies and Litigation. In the ordinary course of our business, we are involved in certain legal proceedings. ASC Topic 450, Contingencies ("ASC Topic 450") requires that an estimated loss from a loss contingency should be accrued by a charge to operating results if it is probable that an asset has been impaired or a liability has been incurred and the amount of the loss can be reasonably estimated. In determining whether a loss should be accrued, we evaluate, among other factors, the probability of an unfavorable outcome and the ability to make a reasonable estimate of the amount of loss. If only a range of probable loss can be determined, we accrue for our best estimate within the range for the contingency. In those cases where none of the estimates within the range is better than another, we accrue for the amount representing the low end of the range in accordance with ASC Topic 450. As additional information becomes available, we reassess the potential liability related to our pending contingencies and litigation and revise our estimates. Revisions of our estimates of the potential liability could materially impact our results of operations. Additionally, if the final outcome of such litigation and contingencies differs adversely from that currently expected, it would result in a charge to earnings when determined. 23-------------------------------------------------------------------------------- Table of Contents Business Combinations. We account for business combinations under the acquisition method of accounting. The purchase price of each acquired business is allocated to the tangible and intangible assets acquired and the liabilities assumed on the basis of their respective fair values on the date of acquisition. Any excess of the purchase price over the fair value of the separately identifiable assets acquired and the liabilities assumed is allocated to goodwill. Purchase price allocations are based on information regarding the fair value of assets acquired and liabilities assumed as of the dates of acquisition. We determine the fair values used in purchase price allocations for intangible assets based on historical data, estimated discounted future cash flows, contract backlog amounts, if applicable, and expected royalty rates for trademarks and trade names as well as certain other assumptions. The valuation of assets acquired and liabilities assumed requires a number of judgments and is subject to revision as additional information about the fair value of assets and liabilities becomes available. Additional information, which existed as of the acquisition date but at that time was unknown to us, may become known during the remainder of the measurement period, a period not to exceed twelve months from the acquisition date. Adjustments in the purchase price allocation may require a recasting of the amounts allocated to goodwill and intangible assets. Acquisition costs are expensed as incurred. The results of operations of businesses acquired are included in the accompanying consolidated financial statements from their dates of acquisition. Goodwill and Intangible Assets. As of July 26, 2014, we had $269.1 million of goodwill, $4.7 million of indefinite-lived intangible assets and $111.4 million of finite-lived intangible assets, net of accumulated amortization. As of July 27, 2013, we had $267.8 million of goodwill, $4.7 million of indefinite-lived intangible assets and $120.6 million of finite-lived intangible assets, net of accumulated amortization. The increase in goodwill is primarily due to the acquisition of Watts Brothers. The decrease in net intangible assets is a result of the amortization of intangibles during fiscal 2014, partially offset by the increase in intangible assets due to the acquisition of Watts Brothers. See Note 7, Goodwill and Intangible Assets, in the Notes to the Consolidated Financial Statements in this Annual Report on Form 10-K. We account for goodwill and other intangibles in accordance with Financial Accounting Standards Board Accounting Standard Codification ("ASC") Topic 350, Intangibles - Goodwill and Other ("ASC Topic 350"). Our goodwill and other indefinite-lived intangible assets are assessed annually for impairment as of the first day of the fourth fiscal quarter of each year, or more frequently if events occur that would indicate a potential reduction in the fair value of a reporting unit below its carrying value. We perform our annual impairment review of goodwill at the reporting unit level. Each of our operating segments with goodwill represents a reporting unit for the purpose of assessing impairment. If we determine the fair value of the reporting units goodwill or other indefinite-lived intangible assets is less than their carrying value as a result of the tests, an impairment loss is recognized. Impairment losses, if any, are reflected in operating income or loss in the consolidated statements of operations during the period incurred. In accordance with ASC Topic 360, Impairment or Disposal of Long-Lived Assets, we review finite-lived intangible assets for impairment whenever an event occurs or circumstances change which indicates that the carrying amount of such assets may not be fully recoverable. Recoverability is determined based on an estimate of undiscounted future cash flows resulting from the use of an asset and its eventual disposition. Should an asset not be recoverable, an impairment loss is measured by comparing the fair value of the asset to its carrying value. If we determine the fair value of an asset is less than the carrying value, an impairment loss is incurred. Impairment losses, if any, are reflected in operating income or loss in the consolidated statements of operations during the period incurred. We use judgment in assessing if goodwill and intangible assets are impaired. Estimates of fair value are based on our projection of revenues, operating costs, and cash flows taking into consideration historical and anticipated future results, general economic and market conditions, as well as the impact of planned business or operational strategies. To measure fair value, we employ a combination of present value techniques which reflect market factors. Changes in our judgments and projections could result in significantly different estimates of fair value potentially resulting in additional impairments of goodwill and other intangible assets. The inputs used for fair value measurements of the reporting units and other related indefinite-lived intangible assets are the lowest level (Level 3) inputs. Our goodwill resides in multiple reporting units. The profitability of individual reporting units may suffer periodically from downturns in customer demand and other factors resulting from the cyclical nature of our business, the high level of competition existing within our industry, the concentration of our revenues from a limited number of customers, and the level of overall economic activity, including in particular construction and housing activity. During times of slowing economic conditions, our customers may reduce capital expenditures and defer or cancel pending projects. Individual reporting units may be relatively more impacted by these factors than the Company as a whole. As a result, demand for the services of one or more of our reporting units could decline, resulting in an impairment of goodwill or intangible assets. 24-------------------------------------------------------------------------------- Table of Contents We performed our annual impairment assessment as of the first day of the fourth quarter of each of fiscal 2014, 2013 and 2012 and concluded that no impairment of goodwill or the indefinite-lived intangible asset was indicated at any reporting unit for any of the years. During fiscal 2014, we performed qualitative assessments on reporting units that comprise less than 20% of our consolidated goodwill balance. The qualitative assessments indicated that it was more likely than not that the fair value exceeded carrying value for those reporting units. For the remaining reporting units we performed the first step of the quantitative analysis described in ASC Topic 350. The key valuation assumptions contributing to the fair value estimates of our reporting units were (a) a discount rate based on our best estimate of the weighted average cost of capital adjusted for risks associated with the reporting units; (b) terminal value based on terminal growth rates; and (c) seven expected years of cash flow before the terminal value for each annual test. The table below outlines certain assumptions in each of our fiscal 2014, 2013 and 2012 annual quantitative impairment analyses: 2014 2013 2012 Terminal Growth Rate Range 1.5% - 3.0% 1.5% - 2.5% 1.5% - 3.0% Discount Rate 11.5% 11.5% 13.0% The discount rate reflects risks inherent within each reporting unit operating individually, which are greater than the risks inherent in the Company as a whole. For fiscal 2014, the discount rate was consistent with the fiscal 2013 analysis based on risk relative to industry conditions and the interest rate environment (cost of debt). The decrease in discount rates for fiscal 2013 from fiscal 2012 was a result of reduced risk relative to industry conditions and a lower interest rate environment at the time of the analysis. We believe the assumptions used in the impairment analysis each year are reflective of the risks inherent in the business models of our reporting units and within our industry. We determined that the fair values of each of the reporting units was substantially in excess of their carrying values in the fiscal 2014 annual assessment for all but three of the reporting units. Management determined that significant changes were not likely in the factors considered to estimate fair value and analyzed the impact of such changes were they to occur. Specifically, if there was a 25% decrease in the fair value of any of the remaining reporting units due to a decline in their discounted cash flows resulting from lower operating performance, the conclusion of the assessment would not change. Additionally, if the discount rate applied in the fiscal 2014 impairment analysis had been 100 basis points higher than estimated for each of the remaining reporting units, and all other assumptions were held constant, the conclusion of the assessment would remain unchanged and there would be no impairment of goodwill or the indefinite-lived intangible asset. In the fiscal 2014 impairment analysis, the fair value for three of the reporting units acquired in fiscal 2013 exceeded their carrying value by less than 25% each. The excess fair value of these reporting units ranged from 12% to 20% and the goodwill balances were $10.6 million, $4.8 million and $3.6 million, respectively, as of July 26, 2014. The key valuation assumptions used in the analysis of these reporting units are discussed above and there was no indication of impairment. Recent operating performance, along with assumptions for specific customer and industry opportunities, were considered in the key assumptions used during the fiscal 2014 impairment analysis. The excess fair value over the carrying value of these individual reporting units increased from the fiscal 2013 analysis; however, the excess remained below 25% of their individual carrying values. Management has determined the goodwill balance of these reporting units may have an increased likelihood of impairment if a prolonged downturn in customer demand were to occur, or if the reporting units were not able to execute against customer opportunities, and the long-term outlook for their cash flows were adversely impacted. Furthermore, changes in the long-term outlook may result in changes to other valuation assumptions. Factors monitored by management which could result in a change to the reporting units' estimates include the outcome of customer requests for proposals and subsequent awards, strategies of competitors, labor market conditions and levels of overall economic activity, including construction and housing activity. As of July 26, 2014, we believe the goodwill is recoverable for all of the reporting units; however, there can be no assurances that the goodwill will not be impaired in future periods. Current operating results, including any losses, are evaluated by us in the assessment of goodwill and other intangible assets. The estimates and assumptions used in assessing the fair value of the reporting units and the valuation of the underlying assets and liabilities are inherently subject to significant uncertainties. Changes in judgments and estimates could result in a significantly different estimate of the fair value of the reporting units and could result in impairments of goodwill or intangible assets at additional reporting units. Additionally, adverse conditions in the economy and future volatility in the equity and credit markets could impact the valuation of our reporting units. Certain of our reporting units also have other intangible assets including customer relationships, contract backlog, trade names, and non-compete intangibles. As of July 26, 2014, we believe that the carrying amounts of these intangible assets are recoverable. However, if adverse events were to occur or circumstances were to change indicating that the carrying amount of such assets may not be fully recoverable, the assets would be reviewed for impairment and the assets could be impaired. 25-------------------------------------------------------------------------------- Table of Contents Outlook Significant changes in the telecommunications industry continue to drive increasing demands on the networks of our customers for more capacity and greater reliability. Telecommunications providers continue to outsource a significant portion of their engineering, construction, maintenance, and installation requirements, driving demand for our services. Telecommunications network operators are increasingly deploying fiber optic cable technology deeper into their networks and closer to consumers and businesses in order to respond to consumer demand, competitive realities, and public policy support. Fiber deployments have enabled cable companies to offer voice services in addition to their traditional video and data services. Additionally, fiber deployments are enabling video services for local telephone companies in addition to their traditional voice and high speed data services. Several large telephone companies have pursued fiber-to-the-premise and fiber-to-the-node initiatives to compete actively with cable operators. A portion of those telephone companies previously deploying fiber-to-the-node are transitioning to fiber-to-the premise technology. Further, many industry participants are deploying networks designed to provision 1 gigabit speeds to individual consumers. These long-term initiatives and the possibility that other industry participants may pursue similar strategies present opportunities for us. Cable companies, with increasing urgency, continue to increase the speeds of their services to residential customers and to deploy fiber to business customers. Oftentimes these services to businesses are provided over fiber optic cables using "metro Ethernet" technology. The commercial geographies targeted by cable companies for network deployments generally require incremental fiber optic cable deployment and, as a result, require our services. Significant demand for wireless broadband is driven by the proliferation of smart phones and other mobile data devices. To respond to this demand, and other advances in technology, wireless carriers are upgrading their networks to 4G technologies. Wireless carriers are actively spending on their networks to respond to the explosion in wireless data traffic, upgrade network technologies to improve performance and efficiency and consolidate disparate technology platforms. These initiatives present long-term opportunities for us with the wireless service providers we serve. Further, the demand for mobile broadband has increased bandwidth requirements on the wired networks of our customers. As the demand for mobile broadband grows, the amount of wireless traffic that must be "backhauled" over customers' fiber networks increases and, as a result, carriers are accelerating the deployment of fiber optic cables to cellular sites and small cells. These trends are also driving the demand for our services and increasing wireless data traffic is prompting further wireline deployments. In addition, opportunities exist to improve rural networks as a result of funding for rural projects through traditional governmental channels and Phase II of the Connect America Fund. The continuation of these rural deployments are expected to contribute to the demand for services in our industry. Overall economic activity, including in particular construction and housing activity, also contributes to the demand for our services. Within the context of the current economy, we believe the latest trends and developments support our industry outlook. We will continue to closely monitor the effects that changes in economic and market conditions may have on our customers and our business and we will continue to manage those areas of the business we can control. 26-------------------------------------------------------------------------------- Table of Contents Results of Operations The Company uses a fiscal year ending on the last Saturday in July. The results of operations of businesses acquired are included in the accompanying consolidated financial statements from their dates of acquisition. For a summary of the Company's acquisitions, see Note 3, Acquisitions, in Notes to the Consolidated Financial Statements. The following table sets forth our consolidated statements of operations for the periods indicated and the amounts as a percentage of revenue (totals may not add due to rounding): Fiscal Year Ended 2014 2013 2012 (Dollars in millions) Revenues $ 1,811.6 100.0 % $ 1,608.6 100.0 % $ 1,201.1 100.0 % Expenses: Cost of earned revenue, excluding 1,475.0 81.4 1,300.4 80.8 968.9 80.7 depreciation and amortization General and administrative 161.9 8.9 145.8 9.1 104.0 8.7 Depreciation and amortization 92.8 5.1 85.5 5.3 62.7 5.2 Total 1,729.7 95.5 1,531.7 95.2 1,135.7 94.6 Interest expense, net (26.8 ) (1.5 ) (23.3 ) (1.5 ) (16.7 ) (1.4 ) Other income, net 11.2 0.6 4.6 0.3 15.8 1.3 Income before income taxes 66.3 3.7 58.2 3.6 64.6 5.4 Provision for income taxes 26.3 1.5 23.0 1.4 25.2 2.1 Net income $ 40.0 2.2 % $ 35.2 2.2 % $ 39.4 3.3 % Year Ended July 26, 2014 Compared to Year Ended July 27, 2013 Revenues. Revenues increased to $1.812 billion for fiscal 2014 from $1.609 billion for fiscal 2013. Total revenues from subsidiaries acquired in fiscal 2013 and the fourth quarter of fiscal 2014 were $499.3 million for fiscal 2014 and $337.9 million for fiscal 2013. Excluding the amounts attributed to these subsidiaries from both periods, revenues increased $41.6 million. During fiscal 2014, revenues increased approximately $83.8 million for a significant customer investing in improvements to its wireline and wireless networks. In addition, revenues increased by $53.8 million to $56.7 million for services performed on a customer's fiber network that began during the fourth quarter of fiscal 2013, and $25.7 million for two leading cable multiple system operators from maintenance and construction services, including services to provision fiber to small and medium businesses as well as network upgrades. Partially offsetting these increases was a decrease in storm restoration revenues. During fiscal 2013, storm restoration revenues were $16.7 million while there were no significant revenues for storm restoration services during fiscal 2014. Additionally, revenues for two large telecommunications customers declined $42.5 million, on a combined basis, and revenues for services to another two telecommunications customers, including rural and stimulus services, declined $30.1 million, also on a combined basis. Further, revenues for two cable multiple system operators declined $17.4 million, on a combined basis. Other customers had net decreases in revenues of $15.0 million for fiscal 2014 as compared to fiscal 2013, primarily from lower rural broadband services including a reduction in revenues of $12.5 million related to stimulus work on projects funded in part by the American Recovery and Reinvestment Act of 2009. The percentage of our revenue by customer type from telecommunications, underground facility locating, and electric and gas utilities and other customers, was approximately 88.2%, 7.0% and 4.8%, respectively, for fiscal 2014, compared to 87.7%, 7.9% and 4.4%, respectively, for fiscal 2013. Costs of Earned Revenues. Costs of earned revenues increased to $1.475 billion during fiscal 2014 compared to $1.300 billion during fiscal 2013. The increase was primarily due to a higher level of operations during fiscal 2014, including operations of businesses acquired during fiscal 2013 and 2014. The primary components of the total increase was a $121.9 million aggregate increase in direct labor and independent subcontractor costs, a $26.4 million increase in direct material costs, a $7.0 million increase in equipment costs, and an aggregate $19.3 million increase in other direct costs. Other direct costs included charges for employment related legal settlements of $0.6 million and $0.5 million in fiscal 2014 and fiscal 2013, respectively. 27-------------------------------------------------------------------------------- Table of Contents Costs of earned revenues as a percentage of contract revenue increased 0.6% during fiscal 2014 as compared to fiscal 2013. The increase was partially due to adverse weather conditions during the second and third quarters of fiscal 2014, which negatively impacted productivity. Our mix of work included a higher level of projects where we provided materials to the customer which resulted in a 0.4% increase in direct material costs as a percentage of total revenue. Additionally, total direct labor and independent subcontractor costs increased 0.2% as a percentage of total revenue and equipment costs increased 0.1% as a percentage of total revenue during fiscal 2014 as compared to fiscal 2013. Partially offsetting these increases, other direct costs decreased 0.1% as a percentage of total revenue during fiscal 2014 as compared to fiscal 2013. General and Administrative Expenses. General and administrative expenses increased to $161.9 million, or 8.9% as a percentage of contract revenue, during fiscal 2014 as compared to $145.8 million, or 9.1% as a percentage of contract revenue during fiscal 2013. The increase in total general and administrative expenses for fiscal 2014 resulted primarily from the costs of the businesses acquired in fiscal 2013 and 2014, increased payroll expenses as a result of growth and higher professional fees. Additionally, stock-based compensation increased to $12.6 million during fiscal 2014 from $9.9 million during fiscal 2013, as a result of increased restricted share unit expense. These increases were partially offset by decreases in acquisition and integration costs of the fiscal 2013 acquisitions, which declined on a combined basis from $10.2 million in fiscal 2013 to $2.4 million in fiscal 2014. Depreciation and Amortization. Depreciation and amortization increased to $92.8 million during fiscal 2014 from $85.5 million during fiscal 2013 and totaled 5.1% and 5.3% as a percentage of contract revenue during the current and prior year, respectively. The increase in depreciation and amortization expense during fiscal 2014 is a result of the addition of fixed assets and amortizing intangibles relating to the businesses acquired during fiscal 2013 and 2014. These increases were partially offset by certain fixed assets becoming fully depreciated in fiscal 2013 and 2014. Amortization expense was $18.3 million and $20.7 million during fiscal 2014 and fiscal 2013, respectively. Interest Expense, Net. Interest expense, net was $26.8 million and $23.3 million during fiscal 2014 and fiscal 2013, respectively. The increase for fiscal 2014 reflects higher debt balances outstanding for a longer term during the current year primarily related to the financing of the purchase of the Acquired Subsidiaries. The additional interest cost on incremental debt was partially offset by lower cost of debt related to the replacement of our previous credit agreement during fiscal 2013. Other Income, Net. Other income increased to $11.2 million during fiscal 2014 from $4.6 million during fiscal 2013. The increase in other income was primarily a function of the number of assets sold and prices obtained for those assets during fiscal 2014 compared to fiscal 2013. Additionally, during fiscal 2013, we recognized $0.3 million in write-off of deferred financing costs associated with the replacement of our previous credit facility in December 2012. Income Taxes. The following table presents our income tax expense and effective income tax rate for fiscal 2014 and 2013: Fiscal Year Ended 2014 2013 (Dollars in millions)Income tax provision $ 26.3 $ 23.0 Effective income tax rate 39.7 % 39.5 % Variations in our effective income tax rate for fiscal 2014 and fiscal 2013 are primarily attributable to the impact of state income taxes, non-deductible and non-taxable items, disqualifying dispositions of incentive stock option exercises, and production-related tax credits recognized in relation to our pre-tax results during the period. Non-deductible and non-taxable items will generally have a reduced impact on the effective income tax rate in periods of greater pre-tax results. We had total unrecognized tax benefits of approximately $2.4 million and $2.3 million as of July 26, 2014 and July 27, 2013, respectively, that, if recognized, would favorably affect our effective tax rate. Net Income. Net income was $40.0 million for fiscal 2014 as compared to $35.2 million during fiscal 2013. 28-------------------------------------------------------------------------------- Table of Contents Year Ended July 27, 2013 Compared to Year Ended July 28, 2012 Revenues. Revenues increased $407.5 million, or 33.9%, to $1.609 billion during fiscal 2013 as compared to $1.201 billion during fiscal 2012. Of this increase, $337.9 million was generated by businesses acquired in fiscal 2013. The percentage of our revenue by customer type from telecommunications, underground facility locating, and electric and gas utilities and other customers, was approximately 87.7%, 7.9% and 4.4%, respectively, during fiscal 2013 as compared to 84.5%, 10.9% and 4.6%, respectively, during fiscal 2012. Revenues from specialty construction services provided to telecommunications companies, excluding amounts attributed to businesses acquired in fiscal 2013, increased 8.9%, or $90.2 million, to $1,104.8 million during fiscal 2013 compared to $1,014.6 million during fiscal 2012. During fiscal 2013 and fiscal 2012, the Company earned revenues from storm restoration services of $16.7 million and $6.0 million, respectively. During fiscal 2013, revenues increased approximately $77.7 million for a significant customer, including revenues for services performed for its wireless network under contracts entered into during fiscal 2012. Revenues increased $26.7 million for three leading cable multiple system operators for maintenance and construction services, including services to provision fiber to small and medium businesses as well as network upgrades. Revenues increased $9.4 million for another cable multiple system operator enhancing its fiberoptic network. Additionally, revenues increased $8.0 million for a telephone customer which is expanding and enhancing its broadband services related to rural access lines it acquired and for broadband stimulus initiatives. These increases were partially offset by a decrease in revenue of $12.2 million for a telephone customer from decreases in services provided under existing contracts and broadband stimulus initiatives. Additionally, we experienced a decrease in revenue of $10.4 million for a significant telephone customer as a result of reduced spending in fiscal 2013 as compared to fiscal 2012. Other telecommunications customers had net decreases in revenue of $19.7 million in fiscal 2013 as compared to fiscal 2012. Revenues from underground facility locating customers, excluding amounts attributed to businesses acquired in fiscal 2013, decreased 3.7% to $126.4 million during fiscal 2013 compared to $131.3 million during fiscal 2012. The decrease partially resulted from a contract that ended during the second quarter of fiscal 2012 and due to reduced work from current customers. Revenues from electric and gas utilities and other construction and maintenance customers, excluding amounts attributed to businesses acquired in fiscal 2013, decreased to $39.5 million during fiscal 2013 compared to $55.2 million during fiscal 2012. The decrease was primarily attributable to decreases in work performed for several gas companies and electric utilities during fiscal 2013 as compared to fiscal 2012. Costs of Earned Revenues. Costs of earned revenues increased to $1,300.4 million during fiscal 2013 compared to $968.9 million during fiscal 2012. The increase was primarily due to a higher level of operations during fiscal 2013, including costs of the businesses acquired in fiscal 2013. The primary components of the total increase was a $235.8 million aggregate increase in direct labor and independent subcontractor costs, a $41.2 million increase in direct material costs, and an aggregate $54.5 million increase in other direct costs, including a pre-tax $0.5 million charge for a wage and hour class action settlement. Costs of earned revenues as a percentage of contract revenues increased 0.2% during fiscal 2013 as compared to fiscal 2012. Direct material costs as a percentage of total revenue increased 0.3% compared to fiscal 2012 as our mix of work included a higher level of projects where we provided materials to the customer. Other direct costs increased 0.3% as a percentage of total revenue primarily as a result of the mix of work performed and increased equipment and claims related costs as compared to fiscal 2012. Offsetting these increases, fuel costs decreased 0.3% as a percentage of total revenue during fiscal 2013 as compared to fiscal 2012. Additionally, total labor and subcontractor costs decreased 0.1% as a percentage of total revenue for fiscal 2013 as compared to fiscal 2012. General and Administrative Expenses. General and administrative expenses increased to $145.8 million during fiscal 2013 as compared to $104.0 million for fiscal 2012. General and administrative expenses as a percentage of contract revenues were 9.1% and 8.7% for fiscal 2013 and fiscal 2012, respectively. The increase in total general and administrative expenses for fiscal 2013 resulted primarily from the general and administrative costs of the businesses acquired in fiscal 2013 and approximately $6.8 million and $3.4 million of pre-tax acquisition and integration costs, respectively, during fiscal 2013. Additionally, stock-based compensation increased to $9.9 million during fiscal 2013 from $7.0 million during fiscal 2012. Other increases in general and administrative expenses were increased payroll expenses as a result of growth, increased incentive pay expenses from improved operations, and higher professional fees for legal and accounting services. Depreciation and Amortization. Depreciation and amortization increased to $85.5 million during fiscal 2013 from $62.7 million during fiscal 2012 and totaled 5.3% and 5.2% as a percentage of contract revenues during the current and prior year, respectively. The increase in depreciation and amortization expense for fiscal 2013 is a result of the addition of fixed assets and 29-------------------------------------------------------------------------------- Table of Contents amortizing intangibles relating to the businesses acquired during fiscal 2013. These increases were partially offset by certain fixed assets becoming fully depreciated in fiscal 2012 and 2013. Interest Expense, Net. Interest expense, net was $23.3 million and $16.7 million during fiscal 2013 and 2012, respectively. The increase for fiscal 2013 reflects higher debt balances outstanding during fiscal 2013 primarily related to the financing of the purchase of the Acquired Subsidiaries. The additional debt includes $90.0 million in 7.125% senior subordinated notes due 2021 issued on December 12, 2012, as well as outstanding amounts during the period under our new five-year credit agreement (the "Credit Agreement"). The additional interest cost on incremental debt was partially offset by lower cost of debt related to the replacement of our previous credit agreement during fiscal 2013. Other Income, Net. Other income decreased to $4.6 million during fiscal 2013 from $15.8 million during fiscal 2012. The decreases in other income were primarily a function of the number of assets sold and prices obtained for those assets during fiscal 2013. Additionally, we recognized $0.3 million in write-off of deferred financing costs during fiscal 2013 in connection with the replacement of our credit facility in December 2012. Income Taxes. The following table presents our income tax expense and effective income tax rate for fiscal years 2013 and 2012: Fiscal Year Ended 2013 2012 (Dollars in millions) Income tax provision $ 23.0 $ 25.2 Effective income tax rate 39.5 % 39.0 % Our effective income tax rate differs from the statutory rates for the tax jurisdictions where we operate. Variations in our effective income tax rate for fiscal 2013 and 2012 are primarily attributable to the impact of non-deductible and non-taxable items, disqualifying dispositions of incentive stock option exercises, and production-related tax credits recognized in relation to our pre-tax results during the period. Non-deductible and non-taxable items will generally have a reduced impact on the effective income tax rate in periods of greater pre-tax results. We had total unrecognized tax benefits of approximately $2.3 million and $2.2 million as of July 27, 2013 and July 28, 2012, respectively, which would reduce our effective tax rate during the periods recognized if it is determined that those liabilities are no longer required. Net Income. Net income was $35.2 million for fiscal 2013 as compared to $39.4 million during fiscal 2012. Liquidity and Capital Resources We are subject to concentrations of credit risk relating primarily to our cash and equivalents, accounts receivable, and costs and estimated earnings in excess of billings. Cash and equivalents primarily include balances on deposit with banks and totaled $20.7 million at July 26, 2014 compared to $18.6 million at July 27, 2013. We maintain substantially all of our cash and equivalents at financial institutions we believe to be of high credit quality. To date, we have not experienced any loss or lack of access to cash in our operating accounts. Sources of Cash. Our sources of cash have been operating activities, long-term debt, equity offerings, stock option proceeds, bank borrowings, and proceeds from the sale of idle and surplus equipment and real property. Cash flow from operations is primarily influenced by demand for our services and operating margins, but can also be influenced by working capital needs associated with the services that we provide. In particular, working capital needs may increase when we have growth in operations and where project costs, primarily associated with labor, equipment, materials and subcontractors, are required to be paid before the accounts receivables resulting from the work performed are invoiced and collected from the customer. Our working capital (total current assets less total current liabilities) was $409.2 million at July 26, 2014 compared to $341.3 million at July 27, 2013. Capital resources are primarily used to purchase equipment and maintain sufficient levels of working capital in order to support our contractual commitments to customers. We periodically borrow from and repay our revolving credit facility depending on our cash requirements. Additionally, our capital requirements may increase to the extent we make acquisitions that involve consideration other than our stock, buy back our common stock, repay revolving borrowings, or repurchase or call our senior subordinated notes. We have not paid cash dividends since 1982. Our board of directors regularly evaluates our dividend policy based on our financial condition, profitability, cash flow, capital requirements, and the outlook of our business. We currently intend to retain any earnings for use in the business, including for investment in acquisitions, and consequently 30-------------------------------------------------------------------------------- Table of Contents we do not anticipate paying any cash dividends on our common stock in the foreseeable future. Additionally, the indenture governing our senior subordinated notes contains covenants that restrict our ability to make certain payments, including the payment of dividends. We expect capital expenditures, net of disposals, to range from $80 million to $85 million for fiscal 2015. Our level of capital expenditures can vary depending on the customer demand for our services, the replacement cycle we select for our equipment, and overall growth. We intend to fund these expenditures primarily from operating cash flows, availability under our credit facility and cash on hand. Sufficiency of Capital Resources. We believe that our capital resources, including existing cash balances and amounts available under our Credit Agreement, are sufficient to meet our financial obligations. These obligations include interest payments required on our senior subordinated notes and outstanding borrowings under our Credit Agreement, working capital requirements, and the normal replacement of equipment at our current level of operations for at least the next twelve months. Our capital requirements may increase to the extent we seek to grow by acquisitions that involve consideration other than our stock, or to the extent we repurchase our common stock, repay revolving borrowings, or repurchase or call our senior subordinated notes. Changes in financial markets or other areas of the economy could adversely impact our ability to access the capital markets, in which case we would expect to rely on a combination of available cash and the Credit Agreement to provide short-term funding. Management regularly monitors the financial markets and assesses general economic conditions for any impact on our financial position. If changes in financial markets or other areas of the economy adversely impact our ability to access capital markets, we would expect to rely on a combination of available cash and the existing committed credit facility to provide short-term funding. We believe that our cash investment policies are prudent and we expect that any volatility in the capital markets would not have a material impact on our cash investments. Net cash flows. The following table presents our net cash flows for fiscal 2014, 2013 and 2012: For the Fiscal Year Ended 2014 2013 2012 (Dollars in millions) Net cash flows: Provided by operating activities $ 84.2 $ 106.7 $ 65.1 Used in investing activities $ (91.1 ) $ (389.1 ) $ (51.9 ) Provided by (used in) financing activities $ 9.0 $ 248.3 $ (5.4 ) Cash from Operating Activities. During fiscal 2014, net cash provided by operating activities was $84.2 million. Non-cash items during fiscal 2014, 2013 and 2012 were primarily depreciation and amortization, gain on sale of assets, stock-based compensation, and deferred income taxes. Changes in working capital (excluding cash) and changes in other long term assets and liabilities used $43.3 million of operating cash flow during fiscal 2014. The primary working capital changes that used operating cash flow during fiscal 2014 were increases in accounts receivable and net costs and estimated earnings in excess of billings of $16.9 million and $25.4 million, respectively, as a result of an increase in the level of our operations, including growth with certain customers, and slightly longer collection times during fiscal 2014. Net increases in other current and other non-current assets combined used $13.4 million of operating cash flow during fiscal 2014 primarily for inventory. Additionally, decreases in accounts payable used $4.2 million of operating cash flow as a result of timing of payments. Working capital sources of cash flow during fiscal 2014 were increases in accrued liabilities, insurance claims and other liabilities of $10.0 million primarily due to timing of insurance claims related payments and increases in income tax payable, net of income tax receivables, of $6.7 million due to the timing of payments. Our days sales outstanding ("DSO") for accounts receivable (based on ending accounts receivable divided by average daily revenue for the most recently completed quarter) increased to 51 days as of July 26, 2014 compared to 48 days as of July 27, 2013. Our payment terms for contracts of our subsidiaries vary by customer and primarily range from 30 to 60 days after invoicing the customer. Our DSO for costs and estimated earnings in excess of billings ("CIEB") increased to 41 days as of July 26, 2014 compared to 36 days as of July 27, 2013. The increase in our DSOs as compared to the prior year was in part a result of significant growth with certain key customers resulting in increased DSOs as we integrate our billing processes for these customers. DSOs have also been impacted by work performed for certain rural customers, including those projects funded in part by the American Recovery and Reinvestment Act of 2009 (the "ARRA"). These customers have increased 31-------------------------------------------------------------------------------- Table of Contents documentation requirements resulting in longer billing and collection cycle times. In addition, DSOs increased for certain customers based on their invoice approval processes. Further, certain of the Acquired Subsidiaries have slower processing cycles for invoicing and collections compared to our legacy subsidiaries. We continue to work to integrate their systems and processes and we believe the improvements will reduce the time associated with invoicing and collections. In addition, our accounts receivable include approximately $20.1 million for past due accounts receivable from a customer on a rural project funded in part by the ARRA. We have stopped work on the project and have filed construction liens with respect to this work representing approximately $17.7 million of the accounts receivable balance. Our CIEB balances are maintained at a detailed task-specific or project level and are evaluated regularly for realizability. Such amounts are invoiced in the normal course of business according to contract terms, which consider the completion of specific tasks and the passage of time. Project delays for commercial issues such as permitting, engineering changes, incremental documentation requirements or difficult job site conditions can extend the time needed to complete certain tasks and may delay invoicing to the customer for the work performed. We were not experiencing any material project delays or other circumstances that would impact the realizability of the CIEB balance as of July 26, 2014. Additionally, there are no material amounts of CIEB related to claims or unapproved change orders as of July 26, 2014 or July 27, 2013. As of July 26, 2014, we believe that none of our significant customers was experiencing financial difficulties that would impact the realizability of our CIEB or the collectability of our trade accounts receivable. During fiscal 2013, net cash provided by operating activities was $106.7 million. Changes in working capital (excluding cash) and changes in other long term assets and liabilities used $17.5 million of operating cash flow during fiscal 2013. A primary working capital source of cash flow during fiscal 2013 was a decrease in accounts receivable of $3.6 million. Included in this amount is a decrease in balances for businesses acquired in fiscal 2013 of $10.1 million for the period from the acquisition date through July 27, 2013. The remaining change in accounts receivable was from the results of our legacy businesses. Net decreases in income tax receivables was $6.0 million during the period due to the timing of payments. Working capital changes that used operating cash flow during fiscal 2013 were increases in net costs and estimated earnings in excess of billings of $12.3 million as a result of growth in operations during fiscal 2013. Other working capital changes that used operating cash flow during fiscal 2013 were decreases in accounts payable of $11.2 million as a result of timing of payments. Additionally, decreases in accrued liabilities, insurance claims and other liabilities used $2.5 million of cash flow. Net increases in other current and other non-current assets combined used $1.1 million of operating cash flow during fiscal 2013 primarily for inventory and other pre-paid costs. Our DSO for accounts receivable (based on ending accounts receivable divided by average daily revenue for the most recently completed quarter) increased to 48 days as of July 27, 2013 compared to 41 days as of July 28, 2012. Our DSO for CIEB was 36 days as of both July 27, 2013 and July 28, 2012. The increase in our DSOs in fiscal 2013 as compared to fiscal 2012 was in part a result of the Acquired Subsidiaries having a generally slower processing cycle for invoicing and collections compared to our legacy subsidiaries. Additionally, several of our legacy and Acquired Subsidiaries have performed work for certain rural customers, including projects funded in part by the ARRA and have experienced longer DSOs. These customers have increased documentation requirements resulting in longer billing and collection cycle times. These projects contributed to our growth during fiscal 2013 and the increase in DSOs. During fiscal 2012, net cash provided by operating activities was $65.1 million. Changes in working capital (excluding cash) and changes in other long term assets and liabilities used $37.9 million of operating cash flow during fiscal 2012. The primary working capital uses during fiscal 2012 were increases in accounts receivable of $3.4 million and increases in net costs and estimated earnings in excess of billings of $35.7 million. The increases in accounts receivable and costs and estimated earnings in excess of billings are a result of growth in operations during fiscal 2012 and changes to the customer mix compared to fiscal 2011. Other working capital changes that used operating cash flow during fiscal 2012 were increases in other current and other non-current assets combined of $6.3 million, primarily for higher levels of inventory, and decreases in accrued liabilities and accrued insurance claims of $1.2 million. Working capital sources of cash flow during fiscal 2012 were income taxes receivable of $5.7 million used during the period and increases in accounts payable of $3.0 million as a result of timing of higher operating levels and timing of payments. Cash Used in Investing Activities. Net cash used in investing activities was $91.1 million during fiscal 2014. During fiscal 2014 we paid $16.4 million in connection with the acquisition of Watts Brothers and $0.7 million in connection with the acquisition of a telecommunications specialty construction contractor in Canada. During fiscal 2014, capital expenditures of $89.1 million were offset in part by proceeds from the sale of assets of $15.4 million. During fiscal 2013 capital expenditures of $64.7 million were offset in part by proceeds from the sale of assets of $5.8 million. The increase in capital expenditures, net in fiscal 2014 compared to fiscal 2013 was the result of spending for new work opportunities and the replacement of certain fleet assets. Restricted cash, primarily related to funding provisions of our insurance program, increased approximately $0.3 million during fiscal 2014. 32-------------------------------------------------------------------------------- Table of Contents Net cash used in investing activities was $389.1 million during fiscal 2013. During fiscal 2013 we paid $330.3 million in connection with the acquisition of businesses, including $319.0 million for the Acquired Subsidiaries, net of cash acquired. Additionally, during fiscal 2013 capital expenditures of $64.7 million were offset in part by proceeds from the sale of assets of $5.8 million. Restricted cash, primarily related to funding provisions of our insurance program, decreased less than $0.1 million during fiscal 2013. Net cash used in investing activities was $51.9 million during fiscal 2012. During fiscal 2012 capital expenditures of $77.6 million were offset in part by proceeds from the sale of assets of $24.8 million, including approximately $5.5 million related to the sale of non-core cable system assets during the third quarter of fiscal 2012. Restricted cash, primarily related to funding provisions of our insurance programs, decreased $0.9 million during fiscal 2012. Cash Provided by (Used In) Financing Activities. Net cash provided by financing activities was $9.0 million during fiscal 2014. During fiscal 2014, we received $14.6 million from the exercise of stock options and $3.0 million of excess tax benefits primarily from the exercises of stock options and vesting of restricted share units during fiscal 2014. Additionally, net revolving borrowings under our Credit Agreement were $14.0 million, partially offset by principal payments on the term loan under our Credit Agreement of $7.8 million. Additionally, we paid a $1.0 million obligation related to a business acquired in the fourth quarter of fiscal 2013. During fiscal 2014, we repurchased 360,900 shares of our common stock in open market transactions, at an average price of $27.71 per share, for approximately $10.0 million. Additionally, we withheld shares of restricted units and paid $3.8 million to tax authorities in order to meet payroll tax withholdings obligations on restricted units that vested during fiscal 2014. Net cash provided by financing activities was $248.3 million during fiscal 2013. During fiscal 2013 we received $93.8 million in gross proceeds from the issuance of an incremental $90.0 million in aggregate principal amount of our 7.125% senior subordinated notes due 2021 and $3.8 million in premium received in connection with the issuance, $125.0 million in proceeds from the term loan under our Credit Agreement and net revolving borrowings under our Credit Agreement of $49.0 million, partially offset by principal payments on the term loan of $3.1 million. Additionally, during fiscal 2013, we paid $6.7 million of debt issuance costs in connection with our new Credit Agreement and the issuance of our 7.125% senior subordinated notes due 2021. During fiscal 2013, we repurchased 1,047,000 shares of our common stock in open market transactions, at an average price of $14.52 per share, for approximately $15.2 million. We withheld shares of restricted units and paid $0.9 million to tax authorities in order to meet payroll tax withholdings obligations on restricted units that vested to employees and certain officers during fiscal 2013. Additionally, we received $5.3 million from the exercise of stock options and received excess tax benefits of $1.3 million primarily from the vesting of restricted share units and exercises of stock options during fiscal 2013. Net cash used in financing activities was $5.4 million during fiscal 2012. During fiscal 2012, we repurchased 597,700 shares of our common stock in open market transactions, at an average price of $21.68 per share, for approximately $13.0 million. We received $6.5 million from the exercise of stock options and received excess tax benefits of $1.6 million primarily from the vesting of restricted share units and exercises of stock options during fiscal 2012. During fiscal 2012, we withheld shares of restricted units and paid $0.3 million to tax authorities in order to meet payroll tax withholdings obligations on restricted units that vested to certain officers and employees during those periods. Additionally, we paid approximately $0.2 million during fiscal 2012 for principal payments on capital leases. Compliance with Credit Agreement and Indenture. On December 3, 2012 we entered into our new, five-year Credit Agreement with various lenders. The Credit Agreement matures in December 2017 and provides for a $275 million revolving facility and a $125 million term loan (the "Term Loan"). Subject to certain conditions, the Credit Agreement provides for the ability to enter into one or more incremental facilities, either by increasing the revolving commitments under the Credit Agreement and/or in the form of term loans, in an aggregate amount not to exceed $100 million. Borrowings under the Credit Agreement can be used to refinance certain indebtedness, to provide general working capital, and for other general corporate purposes. The Credit Agreement replaced our prior credit agreement, dated as of June 4, 2010, which was due to expire in June 2015. At the time of termination, there were no outstanding borrowings and all outstanding letters of credit were transferred to the Credit Agreement. We did not incur any material early termination penalties in connection with the termination of the prior credit agreement. We recognized $0.3 million in write-off of deferred financing costs during the second quarter of fiscal 2013 in connection with the replacement of the prior credit agreement. Borrowings under the Credit Agreement (other than Swingline Loans (as defined in the Credit Agreement)) bear interest at a rate equal to either (a) the administrative agent's base rate, described in the Credit Agreement as the highest of (i) the administrative agent's prime rate, (ii) the Federal Funds Rate plus 0.50%, and (iii) a floating rate of interest equal to one month 33-------------------------------------------------------------------------------- Table of Contents LIBOR plus 1.00%, or (b) the Eurodollar Rate, plus, in each case, an applicable margin based upon our consolidated leverage ratio. Swingline Loans bear interest at a rate equal to the administrative agent's base rate plus a margin based upon our consolidated leverage ratio. As of July 26, 2014, borrowings are eligible for a margin of 1.0% for borrowings based on the administrative agent's base rate and 2.0% for borrowings based on the Eurodollar Rate. Borrowings under the Credit Agreement are guaranteed by substantially all of our subsidiaries and secured by the stock of each of the wholly-owned domestic subsidiaries (subject to specified exceptions). We incur fees under the Credit Agreement for the unutilized commitments at rates that range from 0.25% to 0.40% per annum, fees for outstanding standby letters of credit at rates that range from 1.50% to 2.25% per annum and fees for outstanding commercial letters of credit at rates that range from 0.75% to 1.125% per annum, in each case based on our consolidated leverage ratio. We had outstanding revolver borrowings under the Credit Agreement of $63.0 million and $49.0 million as of July 26, 2014 and July 27, 2013, respectively. Borrowings under the Credit Agreement accrued interest at a weighted average rate of approximately 2.55% per annum and 2.19% per annum as of July 26, 2014 and July 27, 2013, respectively. As of July 26, 2014 and July 27, 2013, we had $114.1 million and $121.9 million, respectively, of outstanding principal amount under the Term Loan, which accrued interest at 2.15% and 2.19% per annum, respectively. The Term Loan is subject to annual amortization payable in equal quarterly installments of principal. The remaining amortization for the Term Loan as of July 26, 2014 is as follows: $10.9 million during fiscal 2015; $14.1 million during fiscal 2016; $17.2 million during fiscal 2017; and $71.9 million during fiscal 2018. The Credit Agreement contains a sublimit of $150 million for the issuance of letters of credit. Standby letters of credit of approximately $49.4 million and $46.7 million, issued as part of the Company's insurance program, were outstanding under the Credit Agreement as of July 26, 2014 and July 27, 2013, respectively. Interest on outstanding standby letters of credit accrued at 2.0% per annum at both July 26, 2014 and July 27, 2013, respectively. Unutilized commitments were at rates per annum of 0.35% at both July 26, 2014 and July 27, 2013. The Credit Agreement contains affirmative and negative covenants which are customary for similar credit agreements, including, without limitation, limitations on us and our subsidiaries with respect to indebtedness, liens, investments, distributions, mergers and acquisitions, disposition of assets, sale-leaseback transactions, transactions with affiliates and capital expenditures. The Credit Agreement contains financial covenants which require us to (i) maintain a consolidated leverage ratio of not greater than (a) 3.50 to 1.00 for fiscal quarters ending July 27, 2013 through April 26, 2014, (b) 3.25 to 1.00 for fiscal quarters ending July 26, 2014 through April 25, 2015 and (c) 3.00 to 1.00 for fiscal quarters ending July 25, 2015 and each fiscal quarter thereafter, as measured on a trailing four quarter basis at the end of each fiscal quarter, and (ii) maintain a consolidated interest coverage ratio of not less than 3.00 to 1.00, as measured at the end of each fiscal quarter. At July 26, 2014 and July 27, 2013, we were in compliance with the financial covenants of the Credit Agreement and had additional borrowing availability of $162.6 million and $179.3 million, respectively, as determined by the most restrictive covenants of the Credit Agreement. On July 28, 2012, Dycom Investments, Inc., one of our subsidiaries, had outstanding an aggregate principal amount of $187.5 million of 7.125% senior subordinated notes due 2021 that were issued under an indenture dated January 21, 2011 (the "Indenture"). On December 12, 2012, an additional $90.0 million in aggregate principal amount of 7.125% senior subordinated notes due 2021 were issued under the Indenture at 104.25% of the principal amount. The resulting debt premium of $3.8 million is being amortized to interest expense over the remaining term of the notes and was $3.2 million and $3.6 million as of July 26, 2014 and July 27, 2013, respectively. The net proceeds of this issuance were used to repay a portion of the borrowings under our Credit Agreement. Holders of all $277.5 million aggregate principal amount of the 2021 Notes vote as one series under the Indenture. On both July 26, 2014 and July 27, 2013, $277.5 million in aggregate principal amount of 2021 Notes was outstanding under the Indenture. The 2021 Notes are guaranteed by Dycom Investments, Inc.'s parent company and substantially all of our subsidiaries. For additional information regarding these guarantees see Note 20, Supplemental Consolidating Financial Statements, in Notes to the Consolidated Financial Statements. The Indenture contains covenants that limit, among other things, our ability to incur additional debt and issue preferred stock, make certain restricted payments, consummate specified asset sales, enter into transactions with affiliates, incur liens, impose restrictions on the ability of our subsidiaries to pay dividends or make payments to us and our restricted subsidiaries, merge or consolidate with another person, and dispose of all or substantially all of its assets. 34-------------------------------------------------------------------------------- Table of Contents Contractual Obligations. The following tables set forth our outstanding contractual obligations, including related party leases, as of July 26, 2014: Less than 1 Greater than Year Years 1 - 3 Years 3 - 5 5 Years Total (Dollars in thousands) 7.125% senior subordinated notes due 2021 $ - $ - $ - $ 277,500 $ 277,500 Credit Agreement - revolving borrowings - - 63,000 - 63,000 Credit Agreement - Term Loan 10,938 31,250 71,875 - 114,063 Fixed interest payments on long-term debt (a) 19,772 39,544 39,544 29,657 128,517 Operating lease obligations 14,902 19,993 7,476 8,249 50,620 Employment agreements 6,964 5,062 154 - 12,180 Purchase and other contractual obligations 20,975 - - - 20,975 Total $ 73,551 $ 95,849 $ 182,049 $ 315,406 $ 666,855 (a) Includes interest payments on our $277.5 million in aggregate principal amount of 2021 Notes outstanding and excludes any interest payments on our variable rate debt. Variable rate debt as of July 26, 2014 was comprised of $114.1 million outstanding on our Term Loan and $63.0 million in outstanding revolving borrowings under our Credit Agreement. Purchase and other contractual obligations in the table above primarily represent obligations under agreements to purchase vehicles and equipment which have not been received as of July 26, 2014. We have excluded contractual obligations under the multi-employer defined pension plans that cover certain of our employees as these obligations are determined based on our future union employee payrolls, which cannot be reliably determined as of July 26, 2014. During fiscal 2014, 2013 and 2012, our contributions to the multiemployer defined pension plan totaled approximately $3.7 million, $3.2 million and $2.9 million, respectively. Our consolidated balance sheet as of July 26, 2014 includes a long-term liability of approximately $33.8 million for accrued insurance claims. This liability has been excluded from the above table as the timing of any cash payments is uncertain. The liability for unrecognized tax benefits for uncertain tax positions was $2.4 million and $2.3 million at July 26, 2014 and July 27, 2013, respectively, and is included in other liabilities in the consolidated balance sheet. This amount has been excluded from the contractual obligations table because we are unable to reasonably estimate the timing of the resolution of the underlying tax positions with the relevant tax authorities. Off-Balance Sheet Arrangements. Performance Bonds and Guarantees - We have obligations under performance and other surety contract bonds related to certain of our customer contracts. Performance bonds generally provide a customer with the right to obtain payment and/or performance from the issuer of the bond if we fail to perform our contractual obligations. As of July 26, 2014, we had $446.8 million of outstanding performance and other surety contract bonds. The estimated cost to complete projects secured by our outstanding performance and other surety contract bonds was approximately $99.5 million as of July 26, 2014. There has been no material impact on our financial statements as a result of customers exercising their rights under the bonds. Additionally, we have periodically guaranteed certain obligations of our subsidiaries, including obligations in connection with obtaining state contractor licenses and leasing real property and equipment. Letters of Credit - We have standby letters of credit issued under our Credit Agreement as part of our insurance program. These letters of credit collateralize our obligations to our insurance carriers in connection with the settlement of potential claims. As of July 26, 2014 and July 27, 2013 we had $49.4 million and $46.7 million, respectively, outstanding standby letters of credit issued under the Credit Agreement. Backlog. Our backlog consists of the estimated uncompleted portion of services to be performed under contractual agreements with our customers and totaled $2.331 billion and $2.197 billion at July 26, 2014 and July 27, 2013, respectively. We expect to complete 57.7% of the July 26, 2014 backlog during the next twelve months. Our backlog estimates represent amounts under master service agreements and other contractual agreements for services projected to be performed over the terms of the contracts and are based on contract terms, our historical experience with customers and, more generally, our experience in similar procurements. The significant majority of our backlog estimates comprise services under master service agreements and long-term contracts. 35-------------------------------------------------------------------------------- Table of Contents Revenue estimates included in our backlog can be subject to change as a result of project accelerations, cancellations or delays due to various factors, including but not limited to commercial issues and adverse weather. These factors can also cause revenue amounts to be realized in periods and at levels different than originally projected. In many instances, our customers are not contractually committed to procure specific volumes of services under a contract. While we have not experienced any material cancellations during fiscal 2014, 2013 or 2012, the majority of our contracts may be canceled by our customers upon notice regardless of whether or not we are in default. Our estimates of a customer's requirements during a particular future period may prove to be inaccurate. The amount of backlog related to uncompleted projects in which a provision for estimated losses was recorded was not material. Backlog is not a measure defined by United States generally accepted accounting principles; however, it is a common measurement used in our industry. Our methodology for determining backlog may not be comparable to the methodologies used by others. |