Dust Collecting: Panning for Competitive Intelligence Nuggets in Company Financial Data

Copyright © 2015 Richter & Company LLC. All Rights Reserved.
11/2/2015 1
Brandon Conroy
Executive Consultant
Richter & Company, LLC

Synopsis
• Collecting intelligence on competitors can be daunting, and a significant
drain on time, money, and other resources
• Publicly available financial documentation contains a tremendous amount
of valuable information such as company strategies, goals, performance
metrics, investments, and even weaknesses and vulnerabilities
• Many seasoned professionals simply don’t know where to look
• This session provides some guidelines for how to sift through the pebbles
to find the nuggets of CI gold in your competitors’ financial data
11/2/2015 2

11/2/2015 3
Anyone can start…
… a few can’t stop
What Does Success Look Like?

• What is the basis for the intelligence requirement?
– What decisions or actions will hinge on the results?
• Identify what information is needed to assist those
decisions/actions
– These are your Key Intelligence Topics (KITs)
• Develop collection plan based on the above
– Identify likely sources of information
– Identify available resources
– Establish boundaries and deadlines and stick to them
• Analysis approach and process
– Identify the methodologies and tools that will be used
• Communicating results
– Who must receive the results, and when are they needed?
– How will results be provided?
Effective Planning Yields Effective Results
411/2/2015

Two Very Different Mindsets
• Financial analysis defined as…
– The process of collecting,
evaluating, and interpreting a
company’s financial data in order
to formulate an assessment of the
company as an investment target
– Identifies areas of growth that may
yield good returns
– Identifies areas of risk that that
may lead to losses
11/2/2015 5
Investor analysts study companies to determine whether to invest in them;
Competitive intelligence analysts study companies to determine how to beat them
• Financial analysis requires…
– Earnings Per Share (EPS)
– Return on Assets (ROA)
– Return On Equity (ROE)
– Mergers & Acquisitions
– Profit margins, and changes in margin
– Assets and long-term debt
• Financial analysis defined as…
– The process of collecting,
evaluating, and interpreting
a company’s financial data in order
to assess them as a competitor
and beat them
– Identifies areas of strength that
must be countered or undermined
– Identifies areas of weakness that
can be exploited
• Financial analysis requires…
– Changes in IR&D spending
– Changes in cash flow
– Return on sales (RoS)
– G&A expenses as a % of sales
– Wording in the annual report / 10-K
– Specific programs won/lost and issues
surrounding them
– Management changes
– Facility closures/modification
– Mergers & acquisitions

Key Financial Terminology
6
?
Term Synonyms Meaning
Sales • Revenue
• Bookings
• The total volume of dollars customers agree
to pay for products & services
• NOTE: Typically recorded when earned, not
when received
Profit • Income from
operations
• Operating
earnings
• Operating income
• EBITA
• EBITDA
• Total revenue, minus the costs incurred in
generating that revenue, excluding costs
associated with interest, taxation,
depreciation and amortization
• NOTE: Operating income reflects a dollar
amount only and does not indicate a true
measure of performance
Margin • Operating Margin
• Profit margins
• Return-on-Sales
• Profit expressed as a percentage of sales
• NOTE: Margin is a good measure of
performance
Net
Income
• Earnings
• Net earnings
• Amount of income adjusted to account for
interest, taxes, depreciation and amortization
Selling, General & Administrative (SG&A) expenses: Costs associated with
generating and operating a business
• Includes Bid & Proposal (B&P), R&D, BD, corporate allocated expenses, etc.
Organic: Revenue growth (or lack thereof) that excludes all impact from mergers
and/or acquisitions (M&A activity)
• Exclusively from sales of goods and services, and is therefore a better measure of
the company’s effectiveness
Cash
• Cash, in its simplest form, is money
received from customers
• Cash Flow is the movement of
money into or out of a company
• Free Cash Flow (FCF) is the amount
of cash remaining after investments
in property, facilities, and equipment
Sources of Cash:
• Customer Payments
• Asset Liquidation
• Stock Sales
• Customer Advance Payments
Uses of Cash:
• Employees and Suppliers
• Accounts Receivable
• Capital Equipment/ Leasehold
Improvements
• Indirect Expenses
• Investments (IR&D)
• Repayment of debt
• Shareholder Dividends
• Mergers & Acquisitions
• Inventory
11/2/2015

14 glasses sold:
• Sales = 14 x 25¢ = $3.50
• Profit = [Sales] - [Cost]
= $3.50 - $2.00 = $1.50
• Margin =
≈ 0.43 or 43%
10 glasses sold:
• Sales = 10 x 25¢ = $2.50
• Profit = [Sales] - [Cost]
= $2.50 - $1.00 = $1.50
• Margin =
= 0.6 or 60%
• Cost: $1.00 for lemonade mix
(makes 10 glasses)
• Price: Sell lemonade for 25¢ per glass
7
Profit ($1.50)
Sales ($2.50)
Profit ($1.50)
Sales ($3.50) Had to buy
more mix
11/2/2015
Simplified Example: Lemonade Stand

Sources: Quarterly and Annually
The bulk of useful financial data can be found in two places:
1. Quarterly earnings report, webcast, and supporting documents
– Typically includes press release, 10-Q filing, and sometimes detailed financial statements
and/or presentation charts
– Transcript of webcast contains valuable insights – particularly the Q&A session
2. SEC Filings:
– Annual reports (SEC form 10-K) typically contain income statements, cash flow
statements, and balance sheets, as well as a host of “risk factors”
• NOTE: many companies publish an Annual Report for shareholders separate from their
10-K, with much of the same information plus graphics and narratives
– Proxy Statements (form DEF 14-A) contains information about the Board of Directors, Board
compensation, and Executive compensation
8
NOTE: Free transcripts of company earnings calls can be found at
SeekingAlpha.com, typically less than 12 hours after the webcast
NOTE: SEC Filings can be found either on the company website under “investor relations,” or the
SEC’s free Electronic Data-Gathering, Analysis, and Retrieval (EDGAR) system
11/2/2015

Other Useful Sources
• Company annual Investor Conferences
– High-level performance and strategic direction of company
– Typically found on company website
• Investor community sponsored conferences
– High-level performance and strategic direction of company
– Investment firms like Morgan Stanley, Barklays Capital, Credit Suisse, etc.
• Wall Street Financial analyst reports
– Assessment of professional investors and analysts
– Obtained through fee-based service (e.g. Thompson Business, etc.)
• Third party company analysis
– Consolidated data-based reporting and analysis on company
– Available only to seat-holders
11/2/2015 9

A Note about Private Companies
• Companies that are publicly traded are required to disclose their
financials to the SEC
• In contrast, financial data on private companies (i.e. companies not
publicly traded) is typically NOT readily available, unless the company
chooses to make it available
• But there is hope!
– Some private companies that are considering an IPO (e.g., BAH and SAIC
before they went public) will file a form called an S-1, similar to an annual
report
– Even if private companies do not publish financial data, there are still many
other sources of publicly available information that can be used in competitive
intelligence (e.g., FPDS, Glassdoor.com, opensecrets.org, sba.gov,
linkedin.com, etc.)
1011/2/2015

EXAMPLE: Segment Growth Reporting
From Leidos’ 2Q15 press release
• National Security Solutions
– Revenues for the quarter decreased $46M, or 5% YoY
• Due to contract activities associated with Overseas Contingency Operations (OCO) contracts
• OCO declines, the remaining revenue for NSS increased slightly
– Operating income margin for the quarter was 8.4%, consistent with prior year
• Reductions in indirect costs and improved program performance offsetting the impact of
revenue declines
• Health and Engineering
– Revenues for the quarter decreased $2M, or 1% YoY
• Higher sales volume in engineering business offset by revenue decreases in health and
security products businesses
– Operating loss for the quarter was $7M compared to operating loss of
$482M for the prior year
• Impacted by $29M loss on Plainfield Renewable Energy facility
• Reduced revenue from a business that typically generates higher margins
• Somewhat offset by a reduction in indirect expenses
• YoY comparison distorted by prior year’s impairment charges of $510M
1111/2/2015

Income Statement
(a.k.a. Earnings Statement)
• Summary of the company's
revenues & expenses, and the
resulting profit from operations
• Recorded on an accrual basis
(meaning when transactions
occur, not when cash is
exchanged)
• Often includes useful metrics
such as SG&A, B&P, and
R&D expenses
• NOTE: Some companies
divide this into a statement of
operations and a statement of
income
11/2/2015 12

• Records the amounts of cash
and cash equivalents entering
and leaving a company in a
given period (quarter or year)
• Recorded on an actual cash
basis, i.e. when cash is
exchanged
• Shows how well the company
is able to pay for its operations
and future growth
• Gives insight into how a
company’s operations are
running, where its money is
coming from, and how it is
being spent
Cash Flow Statement
11/2/2015 13

Balance Sheet
11/2/2015 14
• Provides information about
the company’s assets,
liabilities, and owners' equity
(normally on the last day of a
fiscal period)
• Assets are economic
resources that are expected
to provide future service to
the organization
• Liabilities are obligations to
employees, vendors, and
debt-holders
• Equity is the ownership
interest of the company’s
owners

1511/2/2015
Company Total Assets
Mickey Mouse 308,028$
Donald Duck 10,653$
Goofy 34,385$
Pluto 4,835$
Daisy Duck 101,396$
Minnie Mouse 39,848$
Clarabelle 9,425$
Winnie the Pooh 25,266$
Figaro 1,400$
Tinkerbell 235,790$
Total Liabilities
220,924$
7,298$
22,865$
2,994$
74,227$
36,866$
7,331$
18,518$
1,035$
225,031$
Total Equity
(Assets - Liabilities)
87,104$
3,355$
11,520$
1,840$
27,169$
2,982$
2,094$
6,748$
365$
10,759$
Total Equity
(Assets - Liabilities)
87,104$
3,355$
11,520$
1,840$
27,169$
2,982$
2,094$
6,748$
365$
10,759$
Equity as % of
Annual Sales
66%
26%
37%
37%
24%
7%
36%
28%
10%
8%
#1
Real World Example
Competitive Financial Comparison

1611/2/2015

What to Look For
• Strategy statements
– In executive comments, listen
carefully for discussion of “growth
markets” or “investments,” which
indicate they see opportunities for
growth and are acting accordingly
• Business mix
– Most financial statements provide a
breakdown of overall revenue or
profit figures into various business
units
– Often will break down into
commercial and federal business,
domestic and international
• Significant programs
– By regulation, companies must
disclose in their 10-K if there is a
program worth more than 10% of
annual sales
1711/2/2015
• Risk statements
– Usually found in form 10-K –
sometimes reveal performance
problems or disputes
– Can be used in ghosting, or as
negative past performance
references
• Executive Compensation
– In the Proxy Statements, determine
the metrics by which executive
bonuses are decided
– These are a very reliable indication of
the direction the company will go
• Stock Price
– If investors are buying up shares of a
company, that gives the company
more freedom to carry out its
strategies
– Conversely, if the stock price is bad,
it suggests the company may resort
to less conventional/predictable
behavior

Earnings Calls: What to Listen For
• What was the overall mood/tone of the call?
– What is their market outlook? Do they anticipate tough times or big growth?
• Strategy:
– What did company executives call out as areas they are focusing on?
– What have they emphasized in the past, and how has it changed this quarter?
– What did they say about mergers, acquisitions, or divestitures?
• Performance:
– What were the financial results (e.g. revenue, earnings, margin, cash flow, etc.)?
– Did the company meet expectations or disappoint?
– Were there unexpected events/adjustments, and how did the company “spin”
them?
– What programs or new awards or losses were called out?
• Q&A Session:
– Pay attention! This is usually the most valuable part of the earnings call
– Analysts question the execs, and the execs go off-script to answer
– Remember, execs cannot lie or mislead shareholders, according to Sarbanes-
Oxley Act of 2002
1811/2/2015

Listen carefully!
11/2/2015 19
“And then both IS and TS have a variety of
[international] opportunities out there as well,
whether we're talking about air defense systems or
we're talking about sustainment opportunities or in
some cases the cyber opportunities”
– Specific opportunities / pursuits
“those sectors today are reporting operating
margin rates in the range of 9% to 10%.”
– Performance / standards
“And those portfolios of actions have moved us
largely out of the low margin commoditized
service businesses.” – Business Mix Strategy
“we've been a very active manager of our
portfolio for many years now on both, I would
say the products and the services sides of the
company and I think that portfolio management
has been working well for us.”
– Organizational Approach
Earnings Call Comments

2011/2/2015

Why “Year-over-Year”?
• Year-over-year (YoY) means “this year compared to last year”
• Compares a given quarter to the corresponding quarter of the preceding year
(e.g., 3Q15 and 3Q14)
• Companies tend to follow a consistent annual pattern
– Yearly patterns are dependent on customer cycles (e.g., federal budget, seasonal
shopping, etc.)
• A year-over-year shift is therefore more insightful and noteworthy than a
consecutive quarterly shift
21
2011
2012
2013
2014
9.5
10.0
10.5
11.0
11.5
12.0
12.5
13.0
Q1 Q2 Q3 Q4
$B
LMT Quarterly Revenue
(2011-2014)
2011
2012
2013
2014
0.5
1.0
1.5
2.0
2.5
Q1 Q2 Q3 Q4
$B
Mattel® Quarterly Revenue
(2011-2014)
11/2/2015

Interpreting Revenue
• Is revenue growing or shrinking YoY?
– What are the contributing factors?
• New contract awards and task order awards (any large wins/losses?)
• Increasing/decreasing volume from existing programs (any problems or notable successes?)
• How much of the revenue is organic vs. M&A-related?
– Some companies disclose this openly – look for it
– Has the company made recent acquisitions/divestitures?
– Look at the press releases to see if the transaction amount was disclosed
22
So what???
• Falling revenue suggests base erosion, indirect rate increase, and/or struggling to
win business
• More motivated to win! May bid more aggressively, or increase SG&A to bid more
• Perhaps a re-org or leadership change in the works, leading to instability
• Maybe just cut losses and sell off a dying business?
• Layoffs?
• A sudden drop in revenue could indicate an abnormal charge, or possibly a spike
in the previous year’s quarter – LOOK FOR TRENDS
• Steadily increasing organic revenue suggests good growth, but can they deliver?
11/2/2015

Interpreting Operating Income & Margins
• Is operating income (profit) growing or shrinking?
– An increase in profits can stem from growing revenue, reduced costs, or both
– Similarly, lower profits may indicate higher costs, shrinking revenue, or both
• How do operating margins compare with peers?
• Are margins increasing or decreasing?
– Margins can rise due to either an increase in operating income, OR a decrease in
sales
• What causes margins to shift?
– Overhead cost adjustments (e.g., facility consolidation, SG&A reductions, etc.)
– Business consolidation or realignment (spreading overhead over a larger base)
– Improved performance, labor productivity (fixed price contracts only)
– Portfolio shift between development and consulting/integration work
– Program maturation (companies book smaller earnings % early in the program –
earnings increase as the contract nears completion)
– Award fees
23
So what???
• Drops in margin make investors uneasy, which may lead companies to focus
more on performance and less on bid price
• Comparatively low margins could indicate a problem, OR may be part of an
aggressive short-term bidding strategy
11/2/2015

Interpreting M&A Activity
• Companies pursue M&A activity for a number of reasons:
– Balance portfolio between core capabilities and strategic target markets
– Obtain or expand footprint / workshare within a given customer or market
– Enhance Pwin on one or more upcoming competitions
– Add capabilities that are lacking internally
– Add past performance references
– Artificially manipulate revenue figures
• Since acquisitions require the use of cash, companies must justify large
acquisitions to investors
– Listen for mention of specific programs or targets they’re pursuing in
justification
24
So what???
• Large acquisitions, as well as multiple acquisitions in a similar market segment,
indicate a company’s strategic emphasis on that area – which may also indicate
the company will bid more aggressively
11/2/2015

FY11
(July ‘10 – June ‘11)
2010 2011 Change
RF
Comms.
(38%)
Sales $2.1B $2.3B 10.7%
Income $0.7B $0.8B 11.3%
Margin 34.2% 34.4% 0.20 pts
Gov’t
Comms.
(30%)
Sales $1.7B $1.8B 1.7%
Income $0.2B $0.2B -0.2%
Margin 13.0% 12.8% -0.20 pts
Integrated
Network
Sol’ns
(33%)
Sales $1.5B $2.0B 33.7%
Income $0.09B $0.07B -17.7%
Margin 5.7% 3.5% -2.20 pts
25
FY10
(July ‘09 – June ‘10)
2009 2010 Change
RF
Comms.
(37%)
Sales $1.8B $2.1B 17.4%
Income $0.6B $0.7B 23.8%
Margin 32.5% 34.2% 1.76 pts
Gov’t
Comms.
(55%)
Sales $2.7B $2.7B -0.8%
Income $0.3B $0.3B 11.3%
Margin 11.2% 12.5% 1.36 pts
Broadcast
Comms.
(9%)
Sales $0.6B $0.5B -16.7%
Income -$0.2B -$0.03B 87.1%
Margin N/A N/A N/A
11/2/2015

• The crucial “So what?” question…
– Demands relevance and significance
• What does this mean for me?
• Why does this matter?
• What difference does this make?
– Should be asked at the beginning, middle, and end of any competitor analysis
effort – including competitor FINANCIAL analysis
– Should always have a view towards “What is my next move?”
– Should always be focused on informing specific strategic and/or tactical
decisions, that will increase win probability
• Remember, the only valuable intelligence is actionable intelligence –
news you can use – information that supports decisions
11/2/2015 26

Brandon Conroy
Executive Consultant
bconroy@richterandcompany.com
Everedy Square
6 North East Street, Suite 203
Frederick, MD 21701
301/845-7300
www.RichterAndCompany.com
11/2/2015 27

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