Business context and reporting period
Archrock, Inc. is a U.S. natural-gas compression services provider, operating contract operations and aftermarket services businesses. This 10-Q covers the quarter and nine months ended September 30, 2016; although the request metadata says 2016 Q1, the filing is for Q3. The company completed the spin-off of its international and fabrication businesses into Exterran Corporation in November 2015, so the 2015 comparisons reflect continuing operations with Exterran reported as discontinued operations.
The report was filed February 9, 2017, and the cover indicates the company checked “No” for having filed all required reports during the preceding 12 months. Management attributed the delay to its review and restatement of prior financial statements.
Financial performance and condition
Amounts below are in millions except per-share figures and where stated otherwise.
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $195.8 | $248.9 | $613.3 | $756.8 |
| Gross margin | $103.3 | $125.5 | $329.0 | $382.9 |
| Gross margin as % of revenue | 52.8% | 50.4% | 53.6% | 50.6% |
| Loss from continuing operations | $(10.0) | $(17.9) | $(19.1) | $(7.4) |
| Net loss attributable to Archrock stockholders | $(9.6) | $(9.9) | $(15.9) | $(3.1) |
| Loss per common share | $(0.14) | $(0.15) | $(0.24) | $(0.05) |
| Interest expense | $21.4 | $28.0 | $62.8 | $82.9 |
- Revenue fell 21% in Q3 and 19% for the nine-month period, mainly due to lower customer demand, operating horsepower and pricing. Average operating horsepower fell 12% in Q3 and 10% year to date; period-end utilization was 79%, versus 84% a year earlier.
- Contract operations gross margin percentage improved to 62% from 59% in Q3 and to 62% from 59% for the nine months, reflecting cost controls and lower operating costs. Aftermarket services margin percentage weakened to 17% from 21% in Q3 and to 17% from 20% year to date.
- Q3 stockholder net loss improved slightly year over year; the nine-month loss widened, principally as lower gross margin and reduced discontinued-operations income outweighed lower interest, depreciation and SG&A expenses.
- Nine-month operating cash flow was $219.9, versus $315.8 in total operating cash flow in 2015; continuing-operations operating cash flow was $220.0 versus $244.3. Capital expenditures were $97.0, down from $206.1; cash from investing activities was a net use of $83.7. Financing activities used $132.4, including $108.0 of net debt repayments, dividends and Partnership distributions. Cash increased $3.8 to $5.4.
- At September 30, total debt, net of discounts and financing costs, was $1,471.4, down from $1,576.9 at year-end 2015. Working capital was $124.4, down from $150.2. Archrock’s revolver had $239.0 of available capacity after letters of credit; the Partnership had $274.3 available under its revolver after covenant limitations.
- Dividends declared and paid were $0.095 per share in Q3, compared with $0.15 in Q3 2015. The board declared a subsequent quarterly dividend of $0.12 per share, paid November 17, 2016.
Outlook, management commentary and key risks
- Management described continued pricing pressure and lower operating horsepower amid weak oil and gas industry investment, but reported increased new orders in Q2 and Q3 and a moderation in horsepower returns in Q3. Management also cited cost-control efforts and improved contract-operations margin percentage.
- At quarter-end, management planned 2016 net capital expenditures of approximately $110–$120, including $75–$85 for growth and $30–$35 for maintenance. It expected operating cash flow and revolver borrowings to cover liquidity needs through December 31, 2016, while noting external financing might be needed if they did not.
- Credit-facility amendments related to the restatement waived potential defaults tied to prior-period information and extended delivery of specified 2016 quarterly reports and covenant certificates to March 31, 2017. The amended facility restricts borrowing if consolidated cash would exceed $35 and requires specified revolver prepayments above that balance. Archrock and the Partnership reported compliance with their financial covenants at September 30.
- Texas ad valorem tax litigation is a material contingency. Archrock had recorded aggregate tax benefits of $56.7 since 2012; $43.0 remained disputed. An unfavorable outcome could require repayment, potentially with substantial penalties and interest, and could increase future costs and affect dividends.
- The filing describes a restatement prompted by errors in Exterran’s Middle East EPC project accounting and Brazilian tax receivables. Archrock stated that the identified errors did not relate to its ongoing operations; its 2015 nine-month net income had been overstated by $27.7. Archrock also assisted Exterran with an SEC investigation, including matters provided to the Department of Justice at the SEC’s request. Management concluded disclosure controls were effective as of September 30, 2016.
- Other risks include continued energy-market weakness, customer financial health, high debt and interest-rate exposure, Partnership distribution capacity, asset impairments, litigation, and costs or proceedings related to the restatement. A 1% increase in rates on debt effectively floating after swaps was estimated to raise annual interest expense by $2.9.
Important facts for investors to verify
- Confirm the reporting-period mismatch: this filing covers the quarter ended September 30, 2016, not Q1, and was filed late.
- Review the restatement details, the related control environment and any subsequent SEC, DOJ, shareholder or other developments.
- Track the Texas compressor-tax litigation, the recoverability of the recorded benefits and any exposure to penalties or interest.
- Assess whether declining utilization and aftermarket demand stabilize, and whether planned cost savings and capital spending support cash generation.
- Monitor debt maturities, covenant headroom, Partnership distributions, available liquidity and the sustainability of dividends.