Forum Energy Technologies, Inc. — 2018 Q3 Form 10-Q Summary
Business Context and Reporting Period
Forum Energy Technologies, Inc. is a global oilfield products company serving drilling, subsea, completion, production and infrastructure markets. The unaudited report covers the three and nine months ended September 30, 2018, compared primarily with the corresponding 2017 periods.
The company operates through Drilling & Subsea, Completions, and Production & Infrastructure segments. Approximately 80% of nine-month 2018 revenue came from consumable products and activity-based equipment. Results benefited from higher oil prices and North American activity, but offshore and subsea markets remained weak and Permian Basin pipeline constraints moderated activity.
Key Financial Metrics
| Metric | Three Months Ended September 30 | Nine Months Ended September 30 |
|---|---|---|
| Revenue | $267.0 million, up 34.4% | $791.3 million, up 38.6% |
| Gross profit | $74.5 million | $214.5 million |
| Gross margin | 27.9%, versus 23.9% in 2017 | 27.1%, versus 23.8% in 2017 |
| Operating income (loss) | $2.4 million, versus $(13.9) million | $(16.0) million, versus $(114.5) million |
| Net income (loss) | $(3.1) million, or $(0.03) per diluted share | $9.7 million, or $0.09 per diluted share |
| Interest expense | $7.9 million | $23.9 million |
| Cash flow from operations | Not separately provided | $(24.3) million, versus $(17.1) million |
Segment operating income was $3.4 million in the third quarter, compared with a $12.3 million loss in the prior-year quarter. Nine-month segment operating loss improved to $0.8 million from $42.6 million. Third-quarter segment margins were negative 15.6% for Drilling & Subsea, 13.0% for Completions, and 5.6% for Production & Infrastructure.
Liquidity, Capital Structure and Cash Flow
- Cash and cash equivalents were $26.9 million at September 30, 2018, down from $115.2 million at December 31, 2017.
- Total debt was $466.9 million, including $400.0 million of 6.25% senior notes due October 2021 and $68.0 million drawn under the revolving credit facility.
- Credit facility availability was $219.0 million against a $299.4 million borrowing base; $12.4 million was utilized for letters of credit.
- Nine-month cash uses included $24.3 million from operations, $18.7 million from investing activities and $44.2 million from financing activities, producing an $88.3 million net decrease in cash.
- Working capital investments, particularly a $67.5 million increase in inventories and a $19.6 million increase in trade receivables, were the principal drivers of operating cash use.
- Capital expenditures were $19.9 million, and debt repayments of $141.9 million exceeded new borrowings of $100.0 million.
Material Changes Versus the Prior Comparable Period
- Revenue growth was led by Completions, which increased 97.4% in the quarter and 127.9% year to date. Global Tubing, acquired in October 2017, contributed $36.2 million of third-quarter revenue and $112.7 million for the nine-month period.
- Production & Infrastructure revenue increased 12.1% in the quarter and 14.7% year to date, supported by higher valve and surface production equipment volumes.
- Drilling & Subsea revenue was essentially flat in the quarter but declined 7.6% year to date, primarily because of the contribution of the subsea rentals business to Ashtead and weak offshore demand.
- Gross margin improved materially because of higher volumes and operating leverage. Completions operating margin increased to 13.0% in the quarter from 2.7%, while nine-month margin improved to 10.3% from negative 0.8%.
- The company recognized $14.5 million of intangible asset impairment charges in the second quarter of 2018 after deciding to exit certain Subsea and Downhole products. This compared with $68.6 million of goodwill and intangible impairments in the first nine months of 2017, including a $68.0 million Subsea goodwill impairment.
- The first nine months of 2018 included a $33.5 million gain from contributing the subsea rentals business to Ashtead in exchange for a 40% equity interest, cash and a note receivable.
- The company adopted ASC 606 revenue recognition guidance on January 1, 2018 using the modified retrospective method. Management reported no material impact on revenue, profit, equity or cash flow.
Outlook, Commentary, Risks and Unusual Items
Management stated that cash on hand and expected operating cash flow should fund operations, working capital, capital expenditures and financing obligations for the foreseeable future. The filing does not provide specific quantitative revenue, earnings or margin guidance.
- Oil prices and North American drilling and completion activity improved from 2017 levels, but demand remains cyclical and dependent on customer budgets and commodity prices.
- Permian Basin pipeline constraints were reducing activity; additional capacity was projected to come online in 2019.
- Offshore and subsea activity remained at historically low levels, and the availability of newer or upgraded drilling rigs limited demand for drilling capital equipment.
- Steel and other tariffs increased raw-material costs. The company was attempting to mitigate the effect by diversifying its supply chain, but the ultimate impact remained uncertain.
- Inventory write-downs included $9.2 million in the first nine months, including $4.9 million of obsolete product inventory charges in Completions.
- On October 8, 2018, after the reporting date, the company acquired Houston Global Heat Transfer LLC for $52.0 million in cash, subject to customary adjustments, plus a potential earn-out. The acquisition will be included in Completions.
- The company disclosed a previously reported material weakness in internal control over financial reporting related to fair-value measurements used for acquisitions and goodwill impairment testing. The weakness had not been remediated as of September 30, 2018, although remediation efforts were underway.
- Foreign currency movements, interest rates, customer cancellations or deferrals, raw-material availability, skilled labor, acquisitions, environmental liabilities and access to capital were identified as additional risks.
- Legal proceeding reserves were immaterial, and management did not expect existing proceedings to have a material adverse effect.
Facts Investors Should Verify
- Whether operating cash flow improves as inventory and receivable growth moderates, given the $24.3 million operating cash outflow and sharply lower cash balance.
- The company’s ability to refinance or repay the $400.0 million senior notes due October 2021 and maintain compliance with credit facility requirements.
- Whether Completions momentum and Global Tubing integration offset persistent weakness in Drilling & Subsea and offshore markets.
- The financial impact of Permian pipeline constraints, tariffs and related raw-material inflation.
- The remediation and testing of the material weakness in acquisition and goodwill valuation controls.
- The purchase accounting, earn-out exposure and liquidity impact of the October 2018 Houston Global Heat Transfer acquisition.
- The sustainability of reported nine-month net income, which benefited from the $33.5 million subsea rentals gain and a $15.6 million tax benefit related to U.S. tax reform adjustments.