Flotek Industries, Inc. (NYSE: FTK) — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022. Figures are unaudited and in U.S. dollars; financial statement amounts are in millions unless otherwise stated. Flotek operates Chemistry Technologies (CT) and Data Analytics (DA). Since May 17, 2022, it has been a consolidated subsidiary of ProFrac Holding Corp.
Financial performance and liquidity
- Revenue: Q3 revenue was $45.6 million, up 348% from $10.2 million; nine-month revenue was $87.9 million, up 182% from $31.1 million. Growth was primarily driven by the ProFrac supply agreement and increased activity elsewhere in CT.
- Concentration: Related-party revenue was $30.4 million in Q3 and $49.5 million for nine months. ProFrac represented 66.7% of Q3 revenue and 54.7% of nine-month revenue. ProFrac-related accounts receivable were $25.9 million at quarter-end.
- Margins and earnings: Q3 gross loss was $1.8 million (gross margin -4.0%), versus gross profit of $6.2 million (60.5%) a year earlier. Nine-month gross loss was $4.6 million (-5.3%), versus gross profit of $4.2 million (13.6%). Net loss was $18.8 million in Q3 and $23.3 million for nine months, compared with net income of $0.5 million and a net loss of $14.3 million, respectively, in 2021. Loss per share was $0.25 for Q3 and $0.31 for nine months.
- Operating costs and unusual items: Q3 operating loss was $16.3 million, compared with operating income of $0.6 million a year earlier. Nine-month operating loss was $18.5 million, versus $15.1 million. Q3 included a $4.3 million expense from fair-value remeasurement of contract consideration convertible notes; the nine-month results included a $9.0 million fair-value gain. Other notable items included a $1.9 million gain on sale of a facility, a $0.6 million lease-termination gain, and a $1.0 million inventory write-down related to discontinuing hand sanitizer.
- Cash flow: Nine-month operating cash use was $47.2 million, versus $18.3 million in 2021. Working capital used $23.6 million, including increases in related-party receivables and inventory, partly offset by higher accounts payable. Investing activities provided $4.0 million, largely from a property sale; financing activities provided $38.2 million, primarily from convertible notes and prefunded warrants. Cash and restricted cash totaled $8.6 million at September 30, 2022, down from $13.3 million at year-end 2021.
- Balance sheet and debt: Current assets were $83.4 million and current liabilities $133.9 million. Total assets were $164.0 million, including $81.1 million of net contract assets; total liabilities were $143.5 million and equity $20.5 million. Current liabilities included $19.1 million of convertible notes and $73.0 million of contract consideration convertible notes. The company also reported $4.8 million of PPP debt, of which $1.9 million was classified current; forgiveness of the Flotek PPP loan remained unresolved. Operating lease liabilities totaled $7.2 million.
Material changes and business developments
- The ProFrac supply agreement began in 2022 and was amended in May to extend its term to ten years and increase minimum purchase obligations to the greater of 70% of ProFrac’s requirements or a specified fleet-based baseline. The agreements generated substantial related-party revenue and contract assets.
- The agreements involved $60 million of aggregate principal in contract consideration convertible notes, initially measured at fair value and remeasured thereafter. Their quarter-end fair value was approximately $73.0 million. The notes are convertible and generally mature one year after issuance.
- In June, ProFrac Holdings II paid $19.5 million for prefunded warrants. The warrants cover approximately 13.1 million shares at an exercise price of $0.0001; certain voting or consent rights depend on shareholder approval excluding ProFrac affiliates and an additional $4.5 million payment.
- CT revenue rose sharply, but the segment recorded a $10.6 million Q3 operating loss. DA Q3 revenue increased to $1.7 million from $0.8 million, while its operating loss narrowed to $0.7 million; nine-month DA revenue declined 7% and its operating loss widened.
Outlook, commentary, and risks
- Management expected North American and international onshore energy activity to improve through the remainder of 2022 and described a potentially durable tight-supply cycle supporting oil prices into 2023. It anticipated stronger activity from private E&Ps and possible growth in indirect-channel sales. These are expectations, not quantified company guidance.
- Management expected international sales of newly certified analyzers to increase over the next twelve months and continued developing recurring analytics revenue. The filing provides no specific revenue or earnings targets.
- Management said cash, liquid assets, and forecast operating cash flows—principally from the ProFrac agreements—were expected to fund operations and obligations for the next twelve months, but cautioned that future cash flows were not assured. The company has a history of losses and negative operating cash flow and expects significant cash use.
- Key risks include dependence on ProFrac and the oil and gas industry, customer credit and collection exposure, execution and recoverability of the long-term ProFrac arrangements, supply-chain costs and delays, and the company’s liquidity needs. Contract assets and convertible-note valuations rely in part on estimates and Level 3 inputs. Management reported no material change in previously disclosed risk factors.
- Other contingencies include ongoing proceedings involving the former CEO, former outside counsel, and former auditor; management said outcomes and timing could not reasonably be predicted. The filing reported no material subsequent events and no material change in legal proceedings since the prior annual report.
Important facts for investors to verify
- Whether ProFrac meets purchase obligations, pays receivables on time, and supports the forecast cash flows underpinning management’s liquidity assessment.
- How the negative gross margins and Q3 ramp-up costs evolve, and whether increased sales translate into sustainable operating cash generation.
- The maturity, conversion, interest, and potential dilution effects of the convertible notes, including the prefunded warrants and their associated approval and payment conditions.
- The assumptions behind the $81.1 million contract asset balance and the Level 3 fair values of contract consideration notes, including sensitivity to stock price, volatility, and forecast ProFrac revenue.
- The status of the PPP loan forgiveness request, former-CEO-related proceedings, and other legal or tax exposures.