Flotek Industries, Inc. — Q1 2020 Form 10-Q
Business and period: The filing covers the three months ended March 31, 2020. Flotek’s continuing business is Energy Chemistry Technologies, supplying chemistry and related services to the oil and gas industry. Its Consumer and Industrial Chemistry Technologies business was sold in February 2019 and is reported as discontinued operations. The filing was delayed amid COVID-19-related communication difficulties and was signed June 12, 2020.
Financial performance and position
| Metric | Q1 2020 | Q1 2019 |
|---|---|---|
| Revenue | $19.4 million | $43.3 million |
| Operating loss | $70.1 million | $13.6 million |
| Net loss from continuing operations | $64.0 million | $15.2 million |
| Net income (loss), including discontinued operations | $(64.0) million | $30.9 million |
| Operating cash flow | $(20.5) million | $(25.1) million |
| Cash and cash equivalents at period-end | $80.3 million | — |
- Revenue fell 55.1% year over year amid weaker U.S. onshore activity, foreign-market volatility, and COVID-19-related customer demand and productivity impacts. Product sales were $18.8 million; services revenue was $0.6 million.
- Operating expenses excluding depreciation and amortization were $22.8 million, or 117.6% of revenue, versus $44.0 million, or 101.6%, a year earlier. Operating margin was negative 361.0%, versus negative 31.5%. The filing does not provide a conventional gross-margin figure.
- The $70.1 million operating loss includes a $57.5 million long-lived asset impairment: $30.2 million property and equipment, $19.8 million intangibles, and $7.4 million operating lease right-of-use assets. Excluding this charge, the operating loss was still materially higher than the prior-year loss.
- Cash, cash equivalents, and restricted cash totaled $80.9 million at quarter-end, down $20.3 million from the start of the quarter. Current assets were $126.2 million and current liabilities $18.2 million. The company had no outstanding revolving-credit borrowings; its former PNC credit facility was repaid and terminated in 2019.
- Operating cash use included substantial working-capital outflows and one-time payments related to the terpene supply amendment and the ADM post-closing working-capital adjustment. Capital expenditures were $42,000. Total liabilities were $28.1 million, including $11.1 million of operating and finance lease liabilities.
Material changes and unusual items
- Q1 2019’s $30.9 million net income included $46.1 million of after-tax discontinued-operation income, including a gain on the sale of the citrus-chemicals business. It is not directly comparable with 2020 continuing operations.
- In February 2020, Flotek paid ADM $15.8 million to amend the terpene supply agreement, reducing minimum purchase volumes and setting a fixed 2020 price. The filing recorded the payment-related expense in 2019; it recognized an additional $0.8 million contract loss in Q1 2020 as expected terpene usage changed.
- The CARES Act supported a $6.1 million tax receivable for an NOL carryback; Flotek filed for the tentative refund in April. In Q1 it recorded a $6.2 million income tax benefit, primarily related to the carryback provisions.
- Management revised previously issued financial statements for errors involving intercompany inventory profit and intangible assets transferred in the 2019 business sale. It concluded the revisions were not material to prior issued statements.
- After quarter-end, Flotek received a $4.8 million PPP loan at 1% interest, announced the $34.4 million cash-and-stock acquisition of JP3 Measurement plus assumption of $1.3 million of debt, and obtained shareholder approval to increase authorized common shares to 140 million. The NYSE extended Flotek’s period to regain compliance with its minimum share-price requirement to December 2020.
Outlook, risks, and controls
- Management expected significant revenue pressure as COVID-19, oil-price volatility, and customer budget cuts reduced activity; it provided no specific revenue or earnings guidance. It forecast $2.0–$3.0 million of 2020 ECT capital expenditures and said JP3-related spending was under evaluation, not expected to exceed $1.0–$2.0 million.
- Cost actions included a 35% workforce reduction, executive salary reductions exchanged for restricted stock, a 20% director-fee reduction, office consolidation, and reduced discretionary spending. Flotek planned to terminate its Houston headquarters lease for a $1.0 million payment.
- Management said it believed liquidity was adequate, citing cash on hand and expected tax-refund and escrow proceeds. Key risks include continued deterioration in oil and gas demand, customer concentration, cash burn, and execution of cost reductions and the JP3 acquisition. The filing also identifies lease obligations and $18.0 million of raw-material supply commitments.
- Disclosure controls were deemed ineffective as of March 31, 2020. Management identified material weaknesses concerning intercompany inventory-profit eliminations, recording legal rights to certain intangibles, and the operating effectiveness of the fixed-asset impairment analysis; remediation was being evaluated.
Important facts for investors to verify
- Whether revenue, margins, and operating cash use continued to deteriorate after Q1, and how much liquidity remained available.
- Receipt and timing of the $6.1 million tax refund and $6.6 million indemnity-escrow release cited in the filing.
- PPP loan forgiveness eligibility and any repayment obligations, and the final costs and results of the JP3 acquisition.
- Progress in remediating internal-control weaknesses and any subsequent accounting revisions.
- NYSE share-price compliance status and the effects of the expanded share authorization on potential dilution.