Flotek Industries, Inc. — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017; unaudited. Flotek supplies oilfield and consumer/industrial chemistries. Following a strategic restructuring, it reported two continuing segments: Energy Chemistry Technologies (ECT) and Consumer and Industrial Chemistry Technologies (CICT). Drilling Technologies and Production Technologies were classified as discontinued operations and substantially sold by August 2017.
Financial results
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $79.5 million | $64.3 million | $244.6 million | $192.2 million |
| Gross profit / margin | $21.7 million / 27.4% | $22.4 million / 34.7% | $75.6 million / 30.9% | $67.9 million / 35.3% |
| Operating loss | $3.1 million | $2.3 million | $5.0 million | $1.7 million |
| Continuing-operations loss | $3.4 million | $1.9 million | $5.3 million | $2.0 million |
| Net loss | $3.1 million | $2.7 million | $18.9 million | $35.2 million |
| Basic and diluted loss per share | $0.05 | $0.05 | $0.33 | $0.64 |
Cash flow and liquidity: For the first nine months, operating activities provided $1.2 million; investing activities provided $11.8 million, including $18.5 million of proceeds from business sales; and financing activities used $13.0 million. Cash was $4.9 million at September 30. Revolver borrowings were $40.6 million, all classified as current, with $34.3 million of borrowing availability. Management reported total liquidity of $39.2 million and compliance with debt covenants. Debt less cash was approximately $35.6 million. Capital expenditures were $6.2 million for the nine-month period.
Balance-sheet context: Current assets were $149.3 million and current liabilities $76.3 million. Inventory increased to $70.7 million from $58.3 million at year-end 2016. Total assets were $349.7 million, compared with $383.2 million at December 31, 2016; assets held for sale fell to $4.1 million from $43.9 million.
Material changes and segment performance
- Consolidated revenue rose 23.5% in Q3 and 27.2% year to date, driven mainly by stronger ECT sales as oilfield activity recovered. Average North American active rigs increased 92.3% in Q3 versus 2016.
- Revenue growth did not translate into higher Q3 gross profit: consolidated gross margin declined 7.3 percentage points, primarily because of product mix and higher raw-material costs.
- ECT revenue increased 35.8% in Q3 to $61.2 million, while gross margin declined to 30.6% from 40.4%. CnF sales revenue increased 28.7% year over year, with sales volume up 23.1%; volume declined 12.9% sequentially. Hurricane Harvey and customer delays affected the quarter.
- CICT revenue declined 5.3% in Q3 to $18.3 million. Its gross margin fell to 16.4% from 21.6%, and operating income fell to $1.0 million from $2.4 million, reflecting lower volumes, product mix, and higher input and indirect costs.
- Nine-month net loss improved year over year, but largely because 2016 included substantial discontinued-operation impairments. In 2017, discontinued operations recorded a $13.6 million net loss, including $16.5 million of write-downs of assets held for sale.
Outlook, risks and unusual items
- Management expected 2017 capital spending of $9 million to $11 million, toward the lower end; $2.8 million to $4.8 million remained planned or committed for the rest of 2017. The filing provides no specific revenue or earnings guidance.
- Management expected oilfield activity to remain sensitive to oil prices and anticipated ECT sales to outperform market activity over time, supported by CnF chemistry and direct-to-operator selling. It noted that quarter-to-quarter performance may vary.
- Citrus greening has reduced citrus crop supply and contributed to higher, more volatile citrus-oil prices. Management said supply was sufficient for current needs and cited product formulation and pricing strategies to manage cost volatility.
- The revolving credit facility provides for up to $75 million of borrowing and runs through May 2022. It is secured by substantially all domestic real and personal property and includes leverage, fixed-charge coverage, capital-spending and stock-repurchase restrictions. The company reported covenant compliance at quarter-end.
- Flotek received $17.0 million cash consideration for substantially all Drilling Technologies assets sold to NOV, with $1.5 million held back for potential indemnification claims; $2.9 million for Production Technologies assets sold to Raptor Lift, with $0.4 million held back; and $1.0 million cash plus a $1.0 million one-year note for remaining Drilling Technologies assets sold to Galleon.
- The SEC informed Flotek in August that its inquiry into issues related to litigation had concluded and that staff did not intend to recommend enforcement action. A securities class-action dismissal was on appeal; derivative lawsuits remained pending, and the company said their outcome could not be reasonably estimated.
- Other risks include customer and industry concentration, raw-material costs, oilfield demand, interest rates and foreign exchange. Two customers represented 13.3% and 8.8% of Q3 revenue; more than 90% of their revenue was in ECT.
Investor facts to verify
- Whether ECT growth and CnF adoption can continue, particularly after the sequential Q3 volume decline.
- Whether gross-margin pressure from product mix and raw-material costs persists, especially in CICT.
- Working-capital needs, inventory growth, cash generation and headroom under credit-facility covenants.
- Collection of sale proceeds and resolution of the NOV and Raptor Lift indemnification holdbacks and the Galleon note.
- Progress and potential exposure from the securities appeal and derivative litigation.