Flotek Industries, Inc. — Q3 2013 Form 10-Q
Reporting period: Three and nine months ended September 30, 2013. Amounts are in U.S. dollars; financial statement amounts are in millions unless otherwise indicated.
Business context and reporting period
Flotek develops and supplies oilfield chemicals, drilling and artificial-lift equipment, and related services. Its May 10, 2013 acquisition of Florida Chemical expanded the company into consumer and industrial chemicals, including citrus-derived products for flavor, fragrance, cleaning, and other markets. The acquisition contributed $18.6 million of Q3 revenue and $33.1 million for the first nine months.
Financial performance and liquidity
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $98.4 | $78.6 | $270.2 | $236.1 |
| Gross margin | $37.5; 38.1% | $33.8; 43.0% | $107.7; 39.9% | $100.3; 42.5% |
| Operating income | $15.1; 15.3% | $14.6; 18.6% | $41.2; 15.2% | $46.9; 19.9% |
| Net income | $9.0 | $9.8 | $25.2 | $26.6 |
| Diluted EPS | $0.16 | $0.19 | $0.47 | $0.52 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $21.4 | $38.5 |
Q3 revenue rose 25.1%, but excluding Florida Chemical increased only 1.5%; nine-month revenue rose 14.4%, or 0.4% excluding the acquisition. Net income declined 8.5% in Q3 and 5.3% year to date. Lower gross and operating margins reflected acquisition-related portfolio mix, higher sales of nonproprietary energy chemicals, and operating costs. Q3 income tax expense was $5.6 million, an effective rate of 38.6%, versus 23.1% a year earlier; the nine-month rates were 36.7% and 27.3%.
At September 30, cash was $4.4 million, current assets were $144.0 million, and current liabilities were $76.5 million. Total debt, including capital leases, was $76.6 million: $47.6 million under the term loan, $27.4 million on the revolver, and $1.6 million in capital leases. The revolver is classified as current. The company reported compliance with debt covenants. It had repaid all convertible notes during the period.
Nine-month investing cash outflow was $58.8 million, including $53.4 million net cash paid for Florida Chemical and $10.0 million in capital expenditures, partly offset by $4.6 million from asset sales. Financing provided $39.3 million. Operating cash flow was lower than the prior-year period, with management reporting $19.0 million used in working capital.
Material changes versus the prior comparable period
- Florida Chemical added a new Consumer and Industrial Chemical Technologies segment and materially increased assets, goodwill, and intangible assets. The acquisition’s $106.4 million consideration comprised $49.5 million cash, $52.7 million in stock, and $4.2 million of debt repayment.
- Reported revenue increased, but acquisition-adjusted growth was modest. The company also faced lower North American rig counts, down 5.0% in Q3 and 8.8% year to date.
- Drilling Technologies revenue fell 9.4% in Q3 and 3.3% year to date, chiefly due to lower actuated-tool rentals. Energy Chemical Technologies revenue grew, while its operating income declined year to date. Artificial Lift revenue increased year to date but Q3 margins weakened.
- Interest expense declined substantially following repayment of convertible notes, but operating cash flow and profitability were below year-earlier levels.
Outlook, risks, and unusual items
- Management expected economic conditions to remain broadly consistent with recent markets, planned to expand Energy Chemical Technologies capacity, develop drilling products, pursue international opportunities, and focus on products that could improve gross margins. The 2013 plan cited approximately $8.0 million of remaining capital expenditures, excluding amounts received from lost-in-hole revenue.
- Management anticipated continued demand for stimulation and completion chemistries, Teledrift Pro-series tools, and the Stemulator product line. It also said citrus-oil availability and pricing could cause seasonal revenue and margin fluctuations.
- Operational risks include drilling activity and customer demand, competitive pricing and rig efficiency, raw-material and citrus-crop volatility, weather, and potential regulatory limits on hazardous chemicals. September flooding in Colorado was estimated to have reduced Energy Chemical Technologies revenue by more than $3.0 million.
- The company had a non-binding July 2013 letter of intent to acquire Eclipse IOR Services for expected consideration of approximately $6.5 million, subject to due diligence. It also disclosed an Oman facility letter of intent and an August agreement to provide chemistry technologies to an Abu Dhabi customer.
- Management reported no litigation expected to have a material effect and no material changes to previously disclosed risk factors. No impairment was recorded on goodwill or other intangible assets during the nine-month period. A $10.0 million escrow was established for Florida Chemical seller indemnification obligations.
Important facts for investors to verify
- Whether acquisition-adjusted sales growth and Florida Chemical integration deliver sustained earnings and cash-flow improvement.
- Whether gross-margin pressure persists, particularly from product mix, nonproprietary products, and citrus-oil price and availability changes.
- Current borrowing availability, covenant headroom, debt repayment requirements, and the company’s ability to manage its $27.4 million current revolver balance.
- The continuing impact of reduced actuated-tool rentals, competition, and rig efficiency on Drilling Technologies.
- Progress, final terms, and financing implications of the Eclipse IOR proposal and other announced strategic initiatives.