Flotek Industries, Inc. — Q2 2012 Form 10-Q
Reporting period: Three and six months ended June 30, 2012; filed August 8, 2012. Flotek develops and supplies oilfield specialty chemicals, logistics, drilling tools and artificial-lift products and services. Unless otherwise stated, amounts below are in millions of dollars.
Financial performance
| Metric | Q2 2012 | Q2 2011 | First half 2012 | First half 2011 |
|---|---|---|---|---|
| Revenue | $78.3 (+40.0%) | $55.9 | $157.5 (+44.7%) | $108.8 |
| Gross profit / margin | $33.0 / 42.2% | $22.2 / 39.8% | $66.5 / 42.2% | $43.4 / 39.9% |
| Operating income | $15.6 | $7.9 | $32.3 | $17.2 |
| Net income | $13.2 | $2.1 | $16.8 | $12.5 |
| Diluted EPS | $0.25 | $0.04 | $0.33 | $0.17 |
For the first half, product revenue was $110.9 million, rental revenue $35.0 million and service revenue $11.5 million. Chemicals generated $93.6 million of revenue, Drilling $58.8 million and Artificial Lift $5.1 million. Chemicals revenue grew 67.0% year over year; Drilling grew 24.8%; Artificial Lift declined 10.3%.
Cash flow, liquidity and debt
- First-half operating cash flow was $22.1 million, versus cash used of $3.4 million in 2011. Capital expenditures were $9.5 million, up from $3.7 million. Investing activities used $6.9 million.
- Financing activities used $51.1 million, largely reflecting repayment of $36.0 million of 2010 secured notes and repurchase of $15.0 million of 2008 notes. Cash fell from $46.7 million at year-end to $10.7 million at June 30.
- At June 30, total assets were $201.7 million, current assets $100.1 million, current liabilities $82.3 million and stockholders’ equity $115.3 million. The $53.2 million carrying value of the 2008 convertible notes was classified as current; face principal outstanding was $55.5 million.
- The notes bear 5.25% interest and have a February 15, 2013 holder put date. The filing lists $55.5 million principal and $2.9 million interest due within one year. Capital lease obligations were $2.0 million.
- The $35 million PNC revolving facility was undrawn, with no letters of credit outstanding. It was available through December 15, 2012; extension was at the lender’s discretion and conditional on satisfactory refinancing or restructuring of the senior notes. Flotek said it was in compliance with debt covenants.
Material changes and unusual items
- Revenue and gross profit rose substantially, with management citing stronger oil- and liquids-directed activity, higher-margin product mix, selective price increases and market penetration. Consolidated gross margin improved about 2.4 percentage points in Q2 and 2.3 points year to date.
- SG&A increased 23.9% in Q2 and 33.0% year to date, primarily due to salary, benefits and equity-based and incentive compensation; headcount increased about 10.4%.
- Debt-extinguishment losses were $1.0 million in Q2 and $6.4 million year to date. The first-half total included the January repurchase of $36.0 million of 2010 notes and the June repurchase of $15.0 million of 2008 notes.
- Flotek amended warrants on June 14, eliminating anti-dilution and change-of-control cash-settlement provisions. The warrants were reclassified from liability to equity; the revaluation generated $6.5 million of Q2 noncash income ($2.6 million for the first half), and $14.0 million was transferred to additional paid-in capital. This materially affects reported earnings and is not operating cash flow.
- Drilling gross margin percentage fell to 40.3% in Q2 from 44.2%, reflecting price pressure and higher material costs. Artificial Lift first-half revenue weakened amid low natural-gas activity, despite improved margins.
Outlook, risks and contingencies
- No specific earnings or revenue guidance was provided. Management expected oil-directed activity to remain supportive through the rest of 2012, while anticipating volatile economic conditions and potentially greater pricing pressure. It cited continued weakness in natural gas prices and activity, but expected demand for its complex nano-fluid products and market-expansion efforts to support growth and margins.
- The 2012 capital-expenditure budget was approximately $14.4 million, with $4.9 million remaining at June 30. Management expected operating cash flow and cash reserves to cover anticipated operating, capital and debt-service needs for the remainder of 2012, while also evaluating financing and debt-repayment alternatives.
- Key risks include oil and gas price and rig-activity volatility, customer spending, competitive pricing and cost pressures. Three customers each represented at least 10% of Q2 revenue; two each exceeded 10% of first-half revenue, with more than 97% of those revenues associated with Chemicals. Certain chemical inputs and equipment parts have limited or concentrated sources. Cash was largely held at one financial institution and could exceed insured limits.
- Management reported no pending or threatened litigation expected to materially affect financial position, results or liquidity. The filing disclosed no material change to previously reported risk factors.
Important facts for investors to verify
- How Flotek planned to address the February 2013 holder put on $55.5 million of 2008 notes, and whether the revolving facility could be extended or replaced.
- Whether operating cash generation and the $10.7 million cash balance were sufficient given debt service, working-capital needs and the remaining capital budget.
- How much of earnings growth reflected recurring operating performance versus warrant revaluation and debt-extinguishment items.
- Whether Chemicals growth and margin gains could persist, and whether Drilling’s margin pressure and Artificial Lift’s natural-gas exposure would improve.
- Customer concentration, constrained sourcing, commodity-price exposure and the potential for competition or cost inflation to weaken margins.