Innovex International, Inc. quarterly report, Q3 FY2014

Business context and reporting period

The supplied filing is Dril-Quip, Inc.’s unaudited Form 10-Q for the quarter ended September 30, 2014, not a filing identified as Innovex International, Inc. Dril-Quip designs, manufactures, sells and services offshore drilling and production equipment. It reports Western Hemisphere, Eastern Hemisphere and Asia-Pacific segments.

Financial performance and condition

Amounts below are in millions of dollars except per-share data. Comparisons are with the corresponding 2013 period.

Products generated $198.8 million of third-quarter revenue and services $42.9 million. At September 30, cash and cash equivalents were $315.0 million, current assets $1,104.0 million and current liabilities $169.4 million; the current ratio was approximately 6.5. Total liabilities were $178.9 million, including $9.5 million in deferred taxes. No borrowings are reported on the balance sheet; interest expense was minimal. Total assets were $1,429.0 million and stockholders’ equity $1,250.1 million.

Material changes versus comparable periods

• Third-quarter revenue growth reflected higher surface and offshore-rig equipment sales and increased services, partly offset by lower subsea equipment revenue. Year-to-date growth included increases across product categories and higher service revenue.
• Gross margin improved to 44.1% from 41.2% in the quarter and to 45.1% from 40.4% year to date. Management attributed the improvement primarily to product mix and pricing increases.
• Third-quarter SG&A declined to $20.8 million from $29.8 million, with foreign-currency transaction gains of about $4.0 million versus losses of $7.6 million a year earlier. Year-to-date SG&A rose to $70.3 million from $68.7 million, including higher stock compensation, professional fees and personnel costs.
• Engineering and product development expense increased 17.6% in the quarter and 17.9% year to date, reflecting staffing for long-term projects and increased research and development.
• Year-to-date operating cash flow fell $38.3 million, primarily as receivables and inventory absorbed cash. Receivables rose $55.2 million and inventory $44.0 million; payables and accrued expenses increased $28.8 million.
• Cash declined by $69.4 million during the first nine months, largely reflecting $140.3 million of share repurchases, partly offset by operating cash generation. The company completed a prior $100 million repurchase plan and bought back $50.2 million under a new $100 million authorization in the third quarter.
• Foreign-currency translation reduced third-quarter comprehensive income: translation loss was $28.4 million, leaving total comprehensive income of $27.3 million despite net income of $55.7 million.

Outlook, commentary, risks and contingencies

Management provided no specific company revenue or earnings guidance. Backlog was approximately $1.25 billion at September 30, down from $1.32 billion at June 30 but above $1.18 billion at December 31, 2013. Management said backlog may help mitigate weaker market conditions, while warning that sustained lower commodity prices or reduced offshore activity could adversely affect results and backlog. Brent crude prices weakened in October 2014; management highlighted volatility in oil and gas prices and the potential for customers to cut capital spending.

• The Petrobras contract, awarded in 2012, is valued at up to $650 million net of Brazilian taxes if all equipment is ordered. The company had recognized about $44 million in revenue through September 30; backlog included $104 million in purchase orders under the contract. Petrobras had objected to acceptance of completed equipment associated with approximately $24 million of unrecognized revenue. Failure to resolve the objections or future non-acceptance could hurt results.
• A Brazilian tax dispute concerns approximately $13.0 million of assessments seeking to cancel tax credits. Management believes the credits are valid and success is probable; no liability was accrued. Certification and use of separate credits from earlier settlements also remained in process.
• The Deepwater Horizon-related claims against the company had been dismissed, and the remaining personal-injury lawsuit was settled in August 2014 with all claims against the company released.
• Other principal risks include offshore-industry cyclicality, oil and gas price declines, customer purchase-order changes or cancellations, project execution and cost estimates, foreign exchange, international political and regulatory risks, and product-liability or environmental claims.
• The company was evaluating the new revenue-recognition standard, effective for fiscal years beginning after December 15, 2016. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.

Most important facts for investors to verify

• Confirm the issuer: the supplied filing names Dril-Quip, Inc., whereas the request metadata names Innovex International, Inc.
• Track backlog conversion, customer purchase-order changes, and Petrobras acceptance of disputed completed equipment.
• Assess whether receivables and inventory growth converts to cash; year-to-date operating cash flow declined despite higher earnings.
• Monitor the remaining repurchase authorization, cash balance and the effect of buybacks on liquidity and share count.
• Review exposure to falling oil prices, offshore customer spending, foreign exchange movements and the Brazilian tax-credit dispute.