Natural Gas Services Group, Inc. — Q2 2017 Form 10-Q
Business and period: The company fabricates, rents and sells natural-gas compressors and related equipment, and provides service and maintenance. This unaudited report covers the quarter and six months ended June 30, 2017, compared with the same 2016 periods. Amounts below are in millions except per-share data and operating statistics.
Financial performance
| Metric | Three months ended June 30 | Six months ended June 30 |
|---|---|---|
| Revenue, 2017 / 2016 | $16.2 / $17.2; down 6% | $35.1 / $38.8; down 9.4% |
| Operating income, 2017 / 2016 | $0.4 / $1.9 | $0.8 / $5.6 |
| Operating margin, 2017 / 2016 | 3% / 11% | 2% / 15% |
| Net income, 2017 / 2016 | $0.4 / $1.3 | $0.6 / $3.8 |
| Diluted EPS, 2017 / 2016 | $0.03 / $0.10 | $0.05 / $0.29 |
- Revenue mix: Q2 rental revenue fell to $11.4 million from $14.7 million, while sales rose to $4.4 million from $2.3 million. For the first half, rental revenue fell 25% to $23.3 million; sales grew 53% to $11.0 million. Service and maintenance revenue was $0.4 million for Q2 and $0.7 million for the first half.
- Cash flow: First-half operating cash flow was $10.2 million versus $19.8 million in 2016. Investing activities used $1.1 million, including $0.7 million of equipment purchases and $0.5 million for company-owned life insurance; financing activities used $0.1 million. Cash increased $8.9 million to $73.0 million.
- Liquidity and debt: Working capital was $103.6 million, up from $93.3 million at December 31, 2016. The company had $0.4 million outstanding on its revolver and $29.5 million of borrowing-base availability. The $30 million secured credit facility matures December 31, 2017; the company reported covenant compliance at June 30.
- Balance sheet: Total assets were $292.8 million and total liabilities were $56.9 million at June 30, 2017. Rental equipment, net, was $164.6 million.
Material changes and operating developments
- Lower rental revenue drove the decline in profitability. Fleet utilization was 49.3%, down from 55.7% a year earlier; the rented fleet comprised 1,248 compressors totaling 179,366 horsepower, compared with 1,463 compressors and 209,596 horsepower a year earlier.
- Management said returns had eased in recent months, with the smallest utilization decline since early 2015, but attributed continued weakness to depressed and inconsistent oil and gas prices and reduced project spending.
- Higher sales partly offset rental weakness, reflecting timing of capital projects and increased flare demand. The sales mix shift and higher cost of sales did not prevent a steep decline in operating income.
- First-half SG&A increased to $5.4 million from $4.7 million, primarily due to higher stock-based compensation. Restricted-award compensation expense was $2.2 million versus $0.9 million in the first half of 2016.
- The company recognized $3.0 million of revenue in the first half under bill-and-hold arrangements. Management stated that required recognition criteria were met.
Outlook, risks and contingencies
- No quantified revenue or earnings guidance is provided. For the remainder of 2017 and into 2018, management plans to control expenses, build rental equipment in response to market needs, market idle compressors and limit bank borrowing. Forecast capital expenditures for the rest of 2017 were not expected to exceed internally generated cash flow and cash on hand.
- Management believes operating cash flow, cash on hand and the credit line should meet foreseeable capital and liquidity needs, but notes that additional capital for unexpected spending or acquisitions may not be available on acceptable terms.
- Key risks include prolonged low oil and gas prices reducing demand, competition, new technologies, supplier or component-cost pressures, and regulatory changes that could require significant capital spending. The industry is cyclical; management described the long-term market trend as favorable but the timing of renewed investment as uncertain.
- The credit facility’s December 31, 2017 maturity is an important near-term financing consideration. It is secured by specified receivables, inventory and compressor equipment and includes a leverage covenant and restrictions on, among other things, additional debt, acquisitions and dividends.
- The company is assessing adoption of the new revenue standard, expected January 1, 2018, and had not selected a transition method or concluded on the effect, particularly for rental revenue. It expects to complete its review by mid-November 2017. The new lease standard is expected to apply beginning in 2019; impacts were still under review.
- Management said it was not party to material legal proceedings and was unaware of threatened material litigation. It believed ordinary-course proceedings would not materially affect financial position, results or cash flow.
Important facts for investors to verify
- Whether the improvement in compressor returns translates into a sustained recovery in utilization and rental revenue.
- The status and terms of the credit facility at its December 31, 2017 maturity, including any renewal or refinancing.
- How much of the first-half sales increase is repeatable versus timing-related, and the economics of the $3.0 million bill-and-hold revenue.
- The drivers and expected duration of higher stock-based compensation expense and its effect on margins and per-share results.
- The eventual revenue-standard adoption method and its impact on rental and other revenue recognition.
- Actual capital spending, cash generation and fleet additions relative to management’s stated plans.