TEAM, Inc. (NYSE: TISI) — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. TEAM provides specialized industrial inspection, engineering, maintenance and repair services through Inspection and Heat Treating (IHT), Mechanical Services (MS) and Quest Integrity.
Financial results and liquidity
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Revenue | $315.8 million | $343.9 million | $585.4 million | $646.3 million |
| Gross margin | $94.6 million (30.0%) | $97.2 million (28.3%) | $160.5 million (27.4%) | $172.7 million (26.7%) |
| Operating income (loss) | $13.0 million | $1.8 million | $(3.5) million | $(12.3) million |
| Net income (loss) | $6.1 million | $(31.3) million | $(18.1) million | $(43.6) million |
| Operating cash flow | Not presented by quarter | $5.6 million | $(17.7) million |
- Q2 revenue fell 8.2%; first-half revenue fell 9.4%. Management attributed the decline mainly to weaker activity and customer spending in IHT and MS, discontinued underperforming businesses, and unfavorable currency effects. Quest Integrity revenue grew.
- Q2 operating income improved from $1.8 million to $13.0 million. First-half operating loss narrowed by $8.8 million. Results included $3.7 million of Q2 and $9.3 million of first-half expenses management identified as not indicative of core operations, primarily professional fees and OneTEAM-related costs.
- Q2 net income comparison benefited from the absence of the prior-year $29.3 million loss on the convertible-debt embedded derivative. The six-month 2018 comparison included a $24.8 million derivative loss. Interest expense was $15.0 million in the first half of 2019, versus $15.2 million a year earlier.
- First-half operating cash flow was positive $5.6 million, versus cash use of $17.7 million in 2018. Investing used $13.5 million, including $14.4 million of capital expenditures; financing provided $2.4 million, including $3.3 million of net revolver borrowings. Cash declined $5.5 million to $12.8 million.
- At June 30, total debt and finance lease obligations were $363.8 million, including $160.0 million outstanding under the credit facility and $230.0 million principal on 5.00% convertible notes due 2023. The credit facility matures in July 2020. Cash was $12.8 million and available facility capacity approximately $56 million; $17.6 million of letters of credit reduced availability.
- The company was in compliance with credit covenants at June 30: senior secured leverage ratio 2.66x against a 3.50x maximum, and interest coverage ratio 2.81x against a 2.50x minimum. The leverage ceiling tightens to 2.75x beginning September 30, 2019. The filing says management intends to arrange financing for future capital needs, including by extending the facility or seeking other financing, but provides no assurance of availability or acceptable terms.
Changes, outlook and risks
- Segment trends were mixed: Q2 IHT revenue declined 17.8% and operating income declined 28.5%; MS revenue declined 2.7% while operating income nearly doubled; Quest Integrity revenue rose 23.0% and operating income rose 62.1%. Management cited better MS project execution, pricing and cost control, and higher activity and favorable project mix at Quest Integrity.
- The OneTEAM program is in its second year of a three-year effort. Management estimates total program expense will not exceed $30 million, expects annual cost efficiencies of $35–$45 million by 2020, and reported savings of $6.1 million in Q2 and $11.6 million in the first half. Additional expenses are expected through 2020; achievement of savings is not assured. No formal revenue or earnings guidance is provided.
- Market risks include continued weakness in refining and petrochemical activity, foreign-currency movements and variable interest rates. Management estimates a 100-basis-point rate increase would raise annual interest expense and reduce operating cash flow by about $2 million. It estimates a 10% adverse currency move would affect revenue by $14.6 million and operating income by $0.2 million, based on first-half foreign-currency exposure.
- Material legal contingency: 83 lawsuits arising from a 2007 Con Edison steam-main rupture allege TEAM’s leak-repair services may have contributed. TEAM disputes the allegations, cannot estimate potential liability, and has accrued no amount above its $250,000 deductible; it believes insurance should cover the claims and does not expect a material adverse effect. A Quest Integrity patent case was remanded after an appellate decision reversed certain invalidity findings; litigation remains ongoing.
- TEAM adopted ASC 842 leases on January 1, 2019, recording $66.6 million of operating lease right-of-use assets and lease liabilities at adoption; the company reported no material impact on operating results or cash flows. Prior-year 2018 tax figures were revised for deferred-tax valuation allowance errors, improving reported net loss by $1.1 million for Q2 and $6.7 million for the first half; the company said the errors were not material.
Important facts for investors to verify
- Whether the July 2020 credit facility can be refinanced or extended on acceptable terms, and whether TEAM can meet tighter leverage and ongoing interest-coverage covenants.
- Whether OneTEAM savings and operating improvements are achieved as projected while restructuring and program costs continue.
- Whether demand stabilizes in IHT and MS, given first-half revenue declines, and whether Quest Integrity growth continues.
- Potential outcomes and insurance coverage for the Con Edison lawsuits, and developments in Quest Integrity’s patent litigation.
- Working-capital and cash-generation trends: first-half operating cash flow improved, but cash fell and capital expenditures exceeded operating cash flow.