DXP Enterprises, Inc. 2019 Q2 Form 10-Q Summary
Business Context and Reporting Period
DXP Enterprises distributes maintenance, repair and operating products and services to energy and industrial customers. It also provides custom pump packages, pump remanufacturing and branded private-label pumps. Reportable segments are Service Centers, Innovative Pumping Solutions and Supply Chain Services.
The unaudited filing covers the three and six months ended June 30, 2019, compared with the corresponding 2018 periods. The company had 17,607,385 common shares outstanding as of July 31, 2019.
Financial Performance and Position
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Sales | $333.3 million, up 7.1% | $644.5 million, up 7.9% |
| Gross profit | $92.0 million; 27.6% margin | $176.2 million; 27.3% margin |
| Income from operations | $22.8 million; 6.9% margin | $37.7 million; 5.8% margin |
| Net income attributable to DXP | $13.5 million | $20.8 million |
| Diluted EPS | $0.73 | $1.13 |
| Interest expense | $4.9 million | $9.9 million |
- Cash and restricted cash totaled $25.6 million at June 30, 2019, compared with $40.5 million at December 31, 2018.
- Six-month operating cash flow was negative $3.5 million, compared with negative $7.0 million in the prior-year period.
- Six-month investing cash flow was negative $8.6 million, including $8.6 million of property and equipment purchases. No acquisition was made during the period; the 2018 period included a $10.8 million acquisition.
- Six-month financing cash flow was negative $3.3 million, including $1.4 million paid for contingent consideration related to the ASI acquisition and $1.7 million of principal debt payments.
- Bank and other borrowings were reported at approximately $239.6 million in MD&A. The balance sheet reported $247.0 million of total long-term debt before unamortized debt issuance costs, including a $245.6 million Term Loan B and a $1.4 million promissory note.
- The $85 million asset-based lending facility had no borrowings outstanding. Approximately $81.0 million was available, after consideration of letters of credit.
- Total assets were $786.6 million and total equity was $330.2 million at June 30, 2019.
- The company adopted ASC 842 leases on January 1, 2019, recording approximately $69.1 million of operating lease right-of-use assets and $69.1 million of operating lease liabilities at June 30, 2019. Management stated that adoption materially affected the balance sheet but not operations or cash flows.
Material Changes Versus the Prior Comparable Period
- Second-quarter sales increased $22.1 million, or 7.1%, led by Supply Chain Services, which increased 20.6%, Innovative Pumping Solutions, which increased 9.1%, and Service Centers, which increased 3.3%.
- Six-month sales increased $47.4 million, or 7.9%. Service Centers contributed $17.2 million of growth, Supply Chain Services $16.3 million, and Innovative Pumping Solutions $13.9 million.
- Gross margin improved 25 basis points in the second quarter and 28 basis points for the six-month period. The improvement was primarily attributable to stronger Innovative Pumping Solutions margins, partially offset by lower margins in Service Centers and Supply Chain Services.
- Operating income increased 13.9% in the second quarter and 20.7% for the six-month period. SG&A increased 6.3% in both periods, primarily from higher payroll, incentive compensation, headcount and related costs, but declined as a percentage of sales.
- Interest expense declined by approximately $1.3 million in both the quarter and year-to-date period, primarily because the 2018 period included third-party fees and accelerated debt issuance cost related to the June 2018 repricing amendment.
- Operating cash use improved year over year, but working-capital investment remained significant: accounts receivable increased $18.4 million and inventories increased $13.2 million from December 31, 2018.
- Supply Chain Services operating income declined because of new-customer implementation costs and higher payroll and incentive compensation, despite higher revenue.
Guidance, Outlook, Risks, Contingencies and Unusual Items
- The filing provides no formal quantitative earnings or revenue guidance. Management indicated that current Innovative Pumping Solutions and oil-and-gas-related Service Centers sales levels might continue or improve if rig counts and U.S. crude oil production remain at first-half 2019 levels.
- Management expects operating cash flow to meet normal working-capital requirements over the next twelve months. Future acquisitions may require additional debt or equity financing, potentially diluting shareholders, and financing may not be available on acceptable terms.
- Key exposed factors include oil and gas prices and activity, customer demand, rig counts, general economic conditions, availability of materials and labor, acquisition integration, financing availability, regulatory changes, cyberattacks, weather and other operating disruptions.
- The company remained in compliance with all financial covenants at June 30, 2019. Legal proceedings were described as ordinary-course matters not expected to have a material adverse effect, although outcomes cannot be predicted.
- Contingent consideration related to ASI was $2.9 million at June 30, 2019. The company recorded a $66,000 fair-value adjustment and made $1.5 million of settlements during the six months.
- DXP disclosed that its disclosure controls and procedures were not effective as of June 30, 2019 because of a previously reported material weakness in internal control over financial reporting. Remediation efforts were ongoing.
- The company paid approximately $1.0 million in lease expenses during the six-month period to entities controlled by its Chief Executive Officer, David Little, and his family.
- No material changes to previously disclosed risk factors were reported, and no subsequent events requiring recognition or disclosure were identified.
Important Facts for Investors to Verify
- Whether operating cash flow turns positive as receivables, inventories and project-related contract assets normalize.
- The pace and profitability of Innovative Pumping Solutions and oil-and-gas-related demand, including rig counts and producer capital spending.
- Supply Chain Services implementation costs, margin recovery and the effect of new locations and customers.
- Term Loan B repayment, interest-rate exposure, covenant compliance and continued availability under the undrawn ABL facility.
- Progress and independent testing of remediation efforts for the material weakness in internal controls.
- The eventual cash requirements and valuation sensitivity of the ASI contingent consideration liability.
- Potential dilution or leverage from future acquisitions and the company’s ability to finance them on acceptable terms.