DNOW Inc. (NYSE: DNOW) — 2016 Form 10-K
Business and period: NOW Inc. is a global distributor of energy and industrial products and supply-chain services, operating in the U.S., Canada and International markets. This annual report covers the year ended December 31, 2016; fourth-quarter figures are also summarized. Unless otherwise noted, amounts are in millions of dollars.
Financial performance
| Metric | 2016 | 2015 |
|---|---|---|
| Revenue | $2,107 | $3,010 |
| Gross profit, calculated as revenue less cost of products | $345 | $502 |
| Gross margin | 16.4% | 16.7% |
| Operating loss | $(222) | $(510) |
| Operating margin | (10.5%) | (16.9%) |
| Net loss | $(234) | $(502) |
| Diluted loss per share | $(2.18) | $(4.68) |
| Cash from operating activities | $235 | $324 |
| Capital expenditures | $4 | $11 |
| Cash and cash equivalents at year-end | $106 | $90 |
| Long-term debt at year-end | $65 | $108 |
| Working capital at year-end | $612 | $985 |
Fourth-quarter 2016 revenue was $538, down 16.5% from $644 in fourth-quarter 2015. Operating loss was $47 versus $184; net loss was $71 versus $249; diluted loss per share was $0.66 versus $2.33.
Non-GAAP EBITDA excluding other costs was a loss of $164 in 2016, compared with a loss of $65 in 2015. The measure excludes specified costs and is not a substitute for GAAP results.
Changes versus the prior period
- Revenue fell $903, or 30.0%, year over year. All reported segments declined: U.S. revenue was down 28.7%, Canada down 31.7%, and International down 33.2%.
- Management attributed the downturn principally to weak oilfield activity: average U.S. rig count declined 47.8% and worldwide rig count 31.8% in 2016 versus 2015. Lower activity and stronger U.S. dollar also pressured Canadian and International results.
- Operating loss narrowed by $288, but 2015 included a $393 goodwill impairment charge. Excluding that charge, the U.S. segment’s operating losses widened in 2016 as lower volumes outweighed expense reductions.
- Operating cash flow decreased $89. Working-capital release—particularly $190 from lower inventory and $102 from lower receivables—supported cash generation.
Liquidity, debt and unusual items
- Year-end current assets were $959 and current liabilities $347; reported working capital was $612. Cash was $106, including $90 held by foreign subsidiaries that management intended to permanently reinvest.
- The company had drawn $65 on its amended revolving credit facility, with $446 of availability reported, subject to restrictions. It was in compliance with covenants at year-end. The 2016 amendment suspended the minimum interest coverage covenant, tightened the maximum capitalization ratio to 45%, added a minimum asset coverage ratio of 1.50:1, and increased borrowing and commitment costs. The facility expires in April 2019.
- Investing cash outflow was $183, primarily the $175 net cash cost of the Power Service acquisition. The acquisition’s total consideration was $178; it contributed approximately 3% of 2016 consolidated revenue. Goodwill was $311 at year-end, up from $205, and net intangibles were $184.
- No goodwill impairment was recorded in 2016; the International reporting unit’s estimated fair value exceeded carrying value by 15%. The company recorded $393 of goodwill impairment in 2015.
- Deferred tax assets remained subject to valuation allowances due to recent losses; the 2016 income tax provision was $4 despite a pretax loss of $230. Potential reasonably possible losses for an International customer matter were estimated at zero to $18; management accrued its best estimate.
Outlook, risks and other matters
Management said market conditions appeared to have steadied in the second half of 2016 and that U.S. rig counts were expected to strengthen in 2017, citing oil prices and OPEC and non-OPEC production agreements. The company provided no numerical revenue or earnings forecast. It expected approximately $10 of 2017 capital expenditures and emphasized expense and working-capital discipline.
Key risks include continued oil and gas price and activity volatility, customer spending reductions, competitive pricing and margin pressure, supplier and customer concentration or credit issues, foreign exchange exposure, acquisition integration, inventory valuation, and potential goodwill impairment. The company does not pay dividends and reported no current intention to declare them.
Ernst & Young issued an unqualified opinion on the financial statements and internal controls. Management reported effective disclosure controls and no identified material weaknesses; the Power Service acquisition’s controls were excluded from the internal-control evaluation.
Investor facts to verify
- Whether demand and rig-count recovery translated into sustained revenue and improved operating margins after year-end.
- Whether operating cash generation remains sufficient as inventory and receivables reductions normalize, and how much credit-facility availability remains under covenant definitions.
- Progress in reducing losses in Canada and International, including the International goodwill valuation cushion and foreign-exchange sensitivity.
- Outcome and exposure in the International customer matter, and collectability of receivables and adequacy of bad-debt and inventory reserves.
- Realizability of deferred tax assets and any future cash-tax impact if foreign earnings are repatriated.