Cactus, Inc. — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 30, 2019; unaudited. Cactus designs, manufactures, sells and rents wellhead and pressure-control equipment, and provides related field services, principally to onshore oil and gas customers.
Key financial results
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $160.8M | $150.7M | $488.2M | $404.3M |
| Operating income | $47.1M | $52.1M | $147.1M | $133.8M |
| Net income | $35.8M | $43.6M | $125.0M | $111.6M |
| Net income attributable to Cactus, Inc. | $19.3M | $18.7M | $67.6M | $34.8M |
| Class A diluted EPS | $0.41 | $0.52 | $1.50 | $1.14 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $148.2M | $122.4M |
Q3 operating margin was approximately 29.3% versus 34.6% a year earlier; nine-month operating margin was approximately 30.1% versus 33.1%. Cash and equivalents were $167.5M at September 30, compared with $70.8M at December 31, 2018. Nine-month investing cash outflow was $37.7M and financing cash outflow was $13.0M. The company had no long-term debt or revolver borrowings; its $75M asset-based revolver was fully available, and it reported compliance with facility covenants.
Changes versus comparable periods
- Q3 revenue rose 6.7%, led by product revenue growth of 16.6%; rental revenue fell 6.8% and field-service revenue fell 1.3%.
- Q3 operating income declined 9.6% and net income declined 17.9%, as total costs and expenses grew 15.4%, faster than revenue. Product costs included tariff expense; rental costs reflected a larger fleet and higher depreciation.
- For the first nine months, revenue increased 20.7%, with growth across all categories. Operating income increased 9.9% and net income 12.0%, while expenses rose 26.1%.
- Nine-month operating cash flow increased by $25.8M year over year. Capital spending was lower than in 2018; the 2018 financing comparison included IPO and follow-on proceeds, debt repayment, and CW Unit redemptions.
- Cactus, Inc.’s ownership of Cactus LLC increased to 62.7% from 50.3% at December 31, 2018, largely reflecting CW Unit redemptions. Non-controlling interests affect the portion of consolidated earnings attributable to Class A shareholders.
Liquidity, obligations and unusual items
- At September 30, the balance sheet included a $220.9M tax receivable agreement (TRA) liability, of which $14.8M was current. The TRA generally requires Cactus, Inc. to pay former and current owners 85% of specified realized or deemed tax savings. The company reported a $9.3M TRA payment in Q3.
- Management estimated that terminating the TRA at September 30 would require approximately $313M on a discounted basis, versus $407M undiscounted, using specified assumptions. Early termination or a change of control could accelerate substantial payments.
- Operating and finance lease liabilities had present values of $27.0M and $12.7M, respectively. Operating lease liabilities were newly recognized with the 2019 adoption of the lease accounting standard.
- Q3 tax expense was $12.2M, including $2.2M from reduced anticipated Texas tax benefits and $1.9M from writing off foreign tax credits. Nine-month tax expense included a $4.2M benefit from a partial valuation-allowance release.
- The company recorded a $0.6M non-cash gain from remeasurement of the TRA liability in Q3. Nine-month other expense included $1.0M of March secondary-offering costs, partly offset by the remeasurement gain.
Outlook, management commentary and risks
- Management cited lower oil prices, customer capital-spending discipline and a declining U.S. onshore rig count. The September 2019 average rig count was 852, below the nine-month average of 959; management said drilling activity was generally expected to be down in Q4.
- Net capital expenditures for 2019 were estimated at $50M–$55M, excluding acquisitions, mostly for rental-fleet investment. Management believed available cash, operating cash flow and revolver capacity would cover needs for at least 12 months, including capex, taxes, TRA payments and dividends.
- The board declared a $0.09-per-share Class A dividend for payment in December 2019, with a corresponding $0.09-per-unit distribution to other CW Unit holders. The company said it intended to continue quarterly dividends, subject to board discretion and business conditions.
- Tariffs on covered Chinese imports increased to 25% in May 2019. Cactus estimated approximately 50% of inventory received during the first nine months was sourced through its Chinese supply chain; further tariff increases could pressure margins and working capital.
- Disclosure controls were deemed ineffective at September 30 because a previously identified material weakness in accounting for the TRA liability and related deferred tax asset remained unremediated. Management expected remediation by year-end, but that outcome was not assured.
- One customer represented 10% of nine-month revenue; a single vendor accounted for approximately 17% of third-party vendor purchases. Management did not expect ordinary-course litigation to have a material adverse effect, and reported no material changes to previously disclosed risk factors.
Most important facts for investors to verify
- Whether Q4 activity and revenue weaken as management anticipated, and how reduced rig and completion activity affects product, rental and service demand.
- Whether tariff exposure, rental-fleet costs and SG&A growth continue to pressure operating margins.
- The assumptions, timing and funding requirements behind the $220.9M recorded TRA liability and the substantially higher potential termination obligation.
- Whether the TRA-related material weakness is remediated and controls are tested effective by December 31, 2019.
- Actual 2019 capital expenditures versus the $50M–$55M estimate, and cash available after dividends, lease payments and TRA obligations.