Flotek Industries, Inc. — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Amounts below are in millions of dollars unless stated otherwise. Flotek’s continuing businesses are Chemistry Technologies and, following its May acquisition of JP3 Measurement, Data Analytics. Its former Florida Chemical business is reported as discontinued operations.
Financial performance and liquidity
| Metric | Q2 2020 | Q2 2019 | First half 2020 | First half 2019 |
|---|---|---|---|---|
| Revenue | $8.9 | $34.7 | $28.3 | $77.9 |
| Operating loss | $(10.2) | $(13.7) | $(80.3) | $(27.3) |
| Loss from continuing operations | $(9.6) | $(12.8) | $(73.5) | $(28.0) |
| Net income (loss), including discontinued operations | $(9.6) | $(14.4) | $(73.5) | $16.4 |
| Basic and diluted EPS | $(0.14) | $(0.25) | $(1.17) | $0.28 |
Second-quarter revenue declined 74.4% year over year; first-half revenue declined 63.7%. The first-half 2019 comparison includes a $44.5 million after-tax gain from the sale of the former business, which explains why prior-year net income differs from continuing-operations results.
In Q2, Chemistry Technologies generated $8.0 million of revenue and $1.3 million gross margin, a 16.3% margin versus 52.4% a year earlier. JP3 contributed $0.9 million of revenue from May 18 through June 30 and reported a 40.3% gross margin; its reported operating loss was $1.2 million. Consolidated operating expenses excluding depreciation and amortization were $11.6 million, or 131.0% of revenue.
First-half operating cash flow was negative $29.2 million, compared with negative $6.3 million in 2019. Investing cash flow was negative $16.4 million, including $26.3 million for JP3, partially offset by $9.8 million in asset-sale proceeds. Financing provided $5.0 million, chiefly from PPP loans. Cash and cash equivalents were $59.9 million at June 30, down from $100.6 million at year-end; restricted cash was $0.7 million. Current assets were $101.3 million and current liabilities $21.6 million.
Total debt was $5.7 million, consisting of PPP loans, with $2.5 million current and $3.1 million long-term. Operating and finance lease liabilities totaled $9.3 million. Stockholders’ equity was $108.7 million, down from $172.0 million at year-end.
Material changes and significant transactions
- Flotek acquired all of JP3 for approximately $36.6 million, comprising $25.0 million cash subject to adjustments and contingent consideration, plus 11.5 million Flotek shares valued at approximately $8.5 million. The preliminary purchase accounting recorded $17.5 million goodwill; final working-capital adjustments could be material. Contingent consideration was estimated at $1.2 million.
- First-half results included a $57.5 million impairment charge on property and equipment, lease right-of-use assets, and intangible assets, recorded in Q1 following severe oil-market deterioration.
- Flotek launched sanitizer and disinfectant products in Q2 as it sought to diversify beyond oil-and-gas chemistry. The filing describes opportunity but provides no quantified outlook for this product line.
- First-half 2020 included a $6.2 million income-tax benefit related primarily to CARES Act net-operating-loss carrybacks. A $6.3 million refund, including interest, was received in July.
- Cash declined materially during the first half. Management attributed operating cash use in part to payments related to the terpene supply agreement and the sale of the former business, as well as working-capital movements.
Outlook, risks, and contingencies
Management expected oil-and-gas market weakness to persist for an extended period and stated that further pandemic disruption or a slower economic recovery could worsen results, cash flows, liquidity, and capital levels. It reduced headcount by 35%, cut executive salaries and director fees, lowered discretionary spending, and consolidated offices. The corporate headquarters lease termination generated a $0.6 million gain in Q2 after a $1.0 million payment.
Expected remaining-2020 capital spending was approximately $2–$3 million for Chemistry Technologies and $1–$2 million for Data Analytics. Management expected to fund operations and capital spending with cash on hand and cited PPP proceeds, the tax refund, and release of $6.6 million of sale-related escrow as liquidity sources. The filing does not provide earnings or revenue guidance.
The company received $4.8 million in its own PPP loan and assumed a $0.9 million JP3 PPP loan. As of June 30, it had not applied for or estimated forgiveness; forgiveness depends on eligibility and compliance, and loans above $2 million were subject to potential SBA audit. Contractual obligations included $17.7 million of raw-material supply commitments and $14.0 million of operating-lease payments.
Flotek reported that disclosure controls were ineffective at June 30 because material weaknesses in financial reporting controls remained unremediated. These involved nonrecurring transactions and disposal-related cash-flow presentation, intercompany inventory-profit eliminations, and impairment evaluations. The company also revised prior-period cash-flow classifications and equity components, concluding the errors were not material. Management stated that the financial statements fairly present the company’s position and results.
The NYSE notified Flotek in April of a share-price listing deficiency; the company reported that it cured the deficiency on July 1. Management reported no pending or threatened litigation expected to materially affect financial condition, results, or liquidity.
Most important facts for investors to verify
- Whether cash burn stabilizes as oil-and-gas activity remains weak, and whether reported cash, tax refund, and escrow proceeds are sufficient for operations and planned spending.
- JP3’s subsequent revenue, cash needs, integration progress, purchase-price adjustments, contingent consideration, and dilution from the 11.5 million shares issued.
- Whether sanitizer and disinfectant sales become a durable, material source of revenue rather than a short-term demand opportunity.
- PPP loan eligibility, any SBA review, and whether either loan is ultimately forgiven.
- Progress remediating internal-control weaknesses, and the accuracy and consistency of future financial statements and cash-flow reporting.
- Customer concentration and collection risk: two customers represented 36.6% of Q2 revenue, while management warned that COVID-19 could further affect demand, receivables, operations, and liquidity.