Flotek Industries, Inc. — Q2 2017 Form 10-Q
Business context and reporting period. This unaudited quarterly report covers the three and six months ended June 30, 2017. Flotek supplies specialty chemistry and services to oil and gas customers and compounds for consumer and industrial markets. Following its 2016 restructuring, results for Drilling Technologies and Production Technologies are reported as discontinued operations; the company sold substantially all assets of both businesses in May 2017.
Financial performance
- Revenue: Continuing-operations revenue was $85.2 million in Q2, up 32.9% year over year, and $165.1 million for the first half, up 29.1%. Growth was driven by Energy Chemistry Technologies (ECT), while Consumer and Industrial Chemistry Technologies (CICT) revenue declined.
- Profit and margins: Q2 gross profit was $26.1 million, but gross margin fell to 30.6% from 33.9%. Operating loss was $1.3 million versus operating income of $0.2 million a year earlier. Continuing-operations net loss was $1.1 million; discontinued-operations loss was $2.7 million; total net loss was $3.8 million, or $0.07 per diluted share. For the first half, total net loss was $15.8 million, or $0.27 per diluted share, including $13.9 million from discontinued operations.
- Segments: Q2 ECT revenue rose 51.8% to $65.9 million, while its gross margin declined to 34.6% from 40.7%. CnF chemistry sales volume increased 43.1% year over year. CICT revenue fell 6.7% to $19.3 million and operating income fell to $1.2 million from $2.7 million.
- Cash flow: First-half operating cash use was $7.2 million, versus $3.3 million in the prior-year period; working capital used $11.7 million, primarily reflecting higher receivables and inventory. Investing activities provided $13.0 million, including $17.5 million in business-sale proceeds, partly offset by $4.5 million in capital expenditures. Cash decreased $1.4 million to $3.4 million.
- Debt and liquidity: At June 30, debt was $42.7 million, all outstanding under the revolving facility; the term loan was repaid in May. Available revolver capacity was $22.2 million, giving reported total liquidity of $25.6 million including cash. Net debt was $39.3 million. Revolver borrowings are classified as current, and the company reported compliance with debt covenants.
- Balance sheet: Inventories increased to $78.4 million from $58.3 million at year-end; accounts receivable rose to $60.1 million from $47.2 million. Total assets were $359.2 million and total liabilities were $82.2 million.
Material changes versus the prior comparable period
- Higher oilfield activity and ECT sales drove strong revenue growth, but lower-margin product mix and higher raw-material costs reduced gross margins.
- Research and innovation expense increased to $4.1 million in Q2 from $2.0 million, and corporate and segment selling and administrative costs also rose in dollars. Management cited product development, customer support, sales expansion, executive retirement costs, and stock compensation among the factors.
- CICT performance weakened: Q2 operating income fell 54.7%, with management citing product mix, raw-material costs, and indirect costs.
- The Drilling Technologies and Production Technologies businesses were sold in May. Drilling Technologies was sold to National Oilwell Varco for $17.0 million cash consideration, with $1.5 million held back for potential indemnification claims; Production Technologies was sold to Raptor Lift for $2.9 million, with $0.4 million held back. Sale proceeds remain subject to working-capital adjustments where applicable.
Outlook, risks, and unusual items
- Management expected U.S. oilfield activity to improve modestly through 2017, assuming relatively stable crude prices and reduced regulatory impediments. It expected ECT sales to outperform market activity over time, while acknowledging quarter-to-quarter variability. No specific revenue or earnings guidance was provided.
- Management forecast 2017 capital expenditures of $9 million to $12 million; $4.5 million to $7.5 million was planned for the remainder of the year.
- Management cited oil and gas activity and prices, customer demand, citrus-crop availability and pricing, raw-material costs, regulation, and geopolitical and economic changes as important uncertainties. Citrus greening had reduced citrus-oil supply and increased price volatility.
- The securities class-action dismissal was appealed. Derivative litigation remained unresolved, and the SEC had opened an inquiry into related issues. The company said it could not reasonably estimate the outcome of the derivative litigation.
- The credit facility has financial covenants, capital-expenditure limits, and restrictions on share repurchases. The facility permits up to $65 million of borrowing, secured by substantially all domestic assets. The company reported no material off-balance-sheet arrangements.
Important facts for investors to verify
- Whether ECT growth and CnF sales volumes persist, and whether margins recover as product mix and input costs change.
- Progress in CICT revenue, gross margin, and operating profitability.
- Cash conversion and working-capital trends, especially the increases in receivables and inventory, alongside revolver availability and covenant headroom.
- Final proceeds, working-capital adjustments, and resolution of the indemnification holdbacks from the divestitures.
- Developments in the securities appeal, derivative suits, and SEC inquiry, and any resulting financial or operational effects.
- Delivery of the stated 2017 capital-spending plan and management’s assumptions about oilfield activity and citrus-oil supply.