Filing summary
Issuer identification: The supplied filing is Advanced Emissions Solutions, Inc. (ADES), not Arq, Inc. It is a Form 10-Q for the quarter ended September 30, 2013, filed November 12, 2013. Dollar figures below are in millions unless otherwise stated.
Business context and reporting period
ADES provides emissions-control technologies and specialty chemicals, principally to the coal-fired power industry. Its three segments are refined coal (RC), emission control (EC), and CO2 capture (CC). Effective July 1, 2013, ADES replaced ADA-ES, Inc. as the publicly traded holding company; the filing says the business and management operations did not change.
Financial performance and liquidity
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $74.6 | $74.4 | $201.8 | $145.1 |
| Gross margin before depreciation and amortization | $19.1 (25.7%) | $4.0 (5.3%) | $39.1 (19.4%) | $15.4 (10.6%) |
| Operating income (loss) | $7.8 | $(3.3) | $8.6 | $(3.0) |
| Net income (loss) attributable to ADES | $1.6 | $(3.9) | $(3.8) | $(7.7) |
| Basic and diluted EPS | $0.16 | $(0.39) | $(0.37) | $(0.77) |
- Nine-month revenue increased 39%; Q3 revenue was approximately flat. Q3 RC revenue fell 20% year over year, while EC revenue rose 317% and CC revenue increased to $4.3 million from $0.7 million.
- Q3 gross margin improved substantially, primarily reflecting lower RC operating costs and stronger rental income, alongside greater EC activity. Nine-month segment profit was $28.9 million for RC, $5.4 million for EC, and a $1.2 million loss for CC.
- Operating cash flow was $26.0 million for the first nine months, versus cash used of $5.9 million in 2012. The improvement was substantially driven by higher deferred revenue and other liabilities; receivables increased $26.1 million.
- Cash and equivalents were $14.7 million at September 30, up from $9.7 million at year-end 2012. Working capital was negative $15.3 million, improving from negative $24.1 million. Current liabilities included $50.2 million of deferred revenue, which the company said would not require cash outlay as it is earned.
- Total liabilities were $92.5 million. Notes payable totaled approximately $2.4 million; there were no borrowings on the $10 million ADA credit line or Clean Coal’s facility at quarter-end. Stockholders’ deficit was $46.1 million. Separately, $60 million of Clean Coal non-controlling interest is classified as temporary equity, subject to possible redemption.
Material changes and unusual items
- RC facility transactions generated significant advance receipts: Clean Coal sold a facility for $20 million upfront and received a further $5 million in August; July leases generated more than $14 million in prepaid rent. Prepaid rents are recognized over lease terms, contributing to deferred revenue.
- Clean Coal had leased or sold eight facilities by the filing date, including a lease completed in October after quarter-end. It also operated facilities for its own account, generating tax credits but incurring operating costs and recording coal sales and purchases that largely offset.
- General and administrative expense rose 73% in Q3 and 90% year to date, to $9.0 million and $24.4 million, respectively. The company cited executive incentive compensation, professional services, staffing, occupancy, and Clean Coal overhead. Nine-month stock-based compensation included $1.3 million under the 2007 Plan and $0.4 million for performance share units.
- The company recorded $1.8 million of Norit royalty expense year to date and had a $2.9 million current liability under the settlement. Management expected Norit royalty payments of approximately $2 million to $4 million annually in the near term.
- For the first nine months, investing cash outflow was $3.0 million, financing cash outflow was $18.1 million, including $15.2 million of distributions to non-controlling interests, and cash increased by $5.0 million.
Outlook, commentary, and risks
- Management expected 2013 revenue and gross margin to exceed 2012 levels, and said it believed liquidity would be sufficient for operations over the next 12 months and beyond. These are management expectations, not formal earnings guidance.
- Management expected the eight RC facilities then leased or sold to generate more than $85 million in annual revenue through 2021; it also described potential longer-term annualized RC revenue of up to $300 million and segment income of over $100 million, plus estimated Section 45 tax credits. These projections depend on facilities becoming fully operational, transactions closing, and tax-credit eligibility and are not assured.
- The company aimed to place remaining RC facilities into operation by the end of 2014, while acknowledging timing, locations, and transaction outcomes were difficult to predict. It expected lower Clean Coal distributions into early 2014 as it accelerated startup and chemical-storage spending.
- ADES reported an equity-covenant noncompliance under its new $10 million credit line at September 30. The bank deferred declaring default and was working to amend the covenant formula; future compliance was not assured in the filing.
- Other key risks include coal-plant utilization and outages, lease or sale execution, permits and utility approvals, Section 45 tax-credit rules and IRS interpretations, regulatory timing and litigation, performance guarantees, competition, DOE funding and audits, and the ability to scale operations. The company had $31 million of DOE-related revenue from 2005–2012 subject to audit, plus $4.3 million of unearned contract amounts subject to audit; it said material adjustments were not expected.
- Emission-control performance guarantees were accrued at $1.1 million. ADA and other parties also provided joint and several guarantees for Clean Coal agreements. Management reported no off-balance-sheet arrangements and no updates to the prior annual report’s risk factors.
Most important facts to verify
- Confirm the issuer and security: this filing is for Advanced Emissions Solutions, Inc. (ADES), not Arq, Inc.
- Check the status and amended terms of the $10 million credit-line equity covenant and whether the company remained in compliance after quarter-end.
- Verify RC lease and sale execution, facility operating status, cash receipts, and whether projected rental income and tax credits are being realized.
- Assess the quality and collection timing of the $37.1 million receivables balance and the sustainability of operating cash flow, which benefited from deferred revenue.
- Review Clean Coal’s $60 million possible redemption obligation, the Norit settlement and ongoing royalties, and exposure under performance and joint guarantees.