Power Solutions International, Inc. — 2020 Form 10-K
Business context and reporting period. This annual report covers the fiscal year ended December 31, 2020, compared with fiscal 2019; it is not a standalone fourth-quarter report. PSI designs, manufactures and sells emission-certified engines and integrated power systems for energy, industrial and transportation markets. It reports as one segment. Weichai held approximately 51% of the common stock and controlled a majority of board seats as of the filing.
Key financial results
| Metric | 2020 | 2019 |
|---|---|---|
| Net sales | $417.6 million | $546.1 million |
| Gross profit / gross margin | $58.4 million / 14.0% | $99.9 million / 18.3% |
| Operating income (loss) | ($21.7 million) | $17.2 million |
| Net income (loss) | ($23.0 million) | $8.2 million |
| Diluted earnings (loss) per share | ($1.00) | $0.38 |
| Adjusted EBITDA (non-GAAP) | $3.0 million | $45.2 million |
| Cash from (used in) operating activities | ($7.6 million) | $18.2 million |
| Capital expenditures | $2.4 million | $3.7 million |
Net sales declined 24%, with decreases of $73.5 million in energy, $49.1 million in industrial and $5.9 million in transportation. Lower energy demand, especially in oil and gas, and weaker industrial demand were key factors; 2019 transportation sales also included approximately $30 million of shipments made at a customer’s request. Warranty costs, net of supplier recoveries, rose to $19.5 million from $10.1 million, including an $8.7 million adjustment for prior-period warranties versus $2.7 million in 2019. Management cited warranty costs, product mix and lower volume as drivers of margin contraction.
At year-end, PSI reported $21.0 million of cash and cash equivalents, plus $3.3 million of restricted cash; $130.0 million outstanding on its revolving facility; and $131.1 million of total debt obligations. Current assets were $202.7 million against current liabilities of $239.5 million. The balance sheet included $6.1 million of stockholders’ equity. Customer prepayments contributed a net positive cash impact of approximately $9.3 million. Operating cash use increased from 2019, while financing activities provided $33.3 million, primarily reflecting borrowings and debt refinancing.
Material changes and notable items
- Revenue fell across all three end markets. Energy represented 36% of sales, industrial 31% and transportation 33% in 2020.
- PSI refinanced in April 2020, repaying its prior credit facility and $55 million of unsecured notes. It ended the year with the $130 million Standard Chartered facility fully drawn and recorded a $0.5 million debt extinguishment loss.
- PSI did not meet specified minimum EBITDA covenants for the six and nine months ended June 2020; the lender waived the defaults in December. The company reported compliance with revised covenants at year-end.
- The SEC and U.S. Attorney’s Office investigations into historical revenue recognition practices were settled in September 2020. PSI paid a $1.7 million SEC civil penalty and undertook internal-control remediation and compliance commitments.
- The company’s primary $30 million directors’ and officers’ insurance coverage was exhausted in early 2020. PSI incurred $7.1 million in 2020 under indemnification obligations for certain former officers and employees.
Outlook, risks and contingencies
Management expected 2021 sales and profitability to exceed 2020 levels, with growth anticipated across all end markets and projected in the second through fourth quarters. No numerical sales or earnings guidance was provided. Management cautioned that COVID-19 uncertainty, oil and gas market conditions, early-2021 materials shortages, port and container delays, and inflationary input costs could disrupt deliveries and results. PSI said it was pursuing price increases and other mitigation measures where possible.
Going concern and liquidity are critical risks. Management and the auditor stated that substantial doubt exists about PSI’s ability to continue as a going concern, principally because it may not have sufficient liquidity to repay, refinance or extend its debt and must maintain covenant compliance. In March 2021, after year-end, the company amended and extended its uncommitted $130 million Standard Chartered facility to March 25, 2022; the lender may demand repayment at its discretion. A Weichai shareholder loan facility provides up to $130 million solely to repay that borrowing, subject to its terms. PSI said it would need further financing or repayment arrangements; success is not assured.
- Internal control over financial reporting and disclosure controls were deemed ineffective at December 31, 2020 due to multiple material weaknesses, including revenue accounting, reserves, period-end close, IT controls, data maintenance, segregation of duties and control environment. SEC remediation was required by April 30, 2021 unless extended.
- Warranty estimates remain uncertain: the accrued product warranty balance was $31.5 million at year-end, with elevated claims related particularly to transportation engines.
- Customer and supplier concentration, dependence on third-party engines and components, and supply agreements with minimum purchase commitments pose risks. PSI accrued $0.4 million for a 2020 supplier purchase shortfall. The GM 6.0L engine is being discontinued, and the company has no agreement for its successor. Hyster-Yale indicated it would source several high-volume engines elsewhere beginning in late 2021; PSI expected lower sales to that customer in 2022 and 2023.
- Other disclosed contingencies included a Mast Powertrain arbitration claim clarified at approximately $4.5 million, for which PSI accrued $1.5 million; a biometric privacy claim with a $0.3 million estimated liability; and ongoing indemnification costs. For some legal matters, the company said potential losses could not be reasonably estimated.
- COVID-19 and oil and gas volatility could lead to additional impairment charges. PSI reported $29.8 million of goodwill and no goodwill impairment in its 2020 tests.
- PSI common stock had been delisted from Nasdaq since 2017 and traded on OTC Pink. Weichai’s majority ownership gives it control over stockholder matters. These factors may constrain trading liquidity and financing options.
The auditor issued an unmodified opinion that the financial statements were fairly presented under U.S. GAAP, while highlighting the going-concern uncertainty. The auditor was not engaged to opine on internal-control effectiveness. Revenue recognition under significant supply agreements and transportation warranty estimates were identified as critical audit matters.
Important facts for investors to verify
- Whether PSI secured a durable refinancing or repayment plan before the March 25, 2022 facility maturity, and whether it maintained liquidity and covenant compliance.
- Whether the lender’s demand rights and Weichai’s shareholder-loan facility provide dependable funding in practice, given the facility is uncommitted and restricted to refinancing purposes.
- Whether 2021 sales and profitability improved as management expected, and how supply delays, inflation and oil and gas conditions affected delivery schedules, margins and cash flow.
- Whether warranty claims and reserves—especially for transportation engines—stabilized, and whether supplier recoveries were realized.
- Whether the company completed SEC-required remediation on time, addressed all material weaknesses, and improved revenue-recognition controls and reporting reliability.
- How the GM 6.0L discontinuation and Hyster-Yale sourcing changes affected future revenue, customer relationships and the need for alternative products.
- Whether legal, indemnification and other contingent costs exceeded recorded reserves, including the Mast arbitration and biometric privacy matter.
- How much of reported liquidity was unrestricted; year-end cash included $3.3 million of restricted cash, and contract liabilities included $46.4 million of customer prepayments for 6.0L engines.