DXP Enterprises, Inc. 10-Q Summary
Business Context and Reporting Period
DXP Enterprises distributes maintenance, repair and operating products, equipment and services to industrial customers through three segments: Service Centers, Innovative Pumping Solutions (IPS), and Supply Chain Services (SCS). This unaudited Form 10-Q covers the three and six months ended June 30, 2014, compared with the corresponding 2013 periods.
Financial Performance and Position
| Metric | Three Months 2014 | Three Months 2013 | Six Months 2014 | Six Months 2013 |
|---|---|---|---|---|
| Sales | $381.6 million | $307.9 million | $730.1 million | $598.0 million |
| Gross profit | $111.0 million | $91.5 million | $212.8 million | $180.6 million |
| Gross margin | 29.1% | 29.7% | 29.1% | 30.2% |
| Operating income | $28.4 million | $23.3 million | $50.6 million | $46.0 million |
| Operating margin | 7.4% | 7.5% | 6.9% | 7.7% |
| Net income | $15.5 million | $13.7 million | $27.2 million | $27.0 million |
| Diluted EPS | $1.00 | $0.90 | $1.75 | $1.77 |
- Six-month operating cash flow was $19.8 million, down from $39.0 million in the prior-year period, primarily because of working-capital changes, including a $30.8 million increase in trade receivables.
- Capital expenditures were $4.7 million. Acquisition spending was $301.1 million, principally related to B27 and MT&S.
- Cash increased to $12.1 million at June 30, 2014 from $5.5 million at December 31, 2013.
- Total debt was $491.8 million, including $254.2 million drawn on the revolving line and a $231.3 million term loan, versus $194.6 million at year-end 2013. Approximately $63.1 million remained available under the credit facility.
- Accounts receivable were $281.9 million and inventories were $111.9 million at June 30, 2014. Days sales outstanding increased to 69.8 from 58.2, while inventory turns improved to 9.7 from 8.0.
- At June 30, 2014, the leverage ratio was 3.10:1.00, fixed-charge coverage ratio was 2.43:1.00, and asset coverage ratio was 1.10:1.00.
Material Changes Versus the Prior Comparable Period
- Second-quarter sales increased 23.9%; six-month sales increased 22.1%. Acquired businesses accounted for $60.6 million of the second-quarter increase and $114.1 million of the six-month increase. Same-store sales increased 4.2% and 3.0%, respectively.
- Gross margins declined because acquired businesses, particularly B27 and MT&S, had lower margins than the remainder of DXP. Same-store gross margin increased nine basis points in the second quarter but declined 30 basis points for the six-month period.
- Second-quarter operating income rose 22.1%, while six-month operating income rose 10.0%. Higher interest expense substantially offset operating improvement.
- Interest expense increased 88.0% in the second quarter and 98.2% for the six months, primarily because of acquisition-related borrowing.
- IPS sales increased 71.0% in the second quarter and 80.4% year to date, driven substantially by acquisitions and demand from midstream oil and gas customers. Service Centers sales increased 14.2% and 12.2%, respectively, while SCS sales increased 13.8% and 5.4%.
- Service Centers experienced lower same-store margins because of an estimated $4.6 million second-quarter and $7.8 million six-month decline in higher-margin safety-services work.
- DXP completed the $293.6 million B27 acquisition on January 2, 2014 and the $14.9 million MT&S acquisition on May 1, 2014. Preliminary purchase accounting recorded substantial goodwill and intangible assets.
Outlook, Commentary, Risks and Unusual Items
- Management expects operating cash flow and available credit to meet normal working-capital needs for the next twelve months, but additional debt or equity financing may be required for future acquisitions.
- The filing provides no formal earnings or revenue guidance. Management’s outlook emphasizes internal growth and acquisition growth, particularly in oil and gas-related markets.
- Management attributed demand growth to increased U.S. oil production, customer production increases, and capital spending by oil and gas customers. It stated that improvements in IPS margins and the decline in safety-services work were not considered known trends.
- The credit facility matures January 2, 2019. The maximum leverage ratio tightens to 3.50:1.00 at September 30, 2014 and 3.25:1.00 from December 31, 2014. DXP was in compliance at June 30, 2014.
- Borrowing-rate margins and the commitment fee were scheduled to increase in August 2014 because of the higher leverage ratio. A 100-basis-point change in floating interest rates would affect annual interest expense by approximately $4.9 million.
- Substantially all assets secure the credit facility. The company faces risks from acquisition integration, leverage, interest rates, customer and industry conditions, oil and gas activity, and potential financing dilution.
- DXP repurchased 100,000 shares for $6.8 million under a 200,000-share authorization. Routine legal proceedings were not expected to have a material adverse effect, and no material changes to previously disclosed risk factors were reported.
- DXP adopted ASU 2013-11 without a material effect and was evaluating the impact of the new revenue-recognition standard, effective for fiscal years beginning after December 15, 2016.
Important Facts for Investors to Verify
- Reconcile reported growth with acquired-business contributions and assess the sustainability of same-store growth.
- Review B27 and MT&S purchase-price allocations, goodwill and intangible-asset valuations, and integration performance.
- Monitor leverage against the tightening credit-facility covenants and the reduction in borrowing availability.
- Assess whether lower safety-services revenue and same-store Service Centers margins persist.
- Evaluate cash conversion, receivable growth, working-capital requirements, and the effect of acquisition financing on interest expense.
- Confirm the timing and effect of the August 2014 borrowing-rate and commitment-fee increases.