Flotek Industries, Inc. — 2018 Form 10-K Summary
Business context and reporting period
This annual report covers the fiscal year ended December 31, 2018. Flotek develops and supplies specialty chemistry and related services for oil and gas drilling, completion, and stimulation. Energy Chemistry Technologies (ECT) was its sole continuing reportable segment. The Consumer and Industrial Chemistry Technologies (CICT) segment was classified as discontinued operations and held for sale; its 2018 results are therefore presented separately from continuing operations. The filing is an annual report, not a standalone fourth-quarter report.
Financial performance and liquidity
| Metric | 2018 | 2017 |
|---|---|---|
| Revenue from continuing operations | $177.8 million | $243.1 million |
| Loss from continuing operations | $73.4 million | $17.5 million |
| Net loss, including discontinued operations | $70.7 million | $27.4 million |
| Loss per share, continuing operations | $1.26 | $0.30 |
| Cash used in operating activities | $20.8 million | Cash provided: $12.3 million |
| Capital expenditures, continuing operations | $3.6 million | $4.2 million |
- Continuing-operations revenue fell 26.9%. Operating loss was $69.8 million, including a $37.2 million goodwill impairment. ECT reported $0.4 million of operating income excluding that impairment, compared with $33.6 million in 2017; its corresponding operating margin was 0.2%, versus 13.8%.
- ECT revenue declined despite a 25.4% increase in U.S. completions in the seven most prolific lower-48 areas. Management cited product mix and the transition toward selling directly to oil and gas company end users rather than through oilfield service companies. Lower activity, higher material and labor costs, inventory reserves, and logistics costs also compressed margins.
- At year-end, cash was $3.0 million, revolving-credit borrowings were $49.7 million, and net debt was $46.7 million. Current assets were $194.8 million and current liabilities were $84.3 million; current assets included $118.5 million of assets held for sale. Stockholders’ equity was $201.6 million.
- CICT, reported as discontinued operations, generated $72.3 million in revenue and $2.7 million in net income in 2018, compared with $74.0 million and $4.5 million in 2017. These figures are separate from the continuing-operations revenue above.
Material changes versus the prior period
- Continuing-operations revenue decreased by $65.3 million, while operating expenses as a percentage of revenue rose to 89.9% from 77.6%.
- In the second quarter, Flotek recorded a $37.2 million impairment of all ECT goodwill, citing sustained underperformance, lower expectations, and increased business risks. It also recorded a $2.6 million write-down related to a planned divestiture and a $0.4 million loss on the subsequent sale of the Dalton, Georgia business line.
- Operating cash flow moved from positive $12.3 million to negative $20.8 million. The company ended the year with $49.7 million drawn on its revolving credit facility, versus $28.0 million at the end of 2017.
- In the first quarter of 2019, after year-end, Flotek completed the sale of CICT to Archer Daniels Midland for $175.0 million in cash, subject to closing adjustments and escrow holdbacks. The company expected a gain of approximately $62–$66 million and repaid and terminated its credit facility on March 1, 2019.
Outlook, risks, and unusual items
- Management expected global oilfield activity to remain stable heading into 2019, assuming relatively stable crude prices and limited regulatory impediments. It provided no specific revenue or earnings guidance.
- Management forecast 2019 maintenance capital spending of $5–$9 million. A Strategic Capital Committee was to evaluate potential growth projects that could total $20–$30 million for 2019 and beyond; no specific projects were then planned or committed.
- Key risks include oil and gas price and activity volatility; execution of the shift to direct sales; significant customer concentration (the largest three customers represented 30% of 2018 consolidated revenue); competition and pricing pressure; and dependence on key raw materials. Flotek identified former subsidiary Florida Chemical Company as its exclusive terpene supplier under a long-term supply agreement, creating supplier and pricing exposure.
- Other risks include citrus greening and weather-related supply disruptions, environmental and hydraulic-fracturing regulation, international and foreign-exchange exposure, customer credit and collections, and potential impairment of assets. The company reported a higher inventory reserve and doubtful-account allowance in 2018.
- The securities class action dismissal was affirmed by the Fifth Circuit on February 7, 2019; the SEC inquiry had concluded without a staff recommendation for enforcement. Separate derivative litigation remained pending, and the company said it could not reasonably estimate its outcome.
- The company reported effective disclosure controls and internal control over financial reporting; the independent auditor issued unqualified opinions on the financial statements and internal controls.
Important facts for investors to verify
- Review the post-year-end CICT sale proceeds, escrow amounts, final working-capital adjustment, and realized gain against the estimated $62–$66 million.
- Confirm the credit-facility repayment and termination, and assess liquidity and capital allocation after the sale, including any growth spending or share repurchases.
- Track ECT revenue, margins, and customer retention as Flotek shifts toward direct sales, and assess whether new chemistry products gain adoption.
- Evaluate the continuing reliance on the exclusive terpene supply agreement, raw-material costs, inventory quality, and receivables collectability.
- Monitor the unresolved derivative lawsuits, 2019 lease-accounting impact, and the realizability of deferred tax assets and net operating loss carryforwards.