DXP Enterprises, Inc. — FY2013 Form 10-K Summary
Business context and reporting period
DXP Enterprises distributes maintenance, repair and operating products, equipment and services to industrial customers in the United States, Canada and Mexico. Its three segments are Service Centers, Supply Chain Services and Innovative Pumping Solutions. The filing covers the fiscal year ended December 31, 2013, including fourth-quarter information.
At year-end, DXP operated 172 facilities, served more than 50,000 customers and employed approximately 3,207 full-time employees. Revenue exposure remained concentrated in industrial and energy-related markets, although the company served a diversified range of end markets.
Financial performance and key metrics
<>| Metric | 2013 | 2012 | Change |
|---|---|---|---|
| Sales | $1,241.5 million | $1,097.1 million | +13.2% |
| Gross profit | $372.3 million | $319.1 million | +16.7% |
| Gross margin | 30.0% | 29.1% | +90 bps |
| Operating income | $100.9 million | $90.5 million | +11.5% |
| Operating margin | 8.1% | 8.3% | -20 bps |
| Net income | $60.2 million | $51.0 million | +18.1% |
| Basic EPS | $4.17 | $3.54 | +17.8% |
| Diluted EPS | $3.94 | $3.35 | +17.6% |
| Cash flow from operations | $82.2 million | $51.2 million | +60.5% |
| Capital expenditures | $7.7 million | $14.1 million | -45.1% |
Fourth-quarter 2013 sales were $313.8 million versus $293.0 million in the prior-year quarter. Fourth-quarter net income was $16.9 million versus $14.1 million, and diluted EPS was $1.10 versus $0.92.
At December 31, 2013, cash was $5.5 million, trade receivables were $192.0 million and inventories were $105.3 million. Total debt, including current maturities, was $194.6 million versus $238.4 million at year-end 2012. Shareholders’ equity increased to $296.3 million from $208.5 million.
The company generated $82.2 million of operating cash flow, spent $61.2 million on acquisitions and $7.7 million on capital assets. Cash declined to $5.5 million from $10.5 million, principally because acquisition spending and debt repayments exceeded operating cash flow and equity proceeds.
Material changes versus the prior comparable period
- Reported sales increased 13.2%, but same-store sales growth excluding 2012 and 2013 acquisitions was only 0.4%, indicating that acquisitions supplied most of the growth.
- Service Centers sales increased 13.6%, while same-store sales declined 0.3%; lower metal-working and bearing and power-transmission sales to oil-field-equipment manufacturers were partly offset by improved product mix and margins.
- Supply Chain Services sales declined 5.6% because of lower automotive and truck-manufacturing demand, while operating income remained approximately flat due to improved gross margin.
- Innovative Pumping Solutions sales increased 29.3%, including $32.1 million from the 2013 acquisition; same-store sales increased 9.7%, supported by oil and gas and mining capital spending.
- Gross margin improved primarily from customer and product mix, but SG&A increased 18.8% and rose to 21.9% of sales from 20.8%, partly because acquired businesses had higher expense ratios.
- Interest expense increased 13% to $6.3 million as a result of acquisition-related borrowings.
- The company reversed a $2.8 million NatPro earn-out liability in 2013, increasing operating income and reducing the effective tax rate. This was an unusual, non-recurring item.
- DXP issued 235,976 common shares in December 2013 for net proceeds of approximately $24.4 million, using the proceeds to reduce debt.
Debt, liquidity and outlook
At December 31, 2013, the credit facility included a $109.4 million term loan and a $262.5 million revolving line of credit. DXP had $186.2 million outstanding under the facility at an approximately 1.8% weighted-average LIBOR-based rate and $154.1 million of borrowing availability.
The reported leverage ratio was 1.48 to 1.00 against a covenant maximum of 3.5 to 1.00. The fixed-charge coverage ratio was 2.84 to 1.00 against a minimum of 1.25 to 1.00, and the asset coverage ratio was 2.99 to 1.00 against a minimum of 1.00 to 1.00. Approximately $186.2 million of debt was floating-rate; management estimated that a 100-basis-point rate increase would increase annual interest expense by approximately $1.9 million.
Management stated that operating cash flow and available credit were expected to fund normal working capital, scheduled debt payments, capital expenditures and preferred-stock dividends during 2014. Capital expenditures for 2014 were expected to be within the 2012–2013 range. No formal revenue or earnings guidance was provided.
On January 2, 2014, DXP acquired B27, LLC for approximately $293.6 million to expand its pump-packaging business. The transaction was financed with new borrowings and approximately $4.0 million of common stock. The new credit facility provided a $250 million term loan and a $350 million revolving line, but materially increased leverage and future interest obligations. Preliminary purchase accounting recorded $227.3 million of goodwill and $66.3 million of intangible assets.
Risks, contingencies and unusual items
- Demand is sensitive to oil and natural gas prices, energy-industry capital spending, manufacturing activity and broader economic cycles.
- Acquisition-led growth creates integration, valuation, financing, goodwill impairment and execution risks. Goodwill and intangible assets totaled $257.8 million at year-end 2013.
- Supplier distribution authorizations may be canceled with little notice, although no supplier represented 10% or more of revenue.
- The company faces competition on price and service, potential margin pressure from vendor price increases, transportation costs and customer or product mix changes.
- Customer contracts are generally limited in duration; Supply Chain Services contracts may be canceled under certain circumstances.
- DXP retains significant insurance risk and is partially self-insured for medical, workers’ compensation, automobile and general liability claims.
- Environmental, health and safety, product liability, cybersecurity, information-system, foreign-currency and severe-weather risks could adversely affect results.
- The company disclosed ordinary-course legal proceedings but expected no material adverse effect from their resolution.
- The credit facility contains financial covenants; the filing notes that DXP has previously required waivers or amendments for covenant compliance, although it was compliant at year-end 2013.
- No cash dividends on common stock were anticipated because the credit facility restricted distributions. Series B preferred-stock dividends were $90,000 annually.
Important facts for investors to verify
- Whether the apparent 2013 growth is sustainable after separating acquisition contributions from organic performance.
- The integration, earnings contribution and leverage impact of the January 2014 B27 acquisition and new credit facility.
- Future operating cash flow, working-capital requirements and debt paydown capacity.
- Exposure to floating interest rates and compliance with revised financial covenants.
- Whether the elevated SG&A ratio and acquisition-related costs decline as acquired businesses are integrated.
- The valuation and impairment sensitivity of $257.8 million of goodwill and intangible assets, including the substantial preliminary goodwill recorded for B27.
- Management’s assumptions regarding energy, manufacturing, mining and automotive demand, since the filing provides no formal 2014 earnings or revenue guidance.
- The filing’s audited financial statements and internal-control report, both of which received unqualified opinions from Hein & Associates LLP.