Fuel Tech, Inc. — Form 10-Q Summary
Business Context and Reporting Period
Fuel Tech provides boiler optimization, efficiency improvement, air-pollution reduction and control technologies worldwide through its Air Pollution Control (APC) and FUEL CHEM segments. This unaudited Form 10-Q covers the three- and six-month periods ended June 30, 2014, compared with the same periods in 2013. Amounts are in thousands unless otherwise stated.
Financial Performance and Position
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Revenue | $20,190 | $29,092 | $38,851 | $51,576 |
| Operating income (loss) | $(671) | $2,128 | $(1,808) | $2,169 |
| Net income (loss) | $(720) | $1,236 | $(1,806) | $1,215 |
| Basic EPS | $(0.03) | $0.06 | $(0.08) | $0.05 |
| Gross margin | 42% | 41% | 42% | 41% |
- Q2 revenue declined 31%; six-month revenue declined 25%. APC revenue declined 44% in Q2 and 34% year to date, while FUEL CHEM revenue was essentially flat in Q2 and down 9% year to date.
- Gross profit was $8,513 in Q2 and $16,364 for the six months. APC gross margin decreased to 32% in Q2 and 33% year to date, while FUEL CHEM gross margin increased to 55% and 54%, respectively.
- SG&A was $8,959 in Q2 and $17,703 year to date, broadly flat in dollars but higher as a percentage of revenue at 44% and 46%, respectively. Research and development expense was $225 in Q2 and $469 year to date.
- Cash used in operating activities was $1,911 for the six months, compared with $492 in the prior-year period. Investing cash outflow was $9,272, including $8,079 for acquisitions and $1,193 for equipment and patents.
- Cash and cash equivalents were $16,906 at June 30, 2014, compared with $27,738 at December 31, 2013. Cash plus short-term investments was $16,960, and working capital was $40,535 versus $48,619 at year-end.
- Total assets were $108,189 and shareholders’ equity was $87,742 at June 30, 2014. Accounts receivable included approximately $13,302 of unbilled contract receivables.
- Short-term debt was $2,355, consisting of borrowings under the China facility. The domestic revolving facility had no cash borrowings, approximately $11,137 of availability, and $3,863 of outstanding letters of credit and bank guarantees. The China facility had approximately $2,413 available and $916 of outstanding letters of credit and guarantees.
- Management stated that the company complied with all financial covenants at June 30, 2014. The facilities contain cross-default provisions and expire in June 2015.
Material Changes Versus the Prior Comparable Period
- The company shifted from operating income of $2,128 in Q2 2013 and $2,169 for the first six months of 2013 to operating losses of $671 and $1,808, respectively.
- Net income changed to losses of $720 in Q2 and $1,806 year to date, versus net income of $1,236 and $1,215 in the prior-year periods.
- The principal deterioration was lower APC revenue and backlog. APC backlog was $17,682 at June 30, 2014, compared with $45,135 at June 30, 2013; current backlog comprised $9,046 of U.S. projects and $8,636 of international projects.
- FUEL CHEM performance remained affected by soft electric demand, low natural-gas prices, fuel switching, unscheduled outages and units operating below capacity.
- The company acquired PECO and FGC on April 30, 2014 for net cash consideration of $8,079. The acquired businesses contributed $2,639 of revenue and $734 of net income after acquisition. Preliminary goodwill and other intangible assets totaled $7,468 and remained subject to final purchase-price allocation.
- Stock-based compensation increased to $1,225 for the six months from $665 in the prior-year period, contributing to higher non-cash SG&A expense.
Guidance, Outlook, Risks and Unusual Items
- Management projected a consolidated effective tax rate of approximately 7% for 2014. The filing does not provide revenue, earnings or backlog guidance.
- Management intends to continue pursuing new commercial applications outside traditional markets and developing additional technologies.
- Fuel Tech’s business is materially dependent on the existence and enforcement of worldwide air-quality regulations. Demand is also exposed to electric-generation conditions, natural-gas prices, fuel switching and customer operating levels.
- The PECO and FGC purchase-price allocation was preliminary; final valuation of finite-lived intangible and tangible assets could materially change recorded goodwill, intangible assets and future amortization.
- Liquidity declined materially because of operating cash use, the acquisitions and capital expenditures. A breach of either credit facility could trigger cross-default provisions and acceleration of amounts owed.
- Product warranty liability was $499 at June 30, 2014, down from $596 at the beginning of the year. The company reported no litigation expected to have a material adverse effect.
- Foreign-currency exposure affects earnings and cash flow; the company does not use currency derivatives because management considers the exposure immaterial. A hypothetical 100-basis-point adverse interest-rate movement was not expected to materially affect 2014 interest expense.
- Disclosure controls were deemed effective. The company implemented Epicor ERP modules and was modifying related control documentation and procedures; management stated the changes were not made in response to control deficiencies.
Important Facts for Investors to Verify
- Whether APC backlog and revenue recover after the sharp year-over-year decline.
- The final purchase-price allocation and ongoing contribution of PECO and FGC, including future amortization and goodwill considerations.
- Cash-burn trends, acquisition-related spending and the adequacy of cash and available credit facilities.
- Compliance with debt covenants and renewal or replacement of facilities expiring in June 2015.
- Whether FUEL CHEM demand improves as electricity generation, natural-gas prices and customer utilization change.
- The effect of stock-based compensation, foreign exchange and the projected 7% effective tax rate on future earnings and cash flow.