Archrock, Inc. — Form 10-Q Summary
Reporting period: Quarter and six months ended June 30, 2016. Archrock provides U.S. natural-gas compression contract operations and aftermarket services; Exterran Corporation’s international and fabrication businesses are reported as discontinued operations. This 10-Q was signed February 9, 2017, well after the reporting period, following a review and restatement.
Financial performance
| Metric | Q2 2016 | Q2 2015, restated | Six months 2016 | Six months 2015, restated |
|---|---|---|---|---|
| Revenue | $204.1 million | $255.1 million | $417.4 million | $507.9 million |
| Gross margin | $110.9 million | $128.0 million | $225.7 million | $257.4 million |
| Income (loss) from continuing operations | ($2.4) million | $4.3 million | ($9.1) million | $10.5 million |
| Net income (loss) attributable to Archrock stockholders | ($4.5) million | ($24.2) million | ($6.3) million | $6.9 million |
| Basic diluted loss per share | ($0.07) | ($0.35) | ($0.10) | $0.10 |
| Operating cash flow, continuing operations | Not presented separately | Not presented separately | $137.0 million | $151.5 million |
Contract operations revenue fell 18% in Q2 and 15% for the half year; its gross margin percentage improved to 64% and 63%, respectively, from 59% in both prior-year periods. Aftermarket services revenue declined 28% in Q2 and 27% for the half year; its gross margin percentage decreased to 17% from 19%.
- Cash and liquidity: Cash was $27.8 million at June 30, versus $1.6 million at year-end 2015; working capital was $169.8 million. Six-month investing cash outflow was $69.0 million, including $72.2 million of capital expenditures and $13.8 million paid for an acquisition. Total cash provided by operating activities was $136.9 million.
- Debt: Long-term debt was $1.563 billion, down from $1.577 billion at December 31, 2015. Archrock’s revolver had $152.5 million drawn and $187.5 million available; the Partnership had $246.5 million of revolver capacity available. Archrock and the Partnership reported compliance with their financial covenants at June 30.
- Margins and cost actions: Lower repair, maintenance and lubricant costs, efficiency measures and cost controls supported contract operations margins. SG&A declined 10% in Q2 and 2% for the half year. Impairment charges rose to $13.8 million in Q2 and $23.7 million for the half year; restructuring and other charges were $3.0 million and $11.1 million, respectively.
Material changes and management commentary
- Management attributed weaker revenue primarily to reduced customer demand, lower average operating horsepower and pricing pressure amid reduced oil and gas industry spending. Average operating horsepower declined 11% in Q2 and 10% for the first half year over year; period-end utilization was 79%, versus 85% a year earlier. New orders increased modestly in Q2, but horsepower continued to decline.
- The company retired 210 idle compressor units totaling about 72,000 horsepower during the first half and recorded related impairments. A March 2016 Partnership acquisition added customer agreements and 19 compressor units, about 23,000 horsepower, for $18.8 million.
- Six-month dividends paid were $0.2825 per share, compared with $0.30 in the prior-year period. The May 2016 dividend was $0.095 per share; the board declared another $0.095 dividend in July.
- Management expected 2016 net capital expenditures of $110 million to $130 million, including $60 million to $80 million for growth and $40 million to $45 million for maintenance. It expected operating cash flow and credit-facility borrowings to meet liquidity needs through December 31, 2016, while noting external financing might be needed if they did not.
Risks, contingencies and unusual items
- Restatement and filing delay: Archrock restated 2015 comparative results after Exterran identified errors in percentage-of-completion accounting for Belleli EPC projects and other items. Archrock said its net income had been overstated by $22.9 million for Q2 2015 and $24.0 million for the first half of 2015. The affected businesses were discontinued operations, not Archrock’s ongoing business. The review delayed this 10-Q; lenders amended the credit facility, waived specified potential defaults and extended delivery deadlines for certain reports and compliance certificates to March 31, 2017. Management concluded disclosure controls were effective as of June 30, 2016.
- Texas property-tax litigation: Archrock recorded a cumulative $52.5 million benefit under its interpretation of Texas Heavy Equipment Statutes, including $8.5 million in the first half of 2016. About $39.7 million remained disputed in litigation. An adverse outcome could require repayment, potentially with substantial penalties and interest, and could increase future tax expense.
- Leverage and covenant sensitivity: Partnership debt-to-EBITDA was 4.9x against a 5.95x covenant ceiling at June 30; its interest coverage ratio was 4.0x against a 2.75x minimum. The Partnership’s distributions to Archrock may be reduced if operating performance or covenant headroom weakens. Archrock’s amended revolver also restricts borrowing when cash exceeds $35 million and requires specified repayments when cash is above that level.
- Industry and interest-rate exposure: Continued low commodity prices, reduced customer spending, utilization declines, customer financial stress and pricing pressure could further weaken demand. After swaps, $381 million of debt was effectively floating-rate; a 1 percentage-point rate increase was estimated to add about $3.8 million to annual interest expense.
- Other exposures: Archrock reported assisting Exterran with an SEC investigation concerning the restatement and Foreign Corrupt Practices Act compliance. The filing also describes insurance limitations, self-insured employee claims, tax audit exposures and ordinary-course litigation. The filing does not quantify a clear maximum exposure for all these matters.
Important facts for investors to verify
- Review the restated 2015 comparative statements and the status and outcomes of the accounting-related regulatory inquiries and any related claims.
- Track the Texas property-tax cases, especially the disputed $39.7 million benefit and potential penalties, interest and recurring tax effects.
- Monitor Partnership leverage, covenant headroom, revolver availability and distributions that support Archrock’s liquidity and dividends.
- Compare forecast 2016 capital spending with actual spending, fleet utilization, operating horsepower and contract pricing as reported in later filings.
- Confirm the effect of the delayed filing and credit-facility amendments on reporting compliance, borrowing access and cash-management requirements.