Unassociated Document
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10 - QSB
x
QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE
ACT OF 1934
FOR
THE QUARTERLY PERIOD ENDED SEPTEMBER 30,
2006
o
TRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT
Commission
File Number 1-13270
FLOTEK
INDUSTRIES, INC.
(Exact
name of small business issuer as specified in its charter)
Delaware
|
90-0023731
|
(State
or other jurisdiction of incorporation)
|
(I.R.S.
Employer Identification Number)
|
|
|
7030
Empire Central Drive, Houston TX 77040
|
(Address
of Principal Executive Offices)
|
(713)
849-9911
(Issuer’s
telephone number)
Check
whether the issuer (1) has filed all reports required to be filed by Section
13
or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports) and (2) has been
subject to such filing requirements for the past 90
days. YES x NO o
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act.) YES o NO x
There
were 8,818,526
shares
of the issuer’s common stock, $.0001 par value, outstanding as
of November
1,
2006.
Transitional
small business disclosure format: YES o NO x
TABLE
OF CONTENTS
|
Page
|
|
|
PART
I - FINANCIAL INFORMATION
|
1
|
|
|
Item
1. Financial
Statements
|
1
|
|
|
Item
2. Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
|
13
|
|
|
Item
3. Controls
and Procedures
|
20
|
|
|
PART
II - OTHER INFORMATION
|
22
|
|
|
Item
6. Exhibits.
|
22
|
|
|
SIGNATURES
|
23
|
Forward-Looking
Statements
Except
for the historical information contained herein, the discussion in this Form
10-QSB includes "forward-looking statements" within the meaning of Section
27A
of the Securities Act of 1933, as amended and Section 21E of the Securities
Exchange Act of 1934, as amended. The words "anticipate", "believe", "expect",
"plan", "intend”, "project", "forecast", "could" and similar expressions are
intended to identify forward-looking statements. All statements other than
statements of historical facts included in this Form 10-QSB regarding the
Company's financial position, business strategy, budgets and plans, and
objectives of management for future operations are forward-looking statements.
Although the Company believes that the expectations reflected in such
forward-looking statements are reasonable, actual results may differ materially
from those in the forward-looking statements for various reasons, including,
but
not limited to, the effect of competition, the level of petroleum industry
exploration and production expenditures, world economic and political
conditions, prices of and the demand for crude oil and natural gas, weather,
the
legislative environment in the United States of America and other countries,
adverse changes in the capital and equity markets, and other risk factors
including those identified herein.
PART
I - FINANCIAL INFORMATION
Item
1. Financial
Statements
FLOTEK
INDUSTRIES, INC.
CONSOLIDATED
CONDENSED BALANCE SHEETS
(in
thousands, except share data)
|
|
September
30,
2006
|
|
December
31,
2005
|
|
|
|
(Unaudited)
|
|
|
|
ASSETS
|
|
|
|
|
|
Current
assets:
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
374
|
|
$
|
7,377
|
|
Accounts
receivable, net
|
|
|
19,381
|
|
|
10,407
|
|
Inventories,
net
|
|
|
14,205
|
|
|
10,658
|
|
Other
current assets
|
|
|
848
|
|
|
234
|
|
Total
current assets
|
|
|
34,808
|
|
|
28,676
|
|
|
|
|
|
|
|
|
|
Property,
plant and equipment, net
|
|
|
16,853
|
|
|
9,961
|
|
Goodwill
|
|
|
24,465
|
|
|
12,388
|
|
Intangible
and other assets, net
|
|
|
1,442
|
|
|
1,133
|
|
|
|
$
|
77,568
|
|
$
|
52,158
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS’ EQUITY
|
|
|
|
|
|
|
|
Current
liabilities:
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$
|
7,651
|
|
$
|
3,805
|
|
Accrued
liabilities
|
|
|
7,184
|
|
|
3,296
|
|
Current
portion of long-term debt
|
|
|
2,486
|
|
|
2,016
|
|
Deferred
tax liability, current
|
|
|
319
|
|
|
319
|
|
Total
current liabilities
|
|
|
17,640
|
|
|
9,436
|
|
|
|
|
|
|
|
|
|
Long-term
debt, less current portion
|
|
|
11,689
|
|
|
7,277
|
|
Deferred
tax liability, noncurrent
|
|
|
254
|
|
|
240
|
|
Total
liabilities
|
|
|
29,583
|
|
|
16,953
|
|
|
|
|
|
|
|
|
|
Stockholders’
equity:
|
|
|
|
|
|
|
|
Common
stock, $.0001 par value; 20,000,000 shares authorized; shares issued
and
outstanding: September 30, 2006 - 8,818,526 and December 31, 2005
-
8,317,265
|
|
|
1 |
|
|
1 |
|
|
|
|
|
|
Additional
paid-in capital
|
|
|
45,024
|
|
|
39,744
|
|
Retained
earning (accumulated deficit)
|
|
|
2,960
|
|
|
(4,540
|
)
|
Total
stockholders’ equity
|
|
|
47,985
|
|
|
35,205
|
|
|
|
$
|
77,568
|
|
$
|
52,158
|
|
The
accompanying notes are an integral part of these consolidated condensed
financial statements.
FLOTEK
INDUSTRIES, INC.
CONSOLIDATED
CONDENSED INCOME STATEMENTS
(UNAUDITED)
(in
thousands, except share data)
|
|
Three
Months Ended
September
30,
|
|
Nine
Months Ended
September
30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
Revenues
|
|
$
|
29,196
|
|
$
|
13,304
|
|
$
|
67,370
|
|
$
|
36,805
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of revenues
|
|
|
17,253
|
|
|
7,576
|
|
|
40,059
|
|
|
21,746
|
|
Gross
profit
|
|
|
11,943
|
|
|
5,728
|
|
|
27,311
|
|
|
15,059
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling,
general and administrative
|
|
|
5,086
|
|
|
2,416
|
|
|
12,348
|
|
|
6,461
|
|
Depreciation
and amortization
|
|
|
725
|
|
|
422
|
|
|
1,975
|
|
|
1,000
|
|
Research
and development
|
|
|
172
|
|
|
163
|
|
|
484
|
|
|
441
|
|
Total
expenses
|
|
|
5,983
|
|
|
3,001
|
|
|
14,807
|
|
|
7,902
|
|
Income
from operations
|
|
|
5,960
|
|
|
2,727
|
|
|
12,504
|
|
|
7,157
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
income (expense):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
expense
|
|
|
(327
|
)
|
|
(215
|
)
|
|
(750
|
)
|
|
(653
|
)
|
Other,
net
|
|
|
69
|
|
|
(1
|
)
|
|
91
|
|
|
39
|
|
Total
other income (expense)
|
|
|
(258
|
)
|
|
(216
|
)
|
|
(659
|
)
|
|
(614
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
before income taxes
|
|
|
5,702
|
|
|
2,511
|
|
|
11,845
|
|
|
6,543
|
|
Provision
for income taxes
|
|
|
(2,193
|
)
|
|
(741
|
)
|
|
(4,345
|
)
|
|
(1,317
|
)
|
Net
income
|
|
$
|
3,509
|
|
$
|
1,770
|
|
$
|
7,500
|
|
$
|
5,226
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
and diluted earnings per common share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
earnings per common share
|
|
$
|
0.40
|
|
$
|
0.24
|
|
$
|
0.87
|
|
$
|
0.75
|
|
Diluted
earnings per common share
|
|
$
|
0.37
|
|
$
|
0.21
|
|
$
|
0.81
|
|
$
|
0.67
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
average common shares used in computing basic earnings per common
share
|
|
|
8,819,544
|
|
|
7,387,467
|
|
|
8,580,745
|
|
|
6,976,915
|
|
Incremental
common shares from stock options and warrants
|
|
|
610,442
|
|
|
955,062
|
|
|
653,233
|
|
|
865,177
|
|
Weighted
average common shares used in computing diluted earnings per common
share
|
|
|
9,429,986
|
|
|
8,342,529
|
|
|
9,233,978
|
|
|
7,842,092
|
|
The
accompanying notes are an integral part of
these consolidated condensed financial statements.
FLOTEK
INDUSTRIES, INC.
CONSOLIDATED
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in
thousands)
|
|
Nine Months
Ended
September
30,
|
|
|
|
2006
|
|
2005
|
|
Cash
flows from operating activities:
|
|
|
|
|
|
Net
income
|
|
$
|
7,500
|
|
$
|
5,226
|
|
Adjustments
to reconcile net income to net cash provided by
operating
activities:
|
|
|
|
|
|
|
|
Depreciation
and amortization
|
|
|
1,975
|
|
|
1,000
|
|
Gain
on sale of assets
|
|
|
(72
|
)
|
|
¾
|
|
Deferred
tax liability
|
|
|
14
|
|
|
(187
|
)
|
Change
in assets and liabilities:
|
|
|
|
|
|
|
|
Restricted
cash
|
|
|
¾
|
|
|
37
|
|
Accounts
receivable
|
|
|
(7,746
|
)
|
|
(1,317
|
)
|
Inventories
|
|
|
(1,219
|
)
|
|
(886
|
)
|
Deposits
and other
|
|
|
(600
|
)
|
|
(101
|
)
|
Accounts
payable
|
|
|
2,484
|
|
|
(1,968
|
)
|
Accrued
liabilities
|
|
|
3,882
|
|
|
407
|
|
Net
cash provided by operating activities
|
|
|
6,218
|
|
|
2,211
|
|
|
|
|
|
|
|
|
|
Cash
flows from investing activities:
|
|
|
|
|
|
|
|
Acquisition
earn-out payment
|
|
|
¾
|
|
|
(154
|
)
|
Acquisitions,
net of cash acquired
|
|
|
(12,763
|
)
|
|
(7,452
|
)
|
Proceeds
from sale of assets
|
|
|
273
|
|
|
|
|
Other
assets
|
|
|
(49
|
)
|
|
(268
|
)
|
Capital
expenditures
|
|
|
(6,461
|
)
|
|
(1,425
|
)
|
Net
cash used in investing activities
|
|
|
(19,000
|
)
|
|
(9,299
|
)
|
|
|
|
|
|
|
|
|
Cash
flows from financing activities:
|
|
|
|
|
|
|
|
Issuance
of stock
|
|
|
897
|
|
|
19,915
|
|
Proceeds
from borrowings
|
|
|
22,961
|
|
|
9,603
|
|
Repayments
of indebtedness
|
|
|
(18,079
|
)
|
|
(13,416
|
)
|
Payments
to related parties
|
|
|
¾
|
|
|
(466
|
)
|
Net
cash provided by financing activities
|
|
|
5,779
|
|
|
15,636
|
|
|
|
|
|
|
|
|
|
Net
increase (decrease) in cash and cash equivalents
|
|
|
(7,003
|
)
|
|
8,548
|
|
Cash
and cash equivalents at beginning of period
|
|
|
7,377
|
|
|
285
|
|
Cash
and cash equivalents at end of period
|
|
$
|
374
|
|
$
|
8,833
|
|
|
|
|
|
|
|
|
|
Supplementary
schedule of non-cash investing and financing activities (See Note
3):
|
|
|
|
|
|
|
|
Fair
value of net assets acquired
|
|
$
|
17,354
|
|
$
|
17,411
|
|
Less
cash acquired
|
|
|
(208
|
)
|
|
(134
|
)
|
Less
debt issued
|
|
|
¾
|
|
|
(7,375
|
)
|
Less
equity issued
|
|
|
(4,383
|
)
|
|
(2,450
|
)
|
Acquisition,
net of cash acquired
|
|
$
|
12,763
|
|
$
|
7,452
|
|
Supplemental
disclosure of cash flow information:
|
|
|
|
|
|
|
|
Interest
paid
|
|
$
|
655
|
|
$
|
689
|
|
Income
taxes paid
|
|
$
|
3,685
|
|
$
|
1,414
|
|
The
accompanying notes are an integral part of
these consolidated condensed financial statements.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Note
1 - General
The
information contained in the following notes is condensed from that which would
appear in the annual consolidated financial statements; accordingly, the
consolidated condensed financial statements included herein should be reviewed
in conjunction with the consolidated financial statements for the year ended
December 31, 2005 and related notes thereto, included in the Annual Report
on
Form 10-KSB filed by Flotek Industries, Inc. (“Flotek”) with the Securities and
Exchange Commission. All references to the “Company” include Flotek and its
wholly-owned subsidiaries unless otherwise indicated or the context indicates
otherwise.
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and certain assumptions that affect the reported amounts of assets
and
liabilities and disclosure of contingent liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. While management believes current estimates are reasonable
and appropriate, actual results could differ from these estimates.
In
the
opinion of management, the unaudited consolidated condensed financial statements
of the Company include all adjustments (consisting solely of normal recurring
adjustments) necessary for a fair presentation of its financial position as
of September
30, 2006 and its results of operations and cash flows for the three and
nine
month periods ended September
30, 2006 and 2005. The consolidated condensed statement of financial position
as
of December 31, 2005 is derived from the December 31, 2005 audited consolidated
financial statements. Although management believes the disclosures in these
financial statements are adequate to make the information presented not
misleading, certain information and footnote disclosures normally included
in
annual financial statements prepared in accordance with accounting principles
generally accepted in the United States of America have been condensed or
omitted pursuant to the rules and regulations of the Securities and Exchange
Commission. The results of operations and cash flow for the nine
month period ended September
30, 2006 are not necessarily indicative of the results to be expected for the
full year.
Certain
prior period amounts have been reclassified in the accompanying consolidated
condensed financial statements to conform to the current period
presentation.
Note
2 - Recent
Accounting Pronouncements
In
June
2006, the Financial Accounting Standards Board (“FASB”) issued FASB
Interpretation No. 48 (FIN 48), "Accounting for Uncertainty in Income
Taxes". FIN 48 is an interpretation of FASB Statement No. 109
"Accounting for Income Taxes" and must be adopted by the Company no later than
January 1, 2007. FIN 48 prescribes a comprehensive model for
recognizing, measuring, presenting and disclosing in the financial statements
uncertain tax positions that the Company has taken or expects to take in its
tax
returns. The Company is evaluating the impact of adopting
FIN 48.
In
May 2005, the FASB
issued
SFAS No. 154, “Accounting Changes and Error Corrections”. The Company’s
effective date for the pronouncement was
December 15, 2005. SFAS No. 154 requires that all voluntary changes in
accounting principles, including corrections of errors, are retrospectively
applied to prior financial statements as if that principle had always been
used,
unless it is impracticable to do so. When it is impracticable to calculate
the
effects on all prior periods, SFAS No. 154 requires that the new principle
be applied to the earliest period practicable. The Company has adopted SFAS
No.
154 as of December 31, 2005.
In
December 2004, the FASB issued Statement No. 123R, “Share
Based Payment” (“SFAS 123R”). This statement revises Statement 123 and
supersedes APB 25 and amends FASB Statement No. 95, “Statement
of Cash Flows”. SFAS 123R requires companies to expense the fair value of
employee services received in exchange for an award of equity instruments,
including stock options. SFAS 123R also provides guidance on valuing and
expensing these awards, as well as disclosure requirements with respect to
these
equity arrangements.
We
adopted SFAS 123R effective as of January 1, 2006. We are following the
“modified prospective” method of adoption of SFAS 123R whereby earnings for
prior periods will not be restated as though stock based compensation had been
expensed, rather than the “modified retrospective” method which would entail
restatement of previously published earnings. SFAS 123R also requires the
benefits of tax deductions in excess of recognized compensation cost be reported
as a financing cash flow, rather than as an operating cash flow, but this is
not
anticipated to have a significant impact on our cash flow reporting. The impact
of adoption of SFAS 123R will depend on levels of share-based compensation,
particularly stock options, granted in the future and the fair value assigned
thereto. The
adoption of SFAS 123R has
not
had a
material financial impact on our consolidated financial position, results of
operations or cash flows.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
On
December 22, 2005, the Compensation Committee, on behalf of the Board of
Directors (“Board”), approved the acceleration of the vesting of all previously
unvested stock options granted under our 2003 and 2005 Long Term Incentive
Plans
(the "Plans"). The vesting acceleration represents options exercisable for
a
total of 313,140 shares of our common stock, including a total of 175,875
shares
of common stock underlying options held by our executive officers. The options
have exercise prices ranging from $4.25 to $9.40 per share. The closing price
of
our common stock on December 22, 2005 was $18.80. The acceleration of the
vesting schedule of the options was effected pursuant to Section 4(c)(x)
of the
Plans, which authorizes the Board, in its sole discretion, to substitute
an
accelerated vesting schedule for options granted under the Plans. In most
instances, stock options granted under the Plans vested over a four-year
period.
The
Board
imposed selling restrictions on shares received through the exercise of
accelerated options. These restrictions prohibit the sale of shares purchased
under accelerated options until the date on which the options would otherwise
have vested under the original option grants or six months after the date on
which the options would otherwise have vested under the original option grants
if the employee is no longer employed by the Company.
Note
3 - Acquisitions
The
Company has made three acquisitions in the nine
months
ended September
30,
2006. On
January 2, 2006, the Company purchased the assets of Can-Ok Oil Field Services,
Inc. and Stabilizer Technology, Inc. (collectively “Can-Ok”) a downhole
oilfield tool company located in Chickasha, Oklahoma.
On April
3, 2006, the Company purchased the tangible assets and licensed the
rights
to
exercise the exclusive worldwide rights to a patented gas separator used in
coal
bed methane production from
Total
Well Solutions, Inc. (“TWS”).
TWS
markets
and services electric submersible pumps and downhole gas/water separators
primarily to coal bed methane gas producers in the Powder River
Basin.
On June
6, 2006, the Company purchased the assets of LifTech, LLC (“LifTech”) which
markets
and services electric submersible pumps and downhole gas/water separators
primarily to coal bed methane gas producers in the Powder River Basin.
Acquisitions
have been accounted for using the purchase method of accounting under SFAS
No.
141 "Accounting for Business Combinations". The acquired companies' results
have
been included in the accompanying financial statements from their respective
dates of acquisition. Allocation of the purchase price for acquisitions was
based on the estimates of fair value of the net assets acquired and is subject
to adjustment upon finalization of the purchase price allocation within the
one
year anniversary of the acquisition.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
The
assets acquired, liabilities assumed and consideration paid were as follows
(in
thousands, except share data):
|
|
Can-Ok
|
|
TWS
|
|
LifTech
|
|
|
|
(in
thousands, except share data)
|
|
Assets
acquired:
|
|
|
|
|
|
|
|
Cash
|
|
$
|
38
|
|
|
¾
|
|
$
|
170
|
|
Accounts
receivable
|
|
|
476
|
|
|
¾
|
|
|
754
|
|
Inventory
|
|
|
85
|
|
|
1,565
|
|
|
863
|
|
Plant,
property and equipment
|
|
|
1,972
|
|
|
170
|
|
|
291
|
|
Goodwill
|
|
|
4,923
|
|
|
2,977
|
|
|
3,898
|
|
Intangible
and other assets
|
|
|
206
|
|
|
160
|
|
|
173
|
|
Total
assets acquired
|
|
$
|
7,700
|
|
$
|
4,872
|
|
$
|
6,149
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
assumed:
|
|
|
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$
|
394
|
|
|
¾
|
|
$
|
967
|
|
Accrued
liabilities
|
|
|
6
|
|
|
¾
|
|
|
¾
|
|
Total
liabilities assumed
|
|
$
|
400
|
|
|
¾
|
|
$
|
967
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
assets acquired
|
|
$
|
7,300
|
|
$
|
4,872
|
|
$
|
5,182
|
|
|
|
|
|
|
|
|
|
|
|
|
Consideration
paid:
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
6,775
|
|
$
|
4,872
|
|
$
|
1,323
|
|
Common
stock
|
|
|
525
|
|
|
¾
|
|
|
3,859
|
|
Total
consideration paid
|
|
$
|
7,300
|
|
$
|
4,872
|
|
$
|
5,182
|
|
|
|
|
|
|
|
|
|
|
|
|
Common
stock shares issued
|
|
|
25,020
|
|
|
¾
|
|
|
178,223
|
|
Note
4 - Inventories
The
components of inventories as of September
30,
2006 and
December 31, 2005 were as follows:
|
|
September
30,
2006
|
|
December
31,
2005
|
|
|
|
(in
thousands)
|
|
Raw
materials
|
|
$
|
3,591
|
|
$
|
2,409
|
|
Work-in-process
|
|
|
¾
|
|
|
51
|
|
Finished
goods
|
|
|
11,371
|
|
|
8,603
|
|
Gross
inventories
|
|
|
14,962
|
|
|
11,063
|
|
Less:
Slow-moving and obsolescence reserve
|
|
|
(757
|
)
|
|
(405
|
)
|
Inventories,
net
|
|
$
|
14,205
|
|
$
|
10,658
|
|
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Note
5 - Property, Plant and Equipment
As
of
September
30,
2006 and
December 31, 2005, property, plant and equipment was comprised of the
following:
|
|
September
30,
2006
|
|
December
31,
2005
|
|
|
|
(in
thousands)
|
|
Land
|
|
$
|
523
|
|
$
|
409
|
|
Buildings
and leasehold improvements
|
|
|
3,636
|
|
|
3,026
|
|
Machinery,
equipment and rental tools
|
|
|
11,741
|
|
|
7,882
|
|
Equipment
in progress
|
|
|
3,420
|
|
|
464
|
|
Furniture
and fixtures
|
|
|
240
|
|
|
123
|
|
Transportation
equipment
|
|
|
1,937
|
|
|
1,068
|
|
Computer
equipment and other
|
|
|
490
|
|
|
433
|
|
Gross
property, plant and equipment
|
|
|
21,987
|
|
|
13,405
|
|
Less:
Accumulated depreciation and amortization
|
|
|
(5,134
|
)
|
|
(3,444
|
)
|
Net
property, plant and equipment
|
|
$
|
16,853
|
|
$
|
9,961
|
|
Note
6 —
Goodwill
The
Company evaluates the carrying value of goodwill during the fourth quarter
of
each year and on an interim basis, if events occur or circumstances change
that
would more likely than not reduce the fair value of the reporting unit below
its
carrying amount. Such circumstances could include, but are not limited to:
(i) a
significant adverse change in legal factors or in business climate, (ii)
unanticipated competition, or (iii) an adverse action or assessment by a
regulator. When evaluating whether goodwill is impaired, the Company compares
the fair value of the reporting unit to which the goodwill is assigned to the
reporting unit’s carrying amount, including goodwill. The fair value of the
reporting unit is estimated using a discounted cash flows approach. If the
carrying amount of a reporting unit exceeds its fair value, then the amount
of
the impairment loss must be measured. The impairment loss would be calculated
by
comparing the implied fair value of reporting unit goodwill to its carrying
amount. In calculating the implied fair value of reporting unit’s goodwill, the
fair value of the reporting unit is allocated to all of the other assets and
liabilities of that unit based on their fair values. The excess of the fair
value of a reporting unit over the amount assigned to its other assets and
liabilities is the implied fair value of goodwill. An impairment loss would
be
recognized when the carrying amount of goodwill exceeds its implied fair value.
The Company’s evaluation of goodwill completed during 2005 resulted in no
impairment losses.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL
STATEMENTS
Note
7 - Long-Term Debt
Long-term
debt as of September
30,
2006 and
December 31, 2005 consisted of the following:
|
|
September
30,
2006
|
|
December
31,
2005
|
|
|
|
(in
thousands)
|
|
Senior
Credit Facility |
|
|
|
|
|
Equipment
term loan
|
|
$
|
4,667
|
|
$
|
5,717
|
|
Real
estate term loan
|
|
|
738
|
|
|
803
|
|
Revolving
line of credit
|
|
|
6,031
|
|
|
¾
|
|
Amendments
to Senior Credit Facility
|
|
|
|
|
|
|
|
Equipment
term loan
|
|
|
1,196
|
|
|
1,289
|
|
Real
estate term loan
|
|
|
212
|
|
|
222
|
|
Promissory
notes to stockholders of acquired businesses, maturing February
2008
|
|
|
813
|
|
|
1,004
|
|
Other
|
|
|
518
|
|
|
258
|
|
Total
|
|
|
14,175
|
|
|
9,293
|
|
Less
current maturities
|
|
|
(2,486
|
)
|
|
(2,016
|
)
|
Long-term
debt, less current portion
|
|
$
|
11,689
|
|
$
|
7,277
|
|
The
Company’s revolving line of credit as amended on August 19, 2005 provided for
borrowing through February 14, 2007, bearing interest at prime rate plus 50
basis points. The maximum amount that may be outstanding under the amended
line
of credit is the lesser of (a) $6,000,000, or (b) the sum of 80% of eligible
domestic trade receivables and 50% of eligible inventory, as defined. The terms
are interest-only, maturing February 2007.
On
August
8, 2006, the Company again amended the Senior Credit Facility. The maturity
date
and the maximum amount that may be outstanding were amended on the revolving
line of credit. The amended revolving line of credit provides for borrowing
through August 8, 2009. The maximum amount that may be outstanding was increased
to the lesser of (a) $10.0 million (a $4.0 million increase from the August
2005
amended revolving line of credit of $6.0 million), or (b) the sum of 80% of
eligible domestic trade receivables and 50% of eligible inventory, as defined.
Based
on
the new maturity date, the current revolving line of credit is classified as
long-term debt.
All Senior
Credit Facility borrowings are collateralized by substantially all of our
assets. Senior Credit Facility borrowings are subject to certain financial
covenants and a material adverse change subjective acceleration clause. As
of
September
30,
2006,
the Company was in compliance with all covenants.
The
Company believes the fair value of its long-term debt approximates the recorded
value as of September
30,
2006, as
the majority of the long-term debt carries a floating interest rate based on
the
prime rate.
Note
8 -
Common Stock
The
amount of common shares issued and outstanding is summarized as
follows:
Issued
and outstanding as of December 31, 2005
|
|
|
8,317,265
|
|
Shares
issued for Can-Ok acquisition (See Note 3)
|
|
|
25,020
|
|
Shares
issued for LifTech acquisition (See Note 3)
|
|
|
178,223
|
|
Warrants converted
through September 30, 2006
|
|
|
26,490
|
|
Stock
options exercised through September 30, 2006
|
|
|
271,528
|
|
Issued
and outstanding as of September 30, 2006
|
|
|
8,818,526
|
|
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Note
9 -
Earnings Per Share (“EPS”)
Basic
EPS
excludes dilution and is computed by dividing net income by the weighted average
number of common shares outstanding for the period. Diluted EPS is based on
the
weighted average number of shares outstanding during each period and the assumed
exercise of dilutive instruments (stock options and warrants) less the number
of
treasury shares assumed to be purchased with the exercise proceeds using the
average market price of the Company’s common stock for each of the periods
presented.
The
following table presents information necessary to calculate earnings per share
for the periods presented.
|
|
For
the Three Months Ended
September
30,
|
|
For
the Nine Months Ended
September
30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
|
|
(in
thousands, except share data)
|
|
Net
income
|
|
$
|
3,509
|
|
$
|
1,770
|
|
$
|
7,500
|
|
$
|
5,226
|
|
Weighted-average
common shares
outstanding
|
|
|
8,819,544
|
|
|
7,387,467
|
|
|
8,580,745
|
|
|
6,976,915
|
|
Basic
earnings per common share
|
|
$
|
0.40
|
|
$
|
0.24
|
|
$
|
0.87
|
|
$
|
0.75
|
|
Diluted
earnings per common share
|
|
$
|
0.37
|
|
$
|
0.21
|
|
$
|
0.81
|
|
$
|
0.67
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average
common shares
outstanding
|
|
|
8,519,544
|
|
|
7,387,467
|
|
|
8,580,745
|
|
|
6,976,915
|
|
Effect
of dilutive securities
|
|
|
610,442
|
|
|
955,062
|
|
|
653,233
|
|
|
865,177
|
|
Weighted-average
common
equivalent
shares outstanding
|
|
|
9,429,986
|
|
|
8,342,529
|
|
|
9,233,978
|
|
|
7,842,092
|
|
Note
10 - Stock-Based Compensation
The
Company adopted SFAS 123R effective as of January 1, 2006. SFAS 123R
requires all stock-based payments, including grants of stock options, to be
recognized in the income statement as an operating expense, based on their
fair
values. The Company follows the “modified prospective” method of adoption of
SFAS 123R whereby earnings for prior periods will not be restated as though
stock-based compensation had been expensed.
Prior
to
the adoption of SFAS 123R, the Company accounted for stock based employee
compensation under Accounting Principles Board Opinion No. 25 ”Accounting
for Stock Issued to Employees” (“APB 25”). Accordingly, no compensation expense
is recognized in the financial statements because the exercise price of the
employee stock options equals the market price of the common stock on the date
of grant.
By
accelerating the vesting of all outstanding options as of December 22, 2005
(see
Note 2), the Company accounted for the stock options under the rules in effect
when the stock options were granted, APB 25, versus SFAS 123R adopted on January
1, 2006.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Under
SFAS 123R, the Company’s compensation costs based on the fair value at the
grant date for its stock options, net income and EPS would have been
reduced to the following pro forma amounts for the prior comparable
quarter:
|
|
For
the Three Months Ended September 30, 2005
|
|
For
the Nine Months Ended September 30,
2005
|
|
|
|
(in
thousands, except share data)
|
|
Net
income:
|
|
|
As
reported
|
|
$
|
1,770
|
|
$
|
5,226
|
|
Deduct:
Total stock-based employee compensation expense determined under
fair
value based method for all awards, net of related tax
effects
|
|
|
¾
|
|
|
(44
|
)
|
Pro
forma
|
|
$
|
1,770
|
|
$
|
5,182
|
|
|
|
|
|
|
|
|
|
Basic
earnings per share:
|
|
|
|
|
|
|
|
As
reported
|
|
$
|
0.24
|
|
$
|
0.75
|
|
Pro
forma
|
|
$
|
0.24
|
|
$
|
0.74
|
|
|
|
|
|
|
|
|
|
Diluted
earnings per share:
|
|
|
|
|
|
|
|
As
reported
|
|
$
|
0.21
|
|
$
|
0.67
|
|
Pro
forma
|
|
$
|
0.21
|
|
$
|
0.66
|
|
For
the
three and nine months ended September 30, 2006, the Company did not grant any
stock options. As a result, no stock based compensation expense was recorded
for
the three and nine months ended September 30, 2006.
Note
11 - Income Taxes
A
reconciliation of the effective income tax rate to the statutory income tax
rate
is as follows:
|
|
For
the Three Months
Ended
September 30,
|
|
For
the Nine Months
Ended
September 30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
Income
tax (benefit) at statutory rate
|
|
|
34.0
|
%
|
|
34.0
|
%
|
|
34.0
|
%
|
|
34.0
|
%
|
State
taxes, net of federal benefit
|
|
|
2.9
|
|
|
2.0
|
|
|
2.5
|
|
|
2.0
|
|
Deductible
items
|
|
|
(0.6
|
)
|
|
¾
|
|
|
(0.5
|
)
|
|
¾
|
|
Change
in valuation allowance
|
|
|
¾
|
|
|
(6.5
|
)
|
|
¾
|
|
|
(15.9
|
)
|
Other
|
|
|
2.2
|
|
|
¾
|
|
|
0.7
|
|
|
¾
|
|
Provision
for income taxes
|
|
|
38.5
|
%
|
|
29.5
|
%
|
|
36.7
|
%
|
|
20.1
|
%
|
Our
effective income tax rate in 2006 and 2005 differs from the federal statutory
rate primarily due to state income taxes and changes in the valuation allowances
due to the change in management’s estimate of the utilization of net loss
carryforwards. A valuation allowance was provided against our net deferred
tax
assets relating to our net operating losses in the amount that management
believes is more likely than not to expire unrealized based on existing
carryforward abilities. Certain Internal Revenue Code provisions may limit
the
use of our net operating loss carryforwards. We continue to assess the
limitations on our net operating loss carryforwards, if any, on future periods.
We are currently evaluating our historical Canadian performance and associated
filings to verify the existence and usage of our Canadian net operating losses.
As of September 30, 2006, we had estimated net operating loss carryforwards
of
approximately $6.3
million,
expiring in various amounts in 2017 through 2025.
Our
current corporate organization structure requires us to file two separate
consolidated U.S. Federal income tax returns. As a result, taxable income
of one
group can not be offset by tax attributes, including net operating losses,
of
the other group. Accordingly, the effective tax rate in future periods may
differ significantly from the expected statutory rates depending on the level
of
taxable income or loss for each group.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Note
12 - Related Party Transactions
The
Company purchased from Phoenix E&P Technology, LLC (“Phoenix”), its
manufacturing assets, inventory and intellectual property rights to produce
oilfield shale shaker screens on January 28, 2005. The assets were purchased
for
$46,640 with a three-year royalty interest on all shale shaker screens produced.
Phoenix is 75% owned by Chisholm Energy Partners (“CEP”). Jerry D. Dumas, Sr.,
our Chief Executive Officer and Chairman, and Dr. Glenn Penny, our
President, Chief Technical Officer and director, each have a 2 1/2% indirect
ownership interest in CEP, and John Chisholm, a director of Flotek, has a 30%
ownership interest in CEP. No royalties were earned during the nine months
ended
September 30, 2006.
Note
13 - Segment Information
Operating
segments are defined as components of an enterprise about which separate
financial information is available that is evaluated regularly by the chief
operating decision-makers in deciding how to allocate resources and in assessing
performance.
The
Company has determined that there are three reportable segments:
|
·
|
The
Chemicals and Logistics segment is made up of two business
units:
|
|
|
The
CESI chemical business unit develops, manufactures and markets specialty
chemicals used by oilfield service companies in oil and gas well
cementing, stimulation, drilling and production. Our research laboratories
support the specific drilling and production needs of our
customers.
|
|
|
The
Materials Translogistics business unit designs and manages automated
bulk
material handling, loading facilities, and blending capabilities
for
oilfield service companies.
|
|
·
|
The
Drilling Products segment rents, inspects, manufactures and markets
downhole drilling equipment for the energy, mining, water well and
industrial drilling sectors.
|
|
·
|
The
Production Products segment manufactures and markets artificial lift
equipment which includes the Petrovalve line of downhole beam pump
components. We have recently expanded the artificial lift capability
of
this segment with the acquisition of TWS in April 2006 and LifTech
in June
2006. The acquired companies provide a broad spectrum of electric
submersible pumps, gas separators, valves and services to support
coal bed
methane production.
|
The
Company evaluates performance based on several factors of which the primary
financial measure is business segment income before taxes. The accounting
policies of the business segments are the same as those described in the
consolidated financial statements for the year ended December 31, 2005 and
the
related notes thereto included in the Annual Report on Form 10-KSB filed by
the
Company with the Securities and Exchange Commission. Inter-segment sales are
accounted for at fair value as if sales were to third parties and are eliminated
in the consolidated financial statements.
FLOTEK
INDUSTRIES, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
Summarized
financial information concerning the segments for the three and nine months
ending September 30, 2006 and 2005 is shown in the following
tables:
|
|
Chemicals
and Logistics
|
|
|
Drilling
Products
|
|
|
Production
Products
|
|
|
Corporate
and
Other
|
|
|
Total
|
|
|
|
(in
thousands)
|
|
Three
months ended September 30, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
revenues to external customers
|
|
$
|
13,608
|
|
$
|
9,803
|
|
$
|
5,785
|
|
$
|
¾
|
|
$
|
29,196
|
|
Income
(loss) from operations
|
|
$
|
4,769
|
|
$
|
1,974
|
|
$
|
846
|
|
$
|
(1,629
|
)
|
$
|
5,960
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three
months ended September 30, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
revenues to external customers
|
|
$
|
7,727
|
|
$
|
5,372
|
|
$
|
205
|
|
$
|
¾
|
|
$
|
13,304
|
|
Income
(loss) from operations
|
|
$
|
2,243
|
|
$
|
1,253
|
|
$
|
(33
|
)
|
$
|
(736
|
)
|
$
|
2,727
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine
months ended September 30, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
revenues to external customers
|
|
$
|
31,989
|
|
$
|
26,875
|
|
$
|
8,506
|
|
$
|
¾
|
|
$
|
67,370
|
|
Income
(loss) from operations
|
|
$
|
10,056
|
|
$
|
4,961
|
|
$
|
938
|
|
$
|
(3,451
|
)
|
$
|
12,504
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine
months ended September 30, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
revenues to external customers
|
|
$
|
20,920
|
|
$
|
14,978
|
|
$
|
907
|
|
$
|
¾
|
|
$
|
36,805
|
|
Income
(loss) from operations
|
|
$
|
5,598
|
|
$
|
3,355
|
|
$
|
33
|
|
$
|
(1,829
|
)
|
$
|
7,157
|
|
Total
assets by reportable segment were as follows:
|
|
September
30,
2006
|
|
December
31,
2005
|
|
|
|
(in
thousands)
|
|
Chemicals
and Logistics
|
|
$
|
23,353
|
|
$
|
16,417
|
|
Drilling
Products
|
|
|
38,289
|
|
|
26,787
|
|
Production
Products
|
|
|
15,176
|
|
|
1,233
|
|
Corporate
and Other
|
|
|
750
|
|
|
7,721
|
|
Total
assets
|
|
$
|
77,568
|
|
$
|
52,158
|
|
Note
14 - Subsequent Events
On
October 5, 2006 the Company entered into a definitive agreement to purchase
a
50% interest in CAVO Drilling Motors, Ltd. Co. (“CAVO”) for approximately
$6 million, subject to normal closing conditions. The transaction will be funded
with cash, common stock and a seller note, and is anticipated to close by the
end of October. This interest in CAVO will be accounted for under the equity
method.
Item
2. Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
Management’s
Discussion and Analysis of Financial Condition and Results of Operations should
be read in conjunction with “Item 1. Financial Statements” contained herein.
Business
Overview
We
provide a broad range of products and services worldwide, for use in mining
and
the exploration and production of crude oil and natural gas. We compete in
the
specialty chemicals and logistics, downhole drilling tool and downhole
production tool markets.
We
were
incorporated in 1985. As of July 27, 2005 our common stock began trading on
the
American Stock Exchange under the stock ticker symbol “FTK”. Our headquarters
are in Houston, Texas, and we have manufacturing operations in Texas, Oklahoma,
Louisiana and Wyoming. We market our products domestically and internationally
in over 20 countries.
Our
product lines are divided into three segments within the oilfield service
industry:
|
·
|
The
Chemicals and Logistics segment is made up of two business
units:
|
|
|
The
CESI chemical business unit develops, manufactures and markets chemicals
used by oilfield service companies in oil and gas well cementing,
stimulation, drilling and production. Our research laboratories support
the specific drilling and production needs of our
customers.
|
|
|
The
Materials Translogistics business unit designs and manages automated
bulk
material handling, loading and blending capabilities for oilfield
service
companies.
|
|
·
|
The
Drilling Products segment rents, inspects, manufactures and markets
downhole drilling equipment for the energy, mining, water well and
industrial drilling sectors.
|
|
·
|
The
Production Products segment manufactures and markets artificial lift
equipment which include the Petrovalve line of downhole beam pump
components. We have recently expanded the artificial lift capability
of
this segment with the acquisition of the assets of Total Well
Solutions, Inc. (“TWS”) in April 2006 and LifTech, L.L.C. (“LifTech”), in
June 2006. The acquired companies provide a broad spectrum of electric
submersible pumps, gas separators, valves and services to support
coal bed
methane production.
|
The
customers for our products and services include the major integrated oil and
natural gas companies, independent oil and natural gas companies and state-owned
national oil companies. Our ability to compete in the oilfield services market
is dependent on our ability to differentiate our products and services, provide
superior quality and service, and maintain a competitive cost structure.
Activity levels in our three segments are driven primarily by current and
expected commodity prices, drilling rig count, oil and gas production levels,
and customer capital spending allocated for drilling and production.
Over
the
last year we have grown our sales internally and through acquisitions. During
2005 and 2006, we have entered into the following acquisitions that were outside
the ordinary course of our business:
|
·
|
acquired
manufacturing assets, inventory and intellectual property rights
to
produce oilfield shale shaker screens from Phoenix E&P Technology, LLC
(“Phoenix”) on January 28, 2005;
|
|
·
|
acquired
Spidle Sales and Services, Inc. (“Spidle”), a downhole tool company with
rental, sales and manufacturing operations throughout the Rocky Mountains,
on February 14, 2005;
|
|
·
|
acquired
the assets of Harmon’s Machine Works, Inc. (“Harmon”), a downhole oilfield
and mining tool company with manufacturing and sales operations located
in
Midland, Texas, on August 19, 2005;
|
|
·
|
acquired
the assets of Precision-LOR, Ltd. (“LOR”), a drilling tool rental and
inspection service provider in south Texas, on August 31,
2005;
|
|
·
|
acquired
the assets of Can-Ok Oil Field Services, Inc. and Stabilizer Technology,
Inc. (“Can-Ok”), a drilling tool sales and rental provider in Oklahoma,
Louisiana and Arkansas, on January 2,
2006;
|
|
·
|
acquired
the assets of TWS, which manufactures, markets and services electric
submersible pumps and downhole gas/water separators primarily to
coal bed
methane gas producers, on April 3, 2006;
and
|
|
·
|
acquired
the assets of LifTech, which manufactures, markets and services electric
submersible pumps and downhole gas/water separators primarily to
coal bed
methane gas producers, on June 6, 2006.
|
In
addition we contracted to acquire a 50% interest in CAVO Drilling Motors, Ltd.
Co., which specializes in the rental, service and sale of high performance
mud
motors, on October 5, 2006. We continue to actively seek profitable acquisition
or merger candidates in our core businesses to either decrease costs of
providing products or add new products and customer base to diversify our
market.
Results
of Operations
|
|
Three
Months Ended
September
30,
|
|
Nine
Months Ended
September
30,
|
|
|
|
|
2006
|
|
|
2005
|
|
|
2006
|
|
|
2005
|
|
|
|
(in
thousands)
|
|
Revenues
|
|
$
|
29,196
|
|
$
|
13,304
|
|
$
|
67,370
|
|
$
|
36,805
|
|
Cost
of revenues
|
|
|
17,253
|
|
|
7,576
|
|
|
40,059
|
|
|
21,746
|
|
Gross
profit
|
|
|
11,943
|
|
|
5,728
|
|
|
27,311
|
|
|
15,059
|
|
Gross
profit %
|
|
|
40.9
|
%
|
|
43.1
|
%
|
|
40.5
|
%
|
|
40.9
|
%
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Selling,
general and administrative
|
|
|
5,086
|
|
|
2,416
|
|
|
12,348
|
|
|
6,461
|
|
Depreciation
and amortization
|
|
|
725
|
|
|
422
|
|
|
1,975
|
|
|
1,000
|
|
Research
and development
|
|
|
172
|
|
|
163
|
|
|
484
|
|
|
441
|
|
Total
expenses
|
|
|
5,983
|
|
|
3,001
|
|
|
14,807
|
|
|
7,902
|
|
Income
from operations
|
|
|
5,960
|
|
|
2,727
|
|
|
12,504
|
|
|
7,157
|
|
Income
from operations %
|
|
|
20.4
|
%
|
|
20.5
|
%
|
|
18.6
|
%
|
|
19.4
|
%
|
Other
income (expense):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
expense
|
|
|
(327
|
)
|
|
(215
|
)
|
|
(750
|
)
|
|
(653
|
)
|
Other,
net
|
|
|
69
|
|
|
(1
|
)
|
|
91
|
|
|
39
|
|
Total
other income (expense)
|
|
|
(258
|
)
|
|
(216
|
)
|
|
(659
|
)
|
|
(614
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income
before income taxes
|
|
|
5,702
|
|
|
2,511
|
|
|
11,845
|
|
|
6,543
|
|
Provision
for income taxes
|
|
|
(2,193
|
)
|
|
(741
|
)
|
|
(4,345
|
)
|
|
(1,317
|
)
|
Net
income
|
|
$
|
3,509
|
|
$
|
1,770
|
|
$
|
7,500
|
|
$
|
5,226
|
|
Consolidated
- Comparison of Three Months Ended September 30, 2006 and 2005
Total
revenues increased by $15.9 million or 119.5% in the third quarter of 2006
versus 2005. Acquisitions accounted for $7.1 million of the increase, with
the
remaining $8.8 million coming from internal revenue growth within the Chemical
and Logistics segment and the established Drilling Products segment.
Gross
profit increased by $6.2 million or 108.5% in the third quarter of 2006 versus
2005. Acquisitions accounted for $2.0 million of the increase. Gross profit
as a
percentage of sales decreased from 43.1% in the third quarter of 2005 to 40.9%
in the third quarter of 2006. Gross profit is best analyzed on a segment by
segment basis, as gross profit varies among operating segments and can vary
significantly from year to year in certain operating segments.
Selling,
general and administrative costs are not directly attributable to products
sold
or services rendered. Selling, general and administrative costs were $5.1
million in the third quarter of 2006 versus $2.4 million in the third quarter
of
2005. The acquisitions noted above accounted for $1.1 million of the increase.
We also incurred $0.6 million in professional fees in connection with a
potential acquisition in the Drilling Products segment. Negotiations on the
acquisition were terminated on August 22, 2006. The balance of the increase
is
primarily due to increased sales and field support costs in the Chemical and
Logistics segment and increased administrative staff and professional fees
associated with expanding the Company.
Depreciation
and amortization increased from $0.4 million in the third quarter of 2005 to
$0.7 million in the third quarter of 2006 due to the increased levels of
property, plant and equipment. The increase in property, plant and equipment
was
primarily due to the addition of assets associated with the drilling tool
acquisitions noted above.
A
provision for income taxes of $2.2 million was recorded in the third quarter
of
2006. An effective tax rate of 38.5% was applied in the third quarter of 2006
versus 29.5% in the third quarter of 2005, resulting in a $1.5 million increase
in the tax provision quarter over quarter. The significant increase in taxes
is
a result of the release of valuation allowances previously offsetting the net
operating losses, an
increase in our projected federal statutory rate based on estimated income
levels, and an increase in our estimated state income tax liability. The
Company’s remaining NOL’s are subject to limitations and are not expected to
significantly reduce our effective tax rate going forward. The provision was
made for estimated federal income tax, state income tax and alternative minimum
tax, which cannot be offset by our NOL carryforwards.
Consolidated
- Comparison of Nine Months Ended September 30, 2006 and 2005
Total
revenues increased by $30.6 million or 83.0% in the first nine months of 2006
versus 2005. Acquisitions accounted for $14.1 million of the increase in
revenues, with the remaining $16.5 million coming from internal revenue growth
within the Chemical and Logistics segment and the Drilling Products segment.
Gross
profit increased by $12.3 million or 81.4% in the first nine months of 2006
versus 2005. The acquisitions noted above accounted for $4.3 million of the
increase. Gross profit as a percentage of sales decreased from 40.9% in the
first nine months of 2005 to 40.5% in the first nine months of 2006. The gross
profit is best analyzed on a segment by segment basis, as gross profit varies
between operating segments and can vary significantly from year to year in
certain operating segments.
Selling,
general and administrative costs are not directly attributable to products
sold
or services rendered. Selling, general and administrative costs were $12.3
million in the first nine months of 2006 versus $6.5 million in the first nine
months of 2005. The acquisitions noted above accounted for $3.1 million of
the
increase. We also incurred $0.6 million in professional fees in connection
with
a potential acquisition in the Drilling Products segment. Negotiations on the
acquisition were terminated August 22, 2006. The balance of the increase is
primarily due to increased sales and field support costs in the Chemical and
Logistics segment and increased administrative costs and professional fees.
Depreciation
and amortization increased from $1.0 million in the first nine months of 2005
to
$2.0 million in the first nine months of 2006 due to the increased levels of
property, plant and equipment. The increase in property, plant and equipment
was
primarily due to the addition of assets associated with the drilling tool
acquisitions noted above.
A
provision for income taxes of $4.3 million was recorded in the first nine months
of 2006. An effective tax rate of 36.7% was applied in the first nine months
of
2006 versus 20.1% in the first nine months of 2005, resulting in a $3.0 million
increase in the tax provision. The significant increase in taxes is a result
of
the release of valuation allowances previously offsetting the net operating
losses, an increase in our projected federal statutory rate based on estimated
income levels, and an increase in our estimated state income tax liability.
The
Company’s remaining NOL’s are subject to limitations and are not expected to
significantly reduce our effective tax rate going forward. The provision was
made for estimated federal income tax, state income tax and alternative minimum
tax, which cannot be offset by our NOL carryforwards.
Results
by Segment
Chemicals
and Logistics
|
|
Three
Months Ended
September
30,
|
|
Nine
Months Ended
September
30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
|
|
(in
thousands)
|
|
Revenues
|
|
$
|
13,608
|
|
$
|
7,727
|
|
$
|
31,989
|
|
$
|
20,920
|
|
Gross
profit
|
|
$
|
6,332
|
|
$
|
3,181
|
|
$
|
14,004
|
|
$
|
8,287
|
|
Gross
profit %
|
|
|
46.5
|
%
|
|
41.2
|
%
|
|
43.8
|
%
|
|
39.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
income
|
|
$
|
4,769
|
|
$
|
2,243
|
|
$
|
10,056
|
|
$
|
5,598
|
|
Operating
margin %
|
|
|
35.0
|
%
|
|
29.0
|
%
|
|
31.4
|
%
|
|
26.8
|
%
|
Chemicals
and Logistics - Comparison of Three Months Ended September 30, 2006 and
2005
Chemical
and Logistics revenues increased $5.9 million or 76.1% in the third quarter
of
2006 compared to 2005. The increase in revenue is a result of an increase in
volume coupled with higher prices, particularly of our proprietary specialty
chemicals. The most significant sales growth occurred in the Rocky Mountains
and
the Permian Basin.
The
majority of revenue growth is attributed to increased sales of our line of
biodegradable environmentally benign ‘green’ chemicals which grew from $2.1
million in the third quarter of 2005 to $6.8 million in the third quarter of
2006. International sales dropped from 23.9% in the third quarter of 2005 to
10.6% in the third quarter of 2006.
Gross
profit as a percentage of revenues increased from 41.2% in the third quarter
of
2005 to 46.5% in the third quarter of 2006. The increase in gross profit is
due
to price increases, a reduction in cost of goods as a percentage of total
revenues and increased revenues from our higher margin proprietary chemicals.
Managing chemical feedstock and transportation prices and passing the increase
in the costs on to our customers are critical to maintain our gross profits.
We
are nearing completion of a 30,000 square foot expansion to our production
facilities which will triple our production capabilities and allow us to manage
larger volumes of inputs to take further advantage of volume pricing
discounts.
Operating
income increased from $2.2 million in the third quarter of 2005 to $4.8 million
in the third quarter of 2006. The operating profit as a percentage of revenue
increased from 29.0% to 35.0%, respectively.
Chemicals
and Logistics - Comparison of Nine Months Ended September 30, 2006 and
2005
Chemical
and Logistics revenues increased $11.1 million or 52.9% in the nine months
ended
September 30, 2006 compared to 2005. The increase in revenue is a result of
an
increase in volume coupled with higher prices, particularly of our proprietary
specialty chemicals. The most significant sales growth occurred in the Rocky
Mountains and Mid-Continent regions for the nine months ended September 30,
2006
as compared to 2005.
The
majority of revenue growth is attributed to increased sales of our line of
biodegradable environmentally benign ‘green’ chemicals which grew from $5.6
million in the first three quarters of 2005 to $14.5 million in the first three
quarters of 2006. International sales decreased as a percentage of sales from
16.3% in the nine months ended September 30, 2005 to 10.3% in the nine months
ended September 30, 2006.
Gross
profit as a percentage of revenues increased from 39.6% in the first three
quarters of 2005 to 43.8% for the same period in 2006. The increase in gross
profit is due to price increases and a reduction in cost of goods as a
percentage of total revenues. Managing chemical feedstock and transportation
prices and passing the increase in the costs on to our customers are critical
to
maintain our gross profits. We are nearing completion of a 30,000 square foot
expansion to our production facilities which will triple our production
capabilities and allow us to manage larger volumes of inputs to take further
advantage of volume pricing discounts.
Operating
income increased from $5.6 million in the first three quarters of 2005 to
$10.1
million in the first three quarters of 2006, and the operating income percentage
increased from 26.8% to 31.4%, respectively.
Drilling
Products
|
|
Three
Months Ended September 30,
|
|
Nine
Months Ended
September
30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
|
|
(in
thousands)
|
|
Revenues
|
|
$
|
9,803
|
|
$
|
5,372
|
|
$
|
26,875
|
|
$
|
14,978
|
|
Gross
profit
|
|
$
|
4,085
|
|
$
|
2,444
|
|
$
|
11,227
|
|
$
|
6,290
|
|
Gross
profit %
|
|
|
41.7
|
%
|
|
45.5
|
%
|
|
41.8
|
%
|
|
42.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
income
|
|
$
|
1,974
|
|
$
|
1,253
|
|
$
|
4,961
|
|
$
|
3,355
|
|
Operating
margin %
|
|
|
20.1
|
%
|
|
23.3
|
%
|
|
18.5
|
%
|
|
22.4
|
%
|
Drilling
Products - Comparison of Three Months Ended September 30, 2006 and
2005
During
2005 and 2006 an emphasis was placed on expanding our drilling products sales
through acquisition, allowing us to expand geographically as well as expand
the
amount of products and services provided. In August 2005 we acquired the
assets
of Harmon, a downhole oilfield and mining tool company with manufacturing
and
sales operations located in Midland, Texas, and the assets of LOR, a drilling
tool rental and inspection service provider in South Texas. In January 2006
we
acquired the assets of Can-Ok, a drilling tool sales and rental provider
in
Oklahoma, Louisiana and Arkansas.
Drilling
Products revenues increased $4.4 million in the third quarter of 2006 compared
to the third quarter of 2005. The acquisitions noted above accounted for
$1.4
million of this increase. The remaining increase in sales was due primarily
to
increased downhole centralizers sales both domestically and internationally.
Gross
profit increased $1.6 million in the third quarter of 2006 compared to 2005.
The
acquisitions noted above accounted for $0.6 million of this increase. Gross
profit as a percentage of sales decreased from 45.5% in the third quarter
of
2005 to 41.7% in the third quarter of 2006.
The
decrease in gross profit as a percentage of revenues relates to inventory
price
volatility and equipment sub-rental costs. The gross profit in the third
quarter
was 4.3 percentage points higher than in the second quarter
Operating
income increased from $1.3 million for the third quarter of 2005 to $2.0
million
for the third quarter of 2006.
Drilling
Products - Comparison of Nine Months Ended September 30, 2006 and
2005
During
2005 and 2006 an emphasis was placed on expanding our drilling products sales
through acquisition, allowing us to expand geographically as well as expand
the
amount of products and services provided. In August 2005 we acquired the
assets
of Harmon, a downhole oilfield and mining tool company with manufacturing
and
sales operations located in Midland, Texas, and the assets of LOR, a drilling
tool rental and inspection service provider in South Texas. In January 2006
we
acquired the assets of Can-Ok, a drilling tool sales and rental provider
in
Oklahoma, Louisiana and Arkansas.
Drilling
Products revenues increased $11.9 million in the first three quarters of
2006
compared to 2005. The acquisitions noted above accounted for $6.1 million
of
this increase. The remaining increase in sales was due to increased downhole
centralizers sales both domestically and internationally and increased sales
in
the Rockies.
Gross
profit increased $4.9 million for the period ended September 30, 2006 compared
to 2005. The acquisitions noted above accounted for $2.4 million of this
increase. Gross profit as a percentage of sales declined slightly from 42.0%
in
the first three quarters of 2005 to 41.8% in the first three quarters of
2006.
Operating
income increased by $1.6 million for the nine months ended September 30,
2006
compared to 2005.
Production
Products
|
|
Three
Months Ended
September
30,
|
|
Nine
Months Ended
September
30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
|
|
(in
thousands)
|
|
Revenues
|
|
$
|
5,785
|
|
$
|
205
|
|
$
|
8,506
|
|
$
|
907
|
|
Gross
profit
|
|
$
|
1,526
|
|
$
|
102
|
|
$
|
2,080
|
|
$
|
483
|
|
Gross
profit %
|
|
|
26.4
|
%
|
|
49.9
|
%
|
|
24.5
|
%
|
|
53.2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating
income
|
|
$
|
846
|
|
$
|
(33
|
)
|
$
|
938
|
|
$
|
33
|
|
Operating
margin %
|
|
|
14.6
|
%
|
|
(16.1
|
)%
|
|
11.0
|
%
|
|
3.6
|
%
|
Production
Products - Comparison of Three Months Ended September 30, 2006 and
2005
In
the
second quarter of 2006 we acquired TWS and LifTech as part of our goal to
develop a significant artificial lift segment and expand our production driven
revenue base. The combined companies will provide a broad spectrum of electric
submersible pumps, gas separators, valves and services to support the coal
bed
methane producers in the Powder River Basin and beyond. We believe the recent
artificial lift acquisitions will provide additional marketing opportunities
for
our patented Petrovalve line of pump components, our patented gas separator,
and
our line of electric submersible pumps.
Production
revenues were $5.8 million in the third quarter of 2006 versus $0.2 million
in
the third quarter of 2005. Acquisitions accounted for $5.6 million of the
increase. Gross profit increased $1.5 million due to the acquisitions. The
gross
margin percentage decreased from 49.9% in the third quarter of 2005 to 26.4%
in
the third quarter of 2006. The decrease in gross margin as a percentage of
revenues is due to a shift in sales mix. The product sales associated with
the
two acquisitions are lower margin product sales compared to our existing
Petrovalve sales.
The
gross
margin in the third quarter was 6.1 percentage points higher than in the
second
quarter. We believe we can continue to improve the gross margins of the
acquisitions primarily through better supply chain management.
Management
continues to focus on effectively marketing the Petrovalve line of pump
components. Our patented guided valves are the only product which can be
placed
horizontally allowing a pump to be placed at the production zone in horizontally
completed wells reducing the effort needed to pump the product to the surface.
The Petrovalve can effectively lift highly viscous oil in heavy oil or tar
sand production zones. Because of this we signed an exclusive distribution
agreement with C.E. Franklin in Canada and have aligned ourselves with a
major
domestic pump manufacturer to build pumps with our valve.
Production
Products - Comparison of Nine Months Ended September 30, 2006 and
2005
Production
revenues were $8.5 million in the first three quarters of 2006 versus $0.9
million in 2005. Acquisitions accounted for $8.0 million of the increase.
Revenues for the Petrovalve line declined as the first three quarters of
2005
included a large sale to a customer in Russia. The gross margin percentage
decreased significantly from 53.2% in the nine months ended September 30,
2005
to 24.5% in the same period of 2006, as a result of lower margins on domestic
sales versus international sales, and the impact of the
acquisitions.
The
decrease in gross margin as a percentage of revenues is due to a shift in
sales
mix. The product sales associated with the two acquisitions are lower margin
product sales compared to our existing Petrovalve sales. Management is
negotiating more favorable product contracts for the acquired businesses
to
improve margins on pump and separator sales.
Capital
Resources and Liquidity
Capital
resources and liquidity continued to improve during the nine months ended
September 30, 2006 compared to the same period in 2005. During the nine months
ending September 30, 2006 we generated net income of $7.5 million based on
a
36.7% effective tax rate, versus a 20.1% effective tax rate for the same
period
in 2005. Cash flows from operations were $6.2 million in the nine months
ended
September 30, 2006 versus $2.2 million for the same period in 2005. The
improvement in cash flow from operations is a direct result of improved
operating results offset by increased estimated tax payments based on the
projected increase in our estimated effective tax rate. The decrease in cash
and
cash equivalents of $7.0 million for the nine months ended September 30,
2006
was primarily a result of the acquisition of Can-Ok, TWS and LifTech.
Net
working capital increased $3.2 million in the nine months ended September
30,
2006 versus a net increase of $3.8 million for the same period in 2005. The
increase in cash provided by operating activities during the nine months
ended
September 30, 2006 was driven by a net $6.4 million increase in accounts
payable
and accrued liabilities offset by a $7.7 million increase in receivables
and a
$1.2 million increase in inventory.
Capital
expenditures for the nine months ended September 30, 2006 totaled approximately
$6.5 million. During the nine months ended September 30, 2006, we purchased
approximately $2.4 million in rental equipment for our Drilling Products
segment
and invested approximately $2.1 million to expand our manufacturing plant
and
research and laboratory facilities within our Chemicals and Logistics segment.
As
amended August 19, 2005, our Senior Credit Facility consists of a revolving
line
of credit, two equipment term loans and two real estate term loans. Our bank
borrowings are collateralized by substantially all of our assets. On
August
8, 2006, the Company again amended the Senior Credit Facility. The maturity
date
and the maximum amount that may be outstanding were amended on the revolving
line of credit. The amended revolving line of credit provides for borrowing
through August 8, 2009. The maximum amount that may be outstanding was increased
to the lesser of (a) $10.0 million (a $4.0 million increase from the August
2005
amended revolving line of credit of $6.0 million), or (b) the sum of 80%
of
eligible domestic trade receivables and 50% of eligible inventory, as defined.
Based on the new maturity date, the current revolving line of credit is
classified as long-term debt.
As of
September 30, 2006, we had $6.0 million outstanding under the revolving line
of
credit of the amended Senior Credit Facility. Bank borrowings are subject
to
certain covenants and a material adverse change subjective acceleration clause.
Affirmative covenants include compliance with laws, various reporting
requirements, visitation rights, maintenance of insurance, maintenance of
properties, keeping of records and books of account, preservation of existence
of assets, notification of adverse events, ERISA compliance, joinder agreement
with new subsidiaries, borrowing base audits, and use of treasury management
services. Negative covenants include limitations associated with liens,
indebtedness, change in nature of business, transactions with affiliates,
investments, distributions, subordinate debt, leverage ratio, fixed charge
coverage ratio, consolidated net income, prohibition of fundamental changes,
asset sales and capital expenditures. As of September 30, 2006 we were in
compliance with all covenants.
We
have
funded our capital requirements with operating cash flows, debt borrowings,
and
by issuing shares of our common stock. Common stock issued during the nine
months ended September 30, 2006 is described below:
· |
In
the acquisition of Can-Ok in January 2006, we issued 25,020 shares
of
common stock.
|
· |
In
the acquisition of LifTech in April 2006, we issued 178,223 shares
of
common stock.
|
· |
Warrants
to purchase 26,490 shares were exercised with proceeds of approximately
$0.3 million paid to the Company.
|
· |
Stock
options to purchase 271,528 shares were exercised by officers, directors
and employees with proceeds of approximately $0.6 million paid to
the
Company.
|
Impact
of Recently Issued Accounting Standards
In
June
2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation
No. 48 (FIN 48), "Accounting for Uncertainty in Income Taxes".
FIN 48 is an interpretation of FASB Statement No. 109 "Accounting for
Income Taxes" and must be adopted by the Company no later than January 1,
2007.
FIN 48 prescribes a comprehensive model for recognizing, measuring,
presenting and disclosing in the financial statements uncertain tax positions
that the Company has taken or expects to take in its tax returns. The
Company is evaluating the impact of adopting FIN 48.
In
May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error
Corrections”. The Company’s effective date for the pronouncement was
December 15, 2005. SFAS No. 154 requires that all voluntary changes in
accounting principles, including corrections of errors, are retrospectively
applied to prior financial statements as if that principle had always been
used,
unless it is impracticable to do so. When it is impracticable to calculate
the
effects on all prior periods, SFAS No. 154 requires that the new principle
be applied to the earliest period practicable. The Company has adopted SFAS
No.
154 as of December 31, 2005.
In
December 2004, the FASB issued Statement No. 123R, “Share
Based Payment”. This statement revises Statement 123 and supersedes APB 25 and
amends FASB Statement No. 95, “Statement
of Cash Flows”. SFAS 123R requires companies to expense the fair value of
employee services received in exchange for an award of equity instruments,
including stock options. SFAS 123R also provides guidance on valuing and
expensing these awards, as well as disclosure requirements with respect to
these
equity arrangements.
We
adopted SFAS 123R effective as of January 1, 2006. We are following the
“modified prospective” method of adoption of SFAS 123R whereby earnings for
prior periods will not be restated as though stock based compensation had
been
expensed, rather than the “modified retrospective” method which would entail
restatement of previously published earnings. SFAS 123R also requires the
benefits of tax deductions in excess of recognized compensation cost to be
reported as a financing cash flow, rather than as an operating cash flow,
but
this will not have a significant impact on our cash flow reporting. The impact
of adoption of SFAS 123R will depend on levels of share-based compensation,
particularly stock options, granted in the future and the fair value assigned
thereto. The adoption of SFAS 123R has not had a material financial impact
on
our consolidated financial position, results of operations or cash
flows.
On
December 22, 2005, the Compensation Committee, on behalf of the Board of
Directors (“Board”), approved the acceleration of the vesting of all previously
unvested stock options granted under our 2003 and 2005 Long Term Incentive
Plans
(the "Plans"). The vesting acceleration represents options exercisable for
a
total of 313,140 shares of our common stock, including a total of 175,875
shares
of common stock underlying options held by our executive officers. The options
have exercise prices ranging from $4.25 to $9.40 per share. The closing price
of
our common stock on December 22, 2005 was $18.80. The acceleration of the
vesting schedule of the options was effected pursuant to Section 4(c)(x)
of the
Plans, which authorizes the Board, in its sole discretion, to substitute
an
accelerated vesting schedule for options granted under the Plans. In most
instances, stock options granted under the Plans vested over a four-year
period.
The
Board
imposed selling restrictions on shares received through the exercise of
accelerated options. These restrictions prohibit the sale of shares purchased
under accelerated options until the date on which the options would otherwise
have vested under the original option grants or six months after the date
on
which the options would otherwise have vested under the original option grants
if the employee is no longer employed by the Company.
Item
3. Controls
and Procedures
Our
Chief
Executive Officer and our Chief Financial Officer (collectively, the “Certifying
Officers”) have evaluated the effectiveness of the Company's "disclosure
controls and procedures" (as defined in Exchange Act Rules 13a-15(e) and
15d-15(e)) as of the end of the period covered by this report, and have
concluded that, as of the date of this report, our disclosure controls and
procedures are effective in enabling us to record, process, summarize, and
report information required to be included in our SEC filings within the
required time period, and to ensure that such information is accumulated
and
communicated to our management, including the Certifying Officers, to allow
for
timely decisions regarding required disclosure. Since the date of this report,
there have not been any significant changes in our internal controls, or
in
other factors that could significantly affect these controls subsequent to
the
date of this report.
In
anticipation of our compliance with the Sarbanes-Oxley Act of 2002 (the “Act”),
we have increased our finance and accounting staff dedicated to the
documentation and testing required under this Act.
It
should
be noted that any system of controls, however well designed and operated,
can
provide only reasonable, and not absolute, assurance that the objectives
of the
system will be met. In addition, the design of any control system is based
in
part upon certain assumptions about the likelihood of future
events.
PART
II - OTHER INFORMATION
Item
6. Exhibits.
Exhibit
No.
|
|
Description
of Exhibit
|
|
|
|
10.1
|
|
Membership
Interest Purchase Agreement dated October 5, 2006 between Turbeco,
Inc. and the owner of a 50% interest in CAVO Drilling Motors, Ltd
Co.
|
|
|
|
31.1
|
|
Rule
13a-15(e) and 15d-15(e) Certification of Chief Executive
Officer
|
|
|
|
31.2
|
|
Rule
13a-15(e) and 15d-15(e) Certification of Chief Financial
Officer
|
|
|
|
32.1
|
|
Certification
of Periodic Report by Chief Executive Officer and Chief Financial
Officer
|
SIGNATURES
In
accordance with the requirements of the Exchange Act, the Registrant caused
this
report to be signed on its behalf by the undersigned, thereunto duly
authorized.
|
|
|
|
FLOTEK
INDUSTRIES, INC.
|
|
|
|
|
By: |
/s/
Jerry D. Dumas Sr. |
|
|
Jerry
D. Dumas, Sr.
|
|
|
Chairman
and Chief Executive Officer
|
|
|
|
|
|
|
|
By: |
/s/ Lisa Meier |
|
Lisa
Meier
|
|
Chief
Financial Officer
|
November
1, 2006
EXHIBIT
INDEX
Exhibit
No.
|
|
Description
of Exhibit
|
|
|
|
10.1
|
|
Membership
Interest Purchase Agreement dated October 5, 2006 between Turbeco,
Inc. and the owner of a 50% interest in CAVO Drilling Motors,
Ltd Co.
|
|
|
|
31.1
|
|
Rule
13a-15(e) and 15d-15(e) Certification of Chief Executive
Officer
|
|
|
|
31.2
|
|
Rule
13a-15(e) and 15d-15(e) Certification of Chief Financial
Officer
|
|
|
|
32.1
|
|
Certification
of Periodic Report by Chief Executive Officer and Chief Financial
Officer
|