UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

ý                                 QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2004

OR

o                                 TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the transition period from            to

Commission file number  001-32164

INFRASOURCE SERVICES, INC.

(Exact name of registrant as specified in its charter)

 

100 West Sixth Street, Suite 300, Media, PA

(Address of principal executive offices)

19063

(Zip Code)

(610) 480-8000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 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 ý   No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes o  No ý

At August 11, 2004, there were 39,167,157 shares of InfraSource Services, Inc. Common Stock,  par value of $.001, outstanding.

 

For the Quarter Ended June 30, 2004
FORM 10-Q
INFRASOURCE SERVICES, INC. AND SUBSIDIARIES
Table of Contents

Part I—FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets at June 30, 2004 and December 31, 2003	2
	Condensed Consolidated Statements of Operations for the periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003 (predecessor entity—InfraSource Incorporated and Subsidiaries) and the three and six months ended June 30, 2004	3
	Condensed Consolidated Statements of Cash Flows for the period January 1, 2003 to June 20, 2003 (predecessor entity—InfraSource Incorporated and Subsidiaries) and six months ended June 30, 2004	4
	Notes to Condensed Consolidated Financial Statements	5
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	39
Item 4.	Controls and Procedures	39
PART II—OTHER INFORMATION
Item 1.	Legal Proceedings	40
Item 2.	Changes in Securities and Use of Proceeds	40
Item 3.	Defaults Upon Senior Securities	41
Item 4.	Submission of Matters to a Vote of Security Holders	41
Item 5.	Other Information	41
Item 6.	Exhibits and Reports on Form 8-K	42
SIGNATURES		43

 

1

PART I—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

INFRASOURCE SERVICES, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(unaudited)
(In thousands, except share data)

		December 31, 2003					June 30, 2004
ASSETS
Current assets:
Cash and cash equivalents			$	12,080			$	19,348
Contract receivables (less allowances for doubtful accounts of $4,938 and $3,636, respectively)			70,905				80,649
Contract receivables due from related parties			14,617				—
Costs and estimated earnings in excess of billings			34,003				56,360
Inventories			8,473				9,940
Deferred income taxes			685				2,240
Other current assets			4,822				23,461
Due from related parties, net			10,907				—
Current assets—discontinued operations			4,262				3,877
Total current assets			160,754				195,875
Property and equipment (less accumulated depreciation of $5,299 and $17,584, respectively)			116,566				125,000
Property and equipment—related parties			7,218				—
Goodwill			68,877				129,038
Intangible assets (less accumulated amortization of $2,600 and $11,169, respectively)			5,400				8,331
Deferred charges and other assets, net			7,309				9,088
Deferred income taxes			1,058				2,262
Noncurrent assets—discontinued operations			395				355
Total assets			$	367,577			$	469,949
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt and capital lease obligations			$	1,500			$	934
Accounts payable			13,244				17,330
Other current and accrued liabilities			42,701				39,132
Accrued insurance reserves			19,773				22,357
Billings in excess of costs and estimated earnings			8,019				6,164
Deferred revenues			3,393				3,743
Other liabilities—related parties			7,218				—
Current liabilities—discontinued operations			—				521
Total current liabilities			95,848				90,181
Long-term debt and capital lease obligations			162,963				84,322
Long-term debt—related party			—				1,000
Deferred revenues			12,750				17,907
Other long-term liabilities			3,167				5,217
Total liabilities			274,728				198,627
Commitments and contingencies
Shareholders’ equity:
Preferred stock, $.001 par value (authorized—12,000,000 shares; 0 shares issued and outstanding)			—				—
Common stock $.001 par value (authorized—120,000,000 shares; issued and outstanding—19,914,840 and 38,677,610, respectively)			20				39
Additional paid-in capital			91,480				270,490
Retained earnings			1,335				380
Accumulated other comprehensive income			14				413
Total shareholders’ equity			92,849				271,322
Total liabilities and shareholders’ equity			$	367,577			$	469,949

 

See accompanying notes to condensed consolidated financial statements.

2

INFRASOURCE SERVICES, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(Unaudited)
(In thousands, except per share data)

		For the Period March 22 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)						Three Months Ended June 30, 2004					For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)						Six Months Ended June 30, 2004
Contract revenues			$	119,746					$	148,227				$	216,669					$	296,848
Contract revenues—related parties			17,199						—					30,878						—
Total contract revenues			136,945						148,227					247,547						296,848
Cost of revenues			118,316						123,670					215,499						247,014
Gross profit			18,629						24,557					32,048						49,834
Selling, general and administrative expenses			11,498						15,694					23,688						31,107
Merger related costs			1,816						—					1,931						—
Provision (recoveries) of uncollectible accounts			43						(464		)			43						(471		)
Amortization of intangible assets			—						4,022					—						8,569
Income from operations			5,272						5,305					6,386						10,629
Interest income			487						66					961						120
Interest expense and amortization of debt discount			(1		)				(2,829		)			(3		)				(6,200		)
Loss on early extinguishment of debt			—						(5,682		)			—						(5,682		)
Other expenses			(193		)				(228		)			(130		)				(421		)
Income (loss) before income taxes			5,565						(3,368		)			7,214						(1,554		)
Income tax expense (benefit)			2,312						(1,414		)			2,958						(670		)
Income (loss) from continuing operations			3,253						(1,954		)			4,256						(884		)
Discontinued operations:
Loss from operations of discontinued business			(7,532		)				(127		)			(8,705		)				(125		)
Income tax benefit			(2,686		)				(55		)			(3,158		)				(54		)
Loss from discontinued operations			(4,846		)				(72		)			(5,547		)				(71		)
Net loss			$	(1,593	)				$	(2,026	)			$	(1,291	)				$	(955	)
Income (loss) per share—basic and diluted
Income (loss) from continuing operations			$	0.07					$	(0.06	)			$	0.09					$	(0.03	)
Loss from discontinued operations			(0.10		)				—					(0.12		)				—
Net loss			$	(0.03	)				$	(0.06	)			$	(0.03	)				$	(0.03	)
Weighted average basic and diluted common shares outstanding			47,877						34,755					47,890						31,453

 

See accompanying notes to condensed consolidated financial statements.

3

INFRASOURCE SERVICES, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)

		For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)						Six Months Ended June 30, 2004
Cash flows from operating activities:
Income (loss) from continuing operations			$	4,256					$	(884	)
Adjustments to reconcile income (loss) from continuing operations to cash provided by (used in) operating activities:
Depreciation			13,668						11,363
Amortization of intangibles			—						8,569
Deferred income taxes			—						(7,517		)
Loss on early extinguishment of debt			—						5,682
Other			(159		)				(369		)
Changes in operating assets and liabilities, net of effects of acquisitions:
Contract receivables, net			16,201						11,516
Contract receivables due from related parties, net			(12,640		)				—
Costs and estimated earnings in excess of billings, net			(12,816		)				(17,776		)
Inventories			248						(1,466		)
Due from affiliates			9,325						—
Other current assets			(762		)				(1,473		)
Deferred charges and other assets			275						(999		)
Accounts payable			(5,265		)				(5,541		)
Accrued taxes due to related parties			257						—
Other current and accrued liabilities			(4,414		)				(17,284		)
Accrued insurance reserves			1,116						2,584
Deferred revenue			3,709						3,049
Other long-term liabilities			226						2,258
Net cash flows provided by (used in) operating activities from continuing operations			13,225						(8,288		)
Net cash flows used in operating activities from discontinued operations			(4,452		)				(14		)
Net cash flows provided by (used in) operating activities			8,773						(8,302		)
Cash flows from investing activities:
Acquisitions of businesses, net of cash acquired			—						(20,101		)
Proceeds from sales of equipment			1,923						2,024
Additions to property, plant and equipment			(9,531		)				(12,091		)
Net cash flows used in investing activities from continuing operations			(7,608		)				(30,168		)
Net cash flows provided by (used in) investing activities from discontinued operations			3,187						(475		)
Net cash flows used in investing activities			(4,421		)				(30,643		)
Cash flows from financing activities:
Repayments of long-term debt and capital lease obligations			(88		)				(84,619		)
Purchase of treasury stock			(383		)				—
Proceeds from sale of common stock			—						130,343
Net cash flows (used in) provided by financing activities from continuing operations			(471		)				45,724
Net cash flows used in financing activities from discontinued operations			(405		)				—
Net cash flows (used in) provided by financing activities			(876		)				45,724
Cash and cash equivalents:
Net increase in cash and cash equivalents			3,476						6,779
Cash and cash equivalents transferred to discontinued operations			1,670						489
Cash and cash equivalents—beginning of period			20,784						12,080
Cash and cash equivalents—end of period			$	25,930					$	19,348

 

Supplemental Disclosure of Non-Cash Investing and Financing Activities:
Distribution of property and equipment owed to a related party.								$	7,218
Loss on early extinguishment of the note payable to Exelon								5,682
The Company acquired all of the voting interests of Maslonka & Associates for $77,476 in January, 2004. In conjunction with this acquisition, assets acquired and liabilities assumed were as follows:
Fair value of assets acquired								$	41,093
Goodwill								59,549
Liability to sellers for time deposit refund, taxes, and cash holdback								(6,704		)
Liabilities assumed								(23,166		)
Equity issued to sellers								(50,671		)
Cash paid for acquisition, net of cash acquired								(20,101		)

 

See accompanying notes to condensed consolidated financial statements.

4

INFRASOURCE SERVICES, INC. AND SUBSIDARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
(In thousands, except share data)

1.   Organization and Basis of Presentation

InfraSource Services, Inc. (“InfraSource”), formerly known as Dearborn Holdings Corporation, was organized on May 30, 2003 as a Delaware Corporation. In June 2003, OCM/GFI Power Opportunities Fund, L.P. and OCM Principal Opportunities Fund, L.P. (collectively, the “Principal Stockholders”), both Delaware limited partnerships, each acquired fifty shares of the common stock of InfraSource at a nominal purchase price. On September 24, 2003, pursuant to an Agreement and Plan of Merger dated June 17, 2003 (the “Merger”), InfraSource acquired InfraSource Incorporated and certain of its wholly owned subsidiaries (collectively, the “InfraSource Group” or “the Predecessor”). Immediately prior to the Merger, certain other subsidiaries of InfraSource Incorporated not acquired by InfraSource in the Merger (the “Non-Acquired Group”) were distributed to InfraSource Incorporated’s parent, Exelon Enterprises Company LLC, a wholly owned subsidiary of Exelon Corporation (“Exelon”). InfraSource and its wholly owned subsidiaries are referred to herein as “the Company.”  For a more detailed description of the Merger, see Note 3 to these financial statements. On May 12, 2004, the Company completed its initial public offering (“IPO”) of 8,500,000 shares of common stock (see Note 6).

The Company operates in one reportable segment as a specialty contractor serving the utility transmission and distribution infrastructure in the United States. The Company’s broad range of services include the design, engineering, procurement, construction, testing, maintenance, and leasing of utility infrastructure. The Company’s customers primarily include electric power utilities, natural gas utilities, government entities and heavy industrial companies, such as petrochemical, processing and refining businesses. Each of these services is provided by various Company subsidiaries all of which have been aggregated into one reportable segment due to their similar economic characteristics, customer bases, products and production and distribution methods. The Company operates in multiple service territories throughout the United States and does not have significant assets or operations outside of the United States.

The accompanying unaudited condensed consolidated financial statements reflect the financial position of the Company as of June 30, 2004 and December 31, 2003; the Company’s results of operations for the three and six months ended June 30, 2004; and the Company’s cash flows for the six months ended June 30, 2004. They also include the results of operations of the Predecessor for the periods March 22 to June 20, 2003 and January 1, 2003 to June 20, 2003, and the Predecessor’s cash flows for the period January 1, 2003 to June 20, 2003. The Company had no operating activity prior to acquiring the InfraSource Group in the Merger. Subsidiaries of the Predecessor not acquired in the Merger are reflected as discontinued operations in the accompanying financial statements of the Predecessor. During 2003, in order to meet the reporting deadlines of Exelon, each of the Predecessor’s first three fiscal quarters ended on March 21, June 20, and September 23, respectively. Beginning in 2004, each of the Company’s quarters will end on the last days of March, June, September and December. Accordingly, as a result of the change in quarter end, the six months ended June 30, 2004 contains ten additional days as compared to the prior-year period January 1, 2003 to June 20, 2003. The additional ten days would not have had a material effect on the Predecessor’s 2003 six-month period results. The Company has not adjusted the Predecessor six-month period results to reflect the effect of the additional ten days because it is impracticable to do so.

The accompanying condensed consolidated financial statements are unaudited and have been prepared in accordance with the rules and regulations of the U.S. Securities and Exchange Commission

5

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(“SEC”). These financial statements include all adjustments that we consider necessary for a fair presentation of financial position, results of operations and cash flows for the interim periods presented. Such adjustments consisted only of normal recurring items. The December 31, 2003 condensed consolidated balance sheet data were derived from audited financial statements, but do not include all disclosures required by accounting principles generally accepted in the United States of America. The results for interim periods are not necessarily indicative of results to be expected for a full year or future interim periods. These financial statements should be read in conjunction with the Company’s financial statements and related notes included in its Prospectus filed pursuant to Rule 424B1 (SEC File Number 333-112375) and contained in the related registration statement declared effective on May 6, 2004 (the “IPO Prospectus”).

2.   Recently Issued Accounting Pronouncements

In March 2004, the FASB’s Emerging Issues Task Force (EITF) reached consensus on Issue 03-6 EITF Issue No. 03-6, “Participating Securities and the Two-Class Method Under FASB Statement No. 128, Earnings Per Share”. This Issue is intended to clarify what is a participating security for purposes of applying SFAS 128, Earnings Per Share. The Issue also provides further guidance on how to apply the two-class method of computing earnings per share (EPS) once it is determined that a security is participating, including how to allocate undistributed earnings to such a security. The guidance in this Issue was effective for reporting periods beginning after March 31, 2004 and requires the restatement of previously reported EPS. Management has determined that options to purchase the Company’s stock do not constitute participating securities as defined by this Issue. We have adopted this Issue in the second quarter of 2004. The initial adoption of this Issue had no impact on the Company’s basic and diluted earnings per share for the three months and six months ended June 30, 2004 and Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003.

3.   Merger and Acquisitions

Merger:   On September 24, 2003, the Company acquired the InfraSource Group pursuant to an Agreement and Plan of Merger dated June 17, 2003. In connection with the Merger, the Company acquired all of the voting interests of InfraSource Incorporated for a total purchase price consideration of $228,614. Pursuant to the Merger, the Company entered into a new term loan and revolving credit facility providing for a term loan of $140,000 and a revolving credit facility of up to $40,000, with availability for letters of credit of $25,000. In addition, the Company issued a long-term subordinated note payable to Exelon, the former majority owner of InfraSource Incorporated, for $29,000. The proceeds of the term loans and the subordinated note, together with the issuance of 19,912,664 shares of Company’s common stock for cash of $91,500, were used to finance the redemption of all then-outstanding shares of InfraSource Incorporated common stock and to fund certain expenses related to the Merger. The value assigned to the common stock resulted from the negotiated transaction for the purchase of the InfraSource Group.

As a result of the Merger, the Company incurred $8,096 in related expenses on a pretax basis, including $6,344 of debt issuance costs which will be amortized over the lives of the respective debt instruments, and $1,752 in professional fees and filing costs. Preliminary goodwill of $68,584 recorded in connection with the Merger is subject to future adjustment based upon the outcome of certain estimates and contingencies including the valuation of certain specialty equipment acquired and the finalization of purchase price contingencies related to a working capital adjustment provision. The Company expects the valuation of the specialty equipment to be completed during the third quarter of 2004. Any adjustments resulting from the appraisals could result in an adjustment to goodwill, which amounts could be material. Intangible assets related to contracted volumes of work have been valued at $8,000. Both the goodwill and the intangible assets are deductible for tax purposes over 15 years. For the period January 1 through

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September 23, 2003, the InfraSource Group incurred $16,242 of expenses related to the Merger, including $10,553 of employee retention, severance and incentive costs, and $5,689 of advisory fees, legal, accounting and other professional costs. The amount of Merger expenses in the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003 were $1,816 and $1,931, respectively.

Also in connection with the Merger, the Company entered into a volume agreement with Exelon, pursuant to which the Company is assured a continuing level of business from Exelon through 2006, at approximately the same levels as in 2003.

In accordance with the terms of the Merger, the purchase price is subject to adjustment based upon the determination of adjusted working capital as of September 23, 2003. The contingent purchase price adjustment could ultimately result in additional amounts due either to the Company or to Exelon. The Company has included in its calculation of purchase price as goodwill an adjustment reflecting a payment to the Company of approximately $10,458. Exelon has informed the Company that Exelon believes the adjustment should result in a payment to Exelon in an amount of approximately $10,900. The Company and Exelon are in discussions to resolve the difference, and if unsuccessful will enter into a dispute resolution process. Any difference from the recorded amount will result in an adjustment to goodwill which could be material. The Company expects final resolution of this dispute to occur in the 3rd quarter of 2004.

Acquisition of Maslonka:   On January 27, 2004, the Company acquired all of the voting interests of Maslonka & Associates (“Maslonka”), a complementary infrastructure services business, for total purchase price consideration of $77,476, which included the issuance of 4,330,820 shares of the Company’s common stock. The final allocation of the purchase price is subject to a final working capital adjustment and final settlement of the holdback adjustments to the purchase price in accordance with the terms of the acquisition agreement. The Company expects the working capital adjustments to be finalized during the third quarter of 2004 and expects the holdback amount less any amounts retained by the Company will be released to the sellers in 2005 and 2006. Any adjustments resulting from the working capital adjustments and holdback adjustments could result in an adjustment to goodwill, which amounts could be material. The value of the shares issued to Maslonka stockholders was determined to be approximately $50,671. Under the terms of the holdback provision, the Company withheld $6,600 in cash payable at closing and 957,549 shares of common stock. Of the cash holdback amount, $5,500 is contingent upon Maslonka’s achievement of certain performance targets as well as satisfaction of any indemnification obligations owed to us, which may be set-off against all other portions of the holdback. The results of Maslonka are included in the Company’s consolidated results beginning January 27, 2004.

Additionally,at the time of the acquisition, Maslonka had an outstanding letter of credit collateralized with a $5,000 time deposit account provided by the Maslonka stockholders, which the Company acquired in the acquisition. The Company is required to reimburse the Maslonka stockholders an aggregate of approximately $5,000 within six months of the closing date. After giving effect to the holdback and the reimbursement of the time deposit account, the amount paid at closing was $26,700 in cash and 3,373,271 shares of the Company’s common stock. The Company financed the cash portion of the Maslonka acquisition with cash on hand and the issuance of 5,931,950 shares of the Company’s common stock to the Principal Shareholders and certain members of the Company’s management for cash of $27,522 (see Note 6).

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The preliminary aggregate purchase price for the Maslonka acquisition is as follows:

Cash paid to sellers, net of cash acquired		$	9,187
Transaction costs		600
Repayment of debt and capital leases		10,314
Equity issued to sellers		50,671
Liability to sellers for time deposit refund and prior income taxes paid		5,604
Liability to sellers for cash holdback for purchase price		1,100
Total purchase price consideration		$	77,476

 

The preliminary purchase price has been initially allocated to the assets acquired and liabilities assumed as follows:

Contract receivables		$	6,172
Costs and estimated earnings in excess of billings		6,437
Deferred tax asset		1,542
Other current assets		562
Property, plant & equipment		9,561
Goodwill		59,549
Intangible assets		11,500
Other non-current assets		5,319
Accounts payable and accrued expenses		(15,559		)
Long-term debt		(1,000		)
Deferred tax liability		(6,607		)
Total net assets acquired		$	77,476

 

Intangible assets consisting of construction backlog have been valued at $11,500 and will be amortized over the life of the related contracts which range from one to two years. The amortization of these intangible assets as well as the goodwill currently estimated at $59,549 will not be deductible for tax purposes.

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Pro Forma Financial Information:   The following table provides pro forma unaudited consolidated statements of operations data for the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003 as if the Merger and the acquisition of Maslonka had occurred as of January 1, 2003. It also provides a pro forma unaudited consolidated statement of operations data for the six months ended June 30, 2004 as if the acquisition of Maslonka had occurred as of January 1, 2004:

		For the Period March 22 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)						Six Months Ended June 30, 2004
Contract revenues			$	142,060				$	259,414					$	311,102
Income before income taxes			2,562					339						(30,313		)
Income (loss) from continuing operations			1,499					260						(17,885		)
Loss from discontinued operations			(4,846		)			(5,549		)				(71		)
Net loss			(3,347		)			(5,287		)				(17,956		)
Basic and diluted loss per common share:
Weighted average basic and diluted common shares outstanding			47,877					47,890						31,453
Basic and diluted loss per share			$	(0.07	)			$	(0.11	)				$	(0.57	)

 

The Predecessor’s historical results of operations for the periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003 have been adjusted to reflect the pro forma effects of the Merger. The principal adjustments include (1) the effects on depreciation expense (which is included in cost of revenues and selling, general and administrative expenses) resulting from changes in lives and book basis of certain fixed assets; (2) additional amortization of intangibles resulting from the Merger; and (3) related income tax effects of the previously mentioned adjustments. Additionally, the pro forma results of operations for all periods presented above have been adjusted to reflect Maslonka’s historical operating results prior to its acquisition on January 27, 2004 after giving effect to adjustments directly attributable to the transaction that are expected to have a continuing effect. Such adjustments include (1) amortization of intangible assets acquired in the acquisition and recorded in accordance with the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations,” and related income tax effects; (2) the elimination of interest expense resulting from the repayment of Maslonka debt and additional interest expense associated with a note issued to the seller and related income tax effects; and (3) the issuance of shares of the Company’s common stock to the sellers in the Maslonka acquisition and to the Principal Stockholders and certain executive officers to finance a portion of the purchase price.

The pro-forma results for the six month period ended June 30, 2004 include charges of $31,320 for deferred compensation expense and $1,473 for transaction related expenses related to the acquisition of Maslonka. The pro-forma results for the predecessor period January 1, 2003 to June 20, 2003 include a charge of $1,931 for expenses related to the Merger.

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4.   Intangible Assets

The Company’s intangible assets comprise the following:

		December 31, 2003					June 30, 2004
Goodwill			$	68,877			$	129,038
Intangible Assets:
Construction backlog			$	5,500			$	17,000
Accumulated amortization.			(2,100		)		(10,366		)
			3,400				6,634
Volume agreement			2,500				2,500
Accumulated amortization.			(500		)		(803		)
			2,000				1,697
Intangible assets, net			$	5,400			$	8,331

 

The increase in intangible assets during the six months ended June 30, 2004 reflects the preliminary purchase price allocation of the Maslonka acquisition. Amortization expense of the Company’s intangible assets was $4,022 and $8,569 during the three and six months ended June 30, 2004, respectively. There was no amortization expense recorded in the Predecessor’s results of operations. Our expected aggregate amortization expense of intangible assets for the next five fiscal years is as follows: 2004 - $14,000; 2005 - $2,100; 2006 - $800; 2007 - $0; and 2008 - $0.

Under SFAS No. 142, “Goodwill and Intangible Assets,” goodwill is subject to an assessment for impairment using a two-step fair value-based test, the first step of which will be performed at least annually, or more frequently if events or circumstances exist which indicate that goodwill may be impaired. The first step compares the fair value of a reporting unit to its carrying amount, including goodwill. If the carrying amount of the reporting unit exceeds its fair value, the second step is then performed. The second step compares the carrying amount of the reporting unit’s goodwill to the fair value of the goodwill. If the fair value of the goodwill is less than the carrying amount, an impairment loss would be recorded as a reduction to goodwill and a corresponding charge to operating expense. No provisions for goodwill impairments were recorded during the three or six months ended June 30, 2004 or the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003.

5.   Debt

On September 24, 2003, the Company entered into a senior credit facility consisting of a $140,000 term loan, which matures in 2010, and a $40,000 revolving credit facility, which matures in 2009. On January 22, 2004, the Company amended its senior credit facility to permit the acquisition of Maslonka and to obtain additional liquidity and operating flexibility, including expanding the Company’s capacity for making capital expenditures. As a result of the amendment, the commitment of the banks under the revolving credit facility was increased by $10,000 to $50,000, and the amount available for letters of credit was increased by $10,000 to $35,000.

Concurrent with the IPO, in order to provide for additional borrowing flexibility and to reduce its borrowing rates to reflect its improved financial position, the Company entered into an amended and restated credit agreement to, among other things, provide for a revolving credit facility in the original amount of $40,000 that may be increased to $85,000 and to provide a term loan facility in the initial amount of $85,310 which represented the amount of term loans outstanding under the senior credit facility at May 12, 2004 after giving effect to the mandatory prepayment of $50,200 of such loans in conjunction with the IPO (see Note 6). A portion of the revolving credit facility not in excess of 80% of the amount thereof may be used for the issuance of letters of credit. Term loans and revolving loans under the

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amended and restated credit agreement initially bear interest, at the Company’s option, at the bank’s prime interest rate plus a spread of 2.00% or LIBOR plus a spread of 3.00%. Beginning in 2005, such interest rate spreads will be dependent upon the Company’s Consolidated Leverage Ratio, as defined in the amended and restated credit agreement, and range from 1.50% to 3.50% for revolving loans and 1.75% to 3.00% for term loans. At June 30, 2004, the Company had no borrowings under the revolving credit facility and outstanding letters of credit in the amount of $27,745. As of July 31, 2004, the Company had commitments under its revolving credit facility totaling $85,000.

The Company’s amended and restated credit agreement contains certain restrictive covenants, including minimum levels of net worth, interest coverage, fixed charge coverage and leverage ratios, among other restrictions. As of June 30, 2004, the Company was in compliance with all terms and conditions of the amended and restated credit agreement.

Concurrent with the closing of the IPO, the Company was required to repay its $30,000 subordinated note with Exelon. Because the carrying amount of the Exelon note was recorded at a discount to reflect the fair value based upon applicable market rates for similar securities, the Company recorded a loss on the early extinguishment of this debt in the amount of $5,682 which is reflected in the Company’s results of operations for the three and six months ending June 30, 2004.

6.   Initial Public Offering and Shareholders’ Equity

On May 12, 2004, the Company completed its IPO of 8,500,000 shares of common stock at a price to the public of $13 per share. The net proceeds of the offering to the Company of approximately $100,800, after deducting underwriters’ discounts and estimated offering expenses, were used by the Company as follows:  (1) $50,200 was used to repay a portion of term loans outstanding under our senior credit facility; (2)  $30,000 was used to repay the principal amount of our subordinated note with Exelon; and (3) the remaining proceeds of approximately $20,600 were retained for general corporate purposes.

At inception, the Board of Directors of InfraSource Incorporated authorized 150,000,000 shares of InfraSource Incorporated’s common stock with a par value of $.0001 per share. Common shares outstanding as of September 23, 2003 were redeemed in connection with the Merger. At inception of the Company, the Board of Directors of the Company authorized 2,500,000 shares of common stock with a par value of $.001 per share. On March 24, 2004, the Board of Directors authorized an approximate 21.7625-to-one stock split and an increase in the authorized common stock from 2,500,000 shares to 120,000,000 shares. Par value of the common stock remained at $.001 per share. The effect of the stock split has been retroactively reflected in the Company’s accompanying financial statements, and all applicable references as to the number of common shares and per share information have been restated.

At inception, the Board of Directors of InfraSource Incorporated authorized 20,000,000 shares of InfraSource Incorporated’s preferred stock with a par value of $.0001 per share. On September 23, 2003 in anticipation of the Merger, InfraSource Incorporated issued one share of preferred stock to Exelon for $4,100. In connection with the Merger, on September 24, 2003, Exelon exchanged this share of preferred stock, along with other consideration included in the Merger Agreement including certain indemnifications provided by Exelon and a volume agreement, for a $29,000 subordinated note issued by the Company. At inception of the Company, the Company had no authorized shares of preferred stock. On March 24, 2004, the Board of Directors of the Company authorized an increase in the authorized preferred stock from 0 shares to 12,000,000 shares with a par value of $0.001 per share.

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The following table presents Shareholders’ equity activity for the six months ended June 30, 2004:

		Common Stock							Additional Paid-In			Accumulated Other Comprehensive					Retained Earnings
		Shares		Amount					Capital			Income/(Loss)					(Deficit)					Total
Balance as of December 31, 2003		19,914,840			$	20			$	91,480			$	14				$	1,335			$	92,849
Common Stock issued:
Acquisition of Maslonka		4,330,820			4				50,667													50,671
Company management		37,367							437													437
Principal shareholders		5,894,583			6				27,079													27,085
Initial public offering		8,500,000			9				100,827													100,836
Fair market value adjustments on derivatives, net of tax													399									399
Net loss																		(955		)		(955		)
Balance as of June 30, 2004		38,677,610			$	39			$	270,490			$	413				$	380			$	271,322

 

In connection with the funding of the acquisition of Maslonka in January 2004, the Company offered to sell 5,931,950 shares of common stock to all of the then-existing shareholders at a price of $4.60 per common share. Shares issued pursuant to this offer are reflected in the table above under the captions Company management and Principal Stockholders. As a result of the issuance of these shares to Company management,  the Company recorded pre-tax compensation expense of $265 representing the difference between the fair value and the purchase price on the date of sale, which amount is reflected in selling, general and administrative expenses in the condensed consolidated statement of operations for the six months ended June 30, 2004.

During the three months ended March 31, 2004, certain members of the Company’s management and Board of Directors consummated early exercises of unvested stock option awards representing a total of 489,547 shares of common stock. Pursuant to the terms of the related stock option agreements, the Company has the option to repurchase these shares prior to the date they vest at the original strike price of the option grant. In accordance with the provisions of Emerging Issues Task Force No. 00-23, “Issues Related to the Accounting for Stock Compensation under APB Opinion No. 25 and FASB Interpretation No. 44,” these shares are not considered outstanding for accounting purposes and are not included in the calculation of basic earnings per share until shares issued pursuant to these option grants vest. Until such shares vest in accordance with the terms of the option grant, the net proceeds from the early exercise of these option grants, which totaled $2,251 at June 30, 2004, are included in other long-term liabilities in the condensed consolidated balance sheet.

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7.   Computation of Per Share Earnings

The following table is a reconciliation of the numerators and denominators of the basic and diluted earnings (loss) per share computation. Common shares used in the Predecessor earnings per share computation represent shares of InfraSource Incorporated outstanding during the periods March 22 to June 20, 2003 and January 1, 2003 to June 20, 2003. Such shares outstanding as of September 23, 2003 were redeemed in conjunction with the Merger.

		For the Period March 22 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					Three Months Ended June 30, 2004					For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					Six Months Ended June 30, 2004
Income (loss) from continuing operations (numerator)			$	3,253				$	(1,954	)			$	4,256				$	(884	)
Loss from discontinued operations			(4,846		)			(72		)			(5,547		)			(71		)
Net loss			$	(1,593	)			$	(2,026	)			$	(1,291	)			$	(955	)
Weighted average basic and diluted common shares outstanding (denominator)			47,877,000					34,755,000					47,890,000					31,453,000

 

For each of the Predecessor periods presented above there were 1,042,200 shares under option grants excluded from the calculations of diluted earnings per share as the effect of these options would have been anti-dilutive.

For the three-and-six months ended June 30, 2004, 1,067,000 and 1,041,000 shares under option grants were excluded from the calculations of diluted earnings per share as the effect of these options would have been anti-dilutive.

8.   Stock-Based Compensation

The Company has a stock-based employee compensation plan and, prior to the Merger, the Predecessor had a stock-based employee compensation plan. In anticipation of the Merger, as of September 18, 2003, all of the Predecessor’s outstanding common stock options were canceled for nominal consideration. As permitted by SFAS No. 123, “Accounting for Stock-Based Compensation,” the Company and the Predecessor account for stock-based compensation in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations (“APB 25”). Under APB 25, the Company recognizes no compensation expense related to employee stock options unless options are granted at a price below the market price on the day of the grant.

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Had the Company and the Predecessor applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation, net loss and basic and diluted loss per share would have been as follows:

		For the Period March 22 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					Three Months Ended June 30, 2004					For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					Six Months Ended June 30, 2004
Net loss, as reported			$	(1,593	)			$	(2,026	)			$	(1,291	)			$	(955	)
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects			(117		)			(171		)			(235		)			(386		)
Add: Total stock-based employee compensation expense, net of related tax effects included in the determination of net income as reported			—					18					—					178
Pro forma loss			$	(1,710	)			$	(2,179	)			$	(1,526	)			$	(1,163	)
Basic and diluted loss per share:
Basic loss per share—as reported			$	(0.03	)			$	(0.06	)			$	(0.03	)			$	(0.03	)
Basic loss per share—pro forma			(0.04		)			(0.06		)			(0.03		)			(0.04		)
Diluted loss per share—as reported			(0.03		)			(0.06		)			(0.03		)			(0.03		)
Diluted loss per share—pro forma			(0.04		)			(0.06		)			(0.03		)			(0.04		)

 

9.   Concentration of Credit Risk

We derive a significant portion of our revenues from a small group of customers. Our top ten customers accounted for approximately 53% and 54% of our consolidated revenues for the three and six months ended June 30, 2004, respectively. Our top ten customers accounted for approximately 45% and 48% of our consolidated revenues for the Predecessor periods March 22 to June 20, 2003 and January 1 to June 20, 2003, respectively. Our top two customers in 2004, Exelon and Western Area Power Administration (“WAPA”), accounted for approximately 20% and 13% of our consolidated revenues for the three months ended June 30, 2004, and 20% and 17% for the six months ended June 30, 2004, respectively. For the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003, the only customer that provided more than 10% of our consolidated revenues, Exelon, represented approximately 13% of consolidated revenues in each period.

At June 30, 2004, accounts receivable due from Exelon and WAPA totaled $23,858 and $11,538, or 28% and 14%, respectively, of our total accounts receivable balance outstanding. At December 31, 2003, accounts receivable due from Exelon totaled $14,617, or approximately 16% of total accounts receivable, and additionally one other customer represented $9,563 or 11% of accounts receivable.

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10.   Comprehensive Loss

The following table presents the components of comprehensive loss for the periods presented:

		For the Period March 22 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)						Three Months Ended June 30, 2004					For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)						Six Months Ended June 30, 2004
Net loss			$	(1,593	)				$	(2,026	)			$	(1,291	)				$	(955	)
Other comprehensive (loss) income			—						835					(75		)				399
Comprehensive loss			$	(1,593	)				$	(1,191	)			$	(1,366	)				$	(556	)

 

During the period January 1, 2003 to June 20, 2003, the Predecessor recognized other comprehensive loss of $75 associated with a foreign currency translation adjustment recorded prior to 2001, due to non-recoverability from foreign operations. Other comprehensive income during the three and six months ended June 30, 2004 comprises changes in the fair value of interest rate cap and swap agreements designated and qualifying as cash flow hedges under the provisions of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”), as amended by SFAS Nos. 137, 138 and 149, net of reclassifications to net income.

11.   Related Party Transactions

On October 6, 1999, the InfraSource Group entered into a services agreement (“Services Agreement”) with Exelon for Exelon to provide certain services, including contracting for employees, financial and accounting services, payroll services, office and equipment leases and other administrative and support services. The scope of these services was reduced each year of the agreement. This agreement was effective for a period of 12 months commencing in October of each year and was renewable at both parties’ discretion. The InfraSource Group, through InfraSource Corporate Services, Inc., was charged $355 and $899 for these services for the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003, respectively. Pursuant to the Merger, this Services Agreement was terminated.

The InfraSource Group has several service contracts with Exelon and performs work of various services including utility construction and maintenance, telecommunications and infrastructure services on an outsourced basis to business and residential customers. Certain operating assets and liabilities of the Non-Acquired Group, including certain operating agreements (the “Operating Agreements”) with Exelon, were transferred to the InfraSource Group as of January 1, 2003, with operating results related to the operating agreements reflected in the accompanying consolidated statement of operations beginning with the date of transfer. Under the Operating Agreements, the Company performs infrastructure services on an outsourced basis to business and residential customers. Each operating agreement has an annual term ending on December 31 which automatically renews each year unless formally terminated by Exelon. The services are earned from Exelon at a rate that is intended to approximate market value. Revenues charged to Exelon under these contracts for the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003 were $7,509 and $14,106, respectively. These Operating Agreements remained in place following the Merger. On January 29, 2004, Exelon relinquished its sole seat on the Company’s Board of Directors and ceased to be a related party at that time. Revenues from Exelon for the period January 1 through January 29, 2004 (the date it ceased to be a related party) were $7,569.

In addition to the Operating Agreements, revenues for the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003 related to contracts with Exelon were $10,490 and

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$17,572, respectively. Accounts receivable related to all revenues due from Exelon were $14,617 at December 31, 2003.

In March 2004, after receiving approval from the required parties, the Company distributed $7,218 of property and equipment that pursuant to the original terms of a purchase agreement with Blair Park Services, Inc. (“Blair Park”), an infrastructure services business acquired in 2001, were owed to three officers of Blair Park. The corresponding liability related to these assets is reflected in other liabilities—related parties in the December 31, 2003 condensed consolidated balance sheet.

In connection with the Maslonka acquisition, our Principal Stockholders secured the issuance of $10,000 worth of letters of credit. These letters of credit were provided as credit support to enable Maslonka to secure a performance bond on a new project award. After consummation of the Maslonka acquisition, we caused the letters of credit to be terminated. We paid an aggregate fee of $200 to the Principal Stockholders for providing this security.

We lease our Maslonka headquarters in Mesa, Arizona and our Maslonka Texas field office in San Angelo, Texas from EC Source, LLC, which is wholly owned by Martin Maslonka, one of our shareholders. Our leases for these two properties will run through February 2009, subject to a five-year renewal option. Pursuant to these leases, we will incur total annual lease payments of $168.

Maslonka is the issuer of a $1,000 installment promissory note in favor of Martin Maslonka. The promissory note bears interest at an annual rate of 8.5%, and interest is payable in equal monthly payments of $7. The promissory note matures on June 30, 2006.

12.   Commitments and Contingencies

On February 7, 2003, Rahsanne Bickmann filed suit in the Travis County District Court in Texas State Court against Maslonka and one employee alleging, among other things, gross negligence and seeking approximately $24,000 in actual and compensatory damages arising out of the death of her son. On October 27, 2003, the father of the deceased, Kevin Sam, Sr., filed suit in Taylor County Texas District Court seeking unspecified damages. The claims arose out of an automobile accident that took place on December 1, 2002 on an interstate highway in Texas and resulted in death. In February 2004, Rahsanne Bickman’s claims were resolved through an out of court settlement fully funded by insurance proceeds (less a $10 deductible). The dismissal order was entered on March 25, 2004. The claims of Kevin Sam, Sr. have been docketed for trial on December 13, 2004.

In January 2004, a judgment was entered against InfraSource in Superior Court of Fulton County, Georgia in the amount of $3,785, including $3,190 in punitive damages. The jury verdict upheld allegations by the plaintiff that in 1999 InfraSource Incorporated (formerly known as Exelon Infrastructure Services, Inc.) had fraudulently induced the plaintiff to incur expenses in connection with a proposed business acquisition that was never consummated. We filed a notice of appeal on February 19, 2004, and the plaintiff filed a notice of cross-appeal on March 2, 2004. Pursuant to the appellate court’s May 28, 2004 Notice of Docketing, we filed a brief supporting our appeal on June 17, 2004. All briefings were completed on July 22, 2004, with oral arguments scheduled for October 13, 2004.

In addition, pursuant to our service contracts, we also generally indemnify our customers for the services we provide thereunder. Furthermore, because our services are integral to the operation and performance of the electric power transmission and distribution infrastructure, we may become subject to lawsuits or claims for any failure of the systems that we work on, even if our services are not the cause for such failures, and we could be subject to civil and criminal liabilities to the extent that our services contributed to any property damage or blackout. The outcome of these proceedings could result in significant costs and diversion of management’s attention to our business. Payments of significant amounts, even if reserved, could adversely affect our reputation and liquidity position.

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From time to time, we are a party to various other lawsuits, claims and other legal proceedings that arise in the ordinary course of our business. These actions typically seek, among other things, compensation for alleged personal injury, breach of contract, property damage, punitive damages, civil penalties or other losses, or injunctive or declaratory relief. With respect to such lawsuits, claims and proceedings, we accrue reserves when it is probable a liability has been incurred and the amount of loss can be reasonably estimated. We do not believe any of these proceedings currently pending, individually or in the aggregate, would be expected to have a material adverse effect on our results of operations, or our cash flows, or on our financial condition.

13.   Discontinued Operations

Subsidiaries of the Predecessor not acquired in the Merger are reflected as discontinued operations in the accompanying Predecessor’s statements of operations and cash flows. During 2003, subsequent to the Merger, the Company committed to a plan to sell substantially all of the assets of OSP Consultants, Inc. and subsidiaries (“OSP”). In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the financial position, results of operations and cash flows of OSP are reflected as discontinued operations in the Company’s accompanying financial statements for the three and six month periods ended June 30, 2004 but are not included in discontinued operations for the Predecessor periods March 22, 2003 to June 20, 2003 and January 1, 2003 to June 20, 2003.

On August 3, 2004, the Company entered into an asset purchase agreement to sell the assets of RJE Telecom, Inc. (“RJE”), a wholly owned subsidiary of OSP, for $6.5 million. RJE holds substantially all the operating assets of OSP.

The following table presents the balance sheet and statement of operations information for the previously mentioned discontinued operations:

Balance sheet information:

		December 31, 2003					June 30, 2004
Contract receivables, net			$	2,656			$	3,745
Property and equipment, net			355				355
Other, net			1,646				132
Total assets			$	4,657			$	4,232
Accounts payable and other liabilities			$	—			$	521
Total liabilities			—				521
Net assets			$	4,657			$	3,711

 

Income statement information:

		For the Period March 22 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					Three Months Ended June 30, 2004					For the Period January 1 to June 20, 2003 (Predecessor entity— InfraSource Incorporated and Subsidiaries) (Note 1)					Six Months Ended June 30, 2004
Contract revenues			$	47,710				$	7,267				$	105,977				$	12,329
Pre-tax loss			$	(7,532	)			$	(127	)			$	(8,705	)			$	(125	)

 

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14.   Subsequent Events

EnStructure Acquisition

On July 30, 2004, the Company entered into an asset purchase agreement with SEMCO ENERGY, Inc. to acquire substantially all of the assets and certain liabilities of EnStructure, SEMCO ENERGY’s construction services business, for a cash purchase price of $20.8 million, subject to certain purchase price adjustments. EnStructure, headquartered in Michigan, provides construction services within the utilities and oil and gas markets throughout the Midwestern, Southern and Southeastern regions of the United States. In 2003, EnStructure had annual revenues of approximately $75 million. This acquisition is expected to close during the third quarter of 2004, and the Company expects to fund the acquisition with available cash and, if necessary, additional borrowings under its senior credit facility.

Utili-Trax Acquisition

On August 4, 2004, the Company entered into an asset purchase agreement with Connexus Energy to acquire its construction business, Utili-Trax, for a cash purchase price of $5.3 million, subject to certain purchase price adjustments. Utili-Trax, headquartered in Minnesota, provides underground and overhead construction services for electric cooperatives and municipal utilities throughout the upper Midwest. In 2003, Utili-Trax had annual revenues of approximately $10 million. This acquisition is expected to close during the third quarter of 2004, and the Company expects to fund the acquisition with available cash and, if necessary, additional borrowings under its senior credit facility.

Disposition of RJE

On August 3, 2004, the Company entered into an asset purchase agreement to sell the assets of RJE for a cash purchase price of approximately $6.5 million, subject to certain purchase price adjustments. RJE is a wholly owned subsidiary of OSP Consultants, Inc., which is reflected in the accompanying financial statements as discontinued operations as of December 2003. This transaction is expected to close during the third quarter of 2004.

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