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 QUARTER ENDED MARCH 31, 2002
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
Commission File Number 1-13270
FLOTEK INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
Delaware 77-0709256
(State or other jurisdiction of incorporation) (I.R.S. Employer
Identification Number)
7030 Empire Central Drive, Houston TX 77040
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (713) 849-9911
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 and 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 [x] No [_]
The number of shares of the Registrant's common stock outstanding on May 14,
2002 was 4,910,812.
Transitional Small Business Disclosure Format (check one):
Yes [_] No [x]
PART I
Item 1 - Financial Information
FLOTEK INDUSTRIES, INC.
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
2002 2001
----------------- ------------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents........................................... $ 45,238 $ 240,438
Accounts receivable, less reserve of $182,800 and $208,333, as of
March 31, 2002 and December 31, 2001, respectively................ 3,189,903 2,189,566
Inventories and work in progress.................................... 3,314,329 3,704,153
Other current assets................................................ 67,144 24,735
--------- ---------
Total current assets........................................... 6,616,614 6,158,892
--------- ---------
Property and equipment, net............................................ 4,173,413 3,671,939
Goodwill, net.......................................................... 13,319,090 13,111,840
Patents and other intangibles, net..................................... 295,657 191,333
Other assets........................................................... 53,589 87,253
---------- ----------
Total assets.................................................. $24,458,363 $23,221,257
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................................... $ 2,020,181 $ 2,225,219
Accrued liabilities................................................ 240,801 722,910
Amounts due to related parties..................................... 120,839 132,855
Notes payable...................................................... 2,711,790 1,282,966
Current portion of long-term debt.................................. 1,052,731 876,737
Capital lease obligations, current portion......................... 15,909 633,894
--------- ---------
Total current liabilities..................................... 6,162,251 5,874,581
--------- ---------
Long-term debt........................................................ 2,997,103 3,339,970
Capital lease obligations, long-term.................................. 1,369,591 -
Stockholders' equity:
Preferred stock, $.0001 par value, 100,000 shares authorized, no
shares issued................................................. - -
Common stock, $.0001 par value, 20,000,000 shares authorized,
4,910,812 and 4,850,696 shares issued
and outstanding as of March 31, 2002 and
December 31, 2001, respectively............................... 491 485
Additional paid-in capital........................................ 15,762,346 15,572,886
Accumulated deficit............................................... (1,833,419) (1,566,665)
---------- ----------
Total stockholders' equity.................................... 13,929,418 14,006,706
---------- ----------
Total liabilities and stockholders' equity.................... $24,458,363 $23,221,257
========== ==========
The accompanying notes are an integral part of these statements.
2
FLOTEK INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
For the Three Months Ended March 31,
------------------------------------
2002 2001
---------------- ---------------
Revenues...................................................... $ 3,659,583 $ 2,689,681
Cost of revenues.............................................. 2,098,813 1,557,185
--------- ---------
Gross margin.................................................. 1,560,770 1,132,496
--------- ---------
Expenses:
Selling, general and administrative....................... 1,583,730 1,253,740
Depreciation and amortization............................. 148,545 135,429
Research and development.................................. 4,542 1,056
--------- ---------
Total expenses......................................... 1,736,817 1,390,225
--------- ---------
Loss from operations.......................................... (176,047) (257,729)
Other income (expense):
Interest expense.......................................... (92,428) (93,059)
Interest income........................................... - 24,858
Other, net................................................ 1,721 44,101
-------- -------
Total other income (expense)........................... (90,707) (24,100)
-------- -------
Net loss...................................................... $ (266,754) $ (281,829)
========= =========
Basic and diluted net loss per common share................... $ (.055) $ (.113)
========= =========
Weighted average number of shares outstanding................. 4,892,301 2,501,326
========= =========
The accompanying notes are an integral part of these financial statements.
3
FLOTEK INDUSTRIES, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(Unaudited)
Additional
Common Stock Paid-in Accumulated
Shares Amount Capital Deficit Total
Balance at December 31, 2001........... 4,850,696 $ 485 $15,572,886 $(1,566,665) $14,006,706
Common stock issued in acquisitions 60,116 6 189,460 - 189,466
Net loss............................... - - - (266,754) (266,754)
--------- ----- ---------- ---------- ----------
Balance at March 31, 2002.............. 4,910,812 $ 491 $15,762,346 $(1,833,419) $13,929,418
========= ===== ========== ========== ==========
The accompanying notes are an integral part of these financial statements.
4
FLOTEK INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the Three Months Ended March
31,
------------------------------------
2002 2001
----------------- ----------------
Cash flows from operating activities:
Net loss.................................................... $ (266,754) $ (281,829)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization........................... 148,545 135,429
Gain on sale of assets.................................. - (38,963)
(Increase) decrease in:
Accounts receivable................................... (1,000,337) (601,330)
Inventories and work in progress...................... 389,824 119,656
Other current assets.................................. (42,409) (5,978)
Accounts payable and accrued liabilities............. (687,147) 641,636
--------- --------
Net cash used in operating activities (1,458,278) (31,379)
--------- --------
Cash flows from investing activities:
Acquisition of subsidiaries, net............................ (122,250) (6,271,258)
Capital expenditures........................................ (650,019) (12,744)
Proceeds from sales of assets............................... - 243,536
Deposits and other.......................................... 33,806 (46,000)
--------- ---------
Net cash used in investing activities............... (738,463) (6,086,466)
--------- ---------
Cash flows from financing activities:
Issuance of stock for cash.................................. - 4,112,000
Proceeds from borrowings.................................... 1,653,614 2,314,277
Proceeds from sale/leaseback transaction.................... 761,000 -
Repayments of indebtedness.................................. (391,663) (43,452)
Proceeds from (payments to) related parties................. (12,016) (149,491)
Principal payments on capital leases........................ (9,394) (3,000)
--------- ---------
Net cash provided by financing activities............ 2,001,541 6,230,334
--------- ---------
Net increase (decrease) in cash and cash equivalents............. (195,200) 112,489
Cash and cash equivalents - beginning of period.................. 240,438 1,293,142
--------- ---------
Cash and cash equivalents - end of period........................ $ 45,238 $1,405,631
========= =========
The accompanying notes are an integral part of these financial statements.
5
FLOTEK INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Continued)
For the Three Months Ended March 31,
---------------------------------------
2002 2001
------------------ -----------------
Supplemental schedule of noncash investing and financing activities:
Land and building acquired under capital lease................ $ - $ 630,794
========= =========
Supplemental disclosures of cash flow information:
Acquisition of subsidiaries:
Assets (liabilities) acquired:
Cash....................................................... $ - $ 224,584
Accounts receivable........................................ - 1,104,156
Inventories and work in progress........................... - 1,240,307
Other current assets....................................... - 9,080
Property and equipment..................................... - 1,418,879
Marketable securities...................................... - 204,573
Patents and other intangibles.............................. 104,466 -
Goodwill................................................... 207,250 6,704,587
Other assets............................................... - 21,770
Debt....................................................... - (495,829)
Accounts payable and accrued liabilities................... - (936,265)
--------- ---------
311,716 9,495,842
Common stock issued......................................... (189,466) (1,600,000)
Promissory notes issued..................................... - (1,400,000)
--------- ---------
Net cash paid to sellers and transaction costs............ $ 122,250 $ 6,495,842
========= =========
Cash paid for interest........................................ $ 92,428 $ 93,059
========= =========
5
FLOTEK INDUSTRIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 - General
The consolidated condensed financial statements included herein are unaudited
and have been prepared by Flotek Industries, Inc. (the "Company") pursuant to
the rules and regulations of the Securities and Exchange Commission. Certain
information relating to the Company's organization and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles has been condensed or omitted in this Form 10-QSB
pursuant to such rules and regulations. These financial statements reflect all
adjustments which the Company considers necessary for the fair presentation of
such financial statements for the interim periods presented and the Company
believes that the disclosures included herein are adequate to make the interim
information presented not misleading. These financial statements should be read
in conjunction with the audited consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-KSB for the year
ended December 31, 2001. The results of operations for interim periods are not
necessarily indicative of the results expected for the full year.
Note 2 - Acquisitions
In January 2002, the Company issued 26,116 shares of common stock to the former
shareholders of Material Translogistics, Inc. ("MTI"). Under the original
acquisition agreement, which had an effective date of June 29, 2001, the
shareholders of MTI could receive up to 52,232 additional shares of common
stock, contingent upon the execution of two future contracts. One of these
contracts became effective in January 2002 and the shares issued above relate to
that contract. The other contract had not been executed as of March 31, 2002.
On February 19, 2002, the Company acquired 100% of the common stock of IBS 2000,
Inc. ("IBS"), a Denver-based company engaged in the development and
manufacturing of environmentally neutral chemicals for the oil industry. IBS is
in the development stage and has had limited operating history. The Company paid
$100,000 in cash and issued 34,000 shares of common stock to acquire IBS.
Including legal and other transaction costs, the acquisition resulted in the
recording of approximately $197,000 of goodwill and other intangibles.
Note 3 - Accounts Receivable
At March 31, 2002, the Company had approximately $1,794,000 of accounts
receivable from a customer in Venezuela, of which $966,000 arose from goods
shipped in the first quarter of 2002 and $828,000 was recorded prior to December
31, 2001. As a result of political instability and work disruptions in the
country, these amounts have not been paid within the customary payment terms for
this customer and no payments have been received since September 2001. The
ultimate customer for these goods is PDVSA, the national oil company of
Venezuela. Our customer holds a contract to deliver over $5 million of our
proprietary products to PDVSA during the next three years. However, PDVSA has
delayed acceptance of the majority of the goods shipped until its field
operations return to higher activity levels. Our customer is unable to pay for
the goods until payment has been received from PDVSA. We have been informed that
activity levels are returning to previous levels and we expect a resumption of
product receipts and payments by PDVSA during the second quarter of 2002. The
Company has an established long-term relationship with this customer and
believes that it will ultimately collect the balance due, but cannot accurately
predict the timing of future payments. The Company has not provided a reserve
for doubtful accounts associated with this balance.
6
Note 4 - Inventories and Work in Progress
Inventories consist of raw materials, finished goods and parts and materials
used in manufacturing and construction operations. Finished goods inventories
include raw materials, direct labor and production overhead. Inventories are
carried at the lower of cost or market using the average cost method. The
Company maintains a reserve for impaired or obsolete inventory, which is
reviewed for adequacy on a periodic basis. Work in progress consists of
percentage of completion revenues recognized in excess of customer billings plus
any provision for estimated losses on contracts. The components of inventories
and work in progress at March 31, 2002 and December 31, 2001 were as follows:
March 31, December 31,
2002 2001
------------------ ------------------
Raw materials...................................... $ 392,214 $ 496,332
Finished goods..................................... 1,823,109 1,856,011
Manufacturing parts and materials.................. 629,667 708,036
Work in progress................................... 775,190 1,000,799
Inventory valuation reserve........................ (305,851) (357,025)
--------- --------
Inventories and work in progress, net......... $ 3,314,329 $ 3,704,153
========= =========
Note 5 - Property and Equipment
At March 31, 2002 and December 31, 2001, property and equipment were comprised
of the following:
March 31, December 31,
2002 2001
------------------ ------------------
Land $ 138,700 $ 145,000
Buildings and leasehold improvements............... 2,206,226 2,114,878
Machinery and equipment............................ 1,121,990 1,128,894
Construction in progress........................... 484,149 -
Furniture and fixtures............................. 67,936 135,937
Transportation..................................... 566,244 456,794
Computer equipment................................. 90,451 77,436
--------- ---------
Total property and equipment................... 4,675,696 4,058,939
Less accumulated depreciation..................... 502,283 387,000
--------- ---------
Net property and equipment.................... $ 4,173,413 $ 3,671,939
========= =========
Note 6 - Goodwill
Goodwill represents the excess of cost over the fair value of net assets of
companies acquired in business combinations accounted for using the purchase
method. Goodwill acquired in business combinations prior to June 30, 2001 had
been amortized using the straight-line method over an estimated useful life of
20 years. In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS
No. 141 requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001. SFAS No. 142 requires that goodwill
no longer be amortized but instead be reviewed periodically for possible
impairment. The Company has adopted SFAS No. 142 effective January 1, 2002 and
will no longer amortize goodwill. Goodwill amortization expense during the three
months ended March 31, 2001 was approximately $87,000.
7
Under SFAS 142, the Company must complete its initial assessment of goodwill for
possible impairment no later than December 31, 2002. This impairment test is
required to be performed for each reporting segment. As of March 31, 2002, the
Company had net goodwill of approximately $1.3 million attributable to its
Equipment Manufacturing segment. This segment has experienced significant
operating losses in recent periods and may be subject to impairment under SFAS
142. However, the Company and has not reached a final determination of any
potential impairment of goodwill at this time. Additionally, the Company will
also assess the goodwill associated with the other segments for potential
impairment under SFAS 142, although the other segments have been profitable.
Note 7 - Capital Lease Obligation
On February 28, 2002, the Company sold its rights and obligation to purchase the
land and buildings covered by a capital lease obligation, together with capital
improvements to the property totaling approximately $750,000, to Oklahoma
Facilities, LLC ("Facilities"). An officer of the Company has a minority
investment interest in and is an officer of Facilities. The total consideration
at closing was $1,400,000, with net cash proceeds to the Company of $761,000.
The transaction did not generate any gain or loss. The Company simultaneously
entered into a lease agreement with Facilities under which it is obligated to
pay average rent of $18,000 per month for a fixed term of ten years. The Company
has the right to buy the property at any time during the first two years of the
lease for a fixed price of $1,400,000. The Company also has the option to
purchase the building for a fixed price of $420,000 at the end of the ten-year
lease term.
Note 8 - Notes Payable
Notes payable at March 31, 2002 and December 31, 2001 consisted of the
following:
March 31, December 31,
2002 2001
---- ----
Revolving line of credit, secured by accounts receivable and inventory,
bearing interest at the prime rate plus 1.25%, due in May 2002, with
maximum borrowings of $1,414,020 (1)................................... $ 1,414,020 $ 1,252,966
Revolving line of credit, secured by accounts receivable and inventory,
bearing interest at the prime rate plus 1.25%, due in January 2003,
with maximum borrowings of $1,608,100 (2).............................. 1,267,770 -
Other notes payable...................................................... 30,000 30,000
--------- ---------
Total notes payable.................................................... $ 2,711,790 $ 1,282,966
========= =========
(1) Limited to a borrowing base amount calculated as 60% of eligible accounts
receivable and inventory.
(2) Limited to a borrowing base amount calculated as 50% of eligible accounts
receivable and inventory.
8
Note 9 - Long-Term Debt
Long-term debt at March 31, 2002 and December 31, 2001, consisted of the
following:
March 31, December 31,
2002 2001
---- ----
Notes payable to shareholders of acquired businesses, unsecured, bearing
interest at 9% payable quarterly, due in five annual installments of
$200,000 each beginning January 2002................................. $ 800,000 $ 1,000,000
Note payable to bank, bearing interest at the prime rate plus 1%, payable
in monthly installments of $39,812 including interest, due in January
2008 2,356,315 2,439,532
Note payable to bank, bearing interest at the prime rate plus 1%, payable
in monthly installments of $14,823 including interest, due in
September 2004....................................................... 426,074 464,538
Construction loan payable to bank, bearing interest at the prime rate plus
1%, payable in monthly installments of $25,923 including interest, due
in January 2005...................................................... 173,840 -
Mortgage note on property, bearing interest at 10%, payable in monthly
installments of $1,451 including interest, with final payment of
$111,228 due in December 2002........................................ 114,413 115,877
Notes payable to Duncan Area Economic Development Foundation, unsecured,
interest at 6%, payable in monthly installments of $1,934 including
interest, due in May 2006............................................ 83,111 87,620
Secured vehicle and other equipment loans................................. 96,081 109,140
--------- ---------
Total................................................................ 4,049,834 4,216,707
Less current maturities.............................................. 1,052,731 876,737
--------- ---------
Long-term debt................................................... $ 2,997,103 $ 3,339,970
========= =========
The revolving lines of credit and bank notes payable are owed to the Company's
primary lending bank and are secured by substantially all of the assets of the
Company. They have also been personally guaranteed by an officer of the Company.
The construction loan payable has a maximum availability of $854,350 and is
designated for the construction of a bulk material transload facility in
Raceland, Louisiana. Of such available amount, $224,790 had been advanced and
$50,950 had been repaid as of March 31, 2002.
Note 10 - Net Loss Per Common Share
Net loss per common share is calculated by dividing net loss attributable to
common shareholders by the weighted average number of common shares outstanding.
Dilutive loss per share is calculated by dividing net loss attributable to
common shareholders by the weighted average number of common shares and dilutive
potential common shares outstanding. There were no potentially dilutive common
shares as of March 31, 2002 or December 31, 2001.
Note 11 - Segment Information
The Company has three reportable segments, as follows:
o The Specialty Chemicals segment develops, manufactures and packages
chemicals used by other oilfield service companies in cementing and
stimulation jobs.
9
o The Equipment Manufacturing segment designs and manufactures
specialized cementing and stimulation equipment, including heavy
vehicles used for pressure pumping, blending and bulk material
transport. This segment also designs and constructs automated bulk
material handling and loading facilities for other oilfield service
companies.
o The Downhole Equipment segment manufactures and markets the Petrovalve
line of downhole pump components and the Turbeco line of casing
centralizers.
The Company's reportable segments are strategic business units that offer
different products and services. Each business segment requires different
technology and marketing strategies and is managed independently. The accounting
policies used in each of the segments are the same as those described in the
significant accounting policies. The Company evaluates the performance of its
operating segments based on operating income excluding goodwill amortization and
unusual charges. Intersegment sales and transfers are not material.
The following table presents the revenues and operating income for each
reportable segment and for the three month periods ended March 31, 2002 and
2001:
Three months ended
March 31,
-------------------------------------
2002 2001
------------------ -----------------
Revenues:
Specialty Chemicals........... $1,302,930 $1,990,110
Equipment Manufacturing....... 1,110,168 699,571
Downhole Equipment............ 1,246,485 -
--------- ---------
Consolidated............... $3,659,583 $2,689,681
========= =========
Income (loss) from operations:
Specialty Chemicals........... $ 118,503 $ 436,825
Equipment Manufacturing....... (196,983) (550,246)
Downhole Equipment............ 454,506 -
Corporate and Other........... (552,073) (144,308)
--------- ---------
Consolidated............... $ (176,047) $ (257,729)
========= =========
10
ITEM 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations
Business Overview
Flotek was established in 1985 and is currently traded on the OTC Bulletin Board
market. On October 31, 2001, the Company completed a Merger with Chemical &
Equipment Specialties, Inc. ("CESI"). The Merger has been accounted for as a
reverse acquisition using the purchase method of accounting. In the Merger, the
shareholders of the acquired company, CESI, received the majority of the voting
interests in the surviving consolidated company. Accordingly, CESI was deemed to
be the acquiring company for financial reporting purposes and the historical
financial statements of the Company are the historical financial statements of
CESI. All of the assets and liabilities of Flotek were recorded at fair value on
October 31, 2001, the date of the Merger, and the operations of Flotek have been
reflected in the operations of the combined company only for periods subsequent
to the date of the Merger.
CESI was incorporated on June 27, 2000 to acquire businesses in the specialty
chemical and equipment manufacturing segments of the oilfield service industry.
It had no revenues or operations prior to the acquisitions of Esses, Inc.,
Plainsman Technology, Inc., Neal's Technology, Inc., and Padko International,
Inc. in January 2001. It subsequently acquired Material Translogistics, Inc. in
June 2001. These five companies are referred to collectively as the "CESI
Acquired Businesses".
The Company's product lines are divided into three segments within the oilfield
service industry:
o The Specialty Chemicals segment develops, manufactures, packages and
sells chemicals used in oil and gas well cementing, stimulation and
production.
o The Equipment Manufacturing segment designs and manufactures
specialized cementing and stimulation equipment, including heavy
vehicles used for pressure pumping, blending and bulk material
transport. This segment also designs, constructs and manages automated
bulk material handling and loading facilities for other oilfield
service companies.
o The Downhole Equipment segment manufactures and markets the Petrovalve
line of downhole pump components and the Turbeco line of casing
centralizers.
Our businesses serve the oil and gas industry. All of our businesses are
affected by changes in the worldwide demand for and price of oil and natural
gas. The majority of our products are dependent on the level of exploration and
development activity and the completion phase of oil and gas well drilling.
Other products and services, such as our Petrovalve downhole pump products and
certain of our specialty chemicals are more closely tied to the production of
oil and gas and are less dependent on drilling activity.
The oil and gas industry has been subject to significant volatility in recent
years due to changes in the demand, supply and pricing of oil and natural gas.
The U.S. rig count, as measured by Baker Hughes Incorporated, began 2001 at
around 1,100 active rigs and reached a peak of almost 1,300 in July 2001. During
the third quarter of 2001, the demand for oil and natural gas began to weaken in
response to slowing growth in worldwide economies. This resulted in a slowdown
in North American drilling rig activity, with a steady decline in the rig count
during the second half of 2001 until it had reached a level of just under 900
active rigs at December 31, 2001. During the quarter ended March 31, 2002, the
rig count has dropped further, with around 750 active rigs working at the end of
the quarter. Natural gas prices have declined from a near record high of almost
$10.00 per Mcf in early 2001 to approximately $2.50 per Mcf at year-end. Crude
oil prices experienced a similar decline in 2001, from $30.00 per barrel at the
beginning of the year to below $20.00 at the end. As of March 31, 2002 prices
for both commodities had recovered to approximately $3.50 per Mcf and $27.00 per
barrel, respectively. Our businesses were adversely affected by the decline in
drilling activity which began in the second half of 2001 and continued in the
11
first quarter of 2002. Many industry observers expect drilling activity levels
to increase during the remainder of 2002 based on higher oil and gas prices and
an expected rebound in overall economic activity. However, we continue to face a
challenging industry environment in the near term and there can be no assurance
that these expected improvements will occur.
Risk Factors
The Company faces various business risks specific to its industry, product
lines, financial resources and competitive position, as well as general economic
and financial risks. The following risk factors, among others, may cause the
Company's operating results and/or financial position to be adversely affected:
o The Company is dependent on the oil and gas industry, and activity levels in
the industry are volatile.
o Oil and gas prices are volatile and have a direct impact on the spending
levels of our customers.
o The oilfield service industry is highly competitive and we must
compete with many companies possessing greater financial
resources and better established market positions.
o The introduction of new products and technologies by competitors
may adversely affect the demand for our products and services.
o The Company's debt service obligations may limit our ability to
fund operations and capital spending or provide for future
growth.
o The Company may not be able to successfully manage its growth.
o Changes in political conditions, governmental regulations,
economic and financial market conditions, unexpected litigation
and other uncertainties may have an adverse effect on our
operations.
Results of Operations
Three months ended March 31, 2002 2001
----------------- ----------------
Revenues........................................... $ 3,659,583 $ 2,689,681
Cost of revenues................................... 2,098,813 1,557,185
--------- ---------
Gross margin.................................... 1,560,770 1,132,496
--------- ---------
Gross margin %.................................. 42.6% 42.1%
Selling, general and administrative................ 1,583,730 1,253,740
Depreciation and amortization...................... 148,545 135,429
Research and development........................... 4,542 1,056
--------- ---------
Total expenses.................................. 1,736,817 1,390,225
--------- ---------
Operating income (loss)......................... (176,047) (257,729)
--------- ---------
Operating income (loss) %....................... (4.8)% (9.6)%
Interest expense................................... (92,428) (93,059)
Interest income.................................... - 24,858
Other, net......................................... 1,721 44,101
--------- --------
Other income (expense), net.................... (90,707) (24,100)
--------- --------
Pre-tax income (loss).......................... $ (266,754) $ (281,829)
========= ========
Total revenues increased by $970,000, or 36.17%, in the first quarter of 2002
compared to the comparable period in 2001. As discussed in the segment analysis
below, the Specialty Chemicals segment experienced a significant drop in
revenues in 2002 compared to 2001, while the Equipment Specialties and Downhole
Equipment segments had higher revenues in the 2002 quarter, although these
increases resulted primarily from business combinations whose operations were
not reflected in the first quarter of 2001.
12
On an aggregate basis, the gross margin as a percentage of revenues increased
very slightly, from 42.1% in 2001 to 42.6% in 2002. The gross margin is best
analyzed on a segment by segment basis, discussed below, as the margin varies
significantly between operating segments and can vary significantly from period
to period in certain of our operating segments.
Selling, general and administrative ("SG&A") costs represent the costs of
selling, operations and overhead expenses not directly attributable to products
sold or services rendered. The revenues from services are less than 10% of
consolidated revenues and the direct costs of providing these services are
included in cost of revenues. SG&A amounted to 43.3% of revenues in 2002, a
decrease of 3.3% of revenues from the level of 46.6% in 2001. The costs of
operations and administration decreased as a percentage of revenues as we were
able to spread these semi-fixed costs over a larger revenue base.
Interest expense did not change significantly between periods. While the average
amount outstanding under the Company's credit agreements was higher in 2002 as a
result of the financing of capital expenditures and increased working capital
needs during the year, interest rates were significantly lower in 2002 and the
decline in rates more than offset the additional interest expense associated
with higher debt levels. The majority of the Company's indebtedness carries a
variable interest rate tied to the prime rate and is adjusted on a quarterly
basis.
Results by Segment
Specialty Chemicals
Three months ended
March 31,
-------------------------------------
2002 2001
----------------- ----------------
Revenues.......................... $1,302,930 $1,990,110
Gross margin...................... $ 514,344 $1,009,160
Gross margin percentage...... 39.5% 50.7%
Operating income.................. $ 118,503 $ 436,825
Operating margin percentage.. 9.1% 21.9%
Specialty Chemical revenues decreased by $687,000, or 34.5%, in the current year
from 2001 levels. Sales in this segment are heavily dependent on drilling
activity and the decrease in revenue is primarily attributable to sharply lower
drilling activity in the first quarter of 2002 versus 2001. Average product
pricing levels in this segment declined as lower demand caused our pricing to
come under pressure.
The gross margin percentage in this segment also declined significantly from
50.7% in 2001 to 39.5% in 2002. In certain cases, in trying to maintain sales
levels and market share, we sold our products at a lower gross margin. The
combination of lower revenues and lower gross margins had a significant adverse
effect on our operating margin and overall levels of operating income.
Operating income fell $318,000, or 73%, in the current year from 2001 levels,
primarily as a result of lower revenues and gross margins. We took actions to
reduce our selling, general, and administrative expenses in this segment to keep
these costs in line with the reduced revenue levels. However, the above revenue
and margin issues combined to result in a significant decrease in our operating
margin percentage in this segment from 21.9% in 2001 to 9.1% in 2002.
13
Equipment Manufacturing
Three months ended
March 31,
-------------------------------------
2002 2001
----------------- ----------------
Revenues.......................... $ 1,110,168 $ 699,571
Gross margin...................... $ 282,994 $ 123,336
Gross margin percentage...... 25.5% 17.6%
Operating income.................. $ (196,983) $ (550,246)
Operating margin percentage.. (17.7%) (78.7%)
Equipment Manufacturing revenues increased $411,000, or 58.7%, in 2002 over 2001
levels. This increase primarily resulted from the addition of Material
Translogistics, Inc. ("MTI"), a company that was acquired in June 2001. Under
purchase accounting, MTI's results of operations are included only for periods
subsequent to the acquisition; therefore it is not reflected in the results for
the first quarter of 2001. During the first quarter of 2002, MTI had revenues of
$482,000 and positive operating income of $48,000. We continued to experience
poor results in our Equipment Specialties operations (formerly Neal's
Technology, Inc.) and initiated cost reduction measures during the first
quarter of 2002 that reduced the loss we sustained in 2002.
The gross margin improved in the first quarter of 2002 to 25.5% from 17.6% in
2001, primarily as a result of the addition of MTI's business, which had a 43%
gross margin on its revenues in 2002.
Subsequent to the Merger, the Company replaced the management of this segment
and focused significant efforts and financial resources on improving the
performance of this segment, including the implementation of improved operating
procedures, better accounting controls and proper documentation of work
processes. The Company also initiated cost reduction measures in response to
lower revenue levels and reduced sales expectations. While significant
improvements have been made, this segment continued to operate at a loss,
although the magnitude of that loss has been reduced.
We continue to face a difficult market outlook for the equipment manufacturing
operations in this segment. Orders for new manufactured equipment slowed
significantly in the second half of the year. Management is continuing to
solicit new orders and in the event it does not secure sufficient new orders,
the Company is prepared to take continuing action to limit its financial
exposure from further losses in this segment.
The outlook for MTI's operations within this segment, consisting of the design,
construction and management of bulk material handling and loading facilities, is
much more positive. Based on the current work in progress and outstanding bids
in response to requests for quotations, management believes that the revenues
and operating margin attributable to these operations will continue to increase
over the remainder of 2002. However, there can be no assurance that the
Equipment Manufacturing segment as a whole will be profitable. As more fully
discussed in Note 1 of the Notes to Consolidated Financial Statements, there is
approximately $1.3 million of net goodwill attributable to this segment, all or
some portion of which may be subject to an impairment charge based on new
accounting requirements which must be implemented by the end of 2002.
14
Downhole Equipment
Three months ended
March 31,
-------------------------------------
2002 2001
----------------- ----------------
Revenues............................ $ 1,246,485 $ -
Gross margin........................ $ 763,432 $ -
Gross margin percentage........ 61.2% -
Operating income.................... $ 454,506 $ -
Operating margin percentage.... 36.5% -
The Downhole Equipment segment became part of the consolidated group after the
Merger became effective on October 31, 2001. These operations, which consist of
manufacturing and marketing the Petrovalve line of downhole pump components and
the Turbeco line of casing centralizers, were the original operations of Flotek
Industries, Inc. prior to the Merger. Since the Merger was recorded for
accounting purposes as a reverse merger, the results of operations of this
segment were included in the consolidated results of operations only for periods
subsequent to the Merger and are not reflected in the first quarter of 2001.
Our Petrovalve sales, totaling $973,000 in the first quarter of 2002, were
almost exclusively to one customer in Venezuela. As more fully discussed in Note
3 of the Notes to Consolidated Financial Statements and the Capital Resources
and Liquidity section, below, this customer has not paid for these goods within
the customary payment terms. These sales carry a high gross margin and are
significantly profitable to this segment. Sales of the Turbeco line of casing
centralizers, which constitute the balance of the revenues in this segment, are
very dependent on the level of drilling activity and have suffered from lower
demand. We have recently seen signs of improvement in this line of business and
are positive about the outlook for the balance of the year.
Capital Resources and Liquidity
In the first quarter of 2002, the Company sustained a net loss of $267,000 and
had negative cash flow from operations of $1.46 million. These losses resulted
primarily from the poor operating results in the Equipment Manufacturing
segment, although the losses were reduced from the levels in 2001. As discussed
above, management has taken and will continue to take appropriate steps to
improve performance and attempt to limit the losses in this segment. The
negative cash flow resulted primarily from delays in collecting accounts
receivable from sales to a Venezuelan customer, as discussed below.
As of March 31, 2002, net working capital was approximately $454,000, resulting
in a current ratio of 1.07 to 1. The balance in accounts payable and accrued
liabilities decreased $687,000 during the first quarter of 2002, as we used part
of the proceeds of borrowings to pay vendor invoices.
As disclosed in Note 3 of the Notes to Consolidated Financial Statements, at
March 31, 2002, the Company had approximately $1,794,000 of accounts receivable
from a customer in Venezuela, of which $966,000 arose from goods shipped in the
first quarter of 2002 and $828,000 was recorded prior to December 31, 2001. As a
result of political instability and work disruptions in the country, these
amounts have not been paid within the customary payment terms for this customer
and no payments have been received since September 2001. The ultimate customer
for these goods is PDVSA, the national oil company of Venezuela. Our customer
holds a contract to deliver over $5 million of our proprietary products to PDVSA
during the next three years. However, PDVSA has delayed acceptance of the
majority of the goods shipped until its field operations return to higher
activity levels. Our customer is unable to pay for the goods until payment has
been received from PDVSA. We have been informed that activity levels are
returning to previous levels and we expect a resumption of product receipts and
payments by PDVSA during the second quarter of 2002. The Company has an
established long-term relationship with this customer and believes that it will
ultimately collect the balance due, but we cannot accurately predict the timing
of future payments. The Company has not provided a reserve for doubtful accounts
associated with this balance. The failure to collect this accounts receivable
balance has had a significant adverse effect on the cash flow of the Company.
Additionally, all invoice amounts which are greater than 90 days old cannot be
included in the borrowing base under our lines of credit.
15
During the first quarter of 2002, the Company entered into a sale and leaseback
transaction regarding its Equipment Manufacturing facility in Duncan, Oklahoma.
This transaction resulted in net cash proceeds to the Company of $761,000. The
Company simultaneously entered into an agreement to lease back the facility over
ten years. This transaction has been recorded as a capital lease.
The Company also borrowed $1.65 million under its line of credit arrangements,
including a new $1.6 million line of credit which was executed in January of
2002. We have had discussions with our primary lending bank and they have given
us a verbal indication that the $1.4 million dollar line of credit , which is
due on May 29, 2002, will be extended until May 29, 2003. We also made total
debt service payments of approximately $400,000 during the first quarter of
2002. The Company has estimated minimum debt service obligations in 2002 of $1.8
million. This amount includes the estimated minimum principal and interest
payments on the new credit agreements and capital lease obligations incurred
during the first quarter of 2002.
Capital expenditures during the first quarter of 2002 were $650,000. The
majority of these capital expenditures relate to a bulk material transload
facility which the Company is constructing in Raceland, Louisiana. With the
exception of the capital expenditures required to complete the construction of
this project, the Company does not at this time expect to have any major
requirements for capital expenditures in 2002. As discussed in Note 9 of the
Notes to Consolidated Financial Statements, the capital required to complete the
Raceland transload facility is expected to be substantially financed by a
construction loan in the amount of $854,350.
The Company believes its operations are capable of generating sufficient cash
flow to meet its debt service obligations and working capital needs during the
next twelve months. However, we face a challenging near-term industry
environment and there are many factors involved in executing our business
strategy which are beyond our control. In particular, it is critical that we
successfully collect amounts due from our Venezuelan customer. In the event that
we are unable to collect at least part of these amounts due in the near future,
or if we are unable to successfully limit our losses in the Equipment
Manufacturing segment, the Company may be forced to seek additional equity or
debt financing. There can be no assurance that the Company would be able to
secure such financing on terms which would be acceptable to it. Accordingly,
investors are advised that the Company faces significant financial risks in the
next year as we attempt to meet these challenges.
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 the
effect of competition, the level of petroleum industry exploration and
production expenditures, world economic conditions, prices of, and the demand
for crude oil and natural gas, weather, the legislative environment in the
United States and other countries, adverse changes in the capital and equity
markets, and other risk factors identified herein.
16
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
On May 1, 2002, Milam Tool Company and the Estate of Jack J. Milam filed a
complaint against Flotek Industries, Inc., Turbeco, Inc., and Jerry D. Dumas,
Sr. individually, in the United States District Court for the Southern District
of Texas, Houston Division. The complaint asserts that the sale of TURBO-LOK
turbulators, which are part of the Company's Downhole Equipment segment,
violates an agreement among the parties and infringes a United States patent
controlled by the plaintiffs. Plaintiffs seek injunctive relief and unspecified
damages. The Company strongly denies the assertions in the complaint and intends
to vigorously contest this matter.
Item 2 - Changes in Securities and Use of Proceeds
In January 2002, the Company issued 26,116 shares of common stock to the former
shareholders of Material Translogistics, Inc., which were issued in accordance
with the terms of the original acquisition agreement. In February 2002, the
Company issued 34,000 shares of common stock in connection with the acquisition
of IBS 2000, Inc. Additional disclosure related to the issuance of these shares
is included in Note 2 of the Notes to Consolidated Financial Statements.
The foregoing issuances of common stock were made in reliance upon the exemption
from registration set forth in Section 4(2) of the Securities Act of 1933 for
transactions not involving a public offering. No underwriters were engaged in
connection with the foregoing sales of securities. The sales were made without
general solicitation or advertising. Each purchaser was an "accredited investor"
or a sophisticated investor with access to all relevant information necessary to
evaluate the investment who represented to the Company that the sales were being
acquired for investment.
Item 3 - Defaults Upon Senior Securities
None.
Item 4 - Submission of Matters to a Vote of Security Holders
None.
Item 5 - Other Information
None.
17
Item 6 - Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit
Number Description of Exhibit
------ ----------------------
10.1 Lease Agreement with Option to Purchase, dated February 28,
2002, by and between Oklahoma Facilities, LLC and Neal's
Technology Company, Inc.
10.2 Employment Contract dated July 1, 2000, by and between
Chemical & Equipment Specialties, Inc. and Glenn S. Penny.
(b) Reports on Form 8-K
Current Report on Form 8-K/A filed with the Securities and Exchange Commission
on January 16, 2002. This Amendment No. 1 to Current Report on Form 8-K filed on
November 14, 2001 included the financial statements of CESI and the separate
financial statements of its recently acquired subsidiaries, Esses, Inc.,
Plainsman Technology, Inc., Neal's Technology, Inc., Padko International, Inc.
and Material Translogistics, Inc. In addition, this report included unaudited
pro forma combined financial statements related to the merger of the Company
with CESI.
SIGNATURE
In accordance with the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FLOTEK INDUSTRIES, INC.
Date: May 20, 2002 /s/ Jerry D. Dumas, Sr.
-----------------------------------
Jerry D. Dumas, Sr.
Chairman and Chief Executive Officer