]\ 

 

United States

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT

Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly Period Ended

September 30, 2015

Commission File Number 1-12984

 

Eagle Materials Inc.

(Exact name of registrant as specified in its charter)

 

Delaware

(State or other jurisdiction of incorporation or organization)

75-2520779

(I.R.S. Employer Identification No.)

3811 Turtle Creek Blvd., Suite 1100, Dallas, Texas 75219

(Address of principal executive offices)

(214) 432-2000

(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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

YES  x    NO  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)

Yes  ¨    No  x

As of October 27, 2015, the number of outstanding shares of common stock was:

 

 

 

 

 

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Eagle Materials Inc. and Subsidiaries

Form 10-Q

September 30, 2015

Table of Contents

PART I. FINANCIAL INFORMATION (unaudited)

 

 

 

 

 

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Eagle Materials Inc. and Subsidiaries

Consolidated Statements of Earnings

(dollars in thousands, except share data)

(unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See notes to unaudited consolidated financial statements.

 

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Eagle Materials Inc. and Subsidiaries

Consolidated Statements of Comprehensive Earnings

(unaudited – dollars in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See notes to unaudited consolidated financial statements.

 

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Eagle Materials Inc. and Subsidiaries

Consolidated Balance Sheets

(dollars in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

See notes to the unaudited consolidated financial statements.

 

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Eagle Materials Inc. and Subsidiaries

Consolidated Statements of Cash Flows

(unaudited – dollars in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See notes to the unaudited consolidated financial statements.

 

 

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Eagle Materials Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

September 30, 2015

 

(A) BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements as of and for the three and six month periods ended September 30, 2015 include the accounts of Eagle Materials Inc. and its majority-owned subsidiaries (the “Company”, “us” or “we”) and have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission on May 22, 2015.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although we believe that the disclosures are adequate to make the information presented not misleading. In our opinion, all adjustments (consisting solely of normal recurring adjustments) necessary to present fairly the information in the following unaudited consolidated financial statements of the Company have been included. The results of operations for interim periods are not necessarily indicative of the results for the full year.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers.” ASU 2014-09 supersedes the revenue recognition requirements in “Revenue Recognition (Topic 605),” and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. In July 2015, the FASB delayed the implementation of this standard by one year.  The standard will now be effective for us in the first quarter of fiscal 2019, with early adoption not permitted. There are two transition methods available under the new standard, either modified or full retrospective. We are currently evaluating the impact of this ASU and have not yet selected a transition method.

In April 2015, the Financial Accounting Standards Board issued ASU 2015-03, “Interest-Imputation of Interest” (Subtopic 830-30).  This Standard requires that discounts, premiums or debt issue costs related to borrowings be reported in the balance sheet as a direct reduction of the associated borrowing.  The standard will be effective for us in the first quarter of fiscal 2017, and earlier application is permitted for financial statements that have not been previously issued.  This impact of adopting this ASU is not expected to be material.

 

 

(B) GOODWILL AND INTANGIBLE ASSETS

Goodwill: We perform our annual test of impairment on goodwill during the fourth quarter of our fiscal year. If business conditions in the operating units containing goodwill change substantially during the fiscal year, and we are unable to conclude that an impairment loss is not likely to occur, we will perform impairment tests for those business units during our quarterly periods. At September 30, 2015, we determined that impairment losses are not likely to occur; therefore, no impairment tests were performed during the quarter.

 

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Intangible Assets: Intangible assets are currently being amortized over their expected lives.  During the three months ended September 30, 2015, the continued decline in oil prices during the summer of 2015 adversely impacted oil and gas drilling activity, leading to further reductions in demand and pricing for proppants.  This reduction in demand adversely impacted performance under our customer contracts, resulting in the amendment of certain of these contracts.  Based on the reduced demand for proppants and the executed and pending amendments to our customer contracts, we concluded that long-lived asset impairment indicators were present during the quarter ended September 30, 2015 for our customer contract intangible assets.  We performed a recovery test to determine if any of the customer contract intangible assets related to our oil and gas proppants business unit were impaired at September 30, 2015.  Based on our analysis of the undiscounted cash flows for each of our customer contract intangibles related to our oil and gas proppants business, we concluded that the carrying value of certain customer contract intangible assets exceeded the undiscounted cash flows for the related assets.   For those contracts whose carrying value exceeded the undiscounted cash flows, we calculated the fair value of each contract using the weighted-average probable cash flows related to each contract (level 3 inputs), discounted using a weighted-average cost of capital (“WACC”).  The WACC was determined from relevant market comparisons, and adjusted for specific risks.  This analysis resulted in an impairment loss of approximately $28.4 million, which is included in cost of goods sold in the unaudited Consolidated Statement of Earnings for the three and six months ended September 30, 2015.

Intangible assets, including the impact of the impairment charge discussed above, consist of the following:

 

 

At September 30, 2015, approximately $16.2 million of Customer Contracts and Relationships was related to our oil and gas proppants business.  Under the terms of one of the customer contracts, the customer prepaid $15.0 million for sand.  At September 30, 2015, approximately $12.5 million of this prepaid is still available to the customer.

 

 

During July 2015, goodwill increased approximately $1.4 million and customer contracts and relationships increased $1.2 million in connection with the Skyway Acquisition.

Amortization expense of intangibles was $5.7 million the year ended March 31, 2015.  After the impairment discussed above, amortization expense is expected to be approximately $4.9 million for the remainder of fiscal 2016, $9.2 million for fiscal year 2017, and $3.2 million for fiscal years 2018 and 2019, $2.2 million for fiscal year 2020 and $1.3 million for fiscal year 2021.

 

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(C) ACQUISITIONS

 

CRS Acquisition

On November 14, 2014, we acquired all of the outstanding equity interest in CRS Holdco LLC, CRS Proppants LLC, Great Northern Sand LLC and related entities (collectively “CRS Proppants”) (such acquisition, the “CRS Acquisition”).  CRS Proppants is a supplier of frac sand to the energy industry, and its business currently consists of a frac sand mine in New Auburn, Wisconsin, and a trans-load network into Texas and southwest Oklahoma.  

Purchase Price: The purchase price (the “CRS Purchase Price”) of the CRS Acquisition was approximately $236.1 million, including approximately $8.9 million of in-process capital expenditures paid as of the closing date. We funded the payment of the CRS Purchase Price at closing and expenses incurred in connection with the CRS Acquisition through borrowings under our bank credit facility, which was amended and restated on October 30, 2014.  See Footnote (L) to the Unaudited Consolidated Financial Statements for more information about our bank credit facility.

We previously reported the estimated CRS Purchase Price in our Form 10-K as approximately $237.2 million.  During the quarter ended June 30, 2015, we finalized the amount of working capital acquired at the closing, which resulted in a reduction in the CRS Purchase Price of approximately $1.1 million.  

Recording of assets acquired and liabilities assumed: The CRS Acquisition has been accounted for using the acquisition method of accounting which requires, among other things, that assets acquired and liabilities assumed be recognized at their fair values as of the acquisition date. We engaged a third-party to perform an appraisal valuation to support our preliminary estimate of the fair value of certain assets acquired in the CRS Acquisition.  Included in the assets acquired, and liabilities assumed, are two long-term sales agreements that included prepayments for future sales under such agreements, with such prepayments classified as liabilities.  Additionally, one of the agreements is with a customer that is currently in bankruptcy, and is not expected to fulfill its obligations under the agreement.  We have been indemnified by the former owner against any loss related to this agreement, and such indemnity has been valued at fair value and recorded as an asset at the date of the CRS Acquisition.

The preparation of the valuation of the assets acquired and liabilities assumed in the CRS Acquisition requires the use of significant assumptions and estimates.  Critical estimates include, but are not limited to, future expected cash flows, including projected revenues and expenses, and applicable discount rates.  These estimates are based on assumptions that we believe to be reasonable.  However, actual results may differ from these estimates.

 

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The following table summarizes the allocation of the CRS Purchase Price to assets acquired and liabilities assumed as of the acquisition date:

 

 

Intangible Assets:  The following table is a summary of the preliminary fair value estimates of the identifiable intangible assets (in thousands) and their weighted-average useful lives:

 

 

During the quarter ended September 30, 2015, the above customer relationships were tested for impairment.  See Footnote (B) to the unaudited Consolidated Financial Statements for discussion of the impairment testing of these assets.

Actual and pro forma impact of the CRS Acquisition:  The following table presents the net sales and operating loss of CRS Proppants that have been included in our consolidated statement of earnings from April 1, 2015 through September 30, 2015:

 

 

Operating loss shown above for the three months ended September 30, 2015 has been impacted by approximately $5.7 million, $28.4 million and $9.4 million of depreciation and amortization, impairments and write-down of raw sand inventory, respectively.  Operating loss for the six months ended September 30, 2015 has been impacted by approximately $11.3 million, $28.4 million, $9.4 million and $0.5 million related to the impact of depreciation and amortization, impairments, write-down of raw sand inventory and the recording of acquired inventory at fair value, respectively.

The unaudited pro forma results presented below include the effects of the CRS Acquisition as if it had been consummated as of April 1, 2014. The pro forma results include the amortization associated with an estimate for acquired intangible assets and interest expense associated with debt used to fund the Acquisition and depreciation from the fair value adjustments for property and equipment. To better reflect the combined operating results,

 

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material nonrecurring charges incurred by the Company directly related to the CRS Acquisition of $2.1 million have been excluded from pro forma net income for the three and six months ended September 30, 2014.  

 

 

The pro forma results do not include any anticipated synergies or other expected benefits of the CRS Acquisition.   Accordingly, the unaudited pro forma results are not necessarily indicative of either future results of operations or results that might have been achieved had the CRS Acquisition been consummated as of April 1, 2014.

Skyway Acquisition

On July 10, 2015, we completed the acquisition of a 600,000 ton per year Granulated Ground Blast Furnace Slag (“GGBFS”) plant in South Chicago (the “Skyway Plant”) from Holcim (US) Inc. (the “Skyway Acquisition”).  Among other applications, GGBFS is used in conjunction with Portland cement to make durable concrete structures.  The Skyway Plant purchases its primary raw material, slag, pursuant to a long term supply agreement with a third party.  

The purchase price (the “Skyway Purchase Price”) for the Skyway Acquisition was approximately $29.9 million, net of $2.5 million which will be refunded over the next eighteen months. We funded the payment of the Skyway Purchase Price and expenses incurred in connection with the Skyway Acquisition through operating cash flow and borrowings under our bank credit facility.  We also assumed certain liabilities, including contractual obligations, related to the Skyway Plant.  The purchase price was allocated as follows: $1.9 million to accounts and notes receivable; $2.3 million to inventories; $24.6 million to property, plant and equipment; $1.2 million to intangible assets; $1.4 million to goodwill; and $1.0 million to other assets.  See Note (L) in the Notes to the Unaudited Financial Statements for more information about our bank credit facility.  

 

 

(D) CASH FLOW INFORMATION—SUPPLEMENTAL

Cash payments made for interest were $8.2 million and $7.3 million for the six months ended September 30, 2015 and 2014, respectively. Net payments made for federal and state income taxes during the six months ended September 30, 2015 and 2014, were $43.8 million and $32.2 million, respectively.

 

 

(E) ACCOUNTS AND NOTES RECEIVABLE

Accounts and notes receivable have been shown net of the allowance for doubtful accounts of $9.0 million and $7.1 million at September 30, 2015 and March 31, 2015, respectively. We perform ongoing credit evaluations of our customers’ financial condition and generally require no collateral from our customers. The allowance for non-collection of receivables is based upon analysis of economic trends in the construction and oil and gas industries, detailed analysis of the expected collectability of accounts receivable that are past due and the expected collectability of overall receivables. Based on this analysis, we increased our allowance for doubtful accounts approximately $2.0 million in recognition of the downturn in our oil and gas proppants business and potential financial impact of this downturn to our customers.  We have no significant credit risk concentration among our diversified customer base.

 

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We had notes receivable totaling approximately $3.2 million at September 30, 2015, of which approximately $0.5 million has been classified as current and presented with accounts receivable on the balance sheet. We lend funds to certain companies in the ordinary course of business, and the notes bear interest, on average, at LIBOR plus 3.5%. Remaining unpaid amounts, plus accrued interest, mature on various dates between 2015 and 2017. The notes are collateralized by certain assets of the borrowers, namely property and equipment, and are generally payable monthly. We monitor the credit risk of each borrower by focusing on the timeliness of payments, review of credit history and credit metrics and interaction with the borrowers.

 

 

(F) STOCKHOLDERS’ EQUITY

A summary of changes in stockholders’ equity follows:

 

 

On August 10, 2015, the Company announced that the Board of Directors had authorized the Company to repurchase up to an additional 6,782,700 shares, for a total outstanding authorization of 7,500,000 shares. We repurchased 144,000 shares at an average price of $74.61 during the three months ended September 30, 2015. We also purchased an additional 110,000 shares during the last week of September, which were not settled until the first week of October, and 130,000 shares during the first week of October 2015 at a combined average price of $70.31. Including the shares purchased during the last week of September, which settled in the first week of October, and the shares purchased in early October, we have authorization to purchase an additional 7,116,000 shares.

 

 

 

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(G) INVENTORIES

Inventories are stated at the lower of average cost (including applicable material, labor, depreciation, and plant overhead) or market, and consist of the following:

 

 

 

(H) ACCRUED EXPENSES

Accrued expenses consist of the following:

 

 

 

(I) Share-BASED EMPLOYEE COMPENSATION

On August 7, 2013 our stockholders approved the Eagle Materials Inc. Amended and Restated Incentive Plan (the “Plan”), which increased the shares we are authorized to issue as awards by 3,000,000 (1,500,000 of which may be stock awards). Under the terms of the Plan, we can issue equity awards, including stock options, restricted stock units (“RSUs”), restricted stock and stock appreciation rights to employees of the Company and members of the Board of Directors. Awards that were already outstanding prior to the approval of the Plan on August 7, 2013 remain outstanding. The Compensation Committee of our Board of Directors specifies the terms for grants of equity awards under the Plan.

Long-Term Compensation Plans -

Options. In June 2015, the Compensation Committee approved an equity award of an aggregate of 268,571 stock options pursuant to the Plan to certain officers and key employees that vest ratably over a three year period (the “Fiscal 2016 Employee Stock Option Grant”).  The stock options have a term of ten years from the date of grant. The Fiscal 2016 Employee Stock Option Grant was valued at the grant date using the Black-Scholes option pricing model. In August 2015, we granted 17,501 options to members of the Board of Directors (the “Fiscal 2016 Board of Directors Stock Option Grant”).  Options granted under the Fiscal 2016 Board of Directors Stock Option

 

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Grant vest immediately and can be exercised from the date of grant until their expiration on the tenth anniversary of the date of grant.

The weighted-average assumptions used in the Black-Scholes model to value the option awards in fiscal 2016 are as follows:

 

 

Stock option expense for all outstanding stock option awards totaled approximately $2.1 million and $4.2 million for the three and six months ended September 30, 2015, respectively and approximately $2.0 million and $3.4 million for the three and six months ended September 30, 2014, respectively. At September 30, 2015, there was approximately $13.8 million of unrecognized compensation cost related to outstanding stock options, net of estimated forfeitures, which is expected to be recognized over a weighted-average period of 2.4 years.

The following table represents stock option activity for the six months ended September 30, 2015:

 

 

The following table summarizes information about stock options outstanding at September 30, 2015:

 

 

At September 30, 2015, the aggregate intrinsic value for outstanding and exercisable options was approximately $29.1 million and $35.2 million, respectively. The total intrinsic value of options exercised during the six months ended September 30, 2015 was approximately $5.2 million.

Restricted Stock. In June 2015, the Compensation Committee approved the granting of an aggregate of 93,782 shares of restricted stock to certain officers and key employees that will be earned if certain performance conditions are satisfied (the “Fiscal 2016 Employee Restricted Stock Award”). The performance criterion for the Fiscal 2016 Employee Restricted Stock Award is based upon the achievement of certain levels of return on equity, ranging from 12.5% to 17.5%, for fiscal year ending March 31, 2016. All restricted shares will be earned if the return on equity is 17.5% or greater, and the percentage of shares earned will be reduced proportionately to

 

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approximately 75% if the return on equity is 12.5%.   If the Company does not achieve a return on equity of at least 12.5%, all awards will be forfeited.  If the criteria are met, the award may be reduced by the Compensation Committee based on individual performance goals. Following any such reduction, restrictions on the earned shares will lapse ratably over five years, with the first fifth lapsing promptly following the determination date, and the remaining restrictions lapsing on March 31, 2017 through 2020. The value of the Fiscal 2016 Employee Restricted Stock Award, net of estimated forfeitures, is being expensed over a five year period.  In August 2015, we awarded 15,139 shares of restricted stock to members of the Board of Directors (the “Board of Directors Fiscal 2016 Restricted Stock Award”).  Awards issued under the Board of Directors Fiscal 2016 Restricted Stock Award do not fully vest until the retirement of each director, in accordance with our director retirement policy.

Expense related to restricted shares was approximately $1.9 million and $4.2 million for the three and six months ended September 30, 2015, respectively, and approximately $1.8 million and $3.3 million for the three and six months ended September 30, 2014, respectively. At September 30, 2015, there was approximately $20.8 million of unearned compensation from restricted stock, net of estimated forfeitures, which will be recognized over a weighted-average period of 2.6 years.

The number of shares available for future grants of stock options, restricted stock units, stock appreciation rights and restricted stock under the Plan was 4,540,994 at September 30, 2015.

 

 

(J) COMPUTATION OF EARNINGS PER SHARE

The calculation of basic and diluted common shares outstanding is as follows:

 

 

 

(K) PENSION AND EMPLOYEE BENEFIT PLANS

We sponsor several defined benefit and defined contribution pension plans which together cover substantially all our employees. Benefits paid under the defined benefit plans covering certain hourly employees are based on years of service and the employee’s qualifying compensation over the last few years of employment.

 

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The following table shows the components of net periodic cost for our plans:

 

 

 

(L) INCOME TAXES

Income taxes for the interim period presented have been included in the accompanying financial statements on the basis of an estimated annual effective tax rate. In addition to the amount of tax resulting from applying the estimated annual effective tax rate to pre-tax income, we will, when appropriate, include certain items treated as discrete events to arrive at an estimated overall tax amount. The effective tax rate for the six months ended September 30, 2015 was approximately 32%, which was consistent with the effective tax rate for the six months ended September 30, 2014.

 

 

(M) LONG-TERM DEBT

Long-term debt consists of the following:

 

 

Credit Facility –

We have a $500.0 million revolving credit facility (the “Credit Facility”), including a swingline loan sublimit of $25.0 million, which is scheduled to expire on October 30, 2019.  Borrowings under the Credit Facility are guaranteed by substantially all of the Company’s subsidiaries. At the option of the Company, outstanding principal amounts on the Credit Facility bear interest at a variable rate equal to (i) LIBOR, plus an agreed margin (ranging from 100 to 225 basis points), which is to be established quarterly based upon the Company’s ratio of consolidated EBITDA, defined as earnings before interest, taxes, depreciation and amortization, to the Company’s consolidated indebtedness (the “Leverage Ratio”), or (ii) an alternative base rate which is the higher of (a) the prime rate or (b) the federal funds rate plus  ¹⁄₂% per annum plus an agreed margin (ranging from 0 to 125 basis points). Interest payments are payable, in the case of loans bearing interest at a rate based on the federal funds rate, quarterly, or in the case of loans bearing interest at a rate based on LIBOR, at the end of the LIBOR advance periods, which can be a period of up to nine months at the option of the Company. The Company is also required to pay a commitment fee on unused available borrowings under the Credit Facility ranging from 10 to 35 basis points depending upon the Leverage Ratio. The Credit Facility contains customary covenants that restrict our ability to incur additional debt, encumber our assets, sell assets, make or enter into certain investments, loans or guaranties and enter into sale and leaseback arrangements. The Credit Facility also requires us to maintain a consolidated indebtedness ratio (calculated as consolidated indebtedness to consolidated earnings before interest, taxes, depreciation, amortization, certain transaction-related deductions and other non-

 

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cash deductions) of 3.5:1.0 or less and an interest coverage ratio (consolidated earnings before interest, taxes, depreciation, amortization, certain transaction-related deductions and other non-cash deductions to consolidated interest expense) of at least 2.5:1.0.  We had $327.0 million of borrowings outstanding at September 30, 2015. Based on our Leverage Ratio, we had $164.0 million of available borrowings, net of the outstanding letters of credit, at September 30, 2015.

The Credit Facility has a $50.0 million letter of credit facility. Under the letter of credit facility, the Company pays a fee at a per annum rate equal to the applicable margin for Eurodollar loans in effect from time to time plus a one-time letter of credit fee in an amount equal to 0.125% of the initial stated amount. At September 30, 2015, we had $9.0 million of letters of credit outstanding.

Senior Notes -

We entered into a Note Purchase Agreement on November 15, 2005 (the “2005 Note Purchase Agreement”) related to our sale of $200 million of senior, unsecured notes, designated as Series 2005A Senior Notes (the “Series 2005A Senior Notes”) in a private placement transaction. The Series 2005A Senior Notes, which are guaranteed by substantially all of our subsidiaries, were sold at par and issued in three tranches on November 15, 2005. Since entering into the 2005 Note Purchase Agreement, we have repurchased $81.1 million in principal of the Series 2005A Senior Notes (in periods prior to the fiscal year ended March 31, 2013). During November 2012, Tranche A of the Series 2005A Senior Notes matured and we retired the remaining $4.7 million in notes from this Tranche. Following these repurchases and maturities, the amounts outstanding for each of the remaining tranches are as follows:

 

 

Interest for each tranche of Notes is payable semi-annually on the 15^th day of May and the 15^th day of November of each year until all principal is paid for the respective tranche.

We also entered into an additional Note Purchase Agreement on October 2, 2007 (the “2007 Note Purchase Agreement”) related to our sale of $200 million of senior, unsecured notes, designated as Series 2007A Senior Notes (the “Series 2007A Senior Notes”) in a private placement transaction. The Series 2007A Senior Notes, which are guaranteed by substantially all of our subsidiaries, were sold at par and issued in four tranches on October 2, 2007. Since entering into the 2007 Note Purchase Agreement, we have repurchased $122.0 million in principal of the Series 2007A Senior Notes (in periods prior to the fiscal year ended March 31, 2013). During October 2014, Tranche A of the Series 2007A Senior Notes matured and we retired the remaining $9.5 million in notes from this Tranche. Following the repurchase, the amounts outstanding for each of the four tranches are as follows:

 

 

Interest for each tranche of Notes is payable semi-annually on the second day of April and the second day of October of each year until all principal is paid for the respective tranche.

Our obligations under the 2005 Note Purchase Agreement and the 2007 Note Purchase Agreement (collectively referred to as the “Note Purchase Agreements”) and the Series 2005A Senior Notes and the Series 2007A Senior Notes (collectively referred to as “the Senior Notes”) are equal in right of payment with all other senior, unsecured debt of the Company, including our debt under the Credit Facility. The Note Purchase Agreements contain customary restrictive covenants, including covenants that place limits on our ability to encumber our assets, to incur additional debt, to sell assets, or to merge or consolidate with third parties, as well

 

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as certain cross covenants with the Credit Facility. We were in compliance with all financial ratios and tests at September 30, 2015.

Pursuant to a Subsidiary Guaranty Agreement, substantially all of our subsidiaries have guaranteed the punctual payment of all principal, interest, and Make-Whole Amounts (as defined in the Note Purchase Agreements) on the Senior Notes and the other payment and performance obligations of the Company contained in the Senior Notes and in the Note Purchase Agreements. We are permitted, at our option and without penalty, to prepay from time to time at least 10% of the original aggregate principal amount of the Senior Notes at 100% of the principal amount to be prepaid, together with interest accrued on such amount to be prepaid to the date of payment, plus a Make-Whole Amount. The Make-Whole Amount is computed by discounting the remaining scheduled payments of interest and principal of the Senior Notes being prepaid at a discount rate equal to the sum of 50 basis points and the yield to maturity of U.S. treasury securities having a maturity equal to the remaining average life of the Senior Notes being prepaid.

We are leasing one of our cement plants from the city of Sugar Creek, Missouri. The city of Sugar Creek issued industrial revenue bonds to partly finance improvements to the cement plant. The lease payments due to the city of Sugar Creek under the cement plant lease, which was entered into upon the sale of the industrial revenue bonds, are equal in amount to the payments required to be made by the city of Sugar Creek to the holders of the industrial revenue bonds. Because we are the holder of all of the outstanding industrial revenue bonds, no debt is reflected on our financial statements in connection with our lease of the cement plant. At the conclusion of the lease in fiscal 2021, we have the option to purchase the cement plant for a nominal amount.

 

 

(N) SEGMENT INFORMATION

Operating segments are defined as components of an enterprise that engage in business activities that earn revenues, incur expenses and prepare separate financial information that is evaluated regularly by our chief operating decision maker in order to allocate resources and assess performance.

We operate in five business segments: Cement, Gypsum Wallboard, Recycled Paperboard, Oil and Gas Proppants and Concrete and Aggregates. These operations are conducted in the U.S. and include the mining of limestone and the manufacture, production, distribution and sale of Portland cement (a basic construction material which is the essential binding ingredient in concrete), the mining of gypsum and the manufacture and sale of gypsum wallboard, the manufacture and sale of recycled paperboard to the gypsum wallboard industry and other paperboard converters, the sale of readymix concrete and the mining and sale of aggregates (crushed stone, sand and gravel) and sand used in hydraulic fracturing (“frac sand”). The products that we manufacture, distribute and sell are basic materials used with broad application as construction products, building materials, and basic materials used for oil and natural gas extraction.  Our construction products are used in residential, industrial, commercial and infrastructure construction and include cement, concrete and aggregates.  Our building materials are sold into similar markets and include gypsum wallboard.  Our basic materials used for oil and natural gas extraction include frac sand and oil well cement.

We operate six cement plants, one slag grinding facility, sixteen cement distribution terminals, five gypsum wallboard plants, including the plant idled in Bernalillo, N.M., a gypsum wallboard distribution center, a recycled paperboard mill, seventeen readymix concrete batch plant locations, three aggregates processing plant locations, three frac sand processing facilities, three frac sand drying facilities and six frac sand trans-load locations. The principal markets for our cement products are Texas, northern Illinois (including Chicago), the central plains, the Rocky Mountains, northern Nevada, and northern California. Gypsum wallboard and recycled paperboard are distributed throughout the continental U.S, with the exception of the northeast. Concrete and aggregates are sold to local readymix producers and paving contractors in the Austin, Texas area, north of Sacramento, California and the greater Kansas City, Missouri area, while frac sand is currently sold into shale deposit zones across the United States.   During July 2015, we completed the Skyway Acquisition, which is operated by Illinois Cement Company, and its operations are included in the Cement segment.

 

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We conduct one of our six cement plant operations, Texas Lehigh Cement Company LP in Buda, Texas, through a Joint Venture. For segment reporting purposes only, we proportionately consolidate our 50% share of the Joint Venture’s revenues and operating earnings, which is consistent with the way management reports the segments within the Company for making operating decisions and assessing performance.

We account for intersegment sales at market prices. The following table sets forth certain financial information relating to our operations by segment:

 

 

 

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Segment operating earnings, including the proportionately consolidated 50% interest in the revenues and expenses of the Joint Venture, represent revenues, less direct operating expenses, segment depreciation, and segment selling, general and administrative expenses. Corporate assets consist primarily of cash and cash equivalents, general office assets, miscellaneous other assets and unrecognized tax benefits. The segment breakdown of goodwill is as follows:

 

 

Summarized financial information for the Joint Venture that is not consolidated is set out below (this summarized financial information includes the total amount for the Joint Venture and not our 50% interest in those amounts):

 

 

 

 

 

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(O) INTEREST EXPENSE

The following components are included in interest expense, net:

 

 

Interest income includes interest on investments of excess cash. Components of interest expense include interest associated with the Senior Notes, the Credit Facility and commitment fees based on the unused portion of the Credit Facility. Other expenses include amortization of debt issuance costs, and credit facility costs.

 

 

(P) COMMITMENTS AND CONTINGENCIES

 

We have certain deductible limits under our workers’ compensation and liability insurance policies for which reserves are established based on the undiscounted estimated costs of known and anticipated claims.  We have entered into standby letter of credit agreements relating to workers’ compensation and auto and general liability self-insurance.  At September 30, 2015, we had contingent liabilities under these outstanding letters of credit of approximately $9.0 million.

 

In the ordinary course of business, we execute contracts involving indemnifications that are standard in the industry and indemnifications specific to a transaction such as sale of a business.  These indemnifications may include claims relating to any of the following: environmental and tax matters; intellectual property rights; governmental regulations and employment-related matters; customer, supplier, and other commercial contractual relationships; construction contracts and financial matters.  While the maximum amount to which the Company may be exposed under such agreements cannot be estimated, it is the opinion of management that these indemnifications are not expected to have a material adverse effect on our consolidated financial position, results of operations or cash flows.  We currently have no outstanding guarantees.

 

We are currently contingently liable for performance under $13.6 million in performance bonds required by certain states and municipalities, and their related agencies.  The bonds are principally for certain reclamation obligations and mining permits.  We have indemnified the underwriting insurance company against any exposure under the performance bonds.  In our past experience, no material claims have been made against these financial instruments.

EPA Notice of Violation

On October 5, 2010, Region IX of the EPA issued a Notice of Violation and Finding of Violation (“NOV”) alleging violations by our subsidiary, Nevada Cement Company (“NCC”), of the Clean Air Act (“CAA”). The NOV alleges that NCC made certain physical changes to its facility in the 1990s without first obtaining permits required by the Prevention of Significant Deterioration requirements and Title V permit requirements of the CAA. The EPA also alleges that NCC has failed to submit to the EPA since 2002 certain reports required by the National Emissions Standard for Hazardous Air Pollutants General Provisions and the Portland Cement Manufacturing Industry Standards. On March 12, 2014, the EPA Region IX issued a second NOV to NCC. The second NOV is materially similar to the 2010 NOV except that it alleges violations of the new source performance standards (“NSPS”) for Portland cement plants. The NOVs state that the EPA may seek penalties although it does not propose or assess any specific level of penalties or specify what relief the EPA will seek for the alleged violations. NCC believes it has meritorious defenses to the allegations in the NOVs. NCC met with the

 

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EPA in December 2010, September 2012 and May 2014 to present its defenses and to discuss a resolution of the alleged violations. The EPA and NCC remain in discussions regarding the alleged violations. If a negotiated settlement cannot be reached, NCC intends to vigorously defend these matters in any enforcement action that may be pursued by the EPA. As a part of a settlement, or should NCC fail in its defense in any enforcement action, NCC could be required to make substantial capital expenditures to modify its facility and incur increased operating costs. NCC could also be required to pay significant civil penalties. Additionally, an enforcement action could take many years to resolve the underlying issues alleged in the NOV. We are currently unable to determine the final outcome of this matter or the impact of an unfavorable determination upon our financial position or results of operations.

Domestic Wallboard Antitrust Litigation

Since late December 2012, several purported class action lawsuits were filed in various United States District Courts, including the Eastern District of Pennsylvania, Western District of North Carolina and the Northern District of Illinois, against the Company’s subsidiary, American Gypsum Company LLC (“American Gypsum”), alleging that American Gypsum conspired with other wallboard manufacturers to fix the price for drywall sold in the United States in violation of federal antitrust laws and, in some cases related provisions of state law. The complaints allege that the defendant wallboard manufacturers conspired to increase prices through the announcement and implementation of coordinated price increases, output restrictions, and other restraints of trade, including the elimination of individual “job quote” pricing. In addition to American Gypsum, the defendants in these lawsuits include CertainTeed Corp., USG Corporation and United States Gypsum (together “USG”), New NGC, Inc., Lafarge North America, Temple Inland Inc. (“TIN”) and PABCO Building Products LLC. On April 8, 2013, the Judicial Panel on Multidistrict Litigation (“JPML”) transferred and consolidated all related cases to the Eastern District of Pennsylvania for coordinated pretrial proceedings.

On June 24, 2013, the direct and indirect purchaser plaintiffs filed consolidated amended class action complaints. The direct purchasers’ complaint added the Company as a defendant. The plaintiffs in the consolidated class action lawsuits bring claims on behalf of purported classes of direct or indirect purchasers of wallboard from January 1, 2012 to the present for unspecified monetary damages (including treble damages) and in some cases injunctive relief. On July 29, 2013, the Company and American Gypsum answered the complaints, denying all allegations that they conspired to increase the price of drywall and asserting affirmative defenses to the plaintiffs’ claims.

In 2014, USG and TIN entered into agreements with counsel representing the direct and indirect purchaser classes pursuant to which they agreed to settle all claims against them.  On August 20, 2015, the court granted final approvalof USG and TIN’s settlements with the direct and indirect purchaser plaintiffs.  Initial discovery in this litigation is complete.  At this stage we are unable to estimate the amount of any reasonably possible loss or range of reasonably possible losses associated with these lawsuits. American Gypsum denies the allegations in these lawsuits and will vigorously defend itself against these claims. Defendants’ motions for summary judgement were filed in the class actions in the first quarter of fiscal 2016.

On March 17, 2015, a group of homebuilders filed a complaint against the defendants, including American Gypsum, based upon the same conduct alleged in the consolidated class action complaints.  On March 24, 2015, the JPML transferred this action to the multidistrict litigation already pending in the Eastern District of Pennsylvania.

In June 2015, American Gypsum and an employee received grand jury subpoenas from the United States District Court for the Western District of North Carolina seeking information regarding an investigation of the gypsum drywall industry by the Antitrust Division of the Department of Justice.  We believe the investigation, although a separate proceeding, is related to the same subject matter at issue in the litigation described above and we intend to fully cooperate with government officials.  Given its preliminary nature, we are currently unable to determine the ultimate outcome of such investigation.

 

 

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(Q) FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of our long-term debt has been estimated based upon our current incremental borrowing rates for similar types of borrowing arrangements. The fair value of our Senior Notes at September 30, 2015 is as follows:

 

 

The estimated fair value of our long-term debt was based on quoted prices of similar debt instruments with similar terms that are publicly traded (level 2 input). The carrying values of cash and cash equivalents, accounts and notes receivable, accounts payable and accrued liabilities approximate their fair values at September 30, 2015 due to the short-term maturities of these assets and liabilities. The fair value of our Credit Facility also approximates its carrying value at September 30, 2015.

 

 

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition

EXECUTIVE SUMMARY

Eagle Materials Inc. is a diversified producer of basic construction products and building materials used in residential, industrial, commercial and infrastructure construction and products used in ion and natural gas extraction. Information presented for the three and six months ended September 30, 2015 and 2014, respectively, reflects the Company’s business segments, consisting of Cement, Gypsum Wallboard, Recycled Paperboard, Oil and Gas Proppants and Concrete and Aggregates. These operations are conducted in the U.S. and include the mining of limestone and the manufacture, production, distribution and sale of Portland cement (a basic construction material which is the essential binding ingredient in concrete) as well as specialty oil well cement; the mining of gypsum and the manufacture and sale of gypsum wallboard; the manufacture and sale of recycled paperboard to the gypsum wallboard industry and other paperboard converters; the sale of readymix concrete, the mining and sale of aggregates (crushed stone, sand and gravel) and the mining and sale of sand used in hydraulic fracturing (“frac sand”). The products that we manufacture, distribute and sell are basic materials with broad application as construction products, building materials and basic materials used for oil and natural gas extraction.  Our construction products are used in residential, industrial, commercial and infrastructure construction and include cement, concrete and aggregates. Our building materials are sold into similar markets and include gypsum wallboard.  Our basic materials used for oil and gas extraction include frac sand and oil well cement.  Certain information for each of Concrete and Aggregates is broken out separately in the segment discussions.

On November 14, 2014, we acquired of all of the outstanding equity interests of CRS Holdco LLC, CRS Proppants LLC, Great Northern Sand LLC, and related entities (collectively, “CRS Proppants”) (such acquisition, the “CRS Acquisition”). CRS Proppants is a supplier of frac sand to the energy industry, and its business currently consists of a frac sand mine in New Auburn, Wisconsin, and a trans-load network into Texas and southwest Oklahoma. The purchase price (the “CRS Purchase Price”) paid by the Company for the CRS Acquisition was approximately $236.1 million in cash, including approximately $8.9 million for in-process capital expenditures paid through the closing date, and estimated working capital and other estimated closing amounts. The CRS Purchase Price was funded through borrowings under the Company’s Credit Facility. CRS Proppants was in the process of expanding its frac sand mine in New Auburn, Wisconsin at the time of purchase. This expansion was completed during the first quarter of fiscal 2016, at a cost of approximately $8.0 million.

The decline in oil prices during the summer adversely impacted U.S. oil and gas drilling activity leading to further reductions in demand and pricing for proppants.  As a result, we recorded impairments to several intangible assets originally booked in connection with our acquisition of CRS Proppants and revalued downward certain raw sand inventory values associated with the downward revaluation of raw sand inventory that CRS Proppants purchased from a third party pursuant to a purchase contract entered into in connection with the plant expansion. We have fulfilled our obligations under this purchase contract.  The impairments and inventory revaluation charges totaled approximately $37.8 million (pre-tax) and are recorded within our Oil and Gas Proppants segment.  

On July 10, 2015, we completed the acquisition of a 600,000 ton per year Granulated Ground Blast Furnace Slag (“GGBFS”) plant in South Chicago (the “Skyway Plant”) from Holcim (US) Inc. (the “Skyway Acquisition”).  Among other applications, GGBFS is used in conjunction with Portland cement to make durable concrete structures.  The Skyway Plant purchases its primary raw material, slag, pursuant to a long term supply agreement with a third party.

The purchase price (the “Skyway Purchase Price”) for the Skyway Acquisition was approximately $29.9 million, net of $2.5 million which will be refunded over the next eighteen months. We funded the payment of the Skyway Purchase Price and expenses incurred in connection with the Skyway Acquisition through operating cash flow.  We also assumed certain liabilities, including contractual obligations, related to the Skyway Plant. 

We operate in cyclical commodity businesses that are affected by changes in market conditions and the overall construction environment. Our operations, depending on each business segment, range from local in

 

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nature to national businesses. We have operations in a variety of geographic markets, which subject us to the economic conditions in those geographic markets as well as economic conditions in the national market. General economic downturns or localized downturns in the regions where we have operations may have a material adverse effect on our business, financial condition and results of operations. Our Cement companies focus on the U.S. heartland in Texas, Oklahoma, Missouri, Colorado, Wyoming and Nevada, as well as the Chicago, Illinois metropolitan area. Due to the low value-to-weight ratio of cement, it is usually shipped within a 150 mile radius of the plants by truck and up to 300 miles by rail. Concrete and Aggregates are even more regional as our operations serve the areas immediately surrounding Austin, Texas, north of Sacramento, California and the greater Kansas City, Missouri area, while frac sand is currently sold into shale deposit zones across the United States. Cement, concrete and aggregates and frac sand demand may fluctuate more widely because local and regional markets and economies may be more sensitive to changes than the national markets. Our Wallboard and Paperboard operations are more national in scope and shipments are made throughout most of the continental United States, except for the northeast.

We conduct one of our cement operations through a joint venture, Texas Lehigh Cement Company LP, which is located in Buda, Texas (the “Joint Venture”). We own a 50% interest in the Joint Venture and account for our interest under the equity method of accounting. We proportionately consolidate our 50% share of the Joint Venture’s revenues and operating earnings in the presentation of our cement segment, which is the way management organizes the segments within the Company for making operating decisions and assessing performance.

RESULTS OF OPERATIONS

Consolidated Results

 

 

Revenues. Revenues were $329.0 million and $284.8 million for the three months ended September 30, 2015 and 2014, respectively. Revenues from the CRS and Skyway Acquisitions positively impacted revenues by approximately $12.5 million and $9.2 million, respectively.  Revenues increased in all of our segments except our legacy oil and gas proppants segment.  The increase in revenues was due primarily to increased average net sales prices in all segments except gypsum wallboard, which was down slightly and increased sales volumes in all segments except aggregates.  The reduction in revenues from our legacy oil and gas proppants business was due primarily to reduced sales volumes. Excluding revenues from the CRS and Skyway Acquisitions, increased net sales prices and sales volumes positively impacted net revenue during the quarter ended September 30, 2015, by approximately $7.8 million and $14.7 million, respectively.  

 

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Revenues were $614.0 million and $551.1 million for the six months ended September 30, 2015 and 2014, respectively. Revenues from the CRS and Skyway Acquisitions positively impacted revenues by approximately $31.2 million and $9.2 million, respectively.  Revenues increased in all of our segments except our legacy oil and gas proppants segment.  The increase in revenues was due primarily to increased average net sales prices in all segments except gypsum wallboard and recycled paperboard, which were flat and increased sales volumes in all segments except cement and aggregates.  The reduction in revenues from our legacy oil and gas proppants business was due primarily to reduced sales volumes. Excluding revenues from the CRS and Skyway Acquisitions, increased net sales prices and sales volumes positively impacted net revenue during the quarter ended September 30, 2015, by approximately $16.8 million and $5.7 million, respectively.  

Cost of Goods Sold. Cost of goods sold was $284.7 million and $209.7 million during the three months ended September 30, 2015 and 2014, respectively. Of the $75.0 million increase in cost of goods sold, approximately $53.7 million and $6.5 million of the increase related to the CRS and Skyway Acquisitions, respectively. The remaining $14.8 million increase in cost of goods sold was related to increases in both sales volumes and operating costs, which increased cost of sales by approximately $12.1 million and $2.7 million, respectively. The increase in operating costs in the three months ended September 30, 2015, compared to September 30, 2014, was primarily related to our paperboard and concrete and aggregates businesses and was approximately $2.5 million and $1.9 million, respectively, partially offset by decreased operating costs in our gypsum wallboard business of approximately $2.1 million.   Cost of goods sold includes an impairment charge of $28.4 million of intangible assets (customer contracts) generated from the CRS Acquisition and a write-down of $9.4 million in raw sand inventory values associated primarily with downward revaluation of raw sand inventory that CRS Proppants purchased from a third party pursuant to a purchase contract entered into in connection with the plant expansion. We have fulfilled our obligations under this purchase contract.

Cost of goods sold was $508.6 million and $419.6 million during the six months ended September 30, 2015  and 2014, respectively.  Of the $89.0 million increase in cost of goods sold, approximately $77.3 million and $6.5 million of the increase related to the CRS and Skyway Acquisitions, respectively. The remaining $5.2 million increase in cost of goods sold was related to increased sales volumes, which increased cost of sales by approximately $5.1 million, respectively. Operating costs for the six months ended September 30, 2015, compared to September 30, 2014, increased for our paperboard and concrete and aggregates businesses by approximately $1.3 million and $3.5 million, respectively, partially offset by decreased operating costs in our cement and gypsum wallboard business of approximately $0.9 million and $4.0 million, respectively.   Cost of goods sold includes an impairment charge of $28.4 million of intangible assets (customer contracts) generated from the CRS Acquisition and a write-down of $9.4 million in raw sand inventory values associated primarily with downward revaluation of raw sand inventory that CRS Proppants purchased from a third party pursuant to a purchase contract entered into in connection with the plant expansion.  We have fulfilled our obligations under this purchase contract.

Gross Profit. Gross profit was $44.3 million and $75.1 million during the three months ended September 30, 2015 and 2014, respectively. The 41% decrease in gross profit was due primarily to a $28.4 million impairment of customer contract intangible assets and increased operating costs, including the $9.4 million write-down of working capital, partially offset by increased average sales prices, as noted above. The gross margin for the three months ended September 30, 2015 declined to 13%, compared to 26% for the three months ended September 30, 2014, primarily due to the $28.4 million impairment of customer contract intangibles and the write-down of $9.4 million in raw sand inventory.  Excluding this expense, the gross margin for the three months ended September 30, 2015 would have been relatively consistent with the gross margin for the three months ended September 30, 2014.

Gross profit was $105.4 million and $131.5 million during the six months ended September 30, 2015 and 2014, respectively. The 20% decrease in gross profit was due primarily to a $28.4 million impairment of customer contract intangible assets and increased operating costs, including the $9.4 million write-down of working capital, partially offset by increased average sales prices, as noted above. The gross margin for the six months ended September 30, 2015 declined to 17%, compared to 24% for the six months ended September 30, 2014, primarily

 

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due to the $28.4 million impairment of customer contract intangibles and the write-down of $9.4 million in raw sand inventory.  Excluding this expense, the gross margin for the six months ended September 30, 2015 would have been relatively consistent with the gross margin for the six months ended September 30, 2014.

Equity in Earnings of Joint Venture. Equity in earnings of our unconsolidated joint venture decreased $0.4 million, or 3%, for the three months ended September 30, 2015, compared to the similar period in 2014. The decrease is primarily due to a 17% decrease in sales volumes and an increase in operating cost, partially offset by a 7% increase in average net sales price. The sales volume decline was driven by reduced demand for oil well cement.  The impact of the decrease in sales volumes and increase in operating costs on equity in earnings of our unconsolidated joint venture during the three months ended September 30, 2015, compared to the three months ended September 30, 2014, was approximately $2.0 million and $0.3 million, respectively, partially offset by an increase in average net sales price of approximately $1.9 million.

Equity in earnings of our unconsolidated joint venture decreased $2.3 million, or 11%, for the six months ended September 30, 2015, compared to the similar period in 2014. The decrease is primarily due to a 21% decrease in sales volumes and an increase in operating costs, partially offset by a 9% increase in average net sales price. The decrease in sales volumes during the six months ended September 30, 2015, compared to the six months ended September 30, 2014, was due primarily to above average rainfall during April and May 2015, and reduced demand for oil well cement.  The impact of the decrease in sales volumes and increase in operating cost on equity in earnings of our unconsolidated joint venture during the six months ended September 30, 2015, compared to the six months ended September 30, 2014, was approximately $4.5 million and $2.5 million, respectively, partially offset by an increase in average net sales price of approximately $4.6 million. The increase in operating costs was primarily due to an increase in maintenance costs of approximately $2.0 million.

Corporate General and Administrative. Corporate general and administrative expenses increased 26% and 27% for the three and six months ended September 30, 2015, respectively, compared to the similar periods in 2014. The approximately $2.0 million and $3.9 million increase in corporate general and administrative expenses for the three and six months ended September 30, 2015, respectively, compared to 2014, is due primarily to an increase in equity incentive compensation expense. Equity incentive compensation increased approximately $0.7 million and $1.9 million during the three and six months ended September 30, 2015, respectively, compared to the similar period in 2014, primarily due to the Fiscal 2016 Employee Restricted Stock Awards and increased operating earnings from most of our segments. Additionally, legal expense increased approximately $0.5 million and $0.4 million during the three and six months ended September 30, 2015, respectively, compared to the similar period in 2014, primarily due to the legal issues discussed in Footnote (P) to the Unaudited Consolidated Financial Statements.

Acquisition and Litigation Expense. Acquisition and litigation expense consist primarily of approximately $1.7 million of litigation expenses related to our lawsuit against the IRS.  This lawsuit was settled in January 2015.  The remaining expense is due to the CRS Acquisition, which closed in November 2014.

Other Income. Other income consists of a variety of items that are non-segment operating in nature and includes non-inventoried aggregates income, gypsum wallboard distribution center income, asset sales and other miscellaneous income and cost items.

Interest Expense, Net. Interest expense, net, increased approximately $0.4 million and $0.9 million during the three and six months ended September 30, 2015, respectively, compared to the three and six months ended September 30, 2014. The 11% increase in interest expense, net for both of the three and six months ended September 30, 2015, compared to the similar three and six months in the prior fiscal year, is due primarily to the increase in interest expense from our Credit Facility, which increased approximately $0.8 million and $1.6 million in the three and six months ended September 30, 2015, respectively, compared to the three and six months ended September 30, 2014, partially offset by decreased interest from our Senior Notes and our lawsuit with the IRS. The increase in interest expense from our Credit Facility is due to greater outstanding balances during the three and six months ended September 30, 2015, compared to the three and six months ended September 30, 2014, as a

 

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result of borrowings made to finance the CRS Acquisition in November 2014 and the Skyway Acquisition in July 2015. Because of the borrowings to finance the CRS and Skyway Acquisitions, we expect interest expense to increase during fiscal 2016 compared to fiscal 2015.  Additionally, interest expense from our Senior Notes decreased $0.1 million and $0.3 million during the three and six months ended September 30, 2015, respectively, compared to the three and six months ended September 30, 2014, due to the maturity and repayment of $9.5 million during October 2014.  We also had approximately $0.2 million and $0.4 million of interest expense during the three and six months ended September 30, 2014, respectively, related to an outstanding lawsuit with the IRS that was settled in January 2015.  

Earnings Before Income Taxes. Earnings before income taxes were $42.8 million and $74.6 million during the three months ended September 30, 2015 and 2014, respectively. The decrease was primarily due to an approximately $30.8 million decrease in gross profit, an approximate $0.4 million decrease in equity in earnings of unconsolidated joint venture, an increase in interest expense, net of approximately $0.4 million and an increase of approximately $2.0 million in corporate general and administrative expenses.

Earnings before income taxes were $98.7 million and $130.4 million during the six months ended September 30, 2015 and 2014, respectively. The decrease was primarily due to an approximately $26.1 million decrease in gross profit, an approximate $2.4 million decrease in equity in earnings of unconsolidated joint venture, an increase in interest expense, net of approximately $0.8 million and an increase of approximately $3.9 million in corporate general and administrative expenses.

Income Taxes. Income tax expense was $31.1 million and $42.3 million for the six months ended September 30, 2015 and 2014, respectively. The estimated effective tax rate for fiscal 2015, compared to fiscal 2014, remained consistent at approximately 32%.

Net Earnings and Diluted Earnings per Share. Net earnings for the quarter ended September 30, 2015 of approximately $29.8 million decreased 41% compared to net earnings for the quarter ended September 30, 2014 of approximately $50.3 million; while net earnings of $67.6 million decreased 23% compared to net earnings for the six months ended September 30, 2014 of $88.0 million. Diluted earnings per share for the three and six months ended September 30, 2015 were $0.59 and $1.34, respectively, compared to diluted earnings per share of $1.00 and $1.75 for the three and six months ended September 30, 2014.

 

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The following table highlights certain operating information related to our five business segments:

 

Cement Operations. Cement revenues were $164.8 million for the three months ended September 30, 2015, which is a 13% increase over revenues of $145.9 million for the three months ended September 30, 2014. Approximately $9.2 million of the increase in revenues for the three months ended September 30, 2015, compared to the three months ended September 30, 2014, was related to the Skyway Acquisition. The remaining increase in revenue during the three months ended September 30, 2015, compared to the three months ended September 30, 2014, is primarily due to an 8% increase in average net sales prices and a 1% increase in sales volumes.  The increase in average net sales prices and sales volumes during the three months ended September 30, 2015, compared to the three months ended September 30, 2014 positively impacted cement revenues by approximately $8.8 million and $0.9 million, respectively.  

Cement operating earnings increased 26% to $48.6 million from $38.5 million for the three months ended September 30, 2015 and 2014, respectively. Approximately $2.7 million of the increase in operating earnings for the three months ended September 30, 2015, compared to the three months ended September 30, 2014, was related to the Skyway Acquisition.  The remaining increase in operating earnings was due primarily to increased

 

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average net sales prices, which positively impacted operating earnings by approximately $8.8 million, partially offset by increased operating costs of approximately $1.4 million. The increase in operating costs in the three months ended September 30, 2015, compared to September 30, 2014, is primarily related maintenance and purchased raw materials, which negatively impacted operating margin by approximately $1.0 million and $1.6 million respectively.  Additionally, the percentage of purchased cement sold during the three months ended September 30, 2015 declined approximately 3% from purchased cement sold during September 30, 2014, which positively impacted our operating earnings by approximately $1.1 million.  The operating margin increased to 29% for the second quarter of fiscal 2016, compared to 26% for the second quarter of fiscal 2015, primarily due to increased sales prices and a reduction in the percentage of sales of lower margin purchased cement.

Cement revenues were $293.0 million for the six months ended September 30, 2015, which is a 7% increase over revenues of $273.8 million for the six months ended September 30, 2014. Approximately $9.2 million of the increase in revenues for the six months ended September 30, 2015, compared to the six months ended September 30, 2014, was related to the Skyway Acquisition. The remaining increase in revenue during the six months ended September 30, 2015 compared to the six months ended September 30, 2014, is primarily due to an 8% increase in average net sales prices, partially offset by a 3% decrease in sales volumes.  The increase in average net sales prices during the six months ended September 30, 2015, compared to the six months ended September 30, 2014 positively impacted cement revenues by approximately $18.1 million, while the decrease in sales volumes negatively impacted cement revenues by approximately $8.1 million.  The decrease in sales volumes during the six months ended September 30, 2015, compared to the six months ended September 30, 2014 was primarily related to above average rainfall during April and May 2015 in our Texas, Oklahoma and Colorado markets.  

Cement operating earnings increased 26% to $74.3 million from $59.0 million for the six months ended September 30, 2015 and 2014, respectively. Approximately $2.7 million of the increase in operating earnings for the three months ended September 30, 2015, compared to the three months ended September 30, 2014, was related to the Skyway Acquisition.  The remaining increase in operating earnings was due primarily to increased average net sales prices, which positively impacted operating earnings by approximately $18.1 million, partially offset by decreased sales volumes and increased operating costs of approximately $3.5 million and $2.0 million. The increase in operating costs in the six months ended September 30, 2015, compared to September 30, 2014, is primarily related to increased maintenance, which adversely impacted operating earnings by approximately $6.8 million, partially offset by decreased energy costs of approximately $2.8 million.  The increase in maintenance costs was due primarily to a shift in the timing of some of our annual maintenance outages, which adversely impacted operating earnings by approximately $3.0 million during the first quarter of fiscal 2016, compared to the first quarter of fiscal 2015. Additionally, the percentage of purchased cement sold during the six months ended September 30, 2015 declined approximately 2% from purchased cement sold during September 30, 2014, which positively impacted our operating earnings by approximately $1.9 million.  The operating margin increased to 25% for the six months ended September 30, 2015, compared to 22% for the six months ended September 30, 2014, primarily due to increased sales prices and a reduction in the percentage of sales of lower margin purchased cement.

Gypsum Wallboard Operations. Sales revenues increased 7% to $119.7 million for the three months ended September 30, 2015, from $111.7 million for the three months ended September 30, 2014, primarily due to a 9% increase in sales volumes, partially offset by a 1% decrease in average net sales price. The increase in sales volumes positively impacted revenues by approximately $10.2 million, while the decrease in average net sales price negatively impacted revenue by an approximately $2.2 million. The increased sales volumes are primarily due to increased construction activity in fiscal 2016, compared to fiscal 2015. Our market share was essentially unchanged during the last year.

Operating earnings increased to $40.0 million for the three months ended September 30, 2015, compared to $37.0 million for the three months ended September 30, 2014, primarily due to the increase in our sales volumes and reduced operating costs, which positively impacted operating earnings by approximately $3.2 million and $2.0 million, respectively, partially offset by reduced average net sales prices, which adversely impacted

 

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operating earnings by approximately $2.2 million. The decrease in operating costs during the three months ended September 30, 2015, compared to the three months ended September 30, 2014, was primarily due to reduced freight, natural gas and other raw materials costs, which positively impacted operating earnings by $0.8 million, $1.2 million and $0.5 million, respectively, partially offset by increased maintenance costs of approximately $0.9 million. Our operating margin remained flat at 33% for both of the three months ended September 30, 2015, and 2014. Fixed costs are not a significant part of the overall cost of wallboard; therefore, changes in utilization have a relatively minor impact on our operating cost per unit.

Sales revenues increased 5% to $234.8 million for the three months ended September 30, 2015, from $224.3 million for the three months ended September 30, 2014, primarily due to a 5% increase in sales volumes. The increase in sales volumes positively impacted revenues by approximately $11.8 million, partially offset by a decline in average net sales prices, which adversely impacted revenues by approximately $1.4 million.  The increased sales volumes are primarily due to increased construction activity in fiscal 2016, compared to fiscal 2015. Our market share was essentially unchanged during the last year.

Operating earnings increased to $80.9 million for the six months ended September 30, 2015, compared to $74.4 million for the six months ended September 30, 2014, primarily due to the increase in our sales volumes and reduced operating costs, which positively impacted operating earnings by approximately $3.9 million and $4.0 million, respectively, partially offset by reduced average net sales prices, which adversely impacted operating earnings by approximately $1.4 million. The decrease in operating costs during the six months ended September 30, 2015, compared to the six months ended September 30, 2014, was primarily due to reduced freight, natural gas and other raw materials costs, which positively impacted operating earnings by $0.9 million, $1.4 million and $0.9 million, respectively, partially offset by increased maintenance costs of approximately $1.3 million. Our operating margin increased to 34% for the six months ended September 30, 2015, compared to 33% for the six months ended September 30, 2014, primarily due to the reduction in operating costs. Fixed costs are not a significant part of the overall cost of wallboard; therefore, changes in utilization have a relatively minor impact on our operating cost per unit.

Recycled Paperboard Operations. Revenues increased 10% to $39.1 million during the three months ended September 30, 2015, compared to $35.6 million for the three months ended September 30, 2014. The increase in revenues during the quarter ended September 30, 2015 compared to September 30, 2014, is due primarily to the 7% and 1% increase in sales volume and average net sales price, respectively, which positively impacted revenue by approximately $2.5 million and $1.0 million, respectively.

Operating earnings increased to $8.1 million for the second quarter of fiscal 2016, compared to $8.0 million for the second quarter of fiscal 2015. The increase in operating earnings is primarily due to increased sales volumes and average net sales price, which positively impacted operating earnings by approximately $1.6 million, $1.0 million, respectively, partially offset by increased operating costs, which adversely impacted operating earnings by approximately $2.5 million. The increase in operating costs is primarily related to increased recycled fiber costs, which negatively impacted operating earnings by approximately $2.5 million, partially offset by lower natural gas costs, which positively impacted operating earnings by approximately $0.4 million, respectively. The increase in operating costs was the primary reason operating margin decreased to 21% during the second quarter of fiscal 2016, compared to 22% during the second quarter of fiscal 2015.

Revenues increased 2% to $74.5 million during the six months ended September 30, 2015, compared to $73.1 million for the six months ended September 30, 2014. The increase in revenues during the six months ended September 30, 2015 compared to the six months ended September 30, 2014, is due primarily to the 1% increase in sales volume, which positively impacted revenue by approximately $1.6 million. Average net sales prices remained consistent for the six months ended September 30, 2015, compared to the six months ended September 30, 2014.

Operating earnings decreased to $14.2 million for the six months ended September 30, 2015, compared to $15.5 million for the six months ended September 30, 2014. The decrease in operating earnings is primarily due

 

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to increased operating costs, which negatively impacted operating earnings by approximately $1.4 million, partially offset by increased sales volumes, which positively impacted operating earnings by $0.1 million. The increase in operating costs is primarily related to increased recycled fiber, which negatively impacted operating earnings by approximately $2.2 million, partially offset by lower natural gas costs, which positively impacted operating earnings by approximately $0.6 million. The increase in operating costs was the primary reason operating margin decreased to 19% during the six months ended September 30, 2015, compared to 21% during the six months ended September 30, 2014.

Concrete and Aggregates Operations. Concrete and aggregates revenues increased 15% to $36.7 million for the three months ended September 30, 2015, compared to $32.0 million for the three months ended September 30, 2014. The primary reason for the increase in revenue for the second quarter of fiscal 2016, compared to the second quarter of fiscal 2015, was the 6% and 9% increase in average net sales prices for concrete and aggregates, respectively, which positively impacted revenues by approximately $2.3 million.  The increase in sales volumes by our concrete business was partially offset by lower sales volumes in our aggregates during the second quarter of fiscal 2016, compared to the second quarter of fiscal 2015, and positively impacted revenues by approximately $2.4 million.  

Operating earnings increased 30% to approximately $3.9 million for the three months ended September 30, 2015, compared to $3.0 million for the three months ended September 30, 2014. Operating earnings were positively impacted by increased average net sales prices and sales volumes, which positively impacted operating earnings by approximately $2.3 million and $0.5 million, respectively, partially offset by increased operating costs of approximately $1.9 million during the three months ended September 30, 2015, compared to the three months ended September 30, 2014. The increase in operating costs during the three months ended September 30, 2015, compared to the three months ended September 30, 2014, was primarily related to purchased materials, which adversely impacted operating earnings by approximately $1.8 million.

Concrete and aggregates revenues increased 12% to $65.2 million for the six months ended September 30, 2015, compared to $58.1 million for the six months ended September 30, 2014. The primary reason for the increase in revenue for the six months ended September 30, 2015, compared to the six months ended September 30, 2014, was the 7% and 8% increase in average net sales prices for concrete and aggregates, respectively, which positively impacted revenues by approximately $4.7 million.  The increase in sales volumes by our concrete business was partially offset by lower sales volumes in our aggregates during the second quarter of fiscal 2016, compared to the second quarter of fiscal 2015, and positively impacted revenues by approximately $2.4 million.  

Operating earnings increased 34% to approximately $5.8 million for the six months ended September 30, 2015, compared to $4.3 million for the six months ended September 30, 2014. Operating earnings were positively impacted by increased average net sales prices and sales volumes, which positively impacted operating earnings by approximately $4.7 million and $0.3 million, respectively, partially offset by increased operating costs of approximately $3.5 million during the six months ended September 30, 2015, compared to the six months ended September 30, 2014. The increase in operating costs during the six months ended September 30, 2015, compared to the six months ended September 30, 2014, was primarily related to purchased materials, which adversely impacted operating earnings by approximately $3.1 million.

Oil and Gas Proppants.  Revenues for our oil and gas proppants segment increased approximately $7.9 million to $18.3 million during the three months ended September 30, 2015, compared to $10.4 million during the three months ended September 30, 2014.  Approximately $12.5 million of the increase in revenues for the three months ended September 30, 2015 was related to the CRS Acquisition, partially offset by a decline in sales volumes and average net sales prices at our legacy facility in Corpus Christi which adversely impacted revenues by approximately $3.8 million and $0.8 million, respectively.  

Operating loss for the three months ended September 30, 2015 was approximately $44.6 million, compared to operating income of approximately $0.7 million during the three months ended September 30, 2014. The

 

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operating loss was primarily due to increased operating costs and reduced average net sales prices that impacted operating loss by $39.7 million and $6.6 million, respectively. Operating loss for the second quarter of fiscal 2016 includes an impairment charge of $28.4 million of intangible assets (customer contracts) generated from the CRS Acquisition and a write-down of $9.4 million in raw sand inventory values associated primarily with downward revaluation of raw sand inventory that CRS Proppants purchased from a third party pursuant to a purchase contract entered into in connection with the plant expansion.  We have fulfilled our obligations under this purchase contract. The increase in operating loss during the three months ended September 30, 2015, compared to September 30, 2014 was partially offset by increased sales volumes, which reduced the operating loss by approximately $1.0 million.

Revenues for our oil and gas proppants segment increased approximately $19.5 million to $41.1 million during the six months ended September 30, 2015, compared to $21.6 million during the six months ended September 30, 2014.  Approximately $31.2 million of the increase in revenues for the six months ended September 30, 2015 was related to the CRS Acquisition, partially offset by a decline in sales volumes and average net sales prices at our legacy facility in Corpus Christi which adversely impacted revenues by approximately $10.9 million and $0.8 million, respectively.  

Operating loss for the six months ended September 30, 2015 was approximately $50.2 million, compared to operating income of approximately $0.1 million during the six months ended September 30, 2014. The increased operating loss was primarily due to increased operating costs and reduced average net sales prices that increased the operating loss by $38.2 million and $11.8 million, respectively. Operating loss for the six months ended September 30, 2015 includes an impairment charge of $28.4 million of intangible assets (customer contracts) generated from the CRS Acquisition and a write-down of $9.4 million in raw sand inventory values associated primarily with downward revaluation of raw sand inventory that CRS Proppants purchased from a third party pursuant to a purchase contract entered into in connection with the plant expansion.  We have fulfilled our obligations under this purchase contract.

GENERAL OUTLOOK

The drivers of construction products demand continue to improve incrementally, reinforcing the notion that a cyclic recovery is underway. The pace of recovery continues to hinge on the pace of growth in the U.S. economy. Our cement sales network stretches across the central U.S., both east to west and north to south. While we anticipate cement consumption to continue to increase during calendar 2015, each region will increase at a different pace. Cement markets are affected by infrastructure spending, industrial construction and residential building activity. We expect improvement to vary in each of our cement markets. During the first quarter of fiscal 2016, adverse weather in our Texas, Oklahoma and Colorado markets negatively impacted cement consumption in these markets.  We anticipate that some of the reduced sales volumes will be recovered during the remainder of calendar 2015.

We do not necessarily anticipate significant increases in concrete and aggregate sales volumes in northern California. We are experiencing a recovery in both volume and price in our Austin, Texas markets, and expect price and volumes to continue to increase throughout calendar 2015. Demand in the greater Kansas City area is expected to be stable during calendar 2015, compared to calendar 2014.

Wallboard demand is heavily influenced by new residential housing construction as well as repair and remodeling. Most forecasts point to a continued pick-up in demand in both of these areas throughout calendar 2015. Industry shipments of gypsum wallboard exceeded 21.5 billion square feet in calendar 2014, and are expected to increase to 22.5 billion square feet in in calendar 2015. 

We expect increased demand for gypsum wallboard to positively impact our recycled paperboard business as sales of higher priced gypsum paper are expected to continue to increase during fiscal 2016, compared to fiscal 2015, both in gross tons and as a percentage of total sales volumes.

 

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The recent decline in oil rig count and well completion activity has adversely impacted oil and gas activity, leading to reduced demand and pricing for proppants.  We expect these conditions to persist throughout calendar 2015 and into calendar 2016; however, we remain focused on strengthening our low-cost position and taking this opportunity to continue to build our low delivered cost position to targeted shale plays.  

We will continue to consider the impact reduced oil prices and rig counts have on the operating performance of our oil and gas proppants business and, if necessary, determine whether these trends indicate additional impairment in the value of the tangible and intangible assets of this business.  If market conditions continue to deteriorate, both in terms of oil pricing and increased rig counts, we will perform impairment tests to determine if any actual impairment has occurred.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to adopt accounting policies and make significant judgments and estimates to develop amounts reflected and disclosed in the financial statements. In many cases, there are alternative policies or estimation techniques that could be used. We maintain a thorough process to review the application of our accounting policies and to evaluate the appropriateness of the many estimates that are required to prepare our financial statements. However, even under optimal circumstances, estimates routinely require adjustment based on changing circumstances and the receipt of new or better information.

Information regarding our “Critical Accounting Policies and Estimates” can be found in our Annual Report. The five critical accounting policies that we believe either require the use of the most judgment, or the selection or application of alternative accounting policies, and are material to our financial statements, are those relating to long-lived assets, goodwill, environmental liabilities, accounts receivable and income taxes. Management has discussed the development and selection of these critical accounting policies and estimates with the Audit Committee of our Board of Directors and with our independent registered public accounting firm. In addition, Note (A) to the financial statements in our Annual Report contains a summary of our significant accounting policies.

Recent Accounting Pronouncements

Refer to Note (A) in the Notes to Unaudited Consolidated Financial Statements of the Form 10-Q for information regarding recently issued accounting pronouncements that may affect our financial statements.

 

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LIQUIDITY AND CAPITAL RESOURCES

Cash Flow.

The following table provides a summary of our cash flows:

 

 

Cash flows from operating activities decreased to $107.6 million during the six months ended September 30, 2015, compared to $117.7 million during the similar period in 2014. This decrease was largely attributable to decreased cash flows from changes in operating assets and liabilities and reduced distributions from Joint Venture.  Excluding the impact of inventory purchased in the Skyway Acquisition, cash flows from operations were negatively impacted during the six months ended September 30, 2015 by increases in accounts and notes receivable and accounts payable and accrued liabilities of approximately $39.4 million and $1.5 million, respectively, and a decrease in inventory and income taxes payable of approximately $13.2 million and $4.7 million, respectively. During the six months ended September 30, 2014, cash flows from operations were negatively impacted by increases in accounts and notes receivable and inventories of approximately $29.8 million and $3.6 million, respectively, partially offset by increases in accounts payable and accrued liabilities and income taxes payable and decreased other assets of approximately $16.9 million, $11.1 million and $2.8 million, respectively.

Working capital increased to $212.2 million at September 30, 2015, compared to $182.1 million at March 31, 2015, primarily due to the increased accounts and notes receivable and decreased accounts payable and accrued liabilities of approximately $41.4 million and $3.9 million, respectively, partially offset by increased income taxes payable and decreased inventories of approximately $5.1 million and $10.8 million, respectively.  The increase in accounts receivable is due primarily to the increase in revenues during the three months ended September 30, 2015, compared to the six months ended September 30, 2014.  The decrease in accounts payable and accrued liabilities is primarily due to increased accruals at year end for expected cement plant outages as well as certain construction payables related to our plant expansion in New Auburn, Wisconsin. The increase is income taxes payable during the six months ended September 30, 2015, compared to September 30, 2014, is due to our ability to use previous overpayments to offset our liability at September 30, 2014.  Working capital related to the Skyway Acquisition increased working capital at September 30, 2015 by approximately $5.5 million, and primarily consisted of accounts receivable and inventory.

The increase in accounts and notes receivable at September 30, 2015, compared to March 31, 2015, is primarily due to increased sales revenue during the three months ended September 30, 2015, compared to the three months ended March 31, 2015.  As a percentage of quarterly sales generated in the quarter then ended, accounts receivable were approximately 47% at September 30, 2015 and 51% at March 31, 2015. Management

 

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measures the change in accounts receivable by monitoring the days sales outstanding on a monthly basis to determine if any deterioration has occurred in the collectability of the accounts receivable. No significant deterioration in the collectability of our accounts receivable in our construction products and building materials businesses was identified at September 30, 2015; however, we increased our allowance for doubtful accounts approximately $2.0 million in recognition of the downturn in our oil and gas proppants business, and potential financial impact of this downturn on our customers. Notes receivable are monitored on an individual basis, and no significant deterioration in the collectability of notes receivable was identified at September 30, 2015.

Our inventory balance at September 30, 2015 declined approximately $10.8 million from our inventory balance at March 31, 2015. Within our inventory, raw materials and materials-in-progress and finished cement decreased approximately $7.6 million and $2.2 million, respectively. The decrease in raw materials and materials-in-progress was due to the conversion of clinker inventory to meet sales demand and the write-down of $9.4 million in raw sand inventory values associated primarily with downward revaluation of raw sand inventory that CRS Proppants purchased from a third party pursuant to a purchase contract entered into in connection with the plant expansion, partially offset by increased raw sand tonnage at September 30, 2015, compared to March 31, 2015.  The decline in finished cement is consistent with our business cycle as we generally build inventory over the winter to meet the demand in the spring and summer.  The largest individual balance in our inventory is our repair parts. These parts are necessary given the size and complexity of our manufacturing plants, as well as the age of certain of our plants, which creates the need to stock a high level of repair parts inventory. We believe all of these repair parts are necessary and we perform semi-annual analyses to identify obsolete parts. We have less than one year’s sales of all product inventories, and our inventories have a low risk of obsolescence due to our products being basic construction materials.

Net cash used in investing activities during the six months ended September 30, 2015 was approximately $88.3 million, compared to net cash used in investing activities of approximately $40.0 million during the similar period in 2014, an increase of $48.3 million. The increase in net cash used in investing activities is primarily related to the Skyway Acquisition and capital expenditures in our oil and gas proppants segment.  We anticipate spending between $20.0 million and $25.0 million on sustaining capital expenditures for all of our businesses during fiscal 2016, which is consistent with historic levels.

Net cash used in financing activities was approximately $20.5 million during the six months ended September 30, 2015, compared to net cash used in financing activities of approximately $73.0 million during the similar period in 2014. This $52.5 million decrease in net cash used in financing activities is primarily due to the reduction in repayments under the Credit Facility, due to the Skyway Acquisition and increased capital expenditures. Our debt-to-capitalization ratio and net-debt-to-capitalization ratio improved to 32.3% and 32.0%, respectively, at September 30, 2015, compared to 33.7% and 33.4%, respectively, at March 31, 2015.

    

Debt Financing Activities.

Bank Credit Facility

We have a $500.0 million revolving credit facility (the “Credit Facility”), including a swingline loan sublimit of $25.0 million, which is scheduled to expire on October 30, 2019.  Borrowings under the Credit Facility are guaranteed by substantially all of the Company’s subsidiaries.  At the option of the Company, outstanding principal amounts on the Credit Facility bear interest at a variable rate equal to (i) LIBOR, plus an agreed margin (ranging from 100 to 225 basis points), which is to be established quarterly based upon the Company’s ratio of consolidated EBITDA, defined as earnings before interest, taxes, depreciation and amortization, to the Company’s consolidated indebtedness (the “Leverage Ratio”), or (ii) an alternative base rate which is the higher of (a) the prime rate or (b) the federal funds rate plus ½% per annum plus an agreed margin (ranging from 0 to 125 basis points).  Interest payments are payable, in the case of loans bearing interest at a rate based on the federal funds rate, quarterly, or in the case of loans bearing interest at a rate based on LIBOR, at the end of the LIBOR advance periods, which can be up to a period of nine months at the option of the Company.  The Company is also required to pay a commitment fee on unused available borrowings under the Credit Facility

 

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ranging from 10 to 35 basis points depending upon the Leverage Ratio.  The Credit Facility contains customary covenants that restrict our ability to incur additional debt, encumber our assets, sell assets, make or enter into certain investments, loans or guaranties and enter into sale and leaseback arrangements.  The Credit Facility also requires us to maintain a consolidated indebtedness ratio (calculated as consolidated indebtedness to consolidated earnings before interest, taxes, depreciation, amortization, certain transaction-related deductions and other non-cash deductions) of 3.5:1.0 or less and an interest coverage ratio (consolidated earnings before interest, taxes, depreciation, amortization, certain transaction-related deductions and other non-cash deductions to consolidated interest expense) of at least 2.5:1.0.  We had $327.0 million of borrowings outstanding at September 30, 2015.  Based on our Leverage Ratio, we had $164.0 million of available borrowings, net of the outstanding letters of credit, at September 30, 2015.

The Credit Facility has a $50.0 million letter of credit facility. Under the letter of credit facility, the Company pays a fee at a per annum rate equal to the applicable margin for Eurodollar loans in effect from time to time plus a one-time letter of credit fee in an amount equal to 0.125% of the initial stated amount. At September 30, 2015, we had $9.0 million of letters of credit outstanding.

Senior Notes - We entered into a Note Purchase Agreement on November 15, 2005 (the “2005 Note Purchase Agreement”) related to our sale of $200 million of senior, unsecured notes, designated as Series 2005A Senior Notes (the “Series 2005A Senior Notes”) in a private placement transaction. The Series 2005A Senior Notes, which are guaranteed by substantially all of our subsidiaries, were sold at par and issued in three tranches on November 15, 2005. Since entering into the 2005 Note Purchase Agreement, we have repurchased $81.1 million in principal of the Series 2005A Senior Notes (in periods prior to the fiscal year ended March 31, 2013). During November 2012, Tranche A of the Series 2005A Senior Notes matured and we retired the remaining $4.7 million in notes from this Tranche. Following these repurchases and maturities, the amounts outstanding for each of the remaining tranches are as follows:

 

 

Interest for each tranche of Notes is payable semi-annually on the 15^th day of May and the 15^th day of November of each year until all principal is paid for the respective tranche.

We also entered into an additional Note Purchase Agreement on October 2, 2007 (the “2007 Note Purchase Agreement”) related to our sale of $200 million of senior, unsecured notes, designated as Series 2007A Senior Notes (the “Series 2007A Senior Notes”) in a private placement transaction. The Series 2007A Senior Notes, which are guaranteed by substantially all of our subsidiaries, were sold at par and issued in four tranches on October 2, 2007. Since entering into the 2007 Note Purchase Agreement, we have repurchased $122.0 million in principal of the Series 2007A Senior Notes (in periods prior to the fiscal year ended March 31, 2013). During October 2014, Tranche A of the Series 2007A Senior Notes matured and we retired the remaining $9.5 million in notes from this Tranche. Following the repurchase, the amounts outstanding for each of the four tranches are as follows:

 

 

Interest for each tranche of Notes is payable semi-annually on the second day of April and the second day of October of each year until all principal is paid for the respective tranche.

Our obligations under the 2005 Note Purchase Agreement and the 2007 Note Purchase Agreement (collectively referred to as the “Note Purchase Agreements”) and the Series 2005A Senior Notes and the Series

 

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2007A Senior Notes (collectively referred to as “the Senior Notes”) are equal in right of payment with all other senior, unsecured debt of the Company, including our debt under the Credit Facility. The Note Purchase Agreements contain customary restrictive covenants, including covenants that place limits on our ability to encumber our assets, to incur additional debt, to sell assets, or to merge or consolidate with third parties, as well as certain cross covenants with the Credit Facility. We were in compliance with all financial ratios and tests at September 30, 2015.

Pursuant to a Subsidiary Guaranty Agreement, substantially all of our subsidiaries have guaranteed the punctual payment of all principal, interest, and Make-Whole Amounts (as defined in the Note Purchase Agreements) on the Senior Notes and the other payment and performance obligations of the Company contained in the Senior Notes and in the Note Purchase Agreements. We are permitted, at our option and without penalty, to prepay from time to time at least 10% of the original aggregate principal amount of the Senior Notes at 100% of the principal amount to be prepaid, together with interest accrued on such amount to be prepaid to the date of payment, plus a Make-Whole Amount. The Make-Whole Amount is computed by discounting the remaining scheduled payments of interest and principal of the Senior Notes being prepaid at a discount rate equal to the sum of 50 basis points and the yield to maturity of U.S. treasury securities having a maturity equal to the remaining average life of the Senior Notes being prepaid.

We are leasing one of our cement plants from the city of Sugar Creek, Missouri. The city of Sugar Creek issued industrial revenue bonds to partly finance improvements to the cement plant. The lease payments due to the city of Sugar Creek under the cement plant lease, which was entered into upon the sale of the industrial revenue bonds, are equal in amount to the payments required to be made by the city of Sugar Creek to the holders of the industrial revenue bonds. Because we are the holder of all of the outstanding industrial revenue bonds, no debt is reflected on our financial statements in connection with our lease of the cement plant. At the conclusion of the lease in fiscal 2021, we have the option to purchase the cement plant for a nominal amount.

Other than the Credit Facility, we have no other source of committed external financing in place. In the event the Credit Facility should be terminated, no assurance can be given as to our ability to secure a new source of financing. Consequently, if any balance were outstanding on the Credit Facility at the time of termination, and an alternative source of financing could not be secured; it would have a material adverse impact on us. None of our debt is rated by the rating agencies.

We do not have any off balance sheet debt, except for approximately $50.0 million of operating leases, which have an average remaining term of approximately fifteen years. Also, we have no outstanding debt guarantees. We have available under the Credit Facility a $50.0 million Letter of Credit Facility. At September 30, 2015, we had $9.0 million of letters of credit outstanding that renew annually. We are contingently liable for performance under $13.6 million in performance bonds relating primarily to our mining operations.

We believe that our cash flow from operations and available borrowings under our Credit Facility should be sufficient to meet our currently anticipated operating needs, capital expenditures and dividend and debt service requirements for at least the next twelve months. However, our future liquidity and capital requirements may vary depending on a number of factors, including market conditions in the construction industry, our ability to maintain compliance with covenants in our Credit Facility, the level of competition and general and economic factors beyond our control. These and other developments could reduce our cash flow or require that we seek additional sources of funding. We cannot predict what effect these factors will have on our future liquidity.

Dividends.

Dividends paid were $10.1 million and $10.0 million for the six month periods ended September 30, 2015 and 2014, respectively. Each quarterly dividend payment is subject to review and approval by our Board of Directors, who will continue to evaluate our dividend payment amount on a quarterly basis.

 

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Share Repurchases.

 

 

On August 10, 2015, the Board of Directors authorized the Company to repurchase up to an additional 6,782,700 shares, for a total outstanding authorization of 7,500,000 shares. We repurchased 144,000 shares at an average price of $74.61 during the three months ended September 30, 2015.  We also purchased an additional 110,000 shares during the last week of September, which were not settled until the first week of October, and 130,000 shares during the first week of October 2015 at a combined average price of $70.31.  Including the shares purchased during the last week of September, which settled in the first week of October, and the shares purchased in early October, we have authorization to purchase an additional 7,116,000 shares.  

Share repurchases may be made from time-to-time in the open market or in privately negotiated transactions. The timing and amount of any repurchases of shares will be determined by management, based on its evaluation of market and economic conditions and other factors. In some cases, repurchases may be made pursuant to plans, programs or directions established from time to time by the Company’s management, including plans intended to comply with the safe-harbor provided by Rule 10b5-1.

During the six months ended September 30, 2015, 21,043 shares of stock were withheld from employees upon the vesting of Restricted Shares that were granted under the Plan. These shares were withheld by us to satisfy the employees’ minimum statutory tax withholding, which is required once the Restricted Shares or Restricted Shares Units are vested.  

Capital Expenditures.

The following table compares capital expenditures:

 

 

Historically, annual maintenance capital expenditures have been approximately $20.0 to $25.0 million, which we anticipate will be similar for fiscal 2016. Total capital expenditures for fiscal 2016, including sustaining capital expenditures, are expected to be approximately $65.0 million to $75.0 million. Historically, we have financed such expenditures with cash from operations and borrowings under our revolving credit facility.

 

 

 

 

 

 

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

We are exposed to market risks related to fluctuations in interest rates on our Credit Facility. From time-to-time we have utilized derivative instruments, including interest rate swaps, in conjunction with our overall strategy to manage the debt outstanding that is subject to changes in interest rates. We have a $500.0 million Credit Facility available at September 30, 2015, under which borrowings bear interest at a variable rate. A hypothetical 100 basis point increase in interest rates on the $327.0 million of borrowings at September 30, 2015 would increase our interest expense by approximately $3.3 million on an annual basis. At present, we do not utilize derivative financial instruments.

We are subject to commodity risk with respect to price changes principally in coal, coke, natural gas and power. We attempt to limit our exposure to changes in commodity prices by entering into contracts or increasing our use of alternative fuels.

 

Item 4. Controls and Procedures

We have established a system of disclosure controls and procedures that are designed to ensure that information relating to the Company, which is required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 (“Exchange Act”), is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms, and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, in a timely fashion. An evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) was performed as of the end of the period covered by this quarterly report. This evaluation was performed under the supervision and with the participation of management, including our CEO and CFO. Based upon that evaluation, our CEO and CFO have concluded that these disclosure controls and procedures were effective.

 

 

 

 

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PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

EPA Notice of Violation

On October 5, 2010, Region IX of the EPA issued a Notice of Violation and Finding of Violation (“NOV”) alleging violations by our subsidiary, Nevada Cement Company (“NCC”), of the Clean Air Act (“CAA”). The NOV alleges that NCC made certain physical changes to its facility in the 1990s without first obtaining permits required by the Prevention of Significant Deterioration requirements and Title V permit requirements of the CAA. The EPA also alleges that NCC has failed to submit to the EPA since 2002 certain reports required by the National Emissions Standard for Hazardous Air Pollutants General Provisions and the Portland Cement Manufacturing Industry Standards. On March 12, 2014, the EPA Region IX issued a second NOV to NCC. The second NOV is materially similar to the 2010 NOV except that it alleges violations of the new source performance standards (“NSPS”) for Portland cement plants. The NOVs state that the EPA may seek penalties although it does not propose or assess any specific level of penalties or specify what relief the EPA will seek for the alleged violations. NCC believes it has meritorious defenses to the allegations in the NOVs. NCC met with the EPA in December 2010, September 2012 and May 2014 to present its defenses and to discuss a resolution of the alleged violations. The EPA and NCC remain in discussions regarding the alleged violations. If a negotiated settlement cannot be reached, NCC intends to vigorously defend these matters in any enforcement action that may be pursued by the EPA. As a part of a settlement, or should NCC fail in its defense in any enforcement action, NCC could be required to make substantial capital expenditures to modify its facility and incur increased operating costs. NCC could also be required to pay significant civil penalties. Additionally, an enforcement action could take many years to resolve the underlying issues alleged in the NOV. We are currently unable to determine the final outcome of this matter or the impact of an unfavorable determination upon our financial position or results of operations.

Domestic Wallboard Antitrust Litigation

Since late December 2012, several purported class action lawsuits were filed in various United States District Courts, including the Eastern District of Pennsylvania, Western District of North Carolina and the Northern District of Illinois, against the Company’s subsidiary, American Gypsum Company LLC (“American Gypsum”), alleging that American Gypsum conspired with other wallboard manufacturers to fix the price for drywall sold in the United States in violation of federal antitrust laws and, in some cases related provisions of state law. The complaints allege that the defendant wallboard manufacturers conspired to increase prices through the announcement and implementation of coordinated price increases, output restrictions, and other restraints of trade, including the elimination of individual “job quote” pricing. In addition to American Gypsum, the defendants in these lawsuits include CertainTeed Corp., USG Corporation and United States Gypsum (together “USG”), New NGC, Inc., Lafarge North America, Temple Inland Inc. (“TIN”) and PABCO Building Products LLC. On April 8, 2013, the Judicial Panel on Multidistrict Litigation (“JPML”) transferred and consolidated all related cases to the Eastern District of Pennsylvania for coordinated pretrial proceedings.

On June 24, 2013, the direct and indirect purchaser plaintiffs filed consolidated amended class action complaints. The direct purchasers’ complaint added the Company as a defendant. The plaintiffs in the consolidated class action lawsuits bring claims on behalf of purported classes of direct or indirect purchasers of wallboard from January 1, 2012 to the present for unspecified monetary damages (including treble damages) and in some cases injunctive relief. On July 29, 2013, the Company and American Gypsum answered the complaints, denying all allegations that they conspired to increase the price of drywall and asserting affirmative defenses to the plaintiffs’ claims.

In 2014, USG and TIN entered into agreements with counsel representing the direct and indirect purchaser classes pursuant to which they agreed to settle all claims against them.  On August 20, 2015, the court granted final approval of USG and TIN’s settlements with the direct and indirect purchaser plaintiffs.  At this stage we are unable to estimate the amount of any reasonably possible loss or range of reasonably possible losses associated with these lawsuits. American Gypsum denies the allegations in these lawsuits and will vigorously defend itself

 

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against these claims. Defendants’ motions for summary judgement were filed in the class actions in the first quarter of fiscal 2016.

On March 17, 2015, a group of homebuilders filed a complaint against the defendants, including American Gypsum, based upon the same conduct alleged in the consolidated class action complaints.  On March 24, 2015, the JPML transferred this action to the multidistrict litigation already pending in the Eastern District of Pennsylvania.

In June 2015, American Gypsum and an employee received grand jury subpoenas from the United States District Court for the Western District of North Carolina seeking information regarding an investigation of the gypsum drywall industry by the Antitrust Division of the Department of Justice.  We believe the investigation, although a separate proceeding, is related to the same subject matter at issue in the litigation described above and we intend to fully cooperate with government officials.  Given its preliminary nature, we are currently unable to determine the ultimate outcome of such investigation.

Item 1A. Risk Factors

We are affected by the level of demand in the construction industry.

Demand for our construction products and building materials is directly related to the level of activity in the construction industry, which includes residential, commercial and infrastructure construction. While the most recent downturn in residential and commercial construction, which began in calendar 2007, materially impacted our business, certain economic fundamentals began improving in calendar 2012, and have continued to improve into calendar 2015; however, the rate and sustainability of such improvement remains uncertain. Infrastructure spending continues to be adversely impacted by a number of factors, including the budget constraints currently being experienced by federal, state and local governments. Any decrease in the amount of government funds available for such projects or any decrease in construction activity in general (including any weakness in residential construction or commercial construction) could have a material adverse effect on our business, financial condition and results of operations.

Our business is seasonal in nature, and this causes our quarterly results to vary significantly.

A majority of our business is seasonal with peak revenues and profits occurring primarily in the months of April through November when the weather in our markets is more suitable for construction activity. Quarterly results have varied significantly in the past and are likely to vary significantly in the future. Such variations could have a negative impact on the price of our common stock.

We are subject to the risk of unfavorable weather conditions, particularly during peak construction periods, as well as other unexpected operational difficulties.

Unfavorable weather conditions, such as snow, hurricanes, tropical storms and heavy rainfall, can reduce construction activity and adversely affect demand for construction products. Such weather conditions can also increase our costs, reduce our production or impede our ability to transport our products in an efficient and cost-effective manner. Similarly, operational difficulties, such as business interruption due to required maintenance, capital improvement projects or loss of power, can increase our costs and reduce our production. In particular, the occurrence of unfavorable weather conditions and other unexpected operational difficulties during peak construction periods could adversely affect operating income and cash flow and could have a disproportionate impact on our results of operations for the full year.

We and our customers participate in cyclical industries and regional markets, which are subject to industry downturns.

A majority of our revenues are from customers who are in industries and businesses that are cyclical in nature and subject to changes in general economic conditions. For example, many of our customers operate in the construction industry, which is affected by a variety of factors, such as general economic conditions, changes in

 

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interest rates, demographic and population shifts, levels of infrastructure spending and other factors beyond our control. In addition, since our operations are in a variety of geographic markets, our businesses are subject to differing economic conditions in each such geographic market. Economic downturns in the industries to which we sell our products or localized downturns in the regions where we have operations generally have an adverse effect on demand for our products and adversely affect the collectability of our receivables. In general, any downturns in these industries or regions could have a material adverse effect on our business, financial condition and results of operations.

Our products are commodities, which are subject to significant changes in supply and demand and price fluctuations.

The products sold by us are commodities and competition among manufacturers is based largely on price. Prices are often subject to material changes in response to relatively minor fluctuations in supply and demand, general economic conditions and other market conditions beyond our control. Increases in the production capacity of industry participants for products such as gypsum wallboard or cement or increases in cement imports tend to create an oversupply of such products leading to an imbalance between supply and demand, which can have a negative impact on product prices. Currently, there continues to be significant excess capacity in the gypsum wallboard industry in the United States. There can be no assurance that prices for products sold by us will not decline in the future or that such declines will not have a material adverse effect on our business, financial condition and results of operations.

Our Oil and Gas Proppants business and financial performance depends on the level of activity in the oil and natural gas industries.

Our operations that produce frac sand are materially dependent on the levels of activity in natural gas and oil exploration, development and production. More specifically, the demand for the frac sand we produce is closely related to the number of natural gas and oil wells completed in geological formations where sand-based proppants are used in fracture treatments. These activity levels are affected by both short- and long-term trends in natural gas and oil prices. In recent years, natural gas and oil prices and, therefore, the level of exploration, development and production activity, have experienced significant fluctuations. Worldwide economic, political and military events, including war, terrorist activity, events in the Middle East and initiatives by the Organization of the Petroleum Exporting Countries (“OPEC”), have contributed, and are likely to continue to contribute, to price volatility. Additionally, warmer than normal winters in North America and other weather patterns may adversely impact the short-term demand for natural gas and, therefore, demand for our products. Reduction in demand for natural gas to generate electricity could also adversely impact the demand for frac sand. A prolonged reduction in natural gas and oil prices would generally depress the level of natural gas and oil exploration, development, production and well completion activity and result in a corresponding decline in the demand for the frac sand we produce. In addition, any future decreases in the rate at which oil and natural gas reserves are discovered or developed, whether due to increased governmental regulation, limitations on exploration and drilling activity or other factors, could have material adverse effect on our oil and gas proppants business, even in a stronger natural gas and oil price environment.

Volatility and disruption of financial markets could affect access to credit.

Difficult economic conditions can cause a contraction in the availability, and increase the cost, of credit in the marketplace. A number of our customers or suppliers have been and may continue to be adversely affected by unsettled conditions in capital and credit markets, which in some cases have made it more difficult or costly for them to finance their business operations. These unsettled conditions have the potential to reduce the sources of liquidity for the Company and our customers.

Our and our customers’ operations are subject to extensive governmental regulation, including environmental laws, which can be costly and burdensome.

Our operations and those of our customers are subject to and affected by federal, state and local laws and regulations with respect to such matters as land usage, street and highway usage, noise level and health and safety

 

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and environmental matters. In many instances, various certificates, permits or licenses are required in order for us or our customers to conduct business or carry out construction and related operations. Although we believe that we are in compliance in all material respects with applicable regulatory requirements, there can be no assurance that we will not incur material costs or liabilities in connection with regulatory requirements or that demand for our products will not be adversely affected by regulatory issues affecting our customers. In addition, future developments, such as the discovery of new facts or conditions, the enactment or adoption of new or stricter laws or regulations or stricter interpretations of existing laws or regulations, may impose new liabilities on us, require additional investment by us or prevent us from opening, expanding or modifying plants or facilities, any of which could have a material adverse effect on our financial condition or results of operations.

For example, GHGs currently are regulated as pollutants under the CAA and subject to reporting and permitting requirements. Future consequences of GHG permitting requirements and potential emission reduction measures for our operations may be significant because (1) the cement manufacturing process requires the combustion of large amounts of fuel, (2) in our cement manufacturing process, the production of carbon dioxide is a byproduct of the calcination process, whereby carbon dioxide is removed from calcium carbonate to produce calcium oxide, and (3) our gypsum wallboard manufacturing process combusts a significant amount of fossil fuel, especially natural gas. In addition, the EPA has proposed to regulate GHG emissions from existing fossil fuel-fired power plants as a result of the EPA’s promulgation of new source performance standards for the same sources.  In the future, the EPA is expected to propose new source performance standards for cement manufacturing, which similarly will trigger a requirement for the EPA to promulgate regulations relating to existing cement manufacturing facilities.  The timing of such regulation is uncertain.  

On September 9, 2010, the EPA finalized National Emissions Standards for Hazardous Air Pollutants, or NESHAP, for Portland cement plants (“PC NESHAP”). The PC NESHAP will require a significant reduction in emissions of certain hazardous air pollutants from Portland cement kilns. The PC NESHAP sets limits on mercury emissions from existing Portland cement kilns and increases the stringency of emission limits for new kilns. The PC NESHAP also sets emission limits for total hydrocarbons, particulate matter (as a surrogate for metal pollutants) and acid gases from cement kilns of all sizes. The PC NESHAP was scheduled to take full effect in September 2013; however, as a result of a decision by the U.S. Court of Appeals for the District of Columbia Circuit in Portland Cement Ass’n. v. EPA, 655 F.3d 177 (D.C. Cir.) arising from industry challenges to the PC NESHAP, the EPA proposed a settlement agreement with industry petitioners in May 2012. In February 2013, the EPA published the final revised rule to the PC NESHAP which extended the compliance date until September 9, 2015 for existing cement kilns and made certain changes to the rules governing particulate matter monitoring methods and emissions limits, among other revisions. The 2013 revised rule was challenged in the U.S. Court of Appeals for the D.C. Circuit and on April 18, 2014, the court vacated the affirmative defense provision.  The court upheld the EPA’s particulate matter emission standards and extended compliance date.  On November 19, 2014, the EPA proposed a rule removing the affirmative defense provision and making minor technical corrections to the regulations. The PC NESHAP will materially increase capital costs and costs of production for the Company and the industry as a whole.

On March 21, 2011 the EPA proposed revised Standards of Performance for New Sources and Emissions Guidelines for Existing Sources for Commercial/Industrial Solid Waste Incinerators (the “CISWI Rule”) per Section 129 of the Clean Air Act, which created emission standards for 4 subcategories of industrial facilities, one of which is “Waste Burning Kilns.” The EPA simultaneously stayed the CISWI Rule for further reconsideration. On February 12, 2013, the EPA finalized revisions to the CISWI Rule. For those cement kilns that utilize non-hazardous secondary materials (“NHSM”) as defined in a rule first finalized on March 21, 2011 (and slightly revised on February 12, 2013), the CISWI Rule will require significant reductions in emissions of certain pollutants from applicable cement kilns. The CISWI Rule sets forth emission standards for mercury, carbon monoxide, acid gases, nitrogen oxides, sulfur dioxide, certain metals (lead and cadmium) and more stringent standards than PC NESHAP for particulate matter and dioxin/furans. The CISWI Rule as currently promulgated may materially increase capital costs and costs for production but only for those facilities that will be using applicable solid wastes as fuel. The compliance date for this rule is expected to be March 1, 2018 (either 3 years after State CISWI plan approval, or 5 years from the date of the final CISWI Rule, whichever is sooner). It is

 

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anticipated that the CISWI Rule may materially increase capital costs and costs of production for the Company and the industry as a whole.

On April 17, 2015, the EPA published its final rule addressing the storage, reuse and disposal of coal combustion products, which include fly ash and flue gas desulfurization gypsum (“synthetic gypsum”). We use synthetic gypsum in wallboard manufactured at our Georgetown, South Carolina plant. The rule, which applies only to electric utilities and independent power producers, establishes standards for the management of coal combustion residuals (CCRs) under Subtitle D of the Resource Conservation and Recovery Act, or RCRA, which is the Subtitle that regulates non-hazardous wastes. The rule imposes requirements addressing CCR surface impoundments and landfills, including location restrictions, design and operating specifications, groundwater monitoring requirements, corrective action requirements, recordkeeping and reporting obligations, and closure requirements. Beneficial encapsulated uses of CCRs, including synthetic gypsum, are exempt from regulation. The rule becomes effective on October 14, 2015, with many of the requirements phased in months or years after the effective date. Given the EPA’s decision to continue to allow CCR to be used in synthetic gypsum and to regulate CCR under the non-hazardous waste sections of RCRA, we do not expect the rule to materially affect our business, financial condition and results of operations.

On October 1, 2015, the EPA lowered the primary and secondary ozone standards from the current 8-hour standard of 75 parts per billion (“ppb”) to 70 ppb.  The EPA also strengthened the secondary ozone standard to improve protection for trees, plants and ecosystems. Like the primary standard, an area will meet the secondary standard if the fourth-highest maximum daily 8-hour ozone concentration per year, averaged over three years, is equal to or less than 70 ppb.  The EPA based the secondary standard on the “W126 metric,” an index designed to show the cumulative impact of ozone on plants and trees seasonally.  The EPA has issued an implementation memo describing how it will determine whether the ozone levels in areas across the country, typically on a county level, are above the new standards. Areas above the new standards will be designated as “nonattainment;” areas at or below the new standards will be designated “attainment.”  In states with major emitting sources located in or near designated nonattainment areas, States will impose new and costly regulatory requirements.  For areas that are determined to be in non-attainment, states will be required to develop plans to bring the areas into attainment by as early as 2020.  At this time, it is not possible to whether any area in which we operate will be designated nonattainment.  However, if that occurs, we may be required to meet new control requirements requiring significant capital expenditures for compliance.

The cement plants located in Kansas City, Missouri and Tulsa, Oklahoma are subject to certain obligations under a consent decree with the United States requiring the establishment of facility-specific emissions limitations for certain air pollutants. Not all specific limitations have been finalized; however, upon determination, these limitations, along with specific emissions limitations that have already been finalized, will apply to our operation of these cement plants. It is difficult to predict with reasonable certainty the impact of these limitations on the operations or operating costs of the Kansas City, Missouri and Tulsa, Oklahoma cement plants. Limitations that significantly restrict emissions levels beyond current operating levels may require additional investments by us or place limitations on operations, any of which could have a material adverse effect on our financial condition or results of operations.

The cement plant in Tulsa, Oklahoma is subject to NESHAP for hazardous waste combustors (the “HWC MACT”), which imposes emission limitations and operating limits on cement kilns that are fueled by hazardous wastes. Compliance with the HWC MACT could impose additional liabilities on us or require additional investment by us, which could have a material adverse effect on our financial condition or results of operations. In addition, new developments, such as new laws or regulations, may impose new liabilities on us, require additional investment by us or prevent us from operating or expanding plants or facilities, any of which could have a material adverse effect on our financial condition or results of operations. For example, while the HWC MACT has not been updated since 2008, 73 Fed. Reg. 64068 (Oct. 28, 2008), future revisions to the HWC MACT regulations would apply to both of the cement kilns used at the cement plant in Tulsa, Oklahoma. Such revision could require new control requirements and significant capital expenditure for compliance. In 2013, the EPA adopted the final CISWI Rule (as discussed above) that likely will apply to the cement kiln used by the cement

 

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plant in Sugar Creek, Missouri and the two cement kilns at Nevada Cement Company, and may impose new control requirements requiring significant capital expenditures for compliance. Existing CISWI units will need to comply with the CISWI Rule when it becomes effective, which is expected to occur in early 2018.

We may incur significant costs in connection with pending and future litigation.

We are, or may become, party to various lawsuits, claims, investigations and proceedings, including but not limited to personal injury, environmental, antitrust, tax, asbestos, property entitlements and land use, intellectual property, commercial, contract, product liability, health and safety, and employment matters. The outcome of pending or future lawsuits, claims, investigations or proceedings is often difficult to predict, but could be adverse and material in amount. In addition, the defense of these lawsuits, claims, investigations and proceedings may divert our management’s attention and we may incur significant costs in defending these matters. See Part II Item 1. Legal Proceedings of this report.

Our results of operations are subject to significant changes in the cost and availability of fuel, energy and other raw materials.

Major cost components in each of our businesses are the costs of fuel, energy and raw materials. Significant increases in the costs of fuel, energy or raw materials or substantial decreases in their availability could materially and adversely affect our sales and operating profits. Prices for fuel, energy or raw materials used in connection with our businesses could change significantly in a short period of time for reasons outside our control. Prices for fuel and electrical power, which are significant components of the costs associated with our gypsum wallboard and cement businesses, have fluctuated significantly in recent years and may increase in the future. In the event of large or rapid increases in prices, we may not be able to pass the increases through to our customers in full, which would reduce our operating margin.

We may become subject to significant clean-up, remediation and other liabilities under applicable environmental laws.

Our operations are subject to state, federal and local environmental laws and regulations, which impose liability for cleanup or remediation of environmental pollution and hazardous waste arising from past acts. These laws and regulations also require pollution control and prevention, site restoration and operating permits and/or approvals to conduct certain of our operations or expand or modify our facilities. Certain of our operations may from time-to-time involve the use of substances that are classified as toxic or hazardous substances within the meaning of these laws and regulations. Additionally, any future laws or regulations addressing GHG emissions would likely have a negative impact on our business or results of operations, whether through the imposition of raw material or production limitations, fuel-use or carbon taxes emission limitations or reductions or otherwise. We are unable to estimate accurately the impact on our business or results of operations of any such law or regulation at this time. Risk of environmental liability (including the incurrence of fines, penalties or other sanctions or litigation liability) is inherent in the operation of our businesses. As a result, it is possible that environmental liabilities and compliance with environmental regulations could have a material adverse effect on our operations in the future.

Significant changes in the cost and availability of transportation could adversely affect our business, financial condition and results of operations.

Some of the raw materials used in our manufacturing processes, such as coal or coke, are transported to our facilities by truck or rail. In addition, transportation logistics play an important part in allowing us to supply products to our customers, whether by truck, rail or barge. For example, we deliver gypsum wallboard to many areas of the United States and the transportation costs associated with the delivery of our wallboard products represent a significant portion of the variable cost of our gypsum wallboard segment. Significant increases in the cost of fuel or energy can result in material increases in the cost of transportation, which could materially and adversely affect our operating profits. In addition, reductions in the availability of certain modes of transportation such as rail or trucking could limit our ability to deliver product and therefore materially and adversely affect our operating profits.

 

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Our debt agreements contain restrictive covenants and require us to meet certain financial ratios and tests, which limit our flexibility and could give rise to a default if we are unable to remain in compliance.

Our Credit Facility and the Note Purchase Agreements governing our Senior Notes contain, among other things, covenants that limit our ability to finance future operations or capital needs or to engage in other business activities, including but not limited to our ability to:

In addition, these agreements require us to meet and maintain certain financial ratios and tests, which may require that we take action to reduce our debt or to act in a manner contrary to our business objectives. Events beyond our control, including the changes in general business and economic conditions, may impair our ability to comply with these covenants or meet those financial ratios and tests. A breach of any of these covenants or failure to maintain the required ratios and meet the required tests may result in an event of default under these agreements. This may allow the lenders under these agreements to declare all amounts outstanding to be immediately due and payable, terminate any commitments to extend further credit to us and pursue other remedies available to them under the applicable agreements. If this occurs, our indebtedness may be accelerated and we may not be able to refinance the accelerated indebtedness on favorable terms, or at all, or repay the accelerated indebtedness. In general, the occurrence of any event of default under these agreements could have a material adverse effect on our financial condition or results of operations.

We have incurred substantial indebtedness, which could adversely affect our business, limit our ability to plan for or respond to changes in our business and reduce our profitability.

Our future ability to satisfy our debt obligations is subject, to some extent, to financial, market, competitive, legislative, regulatory and other factors that are beyond our control. Our substantial debt obligations could have negative consequences to our business, and in particular could impede, restrict or delay the implementation of our business strategy or prevent us from entering into transactions that would otherwise benefit our business. For example:

As of September 30, 2015, the aggregate principal amount of our debt instruments with exposure to interest rate risk was approximately $327.0 million. As of the same date, each change in interest rates of 100 basis points would result in an approximate $3.3 million change in our annual cash interest expense before any principal payment on our financial instruments with exposure to interest rate risk. As a result, increases in interest rates will

 

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increase the cost of servicing our financial instruments with exposure to interest rate risk and could materially reduce our profitability and cash flows.

Our production facilities may experience unexpected equipment failures, catastrophic events and scheduled maintenance.

Interruptions in our production capabilities may cause our productivity and results of operations to decline significantly during the affected period. Our manufacturing processes are dependent upon critical pieces of equipment. Such equipment may, on occasion, be out of service as a result of unanticipated events such as fires, explosions, violent weather conditions or unexpected operational difficulties. We also have periodic scheduled shut-downs to perform maintenance on our facilities. Any significant interruption in production capability may require us to make significant capital expenditures to remedy problems or damage as well as cause us to lose revenue and profits due to lost production time, which could have a material adverse effect on our results of operations and financial condition.

Increases in interest rates and inflation could adversely affect our business and demand for our products, which would have an adverse effect on our results of operations.

Our business is significantly affected by the movement of interest rates. Interest rates have a direct impact on the level of residential, commercial and infrastructure construction activity by impacting the cost of borrowed funds to builders. Higher interest rates could result in decreased demand for our products, which would have a material adverse effect on our business and results of operations. In addition, increases in interest rates could result in higher interest expense related to borrowings under our Credit Facility. Inflation can result in higher interest rates. With inflation, the costs of capital increase, and the purchasing power of our cash resources can decline. Current or future efforts by the government to stimulate the economy may increase the risk of significant inflation, which could have a direct and indirect adverse impact on our business and results of operations.

Any new business opportunities we may elect to pursue will be subject to the risks typically associated with the early stages of business development or product line expansion.

We are continuing to pursue opportunities which are natural extensions of our existing core businesses and which allow us to leverage our core competencies, existing infrastructure and customer relationships. See “Management’s Discussion and Analysis of Financial Conditions and Results of Operations – Executive Summary.” Our likelihood of success in pursuing and realizing these opportunities must be considered in light of the expenses, difficulties and delays frequently encountered in connection with the early phases of business development or product line expansion, including the difficulties involved in obtaining permits; planning and constructing new facilities; transporting and storing products; establishing, maintaining or expanding customer relationships; as well navigating the regulatory environment in which we operate. There can be no assurance that we will be successful in the pursuit and realization of these opportunities.

We may be adversely affected by decreased demand for frac sand or the development of either effective alternative proppants or new processes to replace hydraulic fracturing.

Frac sand is a proppant used in the completion and re-completion of natural gas and oil wells through hydraulic fracturing. Frac sand is the most commonly used proppant and is less expensive than ceramic proppant, which is also used in hydraulic fracturing to stimulate and maintain oil and natural gas production. A significant shift in demand from frac sand to other proppants, such as ceramic proppants, could have a material adverse effect on our oil and gas proppants business. The development and use of other effective alternative proppants, or the development of new processes to replace hydraulic fracturing altogether, could also cause a decline in demand for the frac sand we produce and could have a material adverse effect on our oil and gas proppants business.

Our operations are dependent on our rights and ability to mine our properties and on our having renewed or received the required permits and approvals from governmental authorities and other third parties.

We hold numerous governmental, environmental, mining and other permits, water rights and approvals authorizing operations at many of our facilities. A decision by a governmental agency or other third party to deny

 

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or delay issuing a new or renewed permit or approval, or to revoke or substantially modify an existing permit or approval, could have a material adverse effect on our ability to continue operations at the affected facility. Expansion of our existing operations is also predicated on securing the necessary environmental or other permits, water rights or approvals, which we may not receive in a timely manner or at all.

Title to, and the area of, mineral properties and water rights may also be disputed. Mineral properties sometimes contain claims or transfer histories that examiners cannot verify. A successful claim that we do not have title to one or more of our properties or lack appropriate water rights could cause us to lose any rights to explore, develop and extract any minerals on that property, without compensation for our prior expenditures relating to such property. Our business may suffer a material adverse effect in the event one or more of our properties are determined to have title deficiencies.

In some instances, we have received access rights or easements from third parties, which allow for a more efficient operation than would exist without the access or easement. A third party could take action to suspend the access or easement, and any such action could be materially adverse to or results of operations or financial conditions.

A cyber-attack or data security breach affecting our information technology systems may negatively affect our businesses, financial condition and operating results.

We use information technology systems to collect, store and transmit the data needed to operate our businesses, including our confidential and proprietary information. Although we have implemented industry-standard security safeguards and policies to prevent unauthorized access or disclosure of such information, we cannot prevent all cyber-attacks or data security breaches. If such an attack or breach occurs, our businesses could be negatively affected, and we could incur additional costs in remediating the attack or breach and suffer reputational harm due to the theft or disclosure of our confidential information.

Risks Related to our acquisitions

We may not realize any or all of the anticipated benefits of the CRS and Skyway Acquisitions and these acquisitions may adversely impact our existing operations.

We may not be able to achieve the anticipated benefits of the acquisitions. We may not be able to accomplish the integration of CRS Proppants and Skyway Plant smoothly, successfully or within the anticipated costs or timeframe. In general, we cannot be certain that we will be able to timely achieve the anticipated incremental revenues, cost savings, operational synergies and other expected benefits of these acquisitions.

The diversion of our management’s attention from our current operations to integration efforts and any difficulties encountered in combining operations could prevent us from realizing the full benefits anticipated to result from acquisitions and could adversely affect our business and the price of our common stock. The integration process may be complex, costly and time-consuming. The difficulties of integrating CRS Proppants and the Skyway Plant with our business include, among others:

We incurred significant liabilities and costs as a result of or in connection with the CRS and Skyway Acquisitions.

Upon consummation of the acquisitions we became responsible for all liabilities and obligations that arose in connection with the operation of CRS Proppants and the Skyway Plant.

 

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In addition, we incurred significant costs in connection with the acquisitions. The substantial majority of these costs are non-recurring transaction expenses and costs. Furthermore, substantial time and resources have been and may continue to be devoted to the acquisitions and related matters, which could otherwise have been devoted to other opportunities that may have been beneficial to us.

This report includes various forward-looking statements, which are not facts or guarantees of future performance and which are subject to significant risks and uncertainties.

This report and other materials we have filed or will file with the SEC, as well as information included in oral statements or other written statements made or to be made by us, contain or may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, Section 21E of the Exchange Act of 1934 and the Private Securities Litigation Reform Act of 1995. You can identify these statements by the fact that they do not relate to matters of a strictly factual or historical nature and generally discuss or relate to forecasts, estimates or other expectations regarding future events. Generally, the words “believe,” “expect,” “intend,” “estimate,” “anticipate,” “project,” “may,” “can,” “could,” “might,” “will” and similar expressions identify forward-looking statements, including statements related to expected operating and performing results, planned transactions, plans and objectives of management, future developments or conditions in the industries in which we participate, including future prices for our products, audits and legal proceedings to which we are a party and other trends, developments and uncertainties that may affect our business in the future.

Forward-looking statements are not historical facts or guarantees of future performance but instead represent only our beliefs at the time the statements were made regarding future events, which are subject to significant risks, uncertainties, and other factors, many of which are outside of our control. Any or all of the forward-looking statements made by us may turn out to be materially inaccurate. This can occur as a result of incorrect assumptions, changes in facts and circumstances or the effects of known risks and uncertainties. Many of the risks and uncertainties mentioned in this report or other reports filed by us with the SEC, including those discussed in the risk factor section of this report, will be important in determining whether these forward-looking statements prove to be accurate. Consequently, neither our stockholders nor any other person should place undue reliance on our forward-looking statements and should recognize that actual results may differ materially from those that may be anticipated by us.

All forward-looking statements made in this report are made as of the date hereof, and the risk that actual results will differ materially from expectations expressed in this report will increase with the passage of time. We undertake no obligation, and disclaim any duty, to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changes in our expectations or otherwise.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

The disclosure required under this Item is included in “Management’s Discussion and Analysis of Results of Operations and Financial Condition” of this Quarterly Report on Form 10-Q under the heading “Share Repurchases” and is incorporated herein by reference.

 

Item 4. Mine Safety Disclosures

The information concerning mine safety violations or other regulatory matters required by Section 1503 (a) of the Dodd-Frank Wall Street Reform and Consumer Protection Act and Item 104 of Regulation S-K is included in Exhibit 95 to this Form 10-Q.

 

 

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Item 6. Exhibits

 

 

 

 

 

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SIGNATURES

Pursuant to 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.

 

 

 

 

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