The following discussion provides information regarding the results of operations for the three and six month periods ended
June 30, 2014and 2013, and our financial condition, liquidity and capital resources as of June 30, 2014, and December 31, 2013. The financial statements and the notes thereto contain detailed information that should be referred to in conjunction with this discussion. Forward-Looking Statements The information discussed in this Quarterly Report includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 (the "Securities Act") and Section 21E of the Securities Exchange Act of 1934 (the "Exchange Act"). All statements, other than statements of historical facts, included herein concerning, among other things, planned capital expenditures, future cash flows and borrowings, pursuit of potential acquisition opportunities, our financial position, business strategy and other plans and objectives for future operations, are forward-looking statements. These forward-looking statements are identified by their use of terms and phrases such as "may," "expect," "estimate," "project," "plan," "believe," "intend," "achievable," "anticipate," "will," "continue," "potential," "should," "could," and similar terms and phrases. Although we believe that the expectations reflected in these forward-looking statements are reasonable, they do involve certain assumptions, risks and uncertainties. Our results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including, among others:
? capital requirements and uncertainty of obtaining additional funding on terms
acceptable to us;
? price volatility of oil and natural gas prices, and the effect that lower
prices may have on our customer's demand for our services, the result of which
may adversely impact our revenues and stockholders' equity;
? a decline in oil or natural gas production, and the impact of general economic
conditions on the demand for oil and natural gas and the availability of
capital which may impact our ability to perform services for our customers;
? the broad geographical diversity of our operations which, while expected to
diversify the risks related to a slow-down in one area of operations, also
adds significantly to our costs of doing business;
? constraints on us as a result of our substantial indebtedness, including
restrictions imposed on us under the terms of our credit facility agreement
and our ability to generate sufficient cash flows to repay our debt obligations;
? our history of losses and working capital deficits which, at times, were
significant; ? adverse weather and environmental conditions; ? reliance on a limited number of customers;
? our ability to retain key members of our senior management and key technical
employees; ? impact of environmental, health and safety, and other governmental
regulations, and of current or pending legislation with which we and our
customers must comply; ? developments in the global economy; ? changes in tax laws; ? the effects of competition; ? the effect of seasonal factors; ? further sales or issuances of our common stock and the price and volume volatility of our common stock; and ? our common stock's limited trading history. Finally, our future results will depend upon various other risks and uncertainties, including, but not limited to, those detailed in our filings with the
SECand in Part II, Item 1A of this Quarterly Report. For additional information regarding risks and uncertainties, please read our filings with the SECunder the Exchange Act and the Securities Act, including our Annual Report on Form 10-K for the fiscal year ended December 31, 2013. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements in this paragraph and elsewhere in this Quarterly Report. Other than as required under securities laws, we do not assume a duty to update these forward-looking statements, whether as a result of new information, subsequent events or circumstances, changes in expectations or otherwise. 17
Enservco Corporationprovides well enhancement and fluid management services to the domestic onshore oil and natural gas industry. These services include frac water heating, hot oiling and acidizing (well enhancement services), and water hauling, fluid disposal, frac tank rental (fluid management services) and other general oilfield services. The Company owns and operates a fleet of more than 230 specialized trucks, trailers, frac tanks and other well-site related equipment and serves customers in several major domestic oil and gas fields including the DJ Basin/ Niobrarafield in Colorado, the Bakken field in North Dakota, the Marcellus and Utica Shalefields in Pennsylvaniaand Ohio, the Green Riverand Powder River Basins in Wyomingand the Mississippi Lime and Hugoton Fields in Kansasand Oklahoma. RESULTS OF OPERATIONS The following table shows selected financial data and operating results for the periods noted. Following the table, please see management's discussion of significant changes. For the Three Months Ended For the Six Months Ended June 30, June 30, 2014 2013 2014 2013 FINANCIAL RESULTS: Revenues $ 7,294,856 $ 7,947,635 $ 32,536,901 $ 26,514,802Cost of Revenue 6,449,925 5,702,716 22,741,942 16,262,539 Gross Profit 844,931 2,244,919 9,794,959 10,252,263 Gross Margin 12 % 28 % 30 % 39 % (Loss) Income From Operations (1,153,989 ) 550,038 5,958,590 7,127,198 Net (Loss) Income $ (851,019 ) $ 190,907 $ 3,334,937 $ 4,124,938(Loss) Earnings per Common Share - $ (0.02 ) $ 0.01 $ 0.09 $ 0.12Diluted Diluted weighted average number of common shares outstanding 36,514,889 35,668,552 38,592,699 35,407,183 OTHER: Adjusted EBITDA* $ (355,629 ) $ 1,396,457 $ 7,510,757 $ 8,606,174
Adjusted EBITDA* Margin -5 % 18 % 23 % 32 %
* Management believes that, for the reasons set forth below, Adjusted EBITDA
(even though a non-GAAP measure) is a valuable measurement of the Company's
liquidity and performance and is consistent with the measurements offered by
other companies in
EBITDA, the risks of non-GAAP measures, and the reconciliation to Net Income,
below. Overview: As has been the Company's history, revenues, gross margins, and EBITDA margins for the second quarter tend to decrease considerably from the first quarter as the demand for frac water heating services declines resulting in a larger portion of revenues being derived from recurring maintenance services such as hot oiling, acidizing and water hauling. In addition to the seasonal decrease in frac water heating services, the second quarter of 2014 was impacted by a well site incident in the DJ basin which halted frac water services for one of our largest customers. Although it was determined that the accident was a result of a failure of equipment owned by another service provider, the work stoppage significantly impacted our revenues towards the end of the heating season. Further, the labor costs we incurred to retain our work force during this stoppage in anticipation of returning to work also impacted our profitability. On a positive note, hot oil revenues for the quarter continued to grow significantly as compared to the same quarter last year as a result of increased equipment utilization, geographic expansion, and additional heating capacity (over the last two years, the Company has focused a greater portion of its CAPEX programs on its recurring, less seasonal maintenance services of hot oiling and acidizing). We anticipate that the this positive comparative trend in hot oiling and acidizing services will continue in future quarters. 18
-------------------------------------------------------------------------------- Despite the impact of the decline in frac water heating revenues during the second quarter, revenues for the six months ended
June 30, 2014were significantly higher than the comparable period last year due to record revenues achieved during the first quarter of 2014. Additional frac water heating and hot oiling equipment, increased utilization of hot oiling equipment, and the impact of sharp increases in propane prices during the first quarter of this year all contributed to the six month revenue increase. Although showing a decline in 2014 as a percentage of revenues, gross profit and Adjusted EBITDA margins remain comparable to the prior year when adjusted for the impact of the increase in propane prices. This is due primarily to the mathematical impact of higher propane costs being passed along to customers with minimal markup thereby increasing revenues with no corresponding significant increase in profit. Revenue Details: Although the Company does not have segmented business operations, which would require segment reporting within the notes of its financial statements, we believe that revenue by service offering and revenue by geographic regions are important to understanding our business operations. The following tables set forth revenue by service offering and geographic region during the three and six months ended June 30, 2014and 2013: For the Three months Ended For the Six months Ended June 30, June 30, 2014 2013 2014 2013 BY SERVICE OFFERING: Well Enhancement Services (1) $ 4,925,674 $ 5,766,948
Fluid Management (2) 2,223,988 2,112,064 4,262,748 4,148,808 Other (3) 145,194 68,623 275,348 178,151 Total Revenues
$ 7,294,856 $ 7,947,635 $ 32,536,901 $ 26,514,802The Company only does business in the United States, in what it believes are three geographically diverse regions. The following table sets forth revenue for the Company's three geographic regions during the three and six months ending June 30, 2014and 2013: For the Three months Ended For the Six months Ended June 30, June 30, 2014 2013 2014 2013
Eastern USA Region (5) 390,691 893,505
Central USA Region(6) 2,685,793 2,605,842
$ 7,294,856 $ 7,947,635 $ 32,536,901 $ 26,514,802Notes to tables:
(1) Includes frac water heating, acidizing, hot oil services, and pressure
testing. (2) Includes water hauling, fluid disposal and frac tank rental. (3) Includes construction and roustabout services.
(4) Includes the D-
only Company subsidiary operating in this region. (5) Consists of the southern region of the
Ohio). Heat Waves is the only Company subsidiary operating in this region.
(6) Includes the Mississippi Lime and Hugoton Field in
Revenues: Service Offerings: Well Enhancement Services: Well enhancement service revenues for the quarter ended
June 30, 2014declined $841,000(15%) from the comparable period last year primarily due to a $1.8 milliondecline in frac water heating revenues. A halt in frac water heating services by a large customer in the DJ Basindescribed above was the primary reason for the decline. In addition, customer demand for frac water heating services in the Eastern USAregion was lower than the comparable period last year as one customer suspended its drilling program and another customer modified its frac design to reduce heating requirements during the spring season. The decrease in frac water heating revenue was partially mitigated by an $876,000(52%) increase in hot oil service revenue and $58,000(11%) increase in acidizing services over the same quarter last year. The increase in these revenues was primarily attributable to (i) four hot trucks added at the end of 2013, (ii) increased utilization of existing equipment, and (iii) expansion into Rock Springs, Wyomingwhich is a market with high demand for hot oiling and acidizing services. For the six months ended June 30, 2014, well enhancement service revenues increased $5.8 millionor 26% over the comparable period last year. With the addition of new frac water heating and hot oiling equipment we were able to meet increased customer demand during the first quarter of 2014 in the Rocky Mountainand Eastern USA Regions and therefore offset the second quarter decline described above. In addition, during the first quarter of 2014, due to a sudden and sharp increase in propane prices resulting in a change in billing for propane in our Rocky Mountainregion that resulted in propane revenues increasing approximately $2.4 millionfrom the comparable period last year Fluid Management: Fluid management service revenues, which represent approximately 13% of our consolidated revenues for the six months ended June 30, 2014, remained relatively flat at $2.2 millionfor the quarter ended June 30, 2014and $4.3 millionfor the six months ended June 30, 2014. Other: Other revenues consist of well site construction and roustabout services, which represent less than 2% of revenues for the six months ended June 30, 2014, continue to remain an insignificant part of our business and are provided as ancillary services with our other services. Geographic Areas: For the quarter ended June 30, 2014, revenues in the Rocky Mountain Region, which primarily consist of well enhancement services, decreased $230,000or 5% primarily due to the well-site accident described above which was partially offset by an increase in hot oil service revenue from the addition hot oil trucks and expansion of services into Rock Springs, Wyoming. For the six months ended June 30, 2014, revenues in this region increased $3.5 millionor 23% from the comparable period last year due to several factors in the first quarter including (i) increased propane revenues from changing to a "cost plus" billing method, (ii) increased drilling and completion activity by several new and existing customers in the Niobrara Shale/DJ Basin, and (iii) revenues generated from the recent expansion of service into Rock Springs, WY.Revenues in the Eastern USAregion decreased $503,000or 56% from the second quarter of last year primarily due to lower frac water heating demand from two customers. One customer suspended its drilling activities in the Uticashale to focus its resources in other locations and the other customer modified its frac design so that less water heating was required during the spring months. Despite the decline in the second quarter, revenues in the Eastern USAregion increased $2.1 millionor 41% for the six months ended June 30, 2014as compared to the same period last year primarily due to continued expansion of our services into the Utica Shalemarket where exploration and production activity and demand for our services increased over the comparable period last year. During the first quarter of 2014, the Company added two new sizable customers in addition to experiencing revenue growth with its largest customer. Additionally, since propane costs are billed to customers, higher propane prices during the first quarter as compared to the prior year also contributed to the revenue increase during the six months ended June 30, 2014. 20
-------------------------------------------------------------------------------- For the quarter ended
June 30, 2014, revenues in the Central USAregion increased $80,000or 3% from the comparable period last year primarily due to a slight increase in fluid management revenue. For the six months ended June 30, 2014, revenues in the Central USAregion increased $413,000or 7% from the comparable period last year primarily due to increased frac water heating revenues generated from a customer in the Texas Panhandle during the first quarter.
Historical Seasonality of Revenues:
Because of the seasonality of our frac water heating and hot oiling business, revenues generated during the first and fourth quarters of our fiscal year, covering the months during what is known as our "heating season", are significantly higher than revenues earned during the second and third quarters of our fiscal year. In addition, the revenue mix of our service offerings also changes among quarters as our Well Enhancement services (which includes frac water heating and hot oiling) decrease as a percentage of total revenues and Fluid Management services and other services increase. Thus, the revenues recognized in our quarterly financials in any given period are not indicative of the annual or quarterly revenues through the remainder of that fiscal year. As an indication of this quarter-to-quarter seasonality, the Company generated revenues of
$33.7 million(73%) during the first and fourth quarters of 2013 compared to $12.7 million(27%) during the second and third quarters of 2013. In 2012, the Company earned revenues of $20.8 million(66%) during the first and fourth quarters of 2012, compared to $10.7 million(34%) during the second and third quarters of 2012. While the Company is pursuing various strategies to lessen these quarterly fluctuations by increasing non-seasonal business opportunities, there can be no assurance that we will be successful in doing so. Cost of Revenues: Cost of revenues for the quarter ended June 30, 2014increased $747,000or 13% from the comparable period last year primarily due to increased labor costs, higher fleet costs and expenses related to geographic expansion. As the Company's fleet of trucks has expanded, employee headcount and expenses such as insurance and repairs and maintenance have increased correspondingly. Cost of revenues for the six months ended June 30, 2014increased $6.5 millionor 40% from the comparable period last year due to the same reasons as mentioned above for the first quarter but also were impacted by significantly higher propane costs from the same period last year. Gross Profit: Gross profit for the quarter ended June 30, 2014decreased to 12% of revenues as compared to 28% of revenues for the comparative quarter last year. The decline in gross profit percentage was primarily due to lost revenues in the 2014 quarter relating to the well-site accident (as discussed in the Overview section above) coupled with expenses of retaining employees while waiting for operations to resume and increases in expenses related to fleet expansion at same time revenues were negatively impacted by the well-site incident and a revenue decrease in the Company's Eastern USAregion. Gross profit as a percentage of revenue declined to 30% for the six months June 30, 2014as compared to 39% for the comparable period last year. In addition the factors mentioned above in the second quarter discussion, the largest impact on the gross profit percentage decline was due to the mathematical impact of higher propane costs experienced in the first quarter (see "Propane Impact Discussion" below). In addition, lower operating margins in our fluid management business contributed to the overall decline in our gross profit percentage from the same period last year. 21
Propane Impact Discussion: Prior to
January 2014, many of our frac water heating customers in the DJ Basinwere billed on a "per barrel of water heated" basis which included the price of propane. As result, our gross profit percentage was immediately impacted once propane prices started to rise in December 2013and was further impacted as prices continued to rise significantly in January 2014. In late January and early February, the Company was able to renegotiate pricing for propane with customers in the DJ Basinto a cost plus basis which is similar to the billing method we use in our other regions. Under this method, propane is billed at cost plus a fixed dollar per gallon mark-up. This change in pricing eliminated the negative impact on gross profit and gross profit percentage due to increases in propane prices. Management estimates that the impact to gross profit from the increase in propane prices under the old per barrel billing prior to price renegotiations was approximately $500,000for the six months ended June 30, 2014. Higher propane prices also tend to reduce gross profit percentages on frac heating customers which bill propane on a cost plus basis. Typically, our mark-up on propane is a fixed dollar amount per gallon. Therefore, as propane prices increase, this fixed dollar mark-up becomes a smaller percentage of the billed propane costs resulting in a lower gross profit percentages. The increase in propane prices also causes propane revenues to become a larger portion of total revenues. As a result, the lower propane margins tend to dilute our overall gross profit percentage. We estimate that the higher propane prices and corresponding impact diluted our overall gross profit percentage in 2014 by approximately 4% to 5% of revenues. The Company anticipates that propane prices will continue to fluctuate in the future based on the relative demand and availability of propane in different geographic areas across the United States. Since the Company passes along the cost of propane to its customers on a cost plus mark-up basis, fluctuations in the price of propane will continue to impact revenues, cost of revenues and gross profit percentages. Decreases in propane prices will tend to reduce well enhancement revenues and costs of revenues and may increase our overall gross profit percentage as the dollar value of lower margin propane revenue and cost of revenue becomes a lower percentage of total revenue. Conversely, increases in propane prices similar to what the Company experienced during this quarter, will tend to increase well enhancement revenues and costs of revenues and may decrease our gross profit percentage, as the dollar value of lower margin propane revenue and cost of revenue becomes a higher percentage of total revenue.
General and Administrative Expenses:
For the quarter ended
June 30, 2014, general and administrative expenses increased approximately $164,000or 15% as compared to the same period last year. Costs associated with the Company's listing on the NYSE MKT national stock exchange and higher personnel costs related to the Company's expansion contributed to the increase. These increases in expenses were partially offset by a decrease in stock-based compensation costs during the quarter as compared to the prior year's quarter. As a percentage of revenues, general and administrative expenses remained consistent at 7% for the six months ended June 30, 2014as compared to the same period last year. For the six months ended June 30, 2014, there was an increase of approximately $458,000or 23% as compared to the same period last year. Higher personnel costs to support the Company's growth including a CFO in April 2013and the addition of two regional operations managers in the Company's Heat Waves operations in October 2013and June 2014were the primary reasons. Costs associated with the Company's listing on the NYSE MKT national stock exchange also contributed to the increase. Stock-based compensation costs were lower during the six months ended June 30, 2014as compared to the six months ended June 30, 2013. In addition, during the 2013 period, franchise taxes were $121,000lower due to a credit received.
Depreciation and Amortization:
For the three and six months ended
June 30, 2014, depreciation and amortization expenses increased $140,000or 24%, and $254,000or 22%, respectively, from the comparable periods last year. The increase in depreciation expense was due to new equipment placed into service over the previous 12 months, which includes six bobtail frac water heaters, two double burner frac heaters, and eight hot oilers. 22
Income Taxes: For the three months ended
June 30, 2014, the Company recognized an income tax benefit of $543,000on a pre-tax loss of $1.4 millionas compared to $118,000of income tax expense on pre-tax income of $309,000for the comparable period last year. For the six months ended June 30, 2014, the Company recognized an income tax expense of $2.2 millionon pre-tax income of $5.5 millionas compared to $2.8 millionof income tax expense on pre-tax income of $6.9 millionfor the comparable period last year. The effective tax rate on income from operations was approximately 39% for the three and six months ended June 30, 2014. This effective tax rate, as compared to a generally expected federal corporate tax rate of 34%, is primarily due to state and local income tax. Adjusted EBITDA* Management believes that, for the reasons set forth below, Adjusted EBITDA (even though a non-GAAP measure) is a valuable measurement of the Company's liquidity and performance and is consistent with the measurements offered by other companies in Enservco'sindustry. The following table presents a reconciliation of our net income to our Adjusted EBITDA for each of the periods indicated: For Three Months Ended For Six Months Ended June 30, June 30, 2014 2013 2014 2013 EBITDA* (Loss) Income $ (851,019 ) $ 190,907 $ 3.334.937 $ 4,124,938Add Back (Deduct) Interest Expense 241,903 251,655 495,428 566,670 Provision for income taxes (benefit) expense (542,952 ) 117,691 2,151,412 2,766,874 Depreciation and amortization 726,424 586,365 1,403,888 1,150,200 EBITDA* (425,644 ) 1,146,618 7,385,665 8,608,682 Add Back (Deduct) Stock-based compensation 71,935 260,054 148,280 328,776 Loss (Gain) on sale and disposal of equipment 5,129 - (9,237 ) (306,457 ) Interest and other income (7,050 ) (10,215 ) (13,950 ) (24,827 ) Adjusted EBITDA* $ (355,630 ) $ 1,396,457 $ 7,510,758 $ 8,606,174
*Note: See below for discussion of the use of non-GAAP financial measurements.
Use of Non-GAAP Financial Measures: Non-GAAP results are presented only as a supplement to the financial statements and for use within management's discussion and analysis based on U.S. generally accepted accounting principles (GAAP). The non-GAAP financial information is provided to enhance the reader's understanding of the Company's financial performance, but no non-GAAP measure should be considered in isolation or as a substitute for financial measures calculated in accordance with GAAP. Reconciliations of the most directly comparable GAAP measures to non-GAAP measures are provided herein. EBITDA is defined as net income plus or minus interest expense plus taxes, depreciation and amortization. Adjusted EBITDA excludes from EBITDA stock-based compensation and, when appropriate, other items that management does not utilize in assessing the Company's operating performance (see list of these items to follow below). None of these non-GAAP financial measures are recognized terms under GAAP and do not purport to be an alternative to net income as an indicator of operating performance or any other GAAP measure. Management uses these non-GAAP measures in its operational and financial decision-making, believing that it is useful to eliminate certain items in order to focus on what it deems to be a more reliable indicator of ongoing operating performance and the Company's ability to generate cash flow from operations. Management also believes that investors may find non-GAAP financial measures useful for the same reasons, although investors are cautioned that non-GAAP financial measures are not a substitute for GAAP disclosures. 23
All of the items included in the reconciliation from Net Income to EBITDA and from EBITDA to Adjusted EBITDA are either (i) non-cash items (e.g., depreciation, amortization of purchased intangibles, stock-based compensation, etc.) or (ii) items that management does not consider to be useful in assessing the Company's operating performance (e.g., income taxes, gain on sale of investments, loss on disposal of assets, etc.). In the case of the non-cash items, management believes that investors can better assess the Company's operating performance if the measures are presented without such items because, unlike cash expenses, these adjustments do not affect the Company's ability to generate free cash flow or invest in its business. Because not all companies use identical calculations, the Company's presentation of non-GAAP financial measures may not be comparable to other similarly titled measures of other companies. However, these measures can still be useful in evaluating the Company's performance against its peer companies because management believes the measures provide users with valuable insight into key components of GAAP financial disclosures.
LIQUIDITY AND CAPITAL RESOURCES
The following table summarizes our statements of cash flows for the three and six months ended
For the Three Months Ended For the Six Months Ended June 30, June 30, 2014 2013 2014 2013 Net cash provided by operating activities
$ 11,221,907 $ 7,878,360 $ 11,211,738 $ 8,521,680Net cash used in investing activities (5,099,341 ) (1,245,758 ) (6,554,490 ) (35,178 ) Net cash used in financing activities (1,614,311 ) (1,701,168 ) (902,735 ) (3,285,424 ) Net Increase in Cash and Cash Equivalents 4,508,255 4,931,434
Cash and Cash Equivalents, Beginning of Period 1,114,448 803,271
Cash and Cash Equivalents, End of Period
$ 5,622,703 $ 5,734,705The following table sets forth a summary of certain aspects of our balance sheet at June 30, 2014and December 31, 2013and (combined with the working capital table and discussion below) is important for understanding our liquidity: June 30, December 31, 2014 2013 Current Assets $ 11,885,842 $ 15,129,379Total Assets 35,180,913 33,422,248 Current Liabilities 6,080,097 6,955,618 Total Liabilities 18,601,616 20,577,132 Working Capital (Current Assets net of Current Liabilities) 5,805,745 8,173,761 Stockholders' equity 16,579,297 12,845,116 Overview: We have relied on cash flow from operations, borrowings under our revolving credit facility, and equipment financing to satisfy our liquidity needs. Our ability to fund operating cash flow shortfalls, fund capital expenditures, and make acquisitions will depend upon our future operating performance and on the availability of equity and debt financing. As of June 30, 2014, the Company has a credit facility with PNC Bank, National Association("PNC") which includes a $5.0 millionrevolving line of credit and a $12.4 millionequipment term loan. Advances under both the revolving and term loans incur interest based upon an effective Eurodollar rate or alternate base rate for domestic loans. 24
-------------------------------------------------------------------------------- The revolving line of credit has a variable interest rate that is based, at the Company's discretion, of 1 month LIBOR plus 3.25% for Eurodollar Loans or
PNC Bankrate plus 1.25% for domestic loans. The revolving line of credit is secured with inventory and accounts of the company and has a facility fee of .375% per annum, which is applied to any undrawn portion of the maximum revolving advance amount. As of June 30, 2014, the Company had $0outstanding under the revolving line of credit. The term note is payable in twenty-three fixed monthly principal payments of $172,620beginning November 30, 2013with the remaining principal balance due on November 2, 2015. The term loan has a variable interest rate that is based, at the Company's discretion of 1 month LIBOR plus 4.25% for Eurodollar Rate Loans or PNC Base Rate plus 2.25% for Domestic Rate Loans. As discussed in Note 4 to the condensed consolidated financial statements, the Company has entered into an interest rate swap to hedge the interest rate of the original term loan at an effective rate of 4.89% through the term of the loan.
The PNC credit facility has certain customary financial covenants that include, among others:
(i) an annual limit on capital expenditures (
(ii) a minimum fixed charge coverage ratio (as defined, not less than 1.1:1,
measured as of the last day of each fiscal quarter, and must be determined
based on trailing twelve month information.); and
(iii) a minimum tangible net worth test (set annually by the lender based upon
financial projections of the Company and is measured on a quarterly
basis). The tangible net worth limit for 2014 was based upon projections
and ranges from
$13,065,000to $15,313,000. These financial covenants could restrict our ability to secure additional debt financing or access funds under our revolving credit facility. At June 30, 2014, the Company did not meet one of the financial covenants imposed by the PNC loan agreements which resulted in an event of default under the loan documents. PNC has waived the effect of this event of default for the period As a result of the waiver, no default was declared. The Company believes that it is in line to meet the debt covenants and all other future covenant requirements. On August 1, 2014, the Company received approval from PNC Business Credit for a five-year, $40 millionrevolving credit facility. The facility will replace the Company's current revolving credit facility discussed above and will allow the Company to borrow up to 85% of eligible receivables and 85% of the appraised value of trucks and equipment. The Company intends to use the facility to fund approximately $7 millionof its $16 million2014 capital expenditure program and consolidate its existing PNC term loan and other equipment loans at a lower average interest rate. The remaining amount available under the facility will be used for future working capital needs or to supplement future capital expenditures. The new facility is expected to close in September, subject to customary due diligence and amendment to our existing loan documentation with PNC Bank. Working Capital: As of June 30, 2014the Company had working capital of approximately $5.8 million, a decrease in working capital of approximately $2.4 millionas compared to our 2013 fiscal year end. The decrease in working capital was primarily due to the utilization of cash and proceeds from collections of accounts receivable to fund $5.1 millionof capital expenditures for the six months ended June 30, 2014.
Cash flow from Operating Activities:
Cash flow provided by operating activities during the three months ended
June 30, 2014was $11.2 millionas compared to cash flow provided by operating activities of $7.9 millionduring the comparable period last year. The increase in cash flow from operations was largely due to collections of accounts receivable during the three months ended June 30, 2014. The increase due to cash collections of accounts receivable was partially offset by the net loss during the quarter ended June 30, 2014as compared to net income during the quarter ended June 30, 2013. 25
-------------------------------------------------------------------------------- Cash flow provided by operating activities during the six months ended
June 30, 2014was $11.2 millionas compared to cash flow provided by operating activities of $8.5 millionduring the comparable period last year. The increase in cash flow from operations was largely due to collections of accounts receivable during the six months ended June 30, 2014. The increase due to cash collections of accounts receivable was partially offset by the decrease in net income during the six months ended June 30, 2014as compared to the six months ended June 30, 2013.
Cash flow Used In Investing Activities:
Cash flow used in investing activities during the three months ended
June 30, 2014was $5.1 millionas compared to cash flow used in from investing activities of $1.2 millionduring the comparable period last year. The $3.9 millionchange in cash flows was the result of $5.1 millionbeing used for purchases of equipment during the three months ended June 30, 2014whereas during the three months ended June 30, 2013only $1.2 millionwas used for purchases of equipment. Cash flow used in investing activities during the six months ended June 30, 2014was $6.6 millionas compared to cash flow used in from investing activities of $35,000during the comparable period last year. The $6.6 millionchange in cash flows was the result of $6.6 millionbeing used for purchases of equipment during the six months ended June 30, 2014whereas in 2013 only $1.8 millionwas used for purchases of equipment, and there was $1.8 millionof cash proceeds from sale of well site construction equipment during the six months ended June 30, 2013.
Cash flow from Financing Activities:
Cash used in financing activities for the three months ended
June 30, 2014was $1.6 millionas compared to cash used of $1.7 millionfor the comparable period last year. The change was primarily due to the timing of borrowings and payments under the PNC revolving credit facility related to working capital needs. Cash used in financing activities for the six months ended June 30, 2014was $903,000as compared to cash used of $3.3 millionfor the comparable period last year. The change was primarily due to the timing of borrowings and payments under the PNC revolving credit facility related to working capital needs. Outlook: The Company plans to continue to expand its business operations by acquiring and fabricating additional equipment and increasing the volume and scope of services offered to our existing customers. During the second quarter of 2014, the Company announced CAPEX programs of $16 millionthat will be used for the purchase and fabrication of sixteen hot oil trucks, four acidizing trucks, and eighteen frac water heaters. The Company spent $6.6 millionof the 2014 CAPEX program during the first two quarters of fiscal 2014 and the Company plans to spend the remaining $9.4 millionduring the next three quarters. As discussed above, the Company received approval from PNC Business Credit on August 1, 2014for a five-year, $40 millionrevolving credit facility. The facility will replace the Company's current revolving credit facility with PNC bank and intends to use the facility to fund approximately $7 millionof its $16 million2014 capital expenditure program and consolidate its existing PNC term loan and other equipment loans at a lower average interest rate. The remaining amount available under the facility will be used for future working capital needs or to supplement future capital expenditures. The new facility is expected to close in September, subject to customary due diligence and amendment to our existing loan documentation with PNC Bank. On April 16, 2014, the Company filed an S-3 registration statement with the Securities and Exchange Commission(SEC) that was declared effective by the SECon April 30, 2014. The Form S-3 provides the Company with the flexibility to offer and sell from time to time, up to $50 millionof the Company's common stock in order to supplement our cash flows from operations and financing activities. The Company currently does not have any immediate plans to sell securities under the shelf registration statement, but plans to maintain the registration statement in the event there is a need to supplement its existing capital resources. 26
Capital Commitments and Obligations:
The Company's capital obligations as of
June 30, 2014consists primarily of scheduled principal payments under the PNC Term Loan, the PNC Revolving Line of Credit, as well as other bank debt and certain operating leases. As discussed in Note 10 to the consolidated financial statements, the Company is working towards closing a new five-year, $40 millionrevolving credit facility with PNC Bankwhich would replace the PNC loans above and change the Company's capital obligations. General terms and conditions for, and amounts due under, these commitments and obligations are summarized in the notes to the financial statements. As of June 30, 2014, the Company had approximately $8.8 millionin outstanding purchase commitments that are necessary to complete the purchase and fabrication of sixteen hot oil trucks, eighteen frac heaters and one acid truck included in the Company's 2014 CAPEX program. The Company intends to finance the purchase of this equipment through cash flow from operations and through the new revolving credit facility described above.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with U. S. generally accepted accounting principles requires management to make a variety of estimates and assumptions that affect (i) the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements, and (ii) the reported amounts of revenues and expenses during the reporting periods covered by the financial statements. Our management routinely makes judgments and estimates about the effect of matters that are inherently uncertain. As the number of variables and assumptions affecting the future resolution of the uncertainties increase, these judgments become even more subjective and complex. Although we believe that our estimates and assumptions are reasonable, actual results may differ significantly from these estimates. Changes in estimates and assumptions based upon actual results may have a material impact on our results of operation and/or financial condition. Our significant accounting policies are disclosed in Note 2 to the Condensed Consolidated Financial Statements included in this Form 10-Q.
While all of the significant accounting policies are important to the Company's financial statements, the following accounting policies and the estimates derived there from have been identified as being critical.
Accounts Receivable Accounts receivable are stated at the amount billed to customers. The Company provides a reserve for doubtful accounts based on a review of outstanding receivables, historical collection information and existing economic conditions. The provision for uncollectible amounts is continually reviewed and adjusted to maintain the allowance at a level considered adequate to cover future losses. The allowance is management's best estimate of uncollectible amounts and is determined based on historical performance that is tracked by the Company on an ongoing basis. The losses ultimately incurred could differ materially in the near term from the amounts estimated in determining the allowance. Revenue Recognition The Company recognizes revenue when evidence of an arrangement exists, the fee is fixed determinable, services are provided, and collection is reasonably assured. Due to the seasonality of the Company's operations, a significant portion of revenues are recognized during the colder, winter months of the year. Therefore, the Company believes that, the revenues recognized for the three and six month periods ended
June 30, 2014and 2013 are not indicative of quarterly revenues through the remainder of the fiscal year. Property and Equipment Property and equipment consists of (1) trucks, trailers and pickups; (2) trucks that are in various stages of fabrication; (3) real property which includes land and buildings used for office and shop facilities and wells used for the disposal of water; and (4) other equipment such as tools used for maintaining and repairing vehicles, office furniture and fixtures, and computer equipment. Property and equipment is stated at cost less accumulated depreciation. The Company charges repairs and maintenance against income when incurred and capitalizes renewals and betterments, which extend the remaining useful life or expand the capacity or efficiency of the assets. Depreciation is recorded on a straight-line basis over estimated useful lives of 5 to 30 years. 27
Long-Lived Assets The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recovered. The Company looks primarily to the discounted future cash flows in its assessment of whether or not long-lived assets have been impaired. Income Taxes The Company recognizes deferred tax liabilities and assets based on the differences between the tax basis of assets and liabilities and their reported amounts in the financial statements that will result in taxable or deductible amounts in future years. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on deferred tax assets and liabilities will be recognized in income in the period that includes the enactment date. Deferred income taxes are classified as a net current or non-current asset or liability based on the classification of the related asset or liability for financial reporting purposes. A deferred tax asset or liability that is not related to an asset or liability for financial reporting is classified according to the expected reversal date. The Company records a valuation allowance to reduce deferred tax assets to an amount that it believes is more likely than not expected to be realized. The Company accounts for any uncertainty in income taxes by recognizing the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The Company measures the tax benefits recognized in the financial statements from such a position based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. The application of income tax law is inherently complex. Laws and regulations in this area are voluminous and are often ambiguous. As such, the Company is required to make many subjective assumptions and judgments regarding income tax exposures. Interpretations of and guidance surrounding income tax law and regulations change over time and may result in changes to the Company's subjective assumptions and judgments which can materially affect amounts recognized in the consolidated balance sheets and consolidated statements of income. The result of the reassessment of the Company's tax positions did not have an impact on the consolidated financial statements. Interest and penalties associated with tax positions are recorded in the period assessed as general and administrative expenses. No interest or penalties have been assessed as of
June 30, 2014. The Company files tax returns in the United Statesand in the states in which it conducts its business operations. The tax years 2010 through 2013 remain open to examination in the taxing jurisdictions to which the Company is subject. Stock-based Compensation The Company uses the Black-Scholes pricing model as a method for determining the estimated fair value for all stock options awarded to employees, officers, and directors. The expected term of the options is based upon evaluation of historical and expected further exercise behavior. The risk-free interest rate is based upon U.S. Treasury rates at the date of grant with maturity dates approximately equal to the expected life of the grant. Volatility is determined upon historical volatility of our stock and adjusted if future volatility is expected to vary from historical experience. The dividend yield is assumed to be none as we have not paid dividends nor do we anticipate paying any dividends in the foreseeable future. We also use the Black-Scholes valuation model to determine the fair value of warrants. Expected volatility is based upon the weighted average of historical volatility over the contractual term of the warrant and implied volatility. The risk-free interest rate is basis upon implied yield on a U.S. Treasury zero-coupon issue with a remaining term equal to the contractual term of the warrants. The dividend yield is assumed to be none. 28 --------------------------------------------------------------------------------
Off Balance Sheet Arrangements
Other than the guarantees made by
Enservco(as the parent Company) and by Mr. Michael Herman(Chairman) on various loan agreements and operating leases disclosed in Note 6 to the Condensed Consolidated Balance Sheet, the Company had no significant off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to our stockholders.