Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2022
or
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 001-33666
Archrock, Inc.
(Exact name of registrant as specified in its charter)
Delaware
74-3204509
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
9807 Katy Freeway, Suite 100, Houston, Texas 77024
(Address of principal executive offices, zip code)
(281) 836-8000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol
Name of exchange on which registered
Common stock, $0.01 par value per share
AROC
New York Stock Exchange
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 ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
☒
Accelerated filer
☐
Non-accelerated filer
Smaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
Number of shares of the common stock of the registrant outstanding as of July 27, 2022: 155,624,577 shares.
TABLE OF CONTENTS
Page
Glossary
3
Forward-Looking Statements
4
Part I. Financial Information
Item 1. Financial Statements (unaudited)
5
Condensed Consolidated Balance Sheets
Condensed Consolidated Statements of Operations
6
Condensed Consolidated Statements of Comprehensive Income
7
Condensed Consolidated Statements of Equity
8
Condensed Consolidated Statements of Cash Flows
10
Notes to Condensed Consolidated Financial Statements
11
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
25
Item 3. Quantitative and Qualitative Disclosures About Market Risk
33
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
35
Item 1A. Risk Factors
Item 2. Purchases of Equity Securities by Issuer and Affiliated Purchasers
Item 3. Defaults Upon Senior Securities
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
36
Signatures
37
2
GLOSSARY
The following terms and abbreviations appearing in the text of this report have the meanings indicated below.
2021 Form 10-K
Annual Report on Form 10-K for the year ended December 31, 2021
2027 Notes
$500.0 million of 6.875% senior notes due April 2027, issued in March 2019
2028 Notes
$800.0 million of 6.25% senior notes due April 2028, $500.0 million of which was issued in December 2019, $300.0 million of which was issued in December 2020
Archrock, our, we, us
Archrock, Inc., individually and together with its wholly-owned subsidiaries
ATM Agreement
Equity Distribution Agreement, dated February 23, 2021, entered into with Wells Fargo Securities, LLC and BofA Securities, Inc., as sales agents, relating to the at-the-market offer and sale of shares of our common stock from time to time
Credit Facility
$750.0 million asset-based revolving credit facility due November 2024, as governed by Amendment No. 3 to Credit Agreement, dated February 22, 2021, which amended that Credit Agreement, dated as of March 30, 2017
ECOTEC
Ecotec International Holdings, LLC
ERP
Enterprise Resource Planning
ESPP
Employee Stock Purchase Plan
Exchange Act
Securities Exchange Act of 1934, as amended
February 2021 Disposition
Sale completed in February 2021 of certain contract operations customer service agreements, compressors and other assets
Financial Statements
Condensed consolidated financial statements included in Part I Item 1 of this Quarterly Report on Form 10-Q
GAAP
U.S. generally accepted accounting principles
Hilcorp
Hilcorp Energy Company
LIBOR
London Interbank Offered Rate
May 2022 Disposition
Sale completed in May 2022 of certain contract operations customer service agreements, compressors and other assets
Old Ocean Reserves
Old Ocean Reserves, LP, formerly JDH Capital Holdings, L.P.
OTC
Over-the-counter, as related to aftermarket services parts and components
ROU
Right-of-use, as related to the lease model under Accounting Standards Codification Topic 842 Leases
SEC
U.S. Securities and Exchange Commission
SG&A
Selling, general and administrative
U.S.
United States of America
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains “forward-looking statements” intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact contained in this Quarterly Report on Form 10-Q are forward-looking statements within the meaning of Section 21E of the Exchange Act, including, without limitation, our business growth strategy and projected costs; future financial position; the sufficiency of available cash flows to fund continuing operations and pay dividends; the expected amount of our capital expenditures; anticipated cost savings; future revenue, gross margin and other financial or operational measures related to our business; the future value of our equipment; and plans and objectives of our management for our future operations. You can identify many of these statements by words such as “believe,” “expect,” “intend,” “project,” “anticipate,” “estimate,” “will continue” or similar words or the negative thereof.
Such forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those anticipated as of the date of this Quarterly Report on Form 10-Q. Although we believe that the expectations reflected in these forward-looking statements are based on reasonable assumptions, no assurance can be given that these expectations will prove to be correct. Known material factors that could cause our actual results to differ materially from the expectations reflected in these forward-looking statements include the risk factors described in our 2021 Form 10-K and those set forth from time to time in our filings with the SEC, which are available through our website at www.archrock.com and through the SEC’s website at www.sec.gov.
All forward-looking statements included in this Quarterly Report on Form 10-Q are based on information available to us on the date of this Quarterly Report on Form 10-Q. Except as required by law, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements contained throughout this Quarterly Report on Form 10-Q.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
(in thousands, except par value and share amounts)
(unaudited)
June 30, 2022
December 31, 2021
Assets
Current assets:
Cash and cash equivalents
$
1,950
1,569
Accounts receivable, trade, net of allowance of $2,299 and $2,152, respectively
129,323
104,931
Inventory
77,636
72,869
Other current assets
8,126
7,201
Total current assets
217,035
186,570
Property, plant and equipment, net
2,211,744
2,226,526
Operating lease ROU assets
16,796
17,491
Intangible assets, net
42,187
47,887
Contract costs, net
28,784
25,418
Deferred tax assets
41,096
47,879
Other assets
34,485
28,384
Noncurrent assets associated with discontinued operations
9,199
9,811
Total assets
2,601,326
2,589,966
Liabilities and Equity
Current liabilities:
Accounts payable, trade
78,108
38,920
Accrued liabilities
66,966
82,517
Deferred revenue
6,455
3,817
Total current liabilities
151,529
125,254
Long-term debt
1,532,438
1,530,825
Operating lease liabilities
14,987
15,940
Deferred tax liabilities
1,332
1,136
Other liabilities
19,254
17,505
Noncurrent liabilities associated with discontinued operations
7,868
Total liabilities
1,727,408
1,698,528
Commitments and contingencies (Note 18)
Equity:
Preferred stock: $0.01 par value per share, 50,000,000 shares authorized, zero issued
—
Common stock: $0.01 par value per share, 250,000,000 shares authorized, 163,385,390 and 161,482,852 shares issued, respectively
1,633
1,615
Additional paid-in capital
3,450,603
3,440,059
Accumulated other comprehensive loss
(984)
Accumulated deficit
(2,489,814)
(2,463,114)
Treasury stock: 7,740,919 and 7,417,401 common shares, at cost, respectively
(88,504)
(86,138)
Total equity
873,918
891,438
Total liabilities and equity
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
(in thousands, except per share amounts)
Three Months Ended
Six Months Ended
June 30,
2022
2021
Revenue:
Contract operations
166,298
163,865
329,954
329,899
Aftermarket services
49,530
31,750
83,075
61,147
Total revenue
215,828
195,615
413,029
391,046
Cost of sales (excluding depreciation and amortization):
68,355
61,387
132,856
122,752
41,710
27,490
70,348
53,273
Total cost of sales (excluding depreciation and amortization)
110,065
88,877
203,204
176,025
27,691
26,077
55,464
51,161
Depreciation and amortization
41,356
44,193
84,395
89,905
Long-lived and other asset impairment
4,647
2,960
12,063
10,033
Restructuring charges
743
1,640
Interest expense
24,456
25,958
49,702
57,203
Gain on sale of assets, net
(18,948)
(3,124)
(21,060)
(14,156)
Other (income) expense, net
497
(82)
533
(1,971)
Income before income taxes
26,064
10,013
28,728
21,206
Provision for income taxes
9,318
1,261
10,261
8,285
Net income
16,746
8,752
18,467
12,921
Basic and diluted net income per common share
0.11
0.06
0.12
0.08
Weighted average common shares outstanding:
Basic
153,033
152,033
152,857
151,537
Diluted
153,164
152,203
152,982
151,699
(in thousands)
Other comprehensive income, net of tax:
Interest rate swap gain, net of reclassifications to earnings
966
574
1,962
Amortization of dedesignated interest rate swap
410
Total other comprehensive income, net of tax
984
Comprehensive income
9,718
19,451
14,883
(in thousands, except share and per share amounts)
Accumulated
Common
Additional
Other
Treasury
Stock
Paid-in
Comprehensive
Amount
Shares
Capital
Loss
Deficit
Total
Balance at March 31, 2021
1,613
161,323,492
3,430,910
(4,010)
(2,419,974)
(85,415)
(7,263,173)
923,124
Treasury stock purchased
(4)
(383)
Cash dividends ($0.145 per common share)
(22,331)
Shares issued under ESPP
16,062
136
Stock-based compensation, net of forfeitures
3,178
(14,893)
Balance at June 30, 2021
161,339,554
3,434,224
(3,044)
(2,433,553)
(85,419)
(7,278,449)
913,821
Balance at March 31, 2022
1,629
162,919,584
3,443,261
(2,484,066)
(88,501)
(7,698,812)
872,323
(3)
(303)
(22,494)
18,786
146
2,970
(41,804)
Net proceeds from issuance of common stock
447,020
4,226
4,230
Balance at June 30, 2022
163,385,390
(7,740,919)
Balance at December 31, 2020
1,600
160,014,960
3,424,624
(5,006)
(2,401,988)
(83,673)
(7,052,769)
935,557
(1,746)
(184,776)
Cash dividends ($0.290 per common share)
(44,486)
44,116
371
9
923,330
5,832
(40,904)
5,841
357,148
3,397
3,401
Balance at December 31, 2021
161,482,852
(7,417,401)
(2,366)
(272,706)
(45,167)
38,846
295
14
1,416,672
6,023
(50,812)
6,037
Cash flows from operating activities:
Adjustments to reconcile net income to net cash provided by operating activities:
Inventory write-downs
721
511
Amortization of operating lease ROU assets
1,575
1,891
Amortization of deferred financing costs
2,576
7,551
Amortization of debt premium
(1,003)
Interest rate swaps
631
2,169
Stock-based compensation expense
Provision for credit losses
365
(215)
(4,344)
(8,161)
Gain on sale of business
(16,716)
(5,995)
Deferred income tax provision
9,473
7,995
Amortization of contract costs
9,249
10,752
Deferred revenue recognized in earnings
(11,541)
(5,048)
Change in assets and liabilities:
Accounts receivable, trade
(30,370)
(2,661)
(5,779)
(3,569)
(1,182)
(244)
(13,007)
(6,467)
Accounts payable and other liabilities
13,051
6,358
14,032
4,068
421
(15)
Net cash provided by operating activities
89,524
126,617
Cash flows from investing activities:
Capital expenditures
(106,066)
(38,749)
Proceeds from sale of business
55,523
18,795
Proceeds from sale of property, plant and equipment and other assets
9,728
18,178
Proceeds from insurance and other settlements
2,781
910
Investments in unconsolidated entities
(8,000)
Net cash used in investing activities
(46,034)
(866)
Cash flows from financing activities:
Borrowings of long-term debt
405,733
343,251
Repayments of long-term debt
(404,500)
(419,751)
Payments for debt issuance costs
(2,407)
Payments for settlement of interest rate swaps that include financing elements
(1,334)
(2,169)
Dividends paid to stockholders
Proceeds from stock issued under ESPP
Purchases of treasury stock
Net cash used in financing activities
(43,109)
(123,536)
Net increase in cash and cash equivalents
381
2,215
Cash and cash equivalents, beginning of period
1,097
Cash and cash equivalents, end of period
3,312
1. Description of Business and Basis of Presentation
We are an energy infrastructure company with a primary focus on midstream natural gas compression. We are the leading provider of natural gas compression services to customers in the energy industry throughout the U.S. and a leading supplier of aftermarket services to customers that own compression equipment in the U.S. We operate in two business segments: contract operations and aftermarket services. Our predominant segment, contract operations, primarily includes designing, sourcing, owning, installing, operating, servicing, repairing and maintaining our owned fleet of natural gas compression equipment to provide natural gas compression services to our customers. In our aftermarket services business, we sell parts and components and provide operations, maintenance, overhaul and reconfiguration services to customers who own compression equipment.
The accompanying unaudited condensed consolidated financial statements included herein have been prepared in accordance with GAAP and the rules and regulations of the SEC. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP are not required in these interim financial statements and have been condensed or omitted. Management believes that the information furnished reflects all normal recurring adjustments necessary to fairly present our consolidated financial position, results of operations and cash flows for the periods indicated. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements presented in our 2021 Form 10-K, which contains a more comprehensive summary of our accounting policies. The interim results reported herein are not necessarily indicative of results for a full year.
2. Business Transactions
In May 2022, we completed the sale of certain contract operations customer service agreements and approximately 380 compressors, comprising approximately 70,000 horsepower, used to provide compression services under those agreements, as well as other assets used to support the operations. We allocated customer-related and contract-based intangible assets based on a ratio of the horsepower sold relative to the total horsepower of the asset group. We received cash consideration of $55.5 million for the sale and recorded a gain on the sale of $16.7 million in gain on sale of assets, net in our condensed consolidated statements of operations during the three and six months ended June 30, 2022.
In February 2021, we completed the sale of certain contract operations customer service agreements and approximately 300 compressors, comprising approximately 40,000 horsepower, used to provide compression services under those agreements as well as other assets used to support the operations. We allocated customer-related and contract-based intangible assets based on a ratio of the horsepower sold relative to the total horsepower of the asset group. We recorded a gain on the sale of $6.0 million in gain on sale of assets, net in our condensed consolidated statements of operations during the six months ended June 30, 2021.
3. Inventory
Parts and supplies
61,571
63,628
Work in progress
16,065
9,241
4. Property, Plant and Equipment, net
Compression equipment, facilities and other fleet assets
3,259,841
3,273,770
Land and buildings
44,205
43,540
Transportation and shop equipment
89,866
92,490
Computer hardware and software
77,393
76,908
6,250
6,229
Property, plant and equipment
3,477,555
3,492,937
Accumulated depreciation
(1,265,811)
(1,266,411)
5. Equity Investments
Investments in which we are deemed to exert significant influence, but not control, are accounted for using the equity method of accounting, except in cases where the fair value option is elected. For such investments where we have elected the fair value option, the election is irrevocable and is applied on an investment-by-investment basis at initial recognition. In April 2022, we agreed to acquire for cash a 25% equity interest in ECOTEC, a company specializing in methane emissions monitoring and management. We have elected the fair value option to account for this investment. As of June 30, 2022, our ownership interest in ECOTEC was 14%, which was included in other assets in our condensed consolidated balance sheets. Changes in the fair value of this investment are recognized in other (income) expense, net in our condensed consolidated statements of operations.
6. Hosting Arrangements
We have hosting arrangements that are service contracts related to the cloud migration of our ERP system and cloud services for our mobile workforce, telematics and inventory management tools.
As of June 30, 2022 and December 31, 2021, we had $14.8 million and $12.7 million, respectively, of capitalized implementation costs related to these hosting arrangements included in other assets in our condensed consolidated balance sheets. Accumulated amortization was $1.6 million and $0.7 million at June 30, 2022 and December 31, 2021, respectively. We recorded $0.5 million and $0.1 million of amortization expense to SG&A in our condensed consolidated statements of operations during the three months ended June 30, 2022 and 2021, respectively, and $0.9 million and $0.2 million during the six months ended June 30, 2022 and 2021, respectively.
7. Long-Term Debt
235,733
234,500
Principal
800,000
Premium, net of amortization
11,533
12,536
Deferred financing costs, net of amortization
(9,574)
(10,406)
801,959
802,130
500,000
(5,254)
(5,805)
494,746
494,195
12
As of June 30, 2022, there were $5.8 million letters of credit outstanding under the Credit Facility and the applicable margin on borrowings outstanding was 2.3%. The weighted average annual interest rate on the outstanding balance under the Credit Facility, excluding the effect of interest rate swaps, was 3.9% and 2.6% at June 30, 2022 and December 31, 2021, respectively. We incurred $0.5 million and $0.4 million in commitment fees on the daily unused amount of the Credit Facility during the three months ended June 30, 2022 and 2021, respectively, and $1.0 million during each of the six months ended June 30, 2022 and 2021.
As of June 30, 2022, we were in compliance with all covenants under our Credit Facility agreement. As a result of the facility’s financial ratio requirements, $476.6 million of the $508.5 million of undrawn capacity was available for additional borrowings as of June 30, 2022.
In February 2021, we amended our Credit Facility to, among other things, reduce the aggregate revolving commitment from $1.25 billion to $750.0 million and adjust certain financial ratios. We wrote off $4.9 million of unamortized deferred financing costs as a result of the amendment, which was recorded to interest expense in our condensed consolidated statements of operations during the six months ended June 30, 2021.
8. Accumulated Other Comprehensive Loss
Components of comprehensive income (loss) are net income (loss) and all changes in equity during a period except those resulting from transactions with owners. Our accumulated other comprehensive loss consists of changes in the fair value of our interest rate swap derivative instruments, net of tax.
Beginning accumulated other comprehensive loss
Loss recognized in other comprehensive income, net of tax benefit of $0, $16, $107 and $18, respectively
(63)
(405)
(71)
Loss reclassified from accumulated other comprehensive loss to interest expense, net of tax benefit of $0, $273, $369 and $540, respectively
1,029
1,389
2,033
Total other comprehensive income
Ending accumulated other comprehensive loss
See Note 15 (“Derivatives”) for further details on our interest rate swap derivative instruments.
9. Equity
At-the-Market Continuous Equity Offering Program
During the three and six months ended June 30, 2022, we sold 447,020 shares of common stock for net proceeds of $4.2 million pursuant to our ATM agreement.
During the six months ended June 30, 2021, we sold 357,148 shares of common stock under the program for net proceeds of $3.4 million.
13
Cash Dividends
The following table summarizes our dividends declared and paid in each of the quarterly periods of 2022 and 2021:
Declared Dividends
Dividends Paid
per Common Share
Q2
0.145
22,494
Q1
22,673
Q4
22,351
Q3
22,506
22,331
22,155
On July 28, 2022, our Board of Directors declared a quarterly dividend of $0.145 per share of common stock to be paid on August 16, 2022 to stockholders of record at the close of business on August 9, 2022.
10. Revenue from Contracts with Customers
The following table presents our revenue from contracts with customers by segment (see Note 20 (“Segments”)) and disaggregated by revenue source:
Contract operations:
0 ― 1,000 horsepower per unit
40,489
45,918
82,331
92,837
1,001 ― 1,500 horsepower per unit
68,697
66,852
135,698
135,316
Over 1,500 horsepower per unit
56,885
50,939
111,479
101,342
Other (1)
227
156
446
404
Total contract operations revenue (2)
Aftermarket services:
Services
26,001
17,008
43,138
33,900
OTC parts and components sales
23,529
14,742
39,937
27,247
Total aftermarket services revenue (3)
Performance Obligations
As of June 30, 2022, we had $286.6 million of remaining performance obligations related to our contract operations segment, which will be recognized through 2027 as follows:
2023
2024
2025
2026
2027
Remaining performance obligations
156,370
93,290
31,041
4,819
914
190
286,624
We do not disclose the aggregate transaction price for the remaining performance obligations for aftermarket services as there are no contracts with customers with an original contract term that is greater than one year.
Contract Assets and Liabilities
Contract Assets
As of June 30, 2022 and December 31, 2021, our receivables from contracts with customers, net of allowance for credit losses, were $121.0 million and $84.7 million, respectively.
Allowance for Credit Losses
Trade accounts receivable are due from companies of varying size engaged principally in oil and natural gas activities throughout the U.S. We review the financial condition of customers prior to extending credit and generally do not obtain collateral for trade receivables. Payment terms are on a short-term basis and in accordance with industry practice. We consider this credit risk to be limited due to these companies’ financial resources, the nature of the products and services we provide and the terms of our customer agreements.
Due to the short-term nature of our trade receivables, we consider the amortized cost to be the same as the carrying amount of the receivable, excluding the allowance for credit losses. We recognize an allowance for credit losses when a receivable is recorded, even when the risk of loss is remote. We utilize an aging schedule to determine our allowance for credit losses and measure expected credit losses on a collective (pool) basis when similar risk characteristics exist. We rely primarily on ratings assigned by external rating agencies and credit monitoring services to assess credit risk and aggregate customers first by low, medium or high risk asset pools, and then by delinquency status. We also consider the internal risk associated with geographic location and the services we provide to the customer when determining asset pools. If a customer does not share similar risk characteristics with other customers, we evaluate the customer’s outstanding trade receivables for expected credit losses on an individual basis. Trade receivables evaluated individually are not included in our collective assessment. Each reporting period, we reassess our customers’ risk profiles and determine the appropriate asset pool classification, or perform individual assessments of expected credit losses, based on the customers’ risk characteristics at the reporting date.
The contractual life of our trade receivables is primarily 30 days based on the payment terms specified in the contract. Contract operations services are generally billed monthly at the beginning of the month in which service is being provided. Aftermarket services billings typically occur when parts are delivered or service is completed. Loss rates are separately determined for each asset pool based on the length of time a trade receivable has been outstanding. We analyze two years of internal historical loss data, including the effects of prepayments, write-offs and subsequent recoveries, to determine our historical loss experience. Our historical loss information is a relevant data point for estimating credit losses, as the data closely aligns with trade receivables due from our customers. Ratings assigned by external rating agencies and credit monitoring services consider past performance and forecasts of future economic conditions in assessing credit risk. We routinely update our historical loss data to reflect our customers’ current risk profile, to ensure the historical data and loss rates are relevant to the pool of assets for which we are estimating expected credit losses.
15
Our allowance for credit losses balance changed as follows during the six months ended June 30, 2022:
2,152
Write-offs charged against allowance
(218)
2,299
Contract Liabilities
Freight billings to customers for the transport of compression assets, customer-specified modifications of compression assets and milestone billings on aftermarket services often result in a contract liability. Our contract liabilities were $6.9 million and $4.4 million as of June 30, 2022 and December 31, 2021, respectively, and were included in deferred revenue and other liabilities in our condensed consolidated balance sheets. During the six months ended June 30, 2022, we deferred revenue of $14.0 million and recognized $11.5 million as revenue. The revenue recognized and deferred during the period primarily related to freight billings and milestone billings on aftermarket services.
11. Long-Lived and Other Asset Impairment
We review long-lived assets, including property, plant and equipment and identifiable intangibles that are being amortized, for impairment whenever events or changes in circumstances, including the removal of compressors from our active fleet, indicate that the carrying amount of an asset may not be recoverable.
Compression Fleet
We periodically review the future deployment of our idle compression assets for units that are not of the type, configuration, condition, make or model that are cost efficient to maintain and operate. Based on these reviews, we determine that certain idle compressors should be retired from the active fleet. The retirement of these units from the active fleet triggers a review of these assets for impairment and as a result of our review, we may record an asset impairment to reduce the book value of each unit to its estimated fair value. The fair value of each unit is estimated based on the expected net sale proceeds compared to other fleet units we recently sold, a review of other units recently offered for sale by third parties or the estimated component value of the equipment we plan to use.
In connection with our review of our idle compression assets, we evaluate for impairment idle units that were culled from our fleet in prior years and are available for sale. Based on that review, we may reduce the expected proceeds from disposition and record additional impairment to reduce the book value of each unit to its estimated fair value.
The following table presents the results of our compression fleet impairment review as recorded to our contract operations segment:
(dollars in thousands)
Idle compressors retired from the active fleet
30
45
75
115
Horsepower of idle compressors retired from the active fleet
26,000
13,000
57,000
37,000
Impairment recorded on idle compressors retired from the active fleet
2,832
12,056
9,844
16
12. Restructuring Charges
In response to the decreased activity level of our customers that resulted from the coronavirus pandemic beginning in the second quarter of 2020, we incurred severance costs totaling $7.0 million to right-size our business in 2020 and 2021. No additional costs will be incurred under this restructuring plan.
During the third quarter of 2020, a plan to dispose of certain non-core properties was approved by management. We incurred $1.5 million of costs in 2020 and 2021 as a result of these property disposals. No additional costs will be incurred under this restructuring plan.
The severance and property disposal costs incurred under the above restructuring plans were recorded to restructuring charges in our condensed consolidated statements of operations.
The following table presents restructuring charges incurred by segment:
Contract
Aftermarket
Operations
Three months ended June 30, 2021
Pandemic restructuring
337
121
147
605
2020 property restructuring
Other restructuring
131
Total restructuring charges
285
Six months ended June 30, 2021
616
145
732
1,493
879
The following table presents restructuring charges incurred by cost type:
June 30, 2021
Severance costs
Property disposal costs
Impairment
Other exit costs
Total property disposal costs
Other restructuring costs
17
13. Income Taxes
Valuation Allowance
The amount of our deferred tax assets considered realizable could be adjusted if projections of future taxable income are reduced or objective negative evidence in the form of a three-year cumulative loss is present or both. Should we no longer have a level of sustained profitability, excluding nonrecurring charges, we will have to rely more on our future projections of taxable income to determine if we have an adequate source of taxable income for the realization of our deferred tax assets, namely net operating loss, interest limitation and tax credit carryforwards. This may result in the need to record a valuation allowance against all or a portion of our deferred tax assets.
Effective Tax Rate
The year-to-date effective tax rate for the six months ended June 30, 2022 differed significantly from our statutory rate primarily due to unrecognized tax benefits and the limitation on executive compensation.
Unrecognized Tax Benefits
As of June 30, 2022, we believe it is reasonably possible that $2.7 million of our unrecognized tax benefits, including penalties, interest and discontinued operations, will be reduced prior to June 30, 2023 due to the settlement of audits or the expiration of statutes of limitations or both. However, due to the uncertain and complex application of the tax regulations, it is possible that the ultimate resolution of these matters may result in liabilities that could materially differ from this estimate.
14. Earnings per Share
Basic net income (loss) per common share is computed using the two-class method, which is an earnings allocation formula that determines net income (loss) per share for each class of common stock and participating security according to dividends declared and participation rights in undistributed earnings. Under the two-class method, basic net income (loss) per common share is determined by dividing net income (loss), after deducting amounts allocated to participating securities, by the weighted average number of common shares outstanding for the period. Participating securities include unvested restricted stock and stock-settled restricted stock units that have nonforfeitable rights to receive dividends or dividend equivalents, whether paid or unpaid. During periods of net loss, only distributed earnings (dividends) are allocated to participating securities, as participating securities do not have a contractual obligation to participate in our undistributed losses.
Diluted net income (loss) per common share is computed using the weighted average number of shares outstanding adjusted for the incremental common stock equivalents attributed to outstanding options, performance-based restricted stock units and stock to be issued pursuant to our ESPP unless their effect would be anti-dilutive.
The following table shows the calculation for net income attributable to common stockholders, which is used in the calculation of basic and diluted net income per common share:
Less: Earnings attributable to participating securities
(305)
(285)
(819)
(454)
Net income attributable to common stockholders
16,441
8,467
17,648
12,467
18
The following table shows the potential shares of common stock that were included in computing diluted net income per common share:
Weighted average common shares outstanding including participating securities
155,188
154,047
155,005
153,334
Less: Weighted average participating securities outstanding
(2,155)
(2,014)
(2,148)
(1,797)
Weighted average common shares outstanding used in basic net income per common share
Net dilutive potential common shares issuable:
On vesting of restricted stock units
128
169
123
159
On settlement of ESPP shares
1
Weighted average common shares outstanding used in diluted net income per common share
The following table shows the potential shares of common stock issuable that were excluded from computing diluted net income per common share as their inclusion would have been anti-dilutive:
On exercise of options where exercise price is greater than average market value for the period
22
15. Derivatives
We are exposed to market risks associated with changes in the variable interest rate of our Credit Facility. We have used derivative instruments, in the form of interest rate swaps, to manage our exposure to fluctuations in this variable interest rate and thereby minimize the risks and costs associated with financial activities. We do not use derivative instruments for trading or other speculative purposes.
In March 2022, our $300.0 million notional value of interest rate swaps expired. We previously entered into these swaps to offset changes in expected cash flows due to fluctuations in the associated variable interest rates and designated them as cash flow hedges. There was no nonperformance by any counterparty during the terms of the interest rate swaps and no collateral was posted for the instruments.
Prior to expiration, during the third quarter of 2021, we dedesignated $125.0 million notional value of our interest rate swaps. The fair value of this interest rate swap immediately prior to dedesignation was a liability of $1.6 million. The associated amount in accumulated other comprehensive loss related to this interest rate swap was amortized into interest expense over the remaining term of the swap through March 2022. Changes in the fair value of the dedesignated interest rate swap after dedesignation and prior to expiration were recorded in interest expense.
The remaining $175.0 million notional value of our interest rate swaps were designated as (highly effective) cash flow hedging instruments until their expiration. Changes in the fair value of cash flow hedging instruments are recognized as a component of other comprehensive income (loss) until the hedged transaction affects earnings. At that time, amounts are reclassified into earnings to interest expense, the same statement of operations line item to which the earnings effect of the hedged item is recorded. Cash flows from derivatives designated as hedges are classified in our condensed consolidated statements of cash flows under the same category as the cash flows from the underlying assets, liabilities or anticipated transactions unless the derivative contract contains a significant financing element, in which case, the cash settlements for those derivatives are classified as cash flows from financing activities.
19
The following table presents the effect of our derivative instruments on our condensed consolidated balance sheets:
Interest rate swaps designated as cash flow hedging instruments
727
Interest rate swaps not designated as hedging instruments
523
Total derivative liabilities
1,250
The following table presents the effect of our derivative instruments on our condensed consolidated statements of operations:
Total amount of interest expense in which the effects of cash flow hedges and undesignated interest rate swaps are recorded
Pre-tax loss recognized in other comprehensive income
(79)
(512)
(89)
Pre-tax loss reclassified from accumulated other comprehensive loss into interest expense
(1,302)
(1,758)
(2,573)
Gain recognized in interest expense
See Note 8 (“Accumulated Other Comprehensive Loss”) and Note 16 (“Fair Value Measurements”) for further details on our derivative instruments.
16. Fair Value Measurements
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Investment in ECOTEC
During the three months ended June 30, 2022, we acquired a 14% equity interest in ECOTEC. To provide for greater transparency, we elected the fair value option to account for this investment. The fair value is internally calculated using a market approach and is classified as a Level 3 measurement. At June 30, 2022, the fair value of our equity interest in ECOTEC was as follows:
8,000
20
Interest Rate Swaps
Prior to their expiration in the first quarter of 2022, our interest rate swap derivative instruments were valued quarterly based on the income approach (discounted cash flow) using market observable inputs, including LIBOR forward curves. These fair value measurements were classified as Level 2. The following table presents our derivative position measured at fair value on a recurring basis, with pricing levels as of the date of valuation:
Derivative liabilities
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
During the six months ended June 30, 2022, we recorded nonrecurring fair value measurements related to our idle compressors. Our estimate of the compressors’ fair value was primarily based on the expected net sale proceeds compared to other fleet units we recently sold and/or a review of other units recently offered for sale by third parties, or the estimated component value of the equipment we plan to use. We discounted the expected proceeds, net of selling and other carrying costs, using a weighted average disposal period of four years. These fair value measurements are classified as Level 3. The fair value of our compressors impaired during 2022 and 2021 was as follows:
Impaired compressors
1,010
4,380
The significant unobservable inputs used to develop the above fair value measurements were weighted by the relative fair value of the compressors being measured. Additional quantitative information related to our significant unobservable inputs follows:
Range
Weighted Average (1)
Estimated net sale proceeds:
As of June 30, 2022
$0 - $621 per horsepower
$41 per horsepower
As of December 31, 2021
$35 per horsepower
See Note 11 (“Long-Lived and Other Asset Impairment”) for further details.
Other Financial Instruments
The carrying amounts of our cash, receivables and payables approximate fair value due to the short-term nature of those instruments.
The carrying amount of borrowings outstanding under our Credit Facility approximates fair value due to its variable interest rate. The fair value of these outstanding borrowings is a Level 3 measurement.
The fair value of our fixed rate debt is estimated using yields observable in active markets, which are Level 2 inputs, and was as follows:
Carrying amount of fixed rate debt (1)
1,296,705
1,296,325
Fair value of fixed rate debt
1,161,000
1,361,000
21
17. Stock-Based Compensation
We recognize stock-based compensation expense related to restricted stock awards, restricted stock units, performance-based restricted stock units and shares issued under our ESPP.
Equity award expense
Liability award expense
377
408
880
994
Total stock-based compensation expense
3,347
3,586
6,917
6,835
The following table presents our restricted stock activity during the six months ended June 30, 2022:
Weighted
Average
Grant Date
Fair Value
Per Share
Non-vested restricted stock, December 31, 2021
2,578
10.35
Granted
1,861
9.03
Vested
(1,106)
10.31
Canceled
(188)
9.35
Non-vested restricted stock, June 30, 2022 (1)
3,145
9.64
As of June 30, 2022, we expect $21.3 million of unrecognized compensation cost related to our non-vested awards and units to be recognized over the weighted average period of 2.1 years.
18. Commitments and Contingencies
Insurance Matters
Our business can be hazardous, involving unforeseen circumstances such as uncontrollable flows of natural gas or well fluids and fires or explosions. As is customary in our industry, we review our safety equipment and procedures and carry insurance against some, but not all, risks of our business. Our insurance coverage includes property damage, general liability and commercial automobile liability and other coverage we believe is appropriate. We believe that our insurance coverage is customary for the industry and adequate for our business, however, losses and liabilities not covered by insurance would increase our costs.
Additionally, we are substantially self-insured for workers’ compensation and employee group health claims in view of the relatively high per-incident deductibles we absorb under our insurance arrangements for these risks. Losses up to the deductible amounts are estimated and accrued based upon known facts, historical trends and industry averages. We are also self-insured for property damage to our offshore assets.
Tax Matters
We are subject to a number of state and local taxes that are not income-based. As many of these taxes are subject to audit by the taxing authorities, it is possible that an audit could result in additional taxes due. We accrue for such additional taxes when we determine that it is probable that we have incurred a liability and we can reasonably estimate the amount of the liability. As of June 30, 2022 and December 31, 2021, we had $3.9 million and $5.8 million, respectively, accrued for the outcomes of non-income-based tax audits. We do not expect that the ultimate resolutions of these audits will result in a material variance from the amounts accrued. We do not accrue for unasserted claims for tax audits unless we believe the assertion of a claim is probable, it is probable that it will be determined that the claim is owed and we can reasonably estimate the claim or range of the claim. We believe the likelihood is remote that the impact of potential unasserted claims from non-income-based tax audits could be material to our consolidated financial position, but it is possible that the resolution of future audits could be material to our consolidated results of operations or cash flows.
In 2021, one of our sales and use tax audits advanced from the audit review phase to the contested hearing phase. We had $0.6 million accrued for this audit as of both June 30, 2022 and December 31, 2021.
Litigation and Claims
In the ordinary course of business, we are involved in various pending or threatened legal actions. While we are unable to predict the ultimate outcome of these actions, we believe that any ultimate liability arising from any of these actions will not have a material adverse effect on our consolidated financial position, results of operations or cash flows, including our ability to pay dividends. However, because of the inherent uncertainty of litigation and arbitration proceedings, we cannot provide assurance that the resolution of any particular claim or proceeding to which we are a party will not have a material adverse effect on our consolidated financial position, results of operations or cash flows, including our ability to pay dividends.
19. Related Party Transactions
Old Ocean Reserves, an affiliate of our customer Hilcorp, has the right to designate one director to serve on our Board of Directors as long as Old Ocean Reserves or its successors (together with its affiliates) owns at least 7.5% of our outstanding common stock. As of June 30, 2022, Old Ocean Reserves owned 10.7% of our outstanding common stock. Jason C. Rebrook, Chief Executive Officer and Director of Harvest Midstream Company, a Hilcorp affiliate, has served as Old Ocean Reserves’ representative director since July 2020.
Revenue from Hilcorp and affiliates was $9.2 million and $9.6 million during the three months ended June 30, 2022 and 2021, respectively, and $18.6 million and $19.1 million during the six months ended June 30, 2022 and 2021, respectively. Accounts receivable, net due from Hilcorp and affiliates was $4.3 million and $3.7 million as of June 30, 2022 and December 31, 2021, respectively.
20. Segments
We manage our business segments primarily based on the type of product or service provided. We have two segments which we operate within the U.S.: contract operations and aftermarket services. The contract operations segment primarily provides natural gas compression services to meet specific customer requirements. The aftermarket services segment provides a full range of services to support the compression needs of customers, from parts sales and normal maintenance services to full operation of a customer’s owned assets.
We evaluate the performance of our segments based on gross margin for each segment. Revenue includes only sales to external customers.
23
Three months ended June 30, 2022
Revenue
Gross margin
97,943
7,820
105,763
102,478
4,260
106,738
Six months ended June 30, 2022
197,098
12,727
209,825
207,147
7,874
215,021
The following table reconciles total gross margin to income before income taxes:
Total gross margin
Less:
21. Impact of Hurricane
In August 2021, Hurricane Ida caused operational disruptions, damage to compressors and a temporary shutdown of facilities in Louisiana that negatively impacted our financial performance in the quarter. At December 31, 2021, we had an insurance recovery receivable of $2.8 million related to the facility and compressor damages, which we received in cash in the first quarter of 2022. The remaining portion of our insurance claim pertaining to business interruption is in process. Any amount recovered will not be subject to an additional deductible and will be recognized upon notice of final settlement.
22. Subsequent Event
On July 1, 2022, we acquired an additional 5% equity interest in ECOTEC, which increased our total ownership interest to 19%.
24
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited Financial Statements and the notes thereto included in this Quarterly Report on Form 10-Q and in conjunction with our 2021 Form 10-K.
Overview
We are an energy infrastructure company with a primary focus on midstream natural gas compression. We are the leading provider of natural gas compression services to customers in the energy industry throughout the U.S. and a leading supplier of aftermarket services to customers that own compression equipment in the U.S. We operate in two business segments: contract operations and aftermarket services. Our contract operations services primarily include designing, sourcing, owning, installing, operating, servicing, repairing and maintaining our owned fleet of natural gas compression equipment to provide natural gas compression services to our customers. In our aftermarket services business, we sell parts and components and provide operations, maintenance, overhaul and reconfiguration services to customers who own compression equipment.
Recent Business Developments
In May 2022, we completed the sale of certain contract operations customer service agreements and approximately 380 compressors, comprising approximately 70,000 horsepower, used to provide compression services under those agreements, as well as other assets used to support the operations. We received cash consideration of $55.5 million for the sale and recorded a gain on the sale of $16.7 million during the three and six months ended June 30, 2022. See Note 2 (“Business Transactions”) to our Financial Statements for further details of this transaction.
In April 2022, we agreed to acquire for cash a 25% equity interest in ECOTEC, a company specializing in methane emissions monitoring and management. As of June 30, 2022, our ownership interest was 14%. See Note 5 (“Equity Investments”) to our Financial Statements for further details.
Operating Highlights
(horsepower in thousands)
Total available horsepower (at period end)(1)
3,810
4,041
Total operating horsepower (at period end)(2)
3,322
3,295
Average operating horsepower
3,297
3,316
3,277
3,339
Horsepower utilization:
Spot (at period end)
87
%
82
86
85
Non-GAAP Financial Measures
Management uses a variety of financial and operating metrics to analyze our performance. These metrics are significant factors in assessing our operating results and profitability and include the non-GAAP financial measure of gross margin.
We define gross margin as total revenue less cost of sales (excluding depreciation and amortization). Gross margin is included as a supplemental disclosure because it is a primary measure used by our management to evaluate the results of revenue and cost of sales (excluding depreciation and amortization), which are key components of our operations. We believe gross margin is important because it focuses on the current operating performance of our operations and excludes the impact of the prior historical costs of the assets acquired or constructed that are utilized in those operations, the indirect costs associated with our SG&A activities, our financing methods and income taxes. In addition, depreciation and amortization may not accurately reflect the costs required to maintain and replenish the operational usage of our assets and therefore may not portray the costs of current operating activity. As an indicator of our operating performance, gross margin should not be considered an alternative to, or more meaningful than, net income (loss) as determined in accordance with GAAP. Our gross margin may not be comparable to a similarly-titled measure of other entities because other entities may not calculate gross margin in the same manner.
Gross margin has certain material limitations associated with its use as compared to net income (loss). These limitations are primarily due to the exclusion of SG&A, depreciation and amortization, impairments, restructuring charges, interest expense, (gain) loss on sale of assets, net, other (income) expense, net and provision for (benefit from) income taxes. Because we intend to finance a portion of our operations through borrowings, interest expense is a necessary element of our costs and our ability to generate revenue. Additionally, because we use capital assets, depreciation expense is a necessary element of our costs and our ability to generate revenue and SG&A is necessary to support our operations and required corporate activities. To compensate for these limitations, management uses this non-GAAP measure as a supplemental measure to other GAAP results to provide a more complete understanding of our performance.
The following table reconciles net income to gross margin:
Results of Operations: Summary of Results
Revenue was $215.8 million and $195.6 million during the three months ended June 30, 2022 and 2021, respectively, and $413.0 million and $391.0 million during the six months ended June 30, 2022 and 2021, respectively. The increases in consolidated revenue during these periods were primarily due to increased revenue from our aftermarket services business. See “Contract Operations” and “Aftermarket Services” below for further details.
Net Income
Net income was $16.7 million and $8.8 million during the three months ended June 30, 2022 and 2021, respectively. The increase was primarily driven by increases in gain on sale of assets, net and gross margin from our aftermarket services business, as well as decreases in depreciation and amortization and interest expense. These changes were partially offset by a decrease in gross margin from our contract operations business and increases in our provision for income taxes, SG&A and long-lived and other asset impairment.
26
Net income was $18.5 million and $12.9 million during the six months ended June 30, 2022 and 2021, respectively. The increase was primarily driven by increases in gain on sale of assets, net and gross margin from our aftermarket services business, as well as decreases in interest expense, depreciation and amortization and restructuring charges. These changes were partially offset by a decrease in gross margin from our contract operations business, increases in SG&A, long-lived and other asset impairment and provision for income taxes and a change from net other income to net other expense.
Results of Operations: Three Months Ended June 30, 2022 Compared to Three Months Ended June 30, 2021
Contract Operations
Increase
(Decrease)
Cost of sales (excluding depreciation and amortization)
Gross margin percentage (1)
59
63
Revenue increased primarily due to an increase in contract operations rates in response to improving market conditions and units returning to operating status from standby, which was partially offset by the impact of the strategic disposition of 147,000 horsepower in 2021. Adjusting for these dispositions, operating horsepower increased quarter over quarter.
Despite this increase in revenue, gross margin decreased due to a larger increase in cost of sales. Start-up, maintenance, lube oil and other operating expenses increased, driven by higher pricing throughout our supply chain, as well as increased volumes associated with unit redeployment as customer activity accelerated. Partially offsetting these cost increases was the decrease in expense attributable to the horsepower sold in 2021.
Aftermarket Services
56
52
84
Gross margin percentage
Revenue increased primarily due to increases in parts sales and service activities, as the market recovery drove an increase in customer demand.
Gross margin increased due to the increase in revenue and despite an increase in cost of sales, which was primarily driven by the same increases in parts sales and service activities.
27
Costs and Expenses
Selling, general and administrative. The increase in SG&A was primarily due to a $0.7 million increase in bad debt expense and a $0.7 million increase in information technology expense, which largely consisted of increased service agreement costs and amortization of capitalized implementation costs related to the substantial completion of our process and technology transformation project at the end of 2021.
Depreciation and amortization. The decrease in depreciation and amortization expense was primarily due to a decrease in depreciation expense resulting from assets reaching the end of their depreciable lives and the impact of compression and other asset sales. These decreases were partially offset by an increase in depreciation expense associated with fixed asset additions.
Long-lived and other asset impairment. We periodically review the future deployment of our idle compressors for units that are not of the type, configuration, condition, make or model that are cost efficient to maintain and operate. In addition, we evaluate for impairment idle units that have been culled from our compression fleet in prior years and are available for sale. See Note 11 (“Long-Lived and Other Asset Impairment”) to our Financial Statements for further details. The following table presents the results of our compression fleet impairment review, as recorded in our contract operations segment:
Restructuring charges. Restructuring charges of $0.7 million during the three months ended June 30, 2021 primarily consisted of severance costs related to our pandemic restructuring activities. See Note 12 (“Restructuring Charges”) to our Financial Statements for further details.
Interest expense. The decrease in interest expense was primarily due to a decrease in the average outstanding balance of long-term debt.
Gain on sale of assets, net. The increase in gain on sale of assets, net was primarily due to the $16.7 million gain on the May 2022 Disposition and gains of $1.8 million recognized on other compression assets sold during the three months ended June 30, 2022, compared to gains of $2.1 million and $1.1 million recognized on sales of compression assets and transportation and shop assets, respectively, during the three months ended June 30, 2021.
28
Provision for Income Taxes
639
Effective tax rate
The increase in provision for income taxes was primarily due to the tax effect of the increase in book income during the three months ended June 30, 2022 compared to the three months ended June 30, 2021.
Results of Operations: Six Months Ended June 30, 2022 Compared to Six Months Ended June 30, 2021
(5)
60
Revenue was unchanged primarily due to an increase in contract operations rates in response to improving market conditions and units returning to operating status from standby, and the offsetting impact of the strategic disposition of 147,000 horsepower in 2021. Adjusting for these dispositions, operating horsepower increased year over year.
With revenue unchanged, gross margin decreased with the increase in cost of sales. Start-up, maintenance, lube oil and other operating expenses increased, driven by higher pricing throughout our supply chain, as well as increased volumes associated with unit redeployment as customer activity accelerated. Partially offsetting these cost increases was the decrease in expense attributable to the horsepower sold in 2021.
32
62
29
Selling, general and administrative. The increase in SG&A was primarily due to a $1.8 million increase in sales and use tax that was mainly driven by audit settlements in 2021 and no comparable settlements in 2022, a $0.7 million increase in information technology expense, which largely consisted of increased service agreement costs and amortization of capitalized implementation costs related to the substantial completion of our process and technology transformation project at the end of 2021, and $0.6 million increases in each of employee travel and meeting expense and bad debt expense.
Depreciation and amortization. The decrease in depreciation and amortization expense was primarily due to a decrease in depreciation expense resulting from assets reaching the end of their depreciable lives, the impact of compression and other asset sales and impairments and a decrease in amortization expense as certain intangible assets reached the end of their useful lives. These decreases were partially offset by an increase in depreciation expense associated with fixed asset additions.
Restructuring charges. Restructuring charges of $1.6 million during the six months ended June 30, 2021 primarily consisted of severance costs related to our pandemic restructuring activities. See Note 12 (“Restructuring Charges”) to our Financial Statements for further details.
Interest expense. The decrease in interest expense was primarily due to the $4.9 million write-off of unamortized deferred financing costs related to the amendment of our Credit Facility in the first quarter of 2021 and a decrease in the average outstanding balance of long-term debt.
Gain on sale of assets, net. Our net gain on the sale of assets during the six months ended June 30, 2022 was primarily due to the $16.7 million gain on the May 2022 Disposition and gains of $3.2 million and $1.1 million recognized on sales of other compression assets and transportation and shop assets, respectively, during the period.
Our net gain on the sale of assets during the six months ended June 30, 2021 was primarily due to the $6.0 million gain on the February 2021 Disposition and gains of $6.4 million and $2.1 million recognized on sales of other compression assets and transportation and shop assets, respectively, during the period.
Other (income) expense, net. The change from net other income to net other expense was primarily due to a $0.9 million reduction in indemnification expense in 2021 due to the settlement of an audit pursuant to our tax matters agreement with Exterran Corporation, as well as income in 2021 of $0.3 million and $0.3 million related to compressor parts recycling and equipment damaged at a customer site, respectively.
39
The increase in provision for income taxes was primarily due to the tax effect of the increase in book income during the six months ended June 30, 2022 compared to the six months ended June 30, 2021.
Liquidity and Capital Resources
Our ability to fund operations, finance capital expenditures and pay dividends depends on the levels of our operating cash flows and access to the capital and credit markets. Our primary sources of liquidity are cash flows generated from our operations and our borrowing availability under our Credit Facility. Our cash flow is affected by numerous factors including prices and demand for our services, oil and natural gas exploration and production spending, conditions in the financial markets and other factors. We have no near-term maturities and believe that our operating cash flows and borrowings under the Credit Facility will be sufficient to meet our future liquidity needs.
We may from time to time seek to retire or purchase our outstanding debt through cash purchases and/or exchanges for equity or debt securities in open market purchases, privately negotiated transactions or otherwise. Such repurchases or exchanges, if any, may be material, will be upon terms and prices as we may determine and will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors.
Cash Requirements
Our contract operations business is capital intensive, requiring significant investment to maintain and upgrade existing operations. Our capital spending is primarily dependent on the demand for our contract operations services and the availability of the type of compression equipment required for us to provide those contract operations services to our customers. Our capital requirements have consisted primarily of, and we anticipate will continue to consist of, the following:
31
Capital Expenditures
Growth Capital Expenditures. The majority of our growth capital expenditures are related to the acquisition cost of new compressors when our idle equipment cannot be reconfigured to economically fulfill a project’s requirements and the new compressor is expected to generate economic returns that exceed our cost of capital over the compressor’s expected useful life. In addition to newly-acquired compressors, growth capital expenditures include the upgrading of major components on an existing compression package where the current configuration of the compression package is no longer in demand and the compressor is not likely to return to an operating status without the capital expenditures. These expenditures substantially modify the operating parameters of the compression package such that it can be used in applications for which it previously was not suited.
Maintenance Capital Expenditures. Maintenance capital expenditures are related to major overhauls of significant components of a compression package, such as the engine, compressor and cooler, which return the components to a like-new condition, but do not modify the application for which the compression package was designed.
Projected Capital Expenditures. We currently plan to spend approximately $230 million to $235 million in capital expenditures during 2022, primarily consisting of approximately $150 million for growth capital expenditures and approximately $70 million to $75 million for maintenance capital expenditures. We anticipate increased 2022 capital expenditures, particularly growth capital expenditures, as compared to 2021 due to increased investment in new compression equipment as a result of higher customer demand.
Dividends
On July 28, 2022, our Board of Directors declared a quarterly dividend of $0.145 per share of common stock to be paid on August 16, 2022 to stockholders of record at the close of business on August 9, 2022. Any future determinations to pay cash dividends to our stockholders will be at the discretion of our Board of Directors and will be dependent upon our financial condition, results of operations and credit and loan agreements in effect at that time and other factors deemed relevant by our Board of Directors.
Sources of Cash
Revolving Credit Facility
During the six months ended June 30, 2022 and 2021, the Credit Facility had an average daily balance of $231.5 million and $345.3 million, respectively. The weighted average annual interest rate on the outstanding balance under the Credit Facility, excluding the effect of interest rate swaps, was 3.9% and 2.6% at June 30, 2022 and December 31, 2021, respectively. As of June 30, 2022, there were $5.8 million letters of credit outstanding under the Credit Facility and the applicable margin on borrowings outstanding was 2.3%.
As of June 30, 2022, we were in compliance with all covenants under our Credit Facility. As a result of the facility’s financial ratio requirements, $476.6 million of the $508.5 million of undrawn capacity was available for additional borrowings as of June 30, 2022.
During the six months ended June 30, 2022 and 2021, we sold 447,020 and 357,148 shares of common stock for net proceeds of $4.2 million and $3.4 million, respectively, pursuant to our ATM agreement. See Note 9 (“Equity”) to our Financial Statements for further details.
Cash Flows
Our cash flows, as reflected in our condensed consolidated statements of cash flows, are summarized below:
Net cash provided by (used in):
Operating activities
Investing activities
Financing activities
Operating Activities
The decrease in net cash provided by operating activities was primarily due to increased cash outflow for cost of sales, contract costs, SG&A and inventory, as well as decreased cash inflow from accounts receivable. Partially offsetting these decreases in operating cash were increased cash inflow from revenue and deferred revenue and decreased cash outflow for accounts payable and other liabilities, restructuring charges and interest paid on long-term debt.
Investing Activities
The increase in net cash used in investing activities was primarily due to a $67.3 million increase in capital expenditures and the $8.0 million investment made in unconsolidated entities during the six months ended June 30, 2022. These cash outflows were partially offset by a $28.3 million increase in proceeds from the sales of property, plant and equipment.
Financing Activities
The decrease in net cash used in financing activities was primarily due to $76.5 million of net repayments of long-term debt during 2021, compared to $1.2 million in net borrowings in 2022.
We are exposed to market risk associated with changes in the variable interest rate of our Credit Facility. We have previously used derivative instruments to manage our exposure to fluctuations in this variable interest rate, however, our interest rate swaps expired in the first quarter of 2022, and all borrowings under the Credit Facility are now subject to variable interest rates.
A 1% increase in the effective interest rate on our Credit Facility’s outstanding balance at June 30, 2022 would have resulted in an annual increase in our interest expense of $2.4 million.
This Item 4 includes information concerning the controls and controls evaluation referred to in the certifications of our Chief Executive Officer and Chief Financial Officer required by Rule 13a-14 of the Exchange Act included in this Quarterly Report as Exhibits 31.1 and 31.2.
Management’s Evaluation of Disclosure Controls and Procedures
Disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) are designed to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that such information is accumulated and communicated to management to allow timely decisions regarding required disclosures.
As of the end of the period covered by this Quarterly Report on Form 10-Q, our principal executive officer and principal financial officer evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act), which are designed to provide reasonable assurance that we are able to record, process, summarize and report the information required to be disclosed in our reports under the Exchange Act within the time periods specified in the rules and forms of the SEC. Based on the evaluation, as of June 30, 2022 our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective to provide reasonable assurance that the information required to be disclosed in reports that we file or submit under the Exchange Act is accumulated and communicated to management, and made known to our principal executive officer and principal financial officer, on a timely basis to ensure that it is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
Changes in Internal Control over Financial Reporting
During the first quarter of 2022, we implemented a new ERP system, which replaced our existing core financial systems, resulting in changes to our financial close processes and procedures. As a result of the implementation, certain internal controls over financial reporting were automated, modified or implemented. While we believe the new ERP system will enhance our internal controls, there are inherent risks in implementing any new system, and we will continue to evaluate these control changes as part of our assessment of control design and effectiveness throughout 2022.
There were no other changes in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) during the last fiscal quarter that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
34
PART II. OTHER INFORMATION
There have been no material changes or updates to the risk factors previously disclosed in our 2021 Form 10-K.
The following table summarizes our purchases of equity securities during the three months ended June 30, 2022:
Maximum
Number of Shares
Total Number of
That May Yet be
Shares Purchased
Purchased Under
Total Number
Price
as Part of Publicly
the Publicly
of Shares
Paid per
Announced Plans
Purchased (1)
Share
or Programs
April 1, 2022 — April 30, 2022
303
9.16
N/A
May 1, 2022 — May 31, 2022
June 1, 2022 — June 30, 2022
Item 3. Defaults upon Senior Securities
None.
Not applicable.
Exhibit No.
Description
3.1
Composite Certificate of Incorporation of Archrock, Inc. (as amended as of November 3, 2015), incorporated by reference to Exhibit 3.3 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2015
3.2
Third Amended and Restated Bylaws of Exterran Holdings, Inc. (now Archrock, Inc.), incorporated by reference to Exhibit 3.1 of the Registrant’s Current Report on Form 8-K filed on March 20, 2013
3.3
Amendment No. 1 to Third Amended and Restated Bylaws of Archrock, Inc., incorporated by reference to Exhibit 3.1 of the Registrant’s Current Report on Form 8-K filed on May 5, 2020
31.1*
Certification of the Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*
Certification of the Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1**
Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2**
Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.1*
Interactive data files (formatted in Inline XBRL) pursuant to Rule 405 of Regulation S-T
104.1*
Cover page interactive data file (formatted in Inline XBRL) pursuant to Rule 406 of Regulation S-T
* Filed herewith.
** Furnished, not filed.
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.
By:
/s/ Douglas S. Aron
Douglas S. Aron
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
/s/ Donna A. Henderson
Donna A. Henderson
Vice President and Chief Accounting Officer
(Principal Accounting Officer)
August 3, 2022