Item 7. Management’s Discussion and Analysis
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with our financial statements and related notes thereto included elsewhere in this Form 10-K. Portions of this document that are not statements of historical or current fact are forward-looking statements that involve risk and uncertainties, such as statements of our plans, business strategy, objectives, expectations and intentions. This discussion contains forward-looking statements that involve risks and uncertainties. Please see “Business,” “Disclosure Regarding Forward-Looking Statements” and “Risk Factors” elsewhere in this Form 10-K.
You should read this discussion in conjunction with the financial statements and notes thereto included elsewhere in this Form 10-K. Unless the context requires otherwise, all references in this Item 7 to the “Company,” “we,” “us” or “our” refer to Dawson Geophysical Company and its consolidated subsidiaries.
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Overview
We are a leading provider of North American onshore seismic data acquisition services with operations throughout the continental U.S. and Canada. Substantially all of our revenues are derived from the seismic data acquisition services we provide to our clients. Our clients consist of major oil and gas companies, independent oil and gas operators, and providers of multi-client data libraries. Demand for our services depends upon the level of spending by these companies for exploration, production, development and field management activities, which depends, in large part, on oil and natural gas prices. Significant fluctuations in domestic oil and natural gas exploration and development activities related to commodity prices, as we have recently experienced, have affected, and will continue to affect, demand for our services and our results of operations, and such fluctuations continue to be the single most important factor affecting our business and results of operations.
In the fourth quarter, our Board of Directors terminated our President and Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer. Our current management team is focused on improving margins on our seismic acquisition services, reducing general and administrative expenses, and improving our operating cash flows. We have implemented a mark-up to our customers on reimbursable expenses and permitting costs, adjusting our bidding process to better account for our cost structure, and other cost reduction initiatives to improve our profitability.
We had two crews operating throughout the fourth quarter in the United States and resumed our seasonal operations in Canada. High crew utilization in the fourth quarter resulted in improved margins and profitability. In the first quarter, we continued to keep our crews highly utilized in the US and Canada. We are working to keep our crews highly utilized throughout the remainder of the year.
While our revenues are mainly affected by the level of client demand for our services, our revenues are also affected by the pricing for our services that we negotiate with our clients and the productivity and utilization level of our data acquisition crews. Factors impacting productivity and utilization levels include client demand, commodity prices, whether we enter into turnkey or dayrate contracts with our clients, the number and size of crews, the number of recording channels per crew, crew downtime related to inclement weather, delays in acquiring land access permits, agricultural or hunting activity, holiday schedules, short winter days, crew repositioning and equipment failure. To the extent we experience these factors, our operating results may be affected and vary from quarter to quarter. Consequently, our efforts to negotiate more favorable contract terms in our supplemental service agreements, mitigate permit access delays and improve overall crew productivity may contribute to growth in our revenues.
The majority of our revenues were derived from turnkey contracts for the years ending December 31, 2023 and 2022. While turnkey contracts allow us to capitalize on improved crew productivity, we also bear more risk related to weather and crew downtime. We expect the majority of our contracts to be turnkey as we continue our operations in the mid-continent, western and southwestern regions of the U.S. in which turnkey contracts are more common.
Over time, we have experienced continued increases in recording channel capacity on a per-crew or project basis and high utilization of cableless and multicomponent equipment. This increase in channel count demand is driven by client needs and is necessary in order to produce higher resolution images, increase crew efficiencies and undertake larger scale projects. In response to project-based channel requirements, we routinely deploy a variable number of channels on a variable number of crews in an effort to maximize asset utilization and meet client needs.
While the markets for oil and natural gas have been very volatile and are likely to continue to be so in the future, and we can make no assurances as to future levels of domestic exploration or commodity prices, we believe opportunities exist for us to enhance our market position by responding to our clients’ continuing desire for higher resolution subsurface images.
Historically, the chief operating decision maker made operating decisions and evaluated operating results of the Company on a consolidated basis. In December 2023, we appointed a new Chief Executive Officer who is our current chief operating decision maker. Currently, our chief operating decision maker reviews the discrete segment financial information on a geographic basis for the US operations and Canada Operations. The revenue for both of the Company’s
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segments is generated by the same services, which utilize the same type of equipment and personnel. The performance of our segments is evaluated primarily on Adjusted EBITDA. We define Adjusted EBITDA as our net income (loss), before (i) interest expense, net, (ii) income tax expense or benefit, (iii) depreciation, depletion and amortization and (iv) other unusual or non-recurring charges, such as severance expenses. As a result, our business has two reportable segments, US operations and Canada Operations. We have included management’s discussion and analysis about our two reportable segments for all periods presented herein.
Results of Operations
Year Ended December 31, 2023 versus Year Ended December 31, 2022
US Fee Revenues. Acquisition revenues for the year ended December 31, 2023, were $49.0 million compared to $31.1 million for the same period of 2022. The increase in revenues for the year ended December 31, 2023, compared to the same period of 2022 was primarily a result of increased demand for our services.
Canadian Fee Revenues. Acquisition revenues for the year ended December 31, 2023, were $12.4 million compared to $15.0 million for the same period of 2022. The decrease in revenues for the year ended December 31, 2023, compared to the same period of 2022 was primarily a result of a slight decrease in demand for our services in Canada.
Total Revenues. Revenue for the year ended December 31. 2023, were $96.8 million compared to $51.6 million for the same period of 2022. Total revenues included an increase of $29.8 million in reimbursable revenues.
US Fee Operating Expenses. Acquisition expenses for the year ended December 31, 2023, increased to $41.1 million compared to $29.5 million for the same period of 2022. The increase in operating expenses was mainly due to an overall increase in crew production and utilization.
Canadian Fee Operating Expenses. Acquisition expenses for the year ended December 31, 2023, increased slightly to $11.8 million compared to $11.4 million for the same period of 2022. The increase in operating expenses was mainly due to an overall increase in general operating costs.
Reimbursable Revenues and Costs . These revenues and expenses passed through to our clients and are job specific and vary significantly from year to year. The costs are agreed to by our clients prior to contracting with outside vendors for the various tasks.
General and Administrative Expenses. General and administrative expenses decreased 26% to $11.4 million for the year ended December 31, 2023 compared to $15.5 million for the same period of 2022. The primary factors for the decrease in general and administrative expenses are related to continued cost management and streamlining procedures. We anticipate general and administrative charges for 2024 to be below those in 2023 due to continued focus on reducing costs and the change in our management team.
Severance Expenses. In December 2023, we recorded severance expenses of $2.2 million in connection with the termination of the Company’s (i) President and Chief Executive Officer, (ii) Chief Financial Officer, Executive Vice President, Secretary and Treasurer and (iii) Chief Operating Officer and Executive Vice President.
Depreciation Expense. Depreciation for the year ended December 31, 2023, was $8.5 million compared to $11.8 million for the same period of 2022. The decrease in depreciation expense is a result of limiting capital expenditures to necessary maintenance capital requirements in recent years. Our depreciation expense is expected to remain flat or decline slightly during 2024 primarily due to limited capital expenditures to maintain our existing asset base.
Our total operating costs for the year ended December 31, 2023 were $110.2 million, representing a 49% increase from the corresponding period of 2022. This change was primarily due to the factors described above.
Other Income (Expense). Under the provisions of the Coronavirus Aid, Relief, and Economic Security Act (“the CARES Act”) and its subsequent amendments, we were eligible and, in April 2022, we applied for a refundable employee retention credit subject to program conditions and requirements. We recognize these credits as a gain when all uncertainties have been met and the amounts are realizable in accordance with similar gain contingencies. We recognized $3.0 million as a gain in other income and $69,000 as interest income on the Consolidated Statement of Operations and Comprehensive Loss for the year ended December 31, 2022 and recognized $3.0M as an employee retention credit receivable in the
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Consolidated Balance Sheet as of December 31, 2022. Payments were received in January 2023. No additional credits are expected to be received.
Income Taxes. Income tax benefit was $96,000 for the year ended December 31, 2023 compared to income tax expense of $107,000 for the same period of 2022. The effective tax benefit/expense rates for the years ended December 31, 2023 and 2022 were approximately 0.8% and -0.6%, respectively. Our effective tax rate increased compared to the corresponding period from the prior year primarily due to a change in the valuation allowance on a portion of the NOLs due to an Internal Revenue Code section 382 limitation. Our effective tax rates differ from the statutory federal rate of 21% for certain items such as state and local taxes, valuation allowances, and non-deductible expenses.
Use of EBITDA (Non-GAAP measure)
We define EBITDA as net income (loss) plus interest expense, interest income, income taxes, depreciation and amortization expense and severance expenses. Our management uses EBITDA as a supplemental financial measure to assess:
● the financial performance of our assets without regard to financing methods, capital structures, taxes or historical cost basis;
● our liquidity and operating performance over time in relation to other companies that own similar assets and that we believe calculate EBITDA in a similar manner; and
● the ability of our assets to generate cash sufficient for us to pay potential interest costs.
We also understand that such data are used by investors to assess our performance. However, the term EBITDA is not defined under generally accepted accounting principles (“GAAP”), and EBITDA is not a measure of operating income, operating performance or liquidity presented in accordance with GAAP. When assessing our operating performance or liquidity, investors and others should not consider this data in isolation or as a substitute for net income (loss), cash flow from operating activities or other cash flow data calculated in accordance with GAAP. In addition, our EBITDA may not be comparable to EBITDA or similarly titled measures utilized by other companies since such other companies may not calculate EBITDA in the same manner as us. Further, the results presented by EBITDA cannot be achieved without incurring the costs that the measure excludes: interest, taxes, and depreciation and amortization.
The reconciliation of our EBITDA to our net loss and net cash used in operating activities, which are the most directly comparable GAAP financial measures, are provided in the following tables (in thousands):
Year Ended December 31,
2023 US
2023 CA
2023 Consol.
2022 US
2022 CA
2022 Consol.
Net cash used in operating activities
$
(236)
$
1,050
$
814
$
(6,440)
$
3,171
$
(3,269)
Changes in working capital and other items
(2,627)
(1,249)
(3,876)
(1,529)
(785)
(2,314)
Non-cash adjustments to net loss
1,226
(180)
1,046
(1,267)
(144)
(1,411)
EBITDA
$
(1,637)
$
(379)
$
(2,016)
$
(9,236)
$
2,242
$
(6,994)
Year Ended December 31,
2023 US
2023 CA
2023 Consol.
2022 US
2022 CA
2022 Consol.
Net loss
$
(10,057)
$
(2,090)
$
(12,147)
$
(18,867)
$
222
$
(18,645)
Depreciation and amortization
6,566
1,926
8,492
9,721
2,109
11,830
Severance expense
2,208
-
2,208
-
-
-
Interest (income) expense, net
(258)
(215)
(473)
(197)
(89)
(286)
Income tax expense (benefit)
(96)
-
(96)
107
-
107
EBITDA
$
(1,637)
$
(379)
$
(2,016)
$
(9,236)
$
2,242
$
(6,994)
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Liquidity and Capital Resources
Introduction. Our principal sources of cash are amounts earned from the seismic data acquisition services we provide to our clients. Our principal uses of cash are the amounts used to provide these services, including expenses related to our operations and acquiring new equipment. Accordingly, our cash position depends (as do our revenues) on the level of demand for our services. Historically, cash generated from our operations along with cash reserves and borrowings from commercial banks have been sufficient to fund our working capital requirements and, to some extent, our capital expenditures.
Cash Flows. The following table shows our sources and uses of cash (in thousands) for the years ended December 31, 2023 and 2022:
Year Ended December 31,
2023
2022
Net cash provided by (used in)
Operating activities
$
814
$
(3,269)
Investing activities
(4,504)
(1,089)
Financing activities
(4,204)
(2,150)
Effect of exchange rate changes on cash, cash equivalents and restricted cash
63
(265)
Net change in cash and cash equivalents and restricted cash
$
(7,831)
$
(6,773)
Year Ended December 31, 2023 versus Year Ended December 31, 2022
Net cash provided by operating activities was $814,000 for the year ended December 31, 2023 and net cash used by operating activities was $3.3 million for the same period of 2022. The decrease in cash used in operating activities was primarily due to a decreased net loss, due to an increase in activity.
Net cash used in investing activities was $4.5 million for the year ended December 31, 2023, and includes cash capital expenditures of $3.7 million and cash acquisition of short–term investments of $1.0 million, offset by $217,000 in proceeds from the disposal of assets. Net cash used in investing activities was $1.1 million for the year ended December 31, 2022, and includes cash capital expenditures of $1.4 million offset by $340,000 in proceeds from the disposal of assets.
Net cash used in financing activities was $4.2 million for the year ended December 31, 2023, and includes principal payments of $896,000 on our notes and $253,000 on our finance leases and outflows of $3.1 million associated with the acquisition of Breckenridge assets. Net cash used in financing activities was $2.2 million for the year ended December 31, 2022 and includes principal payments of $1.3 million on our notes and $47,000 on our finance leases and outflows of $301,000 for cash settlement of restricted stock units, $79,000 associated with taxes related to stock compensation awards vesting, and $583,000 associated with the acquisition of Breckenridge assets offset by $113,000 received for sale of treasury stock.
We continually strive to supply our clients with technologically advanced 3-D data acquisition recording services and data processing capabilities. We maintain equipment in and out of service in anticipation of increased future demand for our services.
Risks and Uncertainties. Our ability to be profitable in the future will depend on many factors beyond our control, but primarily on the level of demand for land-based seismic data acquisition services by oil and natural gas exploration and development companies. We incurred net losses of $12.1 million for the year ended December 31, 2023, and $18.6 million for the year ended December 31, 2022. As of December 31, 2023, we had $15.8 million in cash, and a positive working capital balance of $15 million. We believe that our cash flows from operations, and our current financial position are adequate to fund our continued operations.
Capital Resources . Historically, we have primarily relied on cash generated from operations, cash reserves and borrowings from commercial banks to fund our working capital requirements and, to some extent, our capital expenditures. Recently, we have funded some of our capital expenditures through finance leases and equipment term loans. From time to time in the past, we have also funded our capital expenditures and other financing needs through public equity offerings.
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We believe that our capital resources, including our cash and short-term investments, cash flow from operations, and funds available under our Revolving Credit Facility are sufficient to meet our operational needs.
Dominion Credit Facility. On September 30, 2019, we entered into a Loan and Security Agreement with Dominion Bank. On September 30, 2023, we entered into the Fifth Loan Modification Agreement (as amended by (i) that certain Loan Modification Agreement dated as of September 30, 2020, (ii) that certain Second Loan Modification Agreement dated as of September 30, 2021, (iii) that certain Third Loan Modification Agreement dated as of September 30, 2022, (iv) that certain Fourth Modification Agreement dated as of March 21, 2023, and (v) the Fifth Modification Agreement, the “Loan Agreement”) The Loan Agreement now provides for a Revolving Credit Facility in an amount up to the lesser of (I) an amount equal to the Borrowing Base or (II) $5 million. Our obligations under the Loan Agreement are secured by a Certificate of Deposit with Dominion Bank for $5 million (the “Deposit”) in our collateral account. As of December 31, 2023, we have not borrowed any amounts under the Revolving Credit Facility and have approximately $5.0M available for withdrawal.
Under the Revolving Credit Facility, interest will accrue at an annual rate equal to the lesser of (i) 7.75% and (ii) the greater of (a) the prime rate as published from time to time in The Wall Street Journal or (b) 4.75%. From and after September 30, 2023 and so long as the Deposit held by Dominion Bank remains greater than or equal to the indebtedness (the “Financial Covenant Suspension Threshold”), the testing of the financial covenants set forth in the Loan Agreement has been suspended. The financial covenant testing shall resume if and when the Financial Covenant Suspension Threshold is no longer satisfied. The maturity date of the Loan Agreement is September 30, 2024.
We do not currently have any notes payable under the Revolving Credit Facility.
Dominion Letters of Credit. As of December 31, 2023, Dominion Bank has issued one letter of credit in the amount of $265,000 to support our workers compensation insurance. The letter of credit is secured by a certificate of deposit with Dominion Bank.
Other Indebtedness. As of December 31, 2023, we have one note payable to a finance company for various insurance premiums totaling $910,000.
In addition, we lease certain seismic recording equipment and vehicles under leases classified as finance leases. Our Consolidated Balance Sheet as of December 31, 2023 includes finance leases of $1.8 million.
Contractual Obligations. We believe that our capital resources, including our short-term investments, cash flow from operations, and funds available under our Revolving Credit Facility, will be adequate to meet our current operational needs. We believe that we will be able to finance our 2024 capital expenditures through cash flow from operations, borrowings from commercial lenders, and the funds available under our Revolving Credit Facility. However, our ability to satisfy working capital requirements, meet debt repayment obligations, and fund future capital requirements will depend principally upon our future operating performance, which is subject to the risks inherent in our business, and will also depend on the extent to which the current economic climate adversely affects the ability of our customers, and/or potential customers, to promptly pay amounts owing to us under their service contracts with us.
Off-Balance Sheet Arrangements
As of December 31, 2023, we had no off-balance sheet arrangements.
Critical Accounting Policies
The preparation of our financial statements in conformity with GAAP requires that certain assumptions and estimates be made that affect the reported amounts of assets and liabilities at the date of our financial statements and the reported amounts of revenues and expenses during the reporting periods. Because of the use of assumptions and estimates inherent in the reporting process, actual results could differ from those estimates.
Impairment of Long-Lived Assets. We review long-lived assets for impairment when triggering events occur suggesting deterioration in the assets’ recoverability or fair value. Recognition of an impairment charge is required if future expected undiscounted net cash flows are insufficient to recover the carrying value of the assets, and the fair value of the assets is below the carrying value of the assets. Our forecast of future cash flows used to perform impairment analysis
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includes estimates of future revenues and expenses based on our anticipated future results while considering anticipated future oil and gas prices, which is fundamental in assessing demand for our services. If the carrying amounts of the assets exceed the estimated expected undiscounted future cash flows, we measure the amount of possible impairment by comparing the carrying amount of the asset to its fair value. No impairment charges were recognized for the years ended December 31, 2023 and 2022.
Leases. We lease certain vehicles, seismic recording equipment, real property and office equipment under lease agreements. We evaluate each lease to determine its appropriate classification as an operating lease or a finance lease for financial reporting purposes. We are the lessee in a lease contract when we obtain the right to control the asset. The majority of our operating leases are non-cancelable operating leases for office, shop and warehouse space in Midland, Plano, Houston and Calgary, Alberta.
The assets and liabilities under finance leases are recorded at the lower of the present value of the minimum lease payments or the fair market value of the related assets. Assets under finance leases are amortized using the straight-line method over the initial lease term. Amortization of assets under finance leases is included in depreciation expense.
For operating leases, where readily determinable, we use the implicit interest rate in determining the present value of future minimum lease payments. In the absence of an implicit rate, we use our incremental borrowing rate based on the information available at the lease commencement date. We give consideration to our outstanding debt, as well as publicly available data for instruments with similar characteristics when calculating our incremental borrowing rates. The ROU assets are amortized to operating lease cost over the lease terms on a straight-line basis. We do not recognize leases with an initial term of 12 months or less and we do not separate lease and non-lease components.
Several of our leases include options to renew, with renewal terms that can extend from one to 10 years or more. The exercise of lease renewal options is primarily at our discretion. To measure operating lease recognition, we evaluate our lease agreements to determine if they have economic incentives for renewal or options to purchase. We deem leasehold improvements as one of the few economic incentives that would entice us to renew a lease and all of our leasehold improvements are currently fully amortized.
Revenue Recognition. Our services are provided under cancelable service contracts which usually have an original expected duration of one year or less. These contracts are either turnkey or term agreements. Under both types of agreements, we recognize revenue as the services are performed. Revenue is generally recognized based on receiver layout and pickup compared to total number of receivers anticipated to be recorded on the survey using the total estimated revenue for the service contract. In the case of a cancelled service contract, the client is billed and revenue is recognized for any third party charges and square miles of data recorded up to the date of cancellation.
We also receive reimbursements for certain out-of-pocket expenses under the terms of the service contracts. The amounts billed to clients are included at their gross amount in the total estimated revenue for the service contract.
Clients are billed as permitted by the service contract. Contract assets and contract liabilities are the result of timing differences between revenue recognition, billings and cash collections. If billing occurs prior to the revenue recognition or billing exceeds the revenue recognized, the amount is considered deferred revenue and a contract liability. Conversely, if the revenue recognition exceeds the billing, the excess is considered an unbilled receivable and a contract asset. As services are performed, those contract liabilities and contract assets are recognized as revenue and expense, respectively.
In some instances, third-party permitting, surveying, drilling, helicopter, equipment rental and mobilization costs that directly relate to the contract are utilized to fulfill the contract obligations. These fulfillment costs are capitalized in other current assets and amortized based on the total square miles of data recorded compared to total square miles anticipated to be recorded on the survey using the total estimated fulfillment costs for the service contract.
Estimates for total revenue and total fulfillment cost on any service contract are based on certain qualitative and quantitative judgments supported by underlying facts. Management considers a variety of factors such as whether various components of the performance obligation will be performed internally or externally, cost of third party services, and facts and circumstances unique to the performance obligation in making these estimates.
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Additionally, our policy includes (i) ignoring the financing component when estimating the transaction price for service contracts completed within one year, (ii) excluding sales tax collected from the customer when determining the transaction price, and (iii) expensing incremental costs to obtain a customer contract if the amortization period for those costs would otherwise be one year or less.
Income Taxes. We account for income taxes by recognizing amounts of taxes payable or refundable for the current year, and by using an asset and liability approach in recognizing the amount of deferred tax assets and liabilities for the future tax consequences of events that have been recognized in our financial statements or tax returns. We determine deferred taxes by identifying the types and amounts of existing temporary differences, measuring the total deferred tax asset or liability using the applicable tax rate in effect for the year in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates of deferred tax assets and liabilities is recognized in income in the year of an enacted rate change. The deferred tax asset is reduced by a valuation allowance if, based on available evidence, it is more likely than not that some portion or all of the deferred tax asset will not be realized. Our methodology for recording income taxes requires judgment regarding assumptions and the use of estimates, including determining our annual effective tax rate and the valuation of deferred tax assets, which can create a variance between actual results and estimates and could have a material impact on our provision or benefit for income taxes. Due to recent operating losses and valuation allowances, we may recognize reduced or no tax benefits on future losses on the Consolidated Statements of Operations and Comprehensive Loss. Our effective tax rates differ from the statutory federal rate of 21% for certain items such as state and local taxes, valuation allowances, and non-deductible expenses.
Recently Issued Accounting Pronouncements
In November 2023, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures (“ASU 2023-07”) . ASU 2023-07 seeks to improve disclosures about a public entity’s reportable segments and add disclosures around a reportable segment’s expenses. The updated guidance is effective for our annual periods beginning January 1, 2024, and interim periods within fiscal years beginning January 1, 2025. As we have two reportable segments, we do not expect the adoption of this ASU to have a material impact on our financial statements and disclosures.
In December 2023, the FASB issued ASU 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures (“ASU 2023-09”) . ASU 2023-09 seeks to improve transparency of income tax disclosures by requiring consistent categories and greater disaggregation of information in the rate reconciliation and income taxes paid disclosures. The updated guidance is effective for us on January 1, 2025. We do not expect the adoption of ASU 2023-09 to have a material impact on our financial statements and disclosures.