DXP ENTERPRISES INC 10-Q/A

ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following management discussion and analysis ("MD&A") of the financial condition and results of operations of DXP Enterprises, Inc. together with its subsidiaries (collectively "DXP," "Company," "us," "we," or "our") for the three months ended March 31, 2021 should be read in conjunction with our previous Annual Report on Form 10-K/A and our Quarterly Reports on Form 10-Q/A, and the consolidated financial statements and notes thereto included in such reports. The Company's consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America ("US GAAP"). DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-Q/A (this "Report") contains statements that constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, as amended. These forward-looking statements include without limitation those about the Company’s expectations regarding the impact of the COVID-19 pandemic and the impact of low commodity prices of oil and gas; the Company’s business, the Company’s future profitability, cash flow, liquidity, and growth. Such forward-looking statements can be identified by the use of forward-looking terminology such as "believes", "expects", "may", "might", "estimates", "will", "should", "could", "would", "suspect", "potential", "current", "achieve", "plans" or "anticipates" or the negative thereof or other variations thereon or comparable terminology, or by discussions of strategy. Any such forward-looking statements are not guarantees of future performance and may involve significant risks and uncertainties, and actual results may vary materially from those discussed in the forward-looking statements or historical performance as a result of various factors. These factors include the effectiveness of management's strategies and decisions, our ability to implement our internal growth and acquisition growth strategies, general economic and business conditions specific to our primary customers, changes in government regulations, our ability to effectively integrate businesses we may acquire, new or modified statutory or regulatory requirements, availability of materials and labor, inability to obtain or delay in obtaining government or third-party approvals and permits, non-performance by third parties of their contractual obligations, unforeseen hazards such as weather conditions, acts or war or terrorist acts and the governmental or military response thereto, cyber-attacks adversely affecting our operations, other geological, operating and economic considerations and declining prices and market conditions, including reduced oil and gas prices and supply or demand for maintenance, repair and operating products, equipment and service, decreases in oil and natural gas prices, decreases in oil and natural gas industry expenditure levels, which may result from decreased oil and natural gas prices or other factors, economic risks related to the impact of COVID-19, our ability to manage changes and the continued health or availability of management personnel, and our ability to obtain financing on favorable terms or amend our credit facilities as needed. This Report identifies other factors that could cause such differences. We cannot assure that these are all of the factors that could cause actual results to vary materially from the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in "Risk Factors", in our Annual Report on Form 10-K//A filed with the Securities and Exchange Commission on October 22, 2021. We assume no obligation and do not intend to update these forward-looking statements. Unless the context otherwise requires, references in this Report to the "Company", "DXP", "we" or "our" shall mean DXP Enterprises, Inc., a Texas corporation, together with its subsidiaries. 17 CURRENT MARKET CONDITIONS AND OUTLOOK General The pandemic continued to have a significant impact on our business in the first quarter of 2021. The marketplace broadly, and the Company specifically, continued to operate with certain modifications to balance re-opening with employee and customer safety. However, most of the markets in which we operate continued to normalize in the quarter and re-open. This improved the outlook of the manufacturing and construction customers that support our traditional branch and onsite business. Although the rate of improvement remains gradual and the overall activity level remains below pre-pandemic levels, DXP is seeing a modest improvement from monthly lows experienced in July of 2020. COVID-19 Pandemic Impact The COVID-19 pandemic has impacted and is likely to continue impacting our businesses and operations as well as the operations of our customers and suppliers. From a customer perspective, business re-openings, production and related activity throughout the quarter varied based on geography, industry and regional COVID-19 pandemic conditions. The Company's major operational facilities and infrastructure (i.e., distribution centers, branches, and on-site logistic partners) are remaining operational with limited disruptions, while adhering to strict safety and social-distancing protocols. In addition, the Company has prioritized maintaining all facilities safe for customers and employees to work and interact. Many of our employees, depending on local conditions and regulations, have returned to a work-from-office environment, and we expect that trend to continue in the near term. To date, the Company has been able to absorb the pandemic impact with minimal workforce reductions or furloughs, which positions the Company for accelerated growth post-pandemic. The oil and gas industry continues to be impacted by the COVID-19 pandemic, but there are signs that the world is beginning to re-open and that overall economic and demand recovery is building. Demand for oil has increased globally as oil inventories were down in March 2021 near their five-year averages, and the Organization of Petroleum Exporting Countries and the expanded alliance, collectively known as OPEC+, actions continued to support commodity prices. We see these as positive signs for our businesses tied to capital budgets and oil markets in general. As of the end of the first quarter of 2021, we have remained undrawn on our $135 million bank revolver; and it remains available for use in the event a need arises. In response to easing restrictions and the continued vaccination efforts, we continue to actively monitor the situation and may take further actions that alter our business operations as may be required by federal, state, or local authorities or that we determine are in the best interests of our employees, customers, suppliers, and shareholders. While we are unable to determine or predict the nature, duration, or scope of the overall impact the COVID-19 pandemic will have on our business, results of operations, liquidity, or capital resources, we believe that we have remained nimble and are poised to remain opportunistic during the recovery. 18 RESULTS OF OPERATIONS (in thousands, except percentages and per share data) DXP is organized into three business segments: Service Centers ("SC"), Supply Chain Services ("SCS") and Innovative Pumping Solutions ("IPS"). The Service Centers are engaged in providing maintenance, repair and operating ("MRO") products, equipment and integrated services, including technical expertise and logistics capabilities, to industrial customers with the ability to provide same day delivery. The Service Centers provide a wide range of MRO products and services in the rotating equipment, bearing, power transmission, hose, fluid power, metal working, industrial supply and safety product and service categories. The SCS segment provides a wide range of MRO products and manages all or part of our customer's supply chain function, and inventory management. The IPS segment fabricates and assembles integrated pump system packages custom made to customer specifications, remanufactures pumps and manufactures branded private label pumps. Three Months Ended March 31, 2021 % 2020 % (Restated) (Restated) Sales $ 245,587 100.0 % $ 300,983 100.0 % Cost of sales 173,957 70.8 % 217,869 72.4 % Gross profit $ 71,630 29.2 % $ 83,114 27.6 % Selling, general and administrative expenses 65,397 26.6 % 71,795 23.9 % Income (loss) from operations $ 6,233 2.5 % $ 11,319 3.8 % Other (income) expense, net (430) (0.2) % (834) (0.3) % Interest expense 5,243 2.1 % 4,377 1.5 % Income (loss) before income taxes $ 1,420 0.6 % $ 7,776 2.6 % Provision for income taxes (benefit) 1,261 0.5 % 1,786 0.6 % Net income (loss) $ 159 0.1 % $ 5,990 2.0 % Net income (loss) attributable to noncontrolling interest (212) (0.1) % (62) — Net income attributable to DXP Enterprises, Inc. $ 371 0.2 % $ 6,052 2.0 % Per share amounts attributable to DXP Enterprises, Inc. Basic earnings (loss) per share 0.02 $ 0.34 Diluted earnings (loss) per share 0.02 $ 0.32 Three Months Ended March 31, 2021 compared to Three Months Ended March 31, 2020 SALES. Sales for the three months ended March 31, 2021 decreased $55.4 million, or 18.4%, to approximately $245.6 million from $301.0 million for the prior year's corresponding period. Sales from businesses acquired in December 2020 accounted for $28.4 million of the sales for the three months ended March 31, 2021. This overall sales decrease is the result of a decrease in sales in our IPS and SCS segments of $46.8 million and $12.4 million, partially offset by an increase in sales of $3.8 million in our SC segment. The fluctuations in sales are further explained in our business segment discussions below. Three Months Ended March 31, 2021 2020 Change Change% (Restated) (Restated) Sales by Business Segment (in thousands, except change%) Service Centers $ 186,369 $ 182,585 $ 3,784 2.1 % Innovative Pumping Solutions 23,245 70,021 (46,776) (66.8) % Supply Chain Services 35,973 48,377 (12,404) (25.6) % Total DXP Sales $ 245,587 $ 300,983 $ (55,396) (18.4) % 19 Service Centers segment. Sales for the Service Centers segment increased by approximately $3.8 million, or 2.1% for the three months ended March 31, 2021 compared to the prior year's corresponding period. Excluding $28.4 million of first quarter 2021 Service Centers segment sales from businesses acquired in December 2020, Service Centers segment sales for the first quarter decreased $24.6 million, or 13.5% from the prior year's corresponding period. This sales decrease is primarily the result of decreased sales of metal working, safety supply products and bearings to customers engaged in the OEM oil and gas markets in connection with decreased capital spending by oil and gas producers as well as the negative economic impacts of the COVID-19 pandemic. Innovative Pumping Solutions segment . Sales for the IPS segment decreased by $46.8 million, or 66.8% for the three months ended March 31, 2021 compared to the prior year's corresponding period. This decrease was primarily the result of a decrease in the capital spending by oil and gas producers and related businesses stemming from a decrease in U.S. crude oil production due to the negative economic impacts of the COVID-19 pandemic. Supply Chain Services segment. Sales for the SCS segment decreased by $12.4 million, or 25.6%, for the three months ended March 31, 2021, compared to the prior year's corresponding period. The decline in sales is primarily related to decreased sales to customers in the aerospace and oil and gas industries due to the negative economic impacts of the COVID-19 pandemic. GROSS PROFIT. Gross profit as a percentage of sales for the three months ended March 31, 2021 increased by approximately 155 basis points from the prior year's corresponding period. Excluding the impact of the businesses acquired in December 2020, gross profit as a percentage of sales increased by approximately 135 basis points. The increase in the gross profit percentage excluding the businesses acquired is primarily the result of an approximate 616 basis point increase in the gross profit percentage in our IPS segment, a 102 basis point increase in the gross profit percentage in our SC segment and a 22 basis point increase in the gross profit percentage in our SCS segment. Innovative Pumping Solutions segment. As a percentage of sales, the first quarter gross profit percentage for the IPS segment increased approximately 616 basis points from the prior year's corresponding period. The increase in gross profit percentage is due to a mix shift (higher margin international work and domestic water and wastewater projects) as well as the shipment of negative gross profit percentage work completing in 2020. Gross profit dollars decreased $12.1 million primarily as a result of a decrease in utilization as a result of significantly reduced capital expenditure budgets by our customers associated with the negative economic impacts of the COVID-19 pandemic. Service Centers segment. As a percentage of sales, the first quarter gross profit percentage for the Service Centers increased approximately 121 basis points and increased approximately 102 basis points, adjusting for the businesses acquired, from the prior year's corresponding period. This was primarily as a result of sales mix and price increases from vendors. Gross profit for the Service Centers segment excluding businesses acquired decreased $5.4 million, or 10.4%, during the first quarter of 2021 compared to the prior year’s corresponding period. The decrease in gross profit is primarily the result of the decline in sales due to the items discussed above. Supply Chain Services segment. Gross profit as a percentage of sales for the SCS segment increased approximately 22 basis points compared to the prior year's corresponding period. Gross profit for the first quarter of 2020 decreased $2.7 million or 24.9% compared to the prior year's corresponding period, primarily the result of the decline in sales due to the items discussed above. SELLING, GENERAL AND ADMINISTRATIVE ("SG&A"). Selling, general and administrative expense for the three months ended March 31, 2021 decreased by approximately $6.4 million, or 8.9%, to $65.4 million from $71.8 million for the prior year's corresponding period. Selling, general and administrative expense from businesses acquired accounted for $4.9 million. Excluding expenses from businesses acquired in December 2020, SG&A for the quarter decreased by $11.3 million, or 15.7%. The overall decrease in SG&A is primarily the result of decreased payroll, incentive compensation and related taxes and 401(k) expenses as a result of decreased business activity and cost reduction actions associated with the COVID-19 pandemic and depressed demand in oil and gas markets. OPERATING INCOME. Operating income for the first quarter of 2021 decreased by $5.1 million to $6.2 million, from $11.3 million in the prior year's corresponding period. This decrease in operating income is primarily related to the above mentioned decrease in sales. INTEREST EXPENSE. Interest expense for the first quarter of 2021 increased $0.9 million compared with the prior year's corresponding period primarily due to a higher principal balance for the three months ended March 31, 2021 compared to the prior year's corresponding period as a result of the Company entering into a new term loan in December 2020 partially offset by lower LIBOR rates for the three months ended March 31, 2021. 20 INCOME TAXES. Our effective tax rate from continuing operations was 88.8 percent for the three months ended March 31, 2021 compared to 23.3 percent for the three months ended March 31, 2020. Compared to the U.S. statutory rate for three months ended March 31, 2021, the effective tax rate was increased by state taxes, foreign taxes, nondeductible expenses, and uncertain tax positions recorded due to tax authorities’ aggressive auditing of research and development tax credits. The effective tax was decreased by research and development tax credits and other credits. Compared to the U.S. statutory rate for three months ended March 31, 2020, the effective tax rate was increased by state taxes, foreign taxes, nondeductible expenses, and uncertain tax positions which required an increase in reserves. The effective tax rate was partially offset by research and development tax credits and other tax credits. LIQUIDITY AND CAPITAL RESOURCES General Overview As of March 31, 2021, we had cash and restricted cash of $127.5 million and credit facility availability of $131.2 million. We have a $135.0 million asset-based loan facility, offset by letters of credit of $3.8 million, that is due to mature in August 2022, under which we had no borrowings outstanding as of March 31, 2021 and a Term Loan B with $329.2 million in borrowings. Our primary source of capital is cash flow from operations, supplemented as necessary by bank borrowings or other sources of financing. As a distributor of MRO products and services and fabricator of custom pumps and packages, working capital can fluctuate as a result of changes in inventory levels, accounts receivable and costs in excess of billings for project work. Additional cash is required for capital items for information technology, warehouse equipment, leasehold improvements, pump manufacturing equipment and safety services equipment. We also require cash to pay our lease obligations and to service our debt. The following table summarizes our net cash flows generated by or used in operating activities, net cash provided by or used in investing activities and net cash used in financing activities for the periods presented (in thousands) : Three Months Ended March 31, 2021 2020 Net Cash Provided by (Used in): (Restated) Operating Activities $ 8,577 $ (1,612) Investing Activities 617 (17,388) Financing Activities (1,365) (742) Effect of Foreign Currency 204 (1,730) Net Change in Cash $ 8,033 $ (21,472) Operating Activities The Company generated $8.6 million of cash in operating activities during the three months ended March 31, 2021 compared to $1.6 million use of cash during the prior year's corresponding period. The $10.2 million increase in the amount of cash provided between the two periods was primarily driven by the collections of receivables associated with trade accounts receivables and reductions in long-term project work which resulted in lower costs in-excess of billings. Investing Activities For the three months ended March 31, 2021, net cash provided by investing activities was $0.6 million compared to $17.4 million use of cash during the prior year’s corresponding period. This $18.0 million increase was primarily driven by the purchase of PSI and Turbo in the first quarter of 2020. For the three months ended March 31, 2021, purchases of property and equipment decreased to approximately $0.7 million compared to $3.2 million in 2020 primarily due to reduced capital spending as a result of company-wide cost cutting measures in response to the COVID-19 pandemic. The current quarter also benefited from the sale of a corporate asset totaling $1.3 million. 21 Financing Activities For the three months ended March 31, 2021, net cash used in financing activities was $1.4 million, compared to net cash used in financing activities of $0.7 million during the prior year’s corresponding period. The activity in the period was primarily attributed to Term Loan B required prepayments of $0.8 million in 2021 compared to $0.6 million in 2020 and tax withholding payments for employee stock awards of $0.5 million in 2021 compared to $0.1 million in 2020. On March 17, 2020, the Company entered into an Increase Agreement (the "Increase Agreement") that provided for a $135.0 million asset-backed revolving line of credit (the "ABL Revolver"), a $50.0 million increase from the $85.0 million available under the original revolver. During the three months ended March 31, 2021, the amount available to be borrowed under our credit facility decreased to $131.2 million compared to $131.9 million at December 31, 2020. We believe this is adequate funding to support working capital needs within the business. Funding Commitments We intend to pursue additional acquisition targets, but the timing, size or success of any acquisition effort and the related potential capital commitments cannot be determined with certainty. We continue to expect to fund future acquisitions primarily with cash flows from operations and borrowings, including the undrawn portion of the credit facility or new debt issuances, but may also issue additional equity either directly or in connection with acquisitions. There can be no assurance that additional financing for acquisitions will be available at terms acceptable to us. We believe our cash generated from operations will meet our normal working capital needs during the next twelve months. However, we may require additional debt outside of our credit facilities or equity financing to fund potential acquisitions. Such additional financings may include additional bank debt or the public or private sale of debt or equity securities. In connection with any such financing, we may issue securities that substantially dilute the interests of our shareholders. DISCUSSION OF SIGNIFICANT ACCOUNTING AND BUSINESS POLICIES Critical accounting and business policies are those that are both most important to the portrayal of a company's financial position and results of operations, and require management's subjective or complex judgments. These policies have been discussed with the Audit Committee of the Board of Directors of DXP. The Company's condensed financial statements are prepared in accordance with accounting principles generally accepted in the United States of America ("US GAAP"). The accompanying Condensed Consolidated Financial Statements include the accounts of the Company, its wholly owned subsidiaries and its variable interest entity ("VIE"). The accompanying unaudited Condensed Consolidated Financial Statements have been prepared on substantially the same basis as our annual Consolidated Financial Statements and should be read in conjunction with our annual report on Form 10-K/A for the year ended December 31, 2020. For a more complete discussion of our significant accounting policies and business practices, refer to the consolidated annual report on Form 10-K/A filed with the Securities and Exchange Commission on October 22, 2021. The results of operations for the three months ended March 31, 2021 are not necessarily indicative of results expected for the full fiscal year. RECENT ACCOUNTING PRONOUNCEMENTS See Note 3 - Recent Accounting Pronouncements to the Condensed Consolidated Financial Statements for information regarding recent accounting pronouncements. ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. For quantitative and qualitative disclosures about market risk, see Item 7A, 'Quantitative and Qualitative Disclosures About Market Risk,' of our Annual Report on Form 10-K/A for the year ended December 31, 2020. Our exposures to market risk have not changed materially since December 31, 2020. 22