Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). GAAP represents a comprehensive set of accounting and disclosure rules and requirements, the application of which requires management judgments and estimates including, in certain circumstances, choices between acceptable GAAP alternatives. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities, if any, at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. We base our estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances. Actual results could differ from these estimates under different assumptions or conditions. Note 1- Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements included in Part II, Item 8 - Financial Statements and Supplementary Data in this Annual Report on Form 10-K, contains a comprehensive summary of our significant accounting policies. The following is a discussion of our most critical accounting policies, estimates, judgments and uncertainties that are inherent in our application of GAAP.
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RESULTS OF OPERATIONS
Change in Reportable Segments
Due to changing markets facing our clients and to better align our financial reporting with our long-term strategic growth areas, we began reporting our financial results under new reportable segments effective July 1, 2020. The new reportable segments along with a description of each are as follows:
• Utility and Power Infrastructure : consists of power delivery services provided to investor owned utilities, including construction of new substations, upgrades of existing substations, transmission and distribution line installations, upgrades and maintenance, as well as emergency and storm restoration services. We also provide construction and maintenance services to a variety of power generation facilities, including natural gas fired facilities in simple or combined cycle configuration and provide engineering, fabrication, and construction services for LNG utility peak shaving facilities.
• Process and Industrial Facilities : primarily serves customers in the downstream and midstream petroleum industries who are engaged in refining crude oil and processing, fractionating, and marketing of natural gas and natural gas liquids. We also serve customers in various other industries such as petrochemical, sulfur, mining and minerals companies engaged primarily in the extraction of non-ferrous metals, aerospace and defense, cement, agriculture, and other industrial customers. Our services include plant maintenance, turnarounds, industrial cleaning services, engineering, fabrication, and capital construction.
• Storage and Terminal Solutions : consists of work related to aboveground storage tanks and terminals. We also include work related to cryogenic and other specialty storage tanks and terminals, including LNG, liquid nitrogen/liquid oxygen, liquid petroleum, hydrogen and other specialty vessels such as spheres in this segment, as well work related to marine structures and truck and rail loading/offloading facilities. Our services include engineering, fabrication, construction, and maintenance and repair, which includes planned and emergency services for both tanks and full terminals. Finally, we offer tank products, including geodesic domes, aluminum internal floating roofs, floating suction and skimmer systems, roof drain systems and floating roof seals.
All prior period segment information has been restated to conform with our new reportable segments. In addition, beginning July 1, 2020, we separately report corporate selling, general and administrative expenses and other corporate expenses that were previously allocated to the segments.
Overview
The majority of the work for all segments is performed in the United States, with 10.2% of revenue generated internationally during fiscal 2021, 7.3% in fiscal 2020 and 3.4% in fiscal 2019. The percentage of revenue generated internationally increased in fiscal 2021 compared to fiscal 2020 and fiscal 2019 due to higher levels of work in Canada.
Significant period to period changes in revenue, gross profits and operating results between fiscal 2021 and fiscal 2020 and fiscal 2020 and fiscal 2019 are discussed below on a consolidated basis and for each segment.
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Matrix Service Company
Results of Operations
(In thousands)
Utility and Power Infrastructure Process and Industrial Facilities Storage and Terminal Solutions Corporate Total
Fiscal Year 2021
Consolidated revenue $ 210,052 $ 199,917 $ 263,429 $ — $ 673,398
Gross profit 1,506 17,642 13,617 — 32,765
Gross profit % 0.7 % 8.8 % 5.2 % — % 4.9 %
Selling, general and administrative expenses 9,882 14,756 18,644 26,474 69,756
Restructuring costs 1,312 3,807 1,391 246 6,756
Operating loss (9,688) (921) (6,418) (26,720) (43,747)
Operating loss % (4.6) % (0.5) % (2.4) % — % (6.5) %
Fiscal Year 2020
Consolidated revenue $ 212,001 $ 421,871 $ 467,066 $ — $ 1,100,938
Gross profit (loss) 7,081 36,349 61,413 (2,667) 102,176
Gross profit % 3.3 % 8.6 % 13.1 % — % 9.3 %
Selling, general and administrative expenses 10,047 24,266 26,386 25,577 86,276
Intangible asset impairments and restructuring costs 27,625 22,914 1,066 920 52,525
Operating income (loss) (30,591) (10,831) 33,961 (29,164) (36,625)
Operating income (loss) % (14.4) % (2.6) % 7.3 % — % (3.3) %
Variances Fiscal Year 2021 to Fiscal Year 2020 Increase/(Decrease)
Consolidated revenue $ (1,949) $ (221,954) $ (203,637) $ — $ (427,540)
Gross profit (5,575) (18,707) (47,796) 2,667 (69,411)
Selling, general and administrative expenses (165) (9,510) (7,742) 897 (16,520)
Intangible asset impairments and restructuring costs (26,313) (19,107) 325 (674) (45,769)
Operating income (loss) 20,903 9,910 (40,379) 2,444 (7,122)
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Matrix Service Company
Results of Operations
(In thousands)
Utility and Power Infrastructure Process and Industrial Facilities Storage and Terminal Solutions Corporate Total
Fiscal Year 2020
Consolidated revenue $ 212,001 $ 421,871 $ 467,066 $ — $ 1,100,938
Gross profit (loss) 7,081 36,349 61,413 (2,667) 102,176
Gross profit % 3.3 % 8.6 % 13.1 % — % 9.3 %
Selling, general and administrative expenses 10,047 24,266 26,386 25,577 86,276
Intangible asset impairments and restructuring costs 27,625 22,914 1,066 920 52,525
Operating income (loss) (30,591) (10,831) 33,961 (29,164) (36,625)
Operating income (loss) % (14.4) % (2.6) % 7.3 % — % (3.3) %
Fiscal Year 2019
Consolidated revenue $ 249,867 $ 654,014 $ 512,799 $ — $ 1,416,680
Gross profit (loss) 21,161 58,853 54,600 (2,663) 131,951
Gross profit % 8.5 % 9.0 % 10.6 % — % 9.3 %
Selling, general and administrative expenses 9,842 26,932 30,319 26,928 94,021
Operating income (loss) 11,319 31,921 24,281 (29,591) 37,930
Operating income % 4.5 % 4.9 % 4.7 % — % 2.7 %
Variances Fiscal Year 2020 to Fiscal Year 2019 Increase/(Decrease)
Consolidated revenue $ (37,866) $ (232,143) $ (45,733) $ — $ (315,742)
Gross profit (loss) (14,080) (22,504) 6,813 (4) (29,775)
Selling, general and administrative expenses 205 (2,666) (3,933) (1,351) (7,745)
Intangible asset impairments and restructuring costs 27,625 22,914 1,066 920 52,525
Operating income (loss) (41,910) (42,752) 9,680 427 (74,555)
Operational Update
Throughout the course of the COVID-19 pandemic, our top priority has been to maintain a safe working environment for all field and office employees, customers and business partners. Our project teams, in coordination with our clients, are monitoring the impact of new variants of COVID-19 and continue to operate under enhanced work processes to protect the health and safety of everyone on our job sites.
Since the beginning of the pandemic we have reduced our cost structure in excess of $60 million, or approximately 25%, with a third of those reductions related to SG&A and the rest related to construction overhead, which is included in cost of revenue in the Consolidated Statements of Income. In order to achieve these cost savings, we incurred $14.0 million of restructuring costs during fiscal 2020 and $6.8 million during fiscal 2021. Despite these significant reductions in construction overhead, our revenue volume in fiscal 2021 did not allow for complete recovery of overhead, which reduced gross margin.
In fiscal 2021, we engaged a third party consultant to help us perform a strategic review of our end markets in support of updating our business strategy and to ensure that our organizational structure is properly designed to support our updated strategy. Based on the preliminary results of this review, we believe there are opportunities for us to be more competitive, which will require organizational and process changes and will likely result in additional restructuring costs. We expect to substantially complete this initiative in fiscal 2022.
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In order to more clearly depict our core profitability, the following tables present our operating results after certain adjustments:
Reconciliation of Adjusted Net Income (Loss) and Diluted Earnings (Loss) per Common Share (1)
(In thousands, except per share data)
Fiscal Years Ended
June 30, 2021 June 30, 2020 June 30, 2019
Net income (loss), as reported $ (31,224) $ (33,074) $ 27,982
Restructuring costs incurred 6,756 14,010 —
Goodwill and intangible asset impairments — 38,515 —
Tax impact of adjustments and other net tax items (1,739) (8,644) —
Adjusted net income (loss) $ (26,207) $ 10,807 $ 27,982
Loss per fully diluted share, as reported $ (1.18) $ (1.24) $ 1.01
Adjusted earnings (loss) per fully diluted share $ (0.99) $ 0.40 $ 1.01
(1) This table presents non-GAAP financial measures of our adjusted net income (loss) and adjusted diluted earnings (loss) per common share for fiscal 2021, 2020 and 2019. The most directly comparable financial measures are net loss and net loss per diluted share, respectively, presented in the Consolidated Statements of Income. We have presented these non-GAAP financial measures because we believe they more clearly depict our core operating results during the periods presented and provide a more comparable measure of our operating results to other companies considered to be in similar businesses. Since adjusted net income (loss) and adjusted diluted earnings (loss) per common share are not measures of performance calculated in accordance with GAAP, they should be considered in addition to, rather than as a substitute for, the most directly comparable GAAP financial measures.
Reconciliation of Net Income (Loss) to Adjusted EBITDA (1)
Fiscal Years Ended
June 30,
2021 June 30,
2020 June 30,
2019
(in thousands)
Net income (loss) $ (31,224) $ (33,074) $ 27,982
Goodwill and other intangible asset impairment — 38,515 —
Restructuring costs 6,756 14,010 —
Stock-based compensation 8,156 9,877 11,908
Interest expense 1,559 1,597 1,296
Provision (benefit) for federal, state and foreign income taxes (12,039) (3,570) 10,430
Depreciation and amortization 17,858 19,124 18,224
Adjusted EBITDA $ (8,934) $ 46,479 $ 69,840
(1) This table presents Adjusted EBITDA, which we define as net income (loss) before impairment of goodwill and other intangible assets, restructuring costs, stock-based compensation expense, interest expense, income taxes, depreciation and amortization, because it is used by the financial community as a method of measuring our performance and of evaluating the market value of companies considered to be in similar businesses. We believe that the line item on our Consolidated Statements of Income entitled “Net income (loss)” is the most directly comparable GAAP measure to Adjusted EBITDA. Since Adjusted EBITDA is not a measure of performance calculated in accordance with GAAP, it should not be considered in isolation of, or as a substitute for, net earnings as an indicator of operating performance. Adjusted EBITDA, as we calculate it, may not be comparable to similarly titled measures employed by other companies. In addition, this measure is not a measure of our ability to fund our cash needs. As Adjusted EBITDA excludes certain financial information compared with net income (loss), the most directly comparable GAAP financial measure, users of this financial information should consider the type of events and transactions that are excluded. Adjusted EBITDA has certain material limitations as follows:
• It does not include impairments to goodwill and other intangible assets. While impairments to intangible assets are non-cash expenses in the period recognized, cash or other consideration was still transferred in exchange for the intangible assets in the period of the acquisition. Any measure that excludes impairments to intangible assets has material limitations since these expenses represent the loss of an asset that was acquired in exchange for cash or other assets.
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• It does not include restructuring costs. Restructuring costs represent material costs that we incurred and are oftentimes cash expenses. Therefore, any measure that excludes restructuring costs has material limitations.
• It does not include stock-based compensation. Stock-based compensation represents material amounts of equity that are awarded to our employees and directors for services rendered. While the expense is non-cash, we release vested shares out of our treasury stock, which has historically been replenished by using cash to periodically repurchase our stock. Therefore, any measure that excludes stock-based compensation has material limitations.
• It does not include interest expense. Because we have borrowed money to finance our operations and to acquire businesses, pay commitment fees to maintain our senior secured revolving credit facility, and incur fees to issue letters of credit under the senior secured revolving credit facility, interest expense is a necessary and ongoing part of our costs and has assisted us in generating revenue. Therefore, any measure that excludes interest expense has material limitations.
• It does not include income taxes. Because the payment of income taxes is a necessary and ongoing part of our operations, any measure that excludes income taxes has material limitations.
• It does not include depreciation or amortization expense. Because we use capital and intangible assets to generate revenue, depreciation and amortization expense is a necessary element of our cost structure. Therefore, any measure that excludes depreciation or amortization expense has material limitations.
Fiscal 2021 Versus Fiscal 2020
Consolidated
Consolidated revenue was $673.4 million for the fiscal year ended June 30, 2021, compared to $1.101 billion in fiscal 2020. On a segment basis, revenue decreased for the Process and Industrial Facilities, Storage and Terminal Solutions, and Utility and Power Infrastructure segments by $222.0 million, $203.7 million, and $1.9 million respectively.
Consolidated gross profit was $32.8 million in fiscal 2021 compared to $102.2 million in fiscal 2020. Gross margin was 4.9% in fiscal 2021 compared to 9.3% in fiscal 2020. Gross margins in fiscal 2021 were negatively impacted by lower than forecasted volume, which led to under recovery of construction overhead costs, lower than previously forecasted margins on large capital projects in the Utility and Power Infrastructure and Storage and Terminal Solutions segments, and an unfavorable settlement on a contract dispute in the Storage and Terminal Solutions segment. Gross margins in fiscal 2020 were the result of strong project execution, offset by the under recovery of construction overhead costs due to lower than anticipated revenue volume, particularly in the fourth quarter as the COVID-19 pandemic began impacting our operations.
Consolidated SG&A expenses were $69.8 million in fiscal 2021 compared to $86.3 million in fiscal 2020. The decrease in fiscal 2021 was primarily attributable to implemented cost reductions.
We recorded non-cash goodwill and other intangible asset impairments of $38.5 million during the second quarter of fiscal 2020. See Item 8. Financial Statements, Note 4 - Goodwill and Other Intangible Assets for more information about the impairments.
As a result of actions taken to reduce our cost structure, we recorded $6.8 million and $14.0 million of restructuring costs in fiscal 2021 and fiscal 2020, respectively. See "Operational Update" in this Results of Operations section and Item 8. Financial Statements and Supplementary Data, Note 14 - Restructuring Costs, for more information.
Interest expense was $1.6 million in fiscal 2021 and fiscal 2020. Interest income was $0.1 million during fiscal 2021 compared to $1.3 million in fiscal 2020. The decrease in interest income was primarily due to lower interest rates in the current period.
Our effective tax rate for fiscal 2021 was 27.8% compared to 9.7% in fiscal 2020. Through provisions in the CARES Act, we have an income tax benefit of $5.2 million from the ability to carryback the fiscal 2021 federal net operating loss to a period with a higher statutory federal income tax rate. The carryback benefit was offset by $2.8 million of valuation allowances on various deferred tax assets and $1.8 million of excess tax expense related to the vesting of stock-based compensation. The effective tax rate for fiscal 2020 was negatively impacted by $3.1 million of valuation allowances placed on deferred tax assets that were created by net operating loss carryforwards and other tax credits primarily in Canada, the non-deductible portion of the goodwill impairments that would have resulted in a $1.8 million reduction of income tax expense, and $1.7 million of other non-deductible expenses. These negative impacts were partially offset by $1.8 million of research and development and other tax credits.
In fiscal 2021 and 2020, net loss was $31.2 million and $33.1 million, respectively; or $1.18 and $1.24 per fully diluted share, respectively.
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Utility and Power Infrastructure
Revenue for the Utility and Power Infrastructure segment decreased $1.9 million to $210.1 million in fiscal 2021 compared to $212.0 million in fiscal 2020. The decrease is primarily due lower volume of power delivery and power generation work, partially offset by a higher volume of LNG utility peak shaving work.
The segment gross margin was 0.7% in fiscal 2021 compared to 3.3% in fiscal 2020. Our results of operations in fiscal 2021 were materially impacted by increases in the forecasted costs to complete a large capital project. This project reduced gross profit by $5.8 million in fiscal 2021. The changes in estimate were due to lower than previously forecasted productivity caused by excessive rain at the project site, the continuing impact of COVID-19, and rework which led to higher costs and schedule compression. This project was nearly complete at year-end and we are performing start-up and commissioning work in the first quarter of fiscal 2022. In addition, segment gross margin was negatively impacted by low volume, which led to the under recovery of construction overhead costs. These negative impacts were partially offset by good project execution in the remainder of the segment. The fiscal 2020 segment gross margin was negatively impacted by poor execution in the first and second quarters, including a lower than previously expected margin on a capital project due to costs to remediate faulty equipment designed by a subcontractor. In addition, low volume led to the under recovery of construction overhead costs.
Process and Industrial Facilities
Revenue for the Process and Industrial Facilities segment was $199.9 million in fiscal 2021 compared to $421.9 million in fiscal 2020. The decrease of $222.0 million is primarily due to our strategic exit from the domestic iron and steel industry in the third quarter of fiscal 2020, lower volume of midstream natural gas projects, and the completion of a small number of major capital projects. The decrease was partially offset by an increase in refinery turnaround and maintenance work, primarily in the fourth quarter.
The segment gross margin was 8.8% in fiscal 2021 compared to 8.6% in fiscal 2020. Segment gross margin in fiscal 2021 was positively impacted by strong project execution and the positive impact of a one-time workers' compensation item recorded in the second quarter, but these positive impacts were partially offset by lower revenue volume, which led to the under recovery of construction overhead costs. The fiscal 2020 segment gross margin was supported by good project execution on both capital and repair and maintenance iron and steel projects in the first and second quarters, partially offset by a lower volume of turnaround work, which led to the under recovery of construction overhead costs.
Storage and Terminal Solutions
Revenue for the Storage and Terminal Solutions segment was $263.4 million in fiscal 2021 compared to $467.1 million in fiscal 2020, a decrease of $203.7 million. The decrease in segment revenue is primarily a result of lower volume of crude oil tank and terminal capital work and lower repair and maintenance work.
The segment gross margin was 5.2% in fiscal 2021 compared to 13.1% in fiscal 2020. The fiscal 2021 segment gross margin was negatively impacted by increases in the costs to complete a large crude oil terminal project, partially offset by an increase in the estimated recovery of those costs. During the third quarter, we achieved mechanical completion on the project, demobilized and completed our assessment of unpriced change orders. The project's financial impact for fiscal 2021 was a $3.8 million reduction to gross profit. In addition, a settlement on a contract dispute over the construction of a crude oil terminal negatively impacted gross profit by $2.9 million in the fourth quarter. The settlement resulted in a cash receipt of $8.9 million in the first quarter of fiscal 2022, which enabled us to avoid future legal costs and litigation risk. Fiscal 2021 gross margin was also negatively impacted by low volume, which led to the under recovery of construction overhead costs.
The fiscal 2020 segment gross margin was positively impacted by strong project execution on large capital projects and higher volume than fiscal 2021, which resulted in better recovery of construction overhead costs.
Corporate
Unallocated corporate expenses were $26.7 million during fiscal 2021 compared to $29.2 million in the same period last year. The decrease is primarily attributable to cost reductions we implemented.
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Fiscal 2020 Versus Fiscal 2019
Consolidated
Consolidated revenue was $1.101 billion for the fiscal year ended June 30, 2020, compared to $1.417 billion in fiscal 2019. On a segment basis, revenue decreased for the Process and Industrial Facilities, Storage and Terminal Solutions, and Utility and Power Infrastructure segments by $232.1 million, $45.7 million, and $37.9 million, respectively.
Consolidated gross profit was $102.2 million in fiscal 2020 compared to $132.0 million in fiscal 2019. Gross margin was 9.3% in fiscal 2020 and fiscal 2019. Gross margins in fiscal 2020 are the result of strong project execution, offset by the under recovery of construction overhead costs due to lower than anticipated revenue volume, particularly in the fourth quarter. Fiscal 2019 was positively impacted by higher revenue volume, which led to an over recovery of construction overhead costs.
Consolidated SG&A expenses were $86.3 million in fiscal 2020 compared to $94.0 million in fiscal 2019. The decrease in fiscal 2020 was primarily attributable to lower incentive compensation due to weaker operating results in fiscal 2020 and savings from the business improvement plan described in Item 8. Financial Statements, Note 14 - Restructuring Costs.
We recorded non-cash goodwill and other intangible asset impairments of $38.5 million during the second quarter of fiscal 2020. See Item 8. Financial Statements, Note 4 - Goodwill and Other Intangible Assets for more information about the impairments. In addition, we recorded $14.0 million of restructuring costs in the third and fourth quarters of fiscal 2020 due to actions taken under our business improvement plan. See Operational Update in this Results of Operations section and Item 8. Financial Statements, Note 14 - Restructuring Costs, for more information.
Interest expense was $1.6 million in fiscal 2020 and $1.3 million in fiscal 2019. The increase in interest expense was primarily due to a higher average debt balance during fiscal 2020, partially offset by lower interest rates in fiscal 2020. Interest income was $1.3 million during fiscal 2020 compared to $1.2 million in fiscal 2019 due to an increase in our average cash balance during fiscal 2020, partially offset by lower interest rates in fiscal 2020.
Our effective tax rate for fiscal 2020 was 9.7% compared to 27.2% in fiscal 2019. The tax benefit for fiscal 2020 was negatively impacted by a $3.1 million of valuation allowances placed on deferred tax assets that were created by net operating loss carryforwards and other tax credits primarily in Canada, the non-deductible portion of the goodwill impairments that would have resulted in a $1.8 million reduction of income tax expense, and $1.7 million of other non-deductible expenses. These negative impacts were partially offset by $1.8 million of research and development and other tax credits. The effective tax rate in fiscal 2019 was negatively impacted by $4.5 million of valuation allowances placed on net operating loss carryforwards and foreign tax credits generated by our branch operations in Canada, and $1.2 million of non-deductible expenses. These negative impacts were largely offset by the reversal of $3.5 million of branch liabilities associated with the valuation allowances placed on our Canadian branch net operating loss carryforwards and foreign tax credits, $2.0 million of research and development and other tax credits and $0.3 million of excess tax benefits related to the vesting of stock-based compensation. A full analysis of our provision for income taxes is included in Item 8. Financial Statements and Supplementary Data, Note 6 - Income Taxes.
In fiscal 2020, net loss was $33.1 million, or $1.24 per fully diluted share, compared to net income of $28.0 million, or $1.01 per fully diluted share, in fiscal 2019.
Utility and Power Infrastructure
Revenue for the Utility and Power Infrastructure segment decreased $37.9 million to $212.0 million in fiscal 2020 compared to $249.9 million in fiscal 2019. The decrease is primarily due to lower volume of power delivery and power generation work. The segment gross margin was 3.3% in fiscal 2020 compared to 8.5% in fiscal 2019. The fiscal 2020 segment gross margin was negatively impacted by poor execution in the first and second quarters and lower volume throughout the year, which led to the under recovery of construction overhead costs. The segment gross margin in fiscal 2019 was positively impacted by strong project execution on power generation package work, partially offset by lower than previously forecasted margins on a limited number of power delivery projects and proceeds from the settlement of a customer dispute that were less than previously anticipated.
Process and Industrial Facilities
Revenue for the Process and Industrial Facilities segment was $421.9 million in fiscal 2020 compared to $654.0 million in fiscal 2019. The decrease of $232.1 million is primarily due to our strategic exit from the domestic iron and steel industry in the third quarter of fiscal 2020, and lower volume of turnaround, refinery maintenance, and thermal vacuum chamber work.
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The segment gross margin was 8.6% in fiscal 2020 compared to 9.0% in fiscal 2019. The fiscal 2020 segment gross margin was negatively impacted by sharply lower volume and under recovery of overhead costs during the second half of the year due to the wind down of the domestic iron and steel business. The fiscal 2019 segment gross margin was negatively impacted by a lower than previously forecasted margin on a thermal vacuum chamber project, partially offset by good project execution in the remainder of the segment and higher volume, which led to the over recovery of construction overhead costs.
Storage and Terminal Solutions
Revenue for the Storage and Terminal Solutions segment was $467.1 million in fiscal 2020 compared to $512.8 million in fiscal 2019, a decrease of $45.7 million. The decrease in segment revenue is primarily a result of lower volume of crude oil tank and terminal capital work. The segment gross margin was 13.1% in fiscal 2020 compared to 10.6% in fiscal 2019. The fiscal 2020 segment gross margin was positively impacted by strong project execution on large capital projects. During the first half of fiscal 2019, the segment gross margin was negatively impacted by the wind down of lower margin work awarded in a highly competitive environment and lower than previously forecasted margins on a limited number of those projects.
Corporate
Unallocated corporate expenses were $29.2 million during fiscal 2020 compared to $29.6 million in the same period last year. The decrease is primarily attributable to cost reductions we implemented in the second half of fiscal 2020.
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LIQUIDITY AND CAPITAL RESOURCES
Overview
We define liquidity as the ongoing ability to pay our liabilities as they become due, fund business operations and meet all monetary contractual obligations. Our primary sources of liquidity as of June 30, 2021 were cash and cash equivalents of $83.9 million and cash flows from operations. On September 9, 2021, we entered into a new Credit Agreement, which had availability of $25.9 million as of the closing date of the agreement. See the "ABL Credit Facility" section below for more information about our new Credit Agreement.
There continues to be significant uncertainty regarding the near- and intermediate-term business impacts from the COVID-19 pandemic and its disruption of our markets. However, we continue to maintain a strong balance sheet, which we believe is sufficient to support our near- to intermediate-term needs. We are taking the following actions:
• strategic review of business processes and organizational structure;
• proactive management of the cost structure and working capital; and
• eliminating all non-critical capital expenditures.
Factors that routinely impact our short-term liquidity and may impact our long-term liquidity include, but are not limited to:
• changes in costs and estimated earnings in excess of billings on uncompleted contracts and billings on uncompleted contracts in excess of costs due to contract terms that determine the timing of billings to customers and the collection of those billings:
◦ some cost plus and fixed price customer contracts are billed based on milestones which may require us to incur significant expenditures prior to collections from our customers;
◦ some fixed price customer contracts allow for significant upfront billings at the beginning of a project, which temporarily increases liquidity near term;
◦ time and material contracts are normally billed in arrears. Therefore, we are routinely required to carry these costs until they can be billed and collected; and
◦ some of our large construction projects may require security in the form of letters of credit or significant retentions. The timing of collection of retentions is often uncertain;
• other changes in working capital; and
• capital expenditures.
Other factors that may impact both short and long-term liquidity include:
• contract disputes, which can be significant;
• collection issues, including those caused by weak commodity prices, economic slowdowns or other factors which can lead to credit deterioration of our customers;
• issuances of letters of credit; and
• strategic investments in new operations.
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Other factors that may impact long-term liquidity include:
• borrowing constraints under our credit facility and maintaining compliance with all covenants contained in the Credit Agreement;
• acquisitions and disposals of businesses; and
• purchases of shares under our stock buyback program.
Cash Flows Used by Operating Activities
Cash flows used by operating activities for the fiscal year ended June 30, 2021 totaled $3.0 million. Major components of cash flows used by operating activities for the year ending June 30, 2021 are as follows:
Net Cash Used by Operating Activities
(In thousands)
Net loss $ (31,224)
Non-cash expenses 25,352
Deferred income tax 889
Cash effect of changes in operating assets and liabilities 1,552
Other 460
Net cash used by operating activities $ (2,971)
Cash effect of changes in operating assets and liabilities at June 30, 2021 in comparison to June 30, 2020 include the following:
• Accounts receivable, net of credit losses recognized during the period, decreased $11.1 million during fiscal 2021, which increased cash flows from operating activities. The variance is primarily attributable to lower business volume and the timing of billing and collections.
• Costs and estimated earnings in excess of billings on uncompleted contracts ("CIE") decreased $28.8 million, which increased cash flows from operating activities. Billings on uncompleted contracts in excess of costs and estimated earnings ("BIE") decreased $8.6 million, which decreased cash flows from operating activities. CIE and BIE balances can experience significant fluctuations based on business volume and the timing of when job costs are incurred and the timing of customer billings and payments.
• Inventories, income taxes receivable, other current assets, operating right-of-use lease assets and other assets increased $21.8 million during fiscal 2021, which decreased cash flows from operating activities. These operating assets can fluctuate based on the timing of inventory builds and draw-downs, accrual and receipt of income taxes receivable, prepayments of certain expenses, leasing activity, business volume, and other timing differences.
• Accounts payable, accrued wages and benefits, accrued insurance, operating lease liabilities and other accrued expenses decreased by $11.7 million during fiscal 2021, which decreased cash flows from operating activities. These operating liabilities can fluctuate based on the timing of vendor payments, accruals, leasing activities, business volume, and other timing differences.
• Other liabilities increased by $3.6 million, which increased cash flows from operating activities. This increase was primarily due to deferred payroll tax associated with the CARES Act. See Part II., Item 8. Financial Statements and Supplementary Data, Note 6 - Income Taxes for more information.
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Cash Flows Used for Investing Activities
Investing activities used $2.3 million of cash in the fiscal year ended June 30, 2021 primarily due to $4.4 million of capital expenditures, partially offset by $2.1 million of proceeds from other asset sales. Capital expenditures consisted of $2.4 million for facilities, office equipment and software, and $2.0 million for construction, fabrication, and transportation equipment.
Cash Flows Used by Financing Activities
Financing activities used $12.3 million of cash in the fiscal year ended June 30, 2021 primarily due to the net repayment of $9.8 million on our senior secured revolving credit facility, $1.6 million paid to repurchase our stock for payment of withholding taxes due on equity-based compensation, and $1.3 million paid in fees to amend our former credit agreement.
ABL Credit Facility
On September 9, 2021, we and our primary U.S. and Canada operating subsidiaries entered into an asset-backed credit agreement (the "ABL Facility") as borrowers with Bank of Montreal, as Administrative Agent, Swing-Line Lender, a Letter of Credit Issuer and a Lender. The ABL Facility is guaranteed by substantially all of our remaining U.S. and Canadian subsidiaries. The ABL Facility provides for available borrowings of up to $100.0 million, which may be increased further by an amount not to exceed $15.0 million, subject to certain conditions, including obtaining additional commitments. The ABL Facility is intended to be used for working capital, capital expenditures, issuances of letters of credit and other lawful purposes. Our obligations under the ABL Facility are secured by a first lien on all our assets and the assets of our co-borrowers and guarantors under the ABL Facility.
The maximum amount that we may borrow under the ABL Facility is subject to a borrowing base, which is based on restricted cash plus a percentage of the value of certain accounts receivable, inventory and equipment, reduced for certain reserves. We are required to maintain a minimum of $25.0 million of restricted cash at all times, but such amounts are also included in the borrowing base. At September 9, 2021, availability under the ABL Facility was $25.9 million and there were $43.5 million in letters of credit outstanding. The ABL Facility matures and any outstanding amounts become due and payable on September 9, 2026.
Borrowings under the ABL Facility bear interest through maturity at a variable rate based upon, at our option, an annual rate of either a base rate (“Base Rate”), CDOR rate or a LIBOR rate, plus an applicable margin. The Base Rate is defined as a fluctuating interest rate equal to the greatest of (i) rate of interest announced by Bank of Montreal from time to time as its prime rate; (ii) the U.S. federal funds rate plus 0.50%, and (iii) LIBOR rate for one month period plus 1.00%. Depending on the amount of average availability, the applicable margin is between 1.00% to 1.50% for Base Rate, which includes either U.S. or Canadian prime rate, and between 2.00% and 2.50% for CDOR and LIBOR rate borrowings. Interest is payable either (i) monthly for Base Rate borrowings or (ii) the last day of the interest period for LIBOR or CDOR rate borrowings, as set forth in the Credit Agreement. The fee for undrawn amounts is 0.25% per annum and is due quarterly.
The ABL Facility contains customary conditions to borrowings, events of default and covenants, including, but not limited to, covenants that restrict our ability to sell assets, engage in mergers and acquisitions, incur, assume or permit to exist additional indebtedness and guarantees, create or permit to exist liens, pay cash dividends, issue equity instruments, make distribution or redeem or repurchase capital stock. In the event that our availability is less than the greater of (i) $15.0 million and (ii) 15.00% of the lesser of (1) the current borrowing base and (2) the commitments under the ABL Facility then in effect, a consolidated Fixed Charge Coverage Ratio of at least 1.00 to 1.00 must be maintained.
Senior Secured Revolving Credit Facility
The ABL Facility replaced the Fifth Amended and Restated Credit Agreement (the "Prior Credit Agreement"), that was entered into on November 2, 2020, and subsequently amended on May 4, 2021, by and among us and certain foreign subsidiaries, as Borrowers, various subsidiaries of ours, as Guarantors, JPMorgan Chase Bank, N.A., as Administrative Agent, Sole Lead Arranger and Sole Book Runner, and the other Lenders party thereto. The Prior Credit Agreement provided for a three-year senior secured revolving credit facility of $200.0 million that expired November 2, 2023.
We had no borrowings and $41.3 million of letters of credit outstanding under the Prior Credit Agreement as of June 30, 2021. We had $9.2 million of borrowings and $34.5 million of letters of credit outstanding under the Prior Credit Agreement as of June 30, 2020.
Each revolving borrowing under the Prior Credit Agreement bore interest at a rate per annum equal to a base rate, plus a margin of 1.00% to 3.50%. The unused credit facility fee was between 0.35% and 0.50% based on the Leverage Ratio as defined in the Prior Credit Agreement.
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The Prior Credit Agreement contained customary financial, negative and affirmative covenants and limited our borrowing availability based on our EBITDA, as it was defined in the Prior Credit Agreement. The Prior Credit Agreement also limited our ability to make acquisitions, repurchase shares, make capital expenditures and dispose of assets.
Dividend Policy
We have never paid cash dividends on our common stock and the terms of our Credit Agreement limit dividends to stock dividends only. Any future dividend payments will depend on the terms of our Credit Agreement, our financial condition, capital requirements and earnings as well as other relevant factors.
Treasury Shares
The terms of our Credit Agreement limit share repurchases to $2.5 million per fiscal year provided that that we do not violate our Fixed Charge Coverage Ratio financial covenant. We may repurchase common stock pursuant to the Stock Buyback Program, which was approved by the board of directors in November 2018. Under the program, the aggregate number of shares repurchased may not exceed 2,707,175 shares. We may repurchase our stock from time to time in the open market at prevailing market prices or in privately negotiated transactions and are not obligated to purchase any shares. The program will continue unless and until it is modified or revoked by the Board of Directors. We made no repurchases under the program in the fourth quarter of fiscal 2021 and have no current plans to repurchase stock in the near-term.
As of June 30, 2021, there were 1,349,037 shares available for repurchase under the Stock Buyback Program. We had 1,338,779 treasury shares as of June 30, 2021 and intend to utilize these treasury shares in connection with equity awards under the our stock incentive plans and for sales to the Employee Stock Purchase Plan.
Off-Balance Sheet Arrangements
As of June 30, 2021, the following off-balance sheet arrangements were in place to support our ordinary course obligations:
Expiration Period
Less than 1
Year 1–3 Years 3–5 Years More than 5
Years Total
(In thousands)
Letters of credit (1)
$ 41,314 $ — $ — $ — $ 41,314
Surety bonds 96,268 536 20 — 96,824
Total $ 137,582 $ 536 $ 20 $ — $ 138,138
(1) All letters of credit issued under our senior secured revolving credit facility support our workers’ compensation insurance programs or certain construction contracts. The letters of credit that support our workers’ compensation programs are expected to renew annually through the term of our credit facility. The letters of credit that support construction contracts carry expiration dates into calendar year 2022.
Contractual Obligations
Contractual obligations at June 30, 2021 are summarized below:
Contractual Obligations by Expiration Period
Less than 1
Year 1-3 Years 3-5 Years More than 5
Years Total
(In thousands)
Operating leases 6,548 8,284 6,009 11,224 32,065
Purchase obligations 2,951 3,408 — — 6,359
Total contractual obligations $ 9,499 $ 11,692 $ 6,009 $ 11,224 $ 38,424
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CRITICAL ACCOUNTING POLICIES
Revenue Recognition
General Information about our Contracts with Customers
Our revenue comes from contracts to provide engineering, procurement, fabrication and construction, repair and maintenance and other services. Our engineering, procurement and fabrication and construction services are usually provided in association with capital projects, which are commonly fixed-price contracts that are billed based on project milestones. Our repair and maintenance services typically are cost reimbursable or time and material based contracts and are billed monthly or, for projects of short duration, at the conclusion of the project. The elapsed time from award to completion of performance may exceed one year for capital projects.
Step 1: Contract Identification
We do not recognize revenue unless we have identified a contract with a customer. A contract with a customer exists when it has approval and commitment from both parties, the rights and obligations of the parties are identified, payment terms are identified, the contract has commercial substance, and collectibility is probable. We also evaluate whether a contract should be combined with other contracts and accounted for as a single contract. This evaluation requires judgment and could change the timing of the amount of revenue and profit recorded for a given period.
Step 2: Identify Performance Obligations
Next, we identify each performance obligation in the contract. A performance obligation is a promise to provide a distinct good or service or a series of distinct goods or services to the customer. Revenue is recognized separately for each performance obligation in the contract. Many of our contracts have one clearly identifiable performance obligation. However, many of our contracts provide the customer an integrated service that includes two or more of the following services: engineering, procurement, fabrication, construction, repair and maintenance services. For these contracts, we do not consider the integrated services to be distinct within the context of the contract when the separate scopes of work combine into a single commercial objective or capability for the customer. Accordingly, we generally identify one performance obligation in our contracts. The determination of the number of performance obligations in a contract requires significant judgment and could change the timing of the amount of revenue recorded for a given period.
Step 3: Determine Contract Price
After determining the performance obligations in the contract, we determine the contract price. The contract price is the amount of consideration we expect to receive from the customer for completing the performance obligation(s). In a fixed-price contract, the contract price is a single lump-sum amount. In reimbursable and time and materials based contracts, the contract price is determined by the agreed upon rates or reimbursements for time and materials expended in completing the performance obligation(s) in the contract.
A number of our contracts contain various cost and performance incentives and penalties that can either increase or decrease the contract price. These variable consideration amounts are generally earned or incurred based on certain performance metrics, most commonly related to project schedule or cost targets. We estimate variable consideration at the most likely amount of additional consideration to be received (or paid in the case of penalties), provided that meeting the variable condition is probable. We include estimated amounts of variable consideration in the contract price to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved. Our estimates of variable consideration and determination of whether to include estimated amounts in the contract price are based largely on an assessment of our anticipated performance and all information (historical, current and forecasted) that is reasonably available to us. We reassess the amount of variable consideration each accounting period until the uncertainty associated with the variable consideration is resolved. Changes in the assessed amount of variable consideration are accounted for prospectively as a cumulative adjustment to revenue recognized in the current period.
Step 4: Assign Contract Price to Performance Obligations
After determining the contract price, we assign such price to the performance obligation(s) in the contract. If a contract has multiple performance obligations, we assign the contract price to each performance obligation based on the stand-alone selling prices of the distinct services that comprise each performance obligation.
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Step 5: Recognize Revenue as Performance Obligations are Satisfied
We record revenue for contracts with our customers as we satisfy the contracts' performance obligations. We recognize revenue on performance obligations associated with fixed-price contracts for engineering, procurement, fabrication and construction services over time since these services create or enhance assets the customer controls as they are being created or enhanced. We measure progress of satisfying these performance obligations by using the percentage-of-completion method, which is based on costs incurred to date compared to the total estimated costs at completion, since it best depicts the transfer of control of assets being created or enhanced to the customer.
We recognize revenue over time for reimbursable and time and material based repair and maintenance contracts since the customer simultaneously receives and consumes the benefit of those services as we perform work under the contract. As a practical expedient allowed under the revenue accounting standards, we record revenue for these contracts in the amount to which we have a right to invoice for the services performed provided that we have a right to consideration from the customer in an amount that corresponds directly with the value of the performance completed to date.
Costs incurred may include direct labor, direct materials, subcontractor costs and indirect costs, such as salaries and benefits, supplies and tools, equipment costs and insurance costs. Indirect costs are charged to projects based upon direct costs and overhead allocation rates per dollar of direct costs incurred or direct labor hours worked. Typically, customer contracts will include standard warranties that provide assurance that products and services will function as expected. We do not sell separate warranties.
We have numerous contracts that are in various stages of completion which require estimates to determine the forecasted costs at completion. Due to the nature of the work left to be performed on many of our contracts, the estimation of total cost at completion for fixed-price contracts is complex, subject to many variables and requires significant judgment. Estimates of total cost at completion are made each period and changes in these estimates are accounted for prospectively as cumulative adjustments to revenue recognized in the current period. If estimates of costs to complete fixed-price contracts indicate a loss, a provision is made through a contract write-down for the total loss anticipated.
Change Orders
Contracts are often modified through change orders, which are changes to the agreed upon scope of work. Most of our change orders, which may be priced or unpriced, are for goods or services that are not distinct from the existing contract due to the significant integration of services provided in the context of the contract and are accounted for as if they were part of that existing contract. The effect of a change order on the contract price and our measure of progress for the performance obligation to which it relates, is recognized as an adjustment to revenue on a cumulative catch-up basis. For unpriced change orders, we estimate the increase or decrease to the contract price using the variable consideration method described in the Step 3: Determine Contract Price paragraph above. Unpriced change orders are more fully discussed in Note 7 - Commitments and Contingencies of the Notes to Financial Statements.
Claims
Sometimes we seek claims for amounts in excess of the contract price for delays, errors in specifications and designs, contract terminations, change orders in dispute or other causes of additional costs incurred by us. Recognition of amounts as additional contract price related to claims is appropriate only if there is a legal basis for the claim. The determination of our legal basis for a claim requires significant judgment. We estimate the change to the contract price using the variable consideration method described in the Step 3: Determine Contract Price paragraph above. Claims are more fully discussed in Note 7 - Commitments and Contingencies of the Notes to Financial Statements.
Costs and estimated earnings in excess of billings on uncompleted contracts included revenue for unpriced change orders and claims of $14.6 million at June 30, 2021 and $14.5 million at June 30, 2020. The amounts ultimately realized may be significantly different than the recorded amounts resulting in a material adjustment to future earnings. Generally we expect collection of amounts related to unpriced change orders and claims within twelve months. However, customers may not pay these amounts until final resolution of related claims, which may extend beyond one year.
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Goodwill
Goodwill represents the excess of the purchase price of acquisitions over the acquisition date fair value of the net identifiable tangible and intangible assets acquired. In accordance with current accounting guidance, goodwill is not amortized and is tested at least annually for impairment at the reporting unit level, which is a level below our reportable segments.
We perform our annual impairment test in the fourth quarter of each fiscal year, or in between annual tests whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable, to determine whether an impairment exists and to determine the amount of headroom. We define "headroom" as the percentage difference between the fair value of a reporting unit and its carrying value. The goodwill impairment test involves comparing management’s estimate of the fair value of a reporting unit with its carrying value, including goodwill. If the fair value of a reporting unit exceeds its carrying value, then goodwill is not impaired. If the fair value of a reporting unit is less than its carrying value, then goodwill is impaired to the extent of the difference, but the impairment may not exceed the balance of goodwill assigned to that reporting unit.
We utilize a discounted cash flow analysis, referred to as an income approach, and market multiples, referred to as a market approach, to determine the estimated fair value of our reporting units. For the income approach, significant judgments and assumptions including forecasted project awards, discount rate, anticipated revenue growth rate, gross margins, operating expenses, working capital needs and capital expenditures are inherent in the fair value estimates, which are based on our operating and capital budgets and on our strategic plan. As a result, actual results may differ from the estimates utilized in our income approach. For the market approach, significant judgments and assumptions include the selection of guideline companies, forecasted guideline company EBITDA and our forecasted EBITDA. The use of alternate judgments and/or assumptions could result in a fair value that differs from our estimate and could result in the recognition of additional impairment charges in the financial statements. As a test for reasonableness, we also consider the combined fair values of our reporting units to our market capitalization.
We performed our annual goodwill impairment test as of May 31, 2021, which resulted in no impairment. The fiscal 2021 test indicated that four reporting units with a combined total of $37.7 million of goodwill as of June 30, 2021 were at higher risk of future impairment than others. If our view of project opportunities or gross margins deteriorates, particularly for the higher risk reporting units, then we may be required to record a material impairment of goodwill.
We considered the amount of headroom for each reporting unit when determining whether an impairment existed. The amount of headroom varies by reporting unit. Our significant assumptions, including revenue growth rates, gross margins, discount rate and other factors may change in the future based on the changing economic and competitive environment in which we operate. Assuming that all other components of our fair value estimate remain unchanged, a change in the following assumptions would have the following effect on headroom:
Headroom Sensitivity Analysis
Goodwill as of June 30, 2021
(in thousands) Baseline Headroom Headroom if Revenue Growth Rate
Declines by 100 Basis Points Headroom if Gross Margin
Declines by 100 Basis Points Headroom if Discount Rate Increases by 100 Basis Points
Reporting Unit 1 $ 16,821 40% 33% 23% 30%
Reporting Unit 2 $ 14,233 6% 1% -5% -4%
Reporting Unit 3 $ 3,946 12% 3% -52% -6%
Reporting Unit 4 $ 2,659 24% 17% 0% 15%
All other reporting units $ 22,977 64% to 114% 56% to 105% 10% to 75% 43% to 99%
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Income Taxes
We use the asset and liability approach for financial accounting and reporting for income taxes. Deferred income tax assets and liabilities are computed annually for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances based on our judgments and estimates are established when necessary to reduce deferred tax assets to the amount expected to be realized in future operating results. We believe that realization of deferred tax assets in excess of the valuation allowance is more likely than not. Our estimates are based on facts and circumstances in existence as well as interpretations of existing tax regulations and laws applied to the facts and circumstances, with the help of professional tax advisors. Therefore, we estimate and provide for amounts of additional income taxes that may be assessed by the various taxing authorities.
Loss Contingencies
Various legal actions, claims and other contingencies arise in the normal course of our business. Contingencies are recorded in the consolidated financial statements, or are otherwise disclosed, in accordance with ASC 450-20, “Loss Contingencies”. Specific reserves are provided for loss contingencies to the extent we conclude that a loss is both probable and estimable. We use a case-by-case evaluation of the underlying data and update our evaluation as further information becomes known. We believe that any amounts exceeding our recorded accruals should not materially affect our financial position, results of operations or liquidity. However, the results of litigation are inherently unpredictable and the possibility exists that the ultimate resolution of one or more of these matters could result in a material effect on our financial position, results of operations or liquidity.
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