Item 2. Management’s Discussion and Analysis
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
Unless the context otherwise indicates, all references in this quarterly report to “Orion,” “the Company,” “we,” “our,” or “us” are to Orion Group Holdings, Inc. and its subsidiaries taken as a whole .
Certain information in this Quarterly Report on Form 10-Q, including but not limited to Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”), may constitute forward-looking statements as such term is defined within the meaning of the “safe harbor” provisions of Section 27A of the Securities Exchange Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
All statements other than statements of historical facts, including those that express a belief, expectation, or intention are forward-looking statements. The forward-looking statements may include projections and estimates concerning the timing and success of specific projects and our future production, revenues, income and capital spending. Our forward-looking statements are generally accompanied by words such as “estimate,” “project,” “predict,” “believe,” “expect,” “anticipate,” “potential,” “plan,” “goal” or other words that convey the uncertainty of future events or outcomes.
We have based these forward-looking statements on our current expectations and assumptions about future events. While our management considers these expectations and assumptions to be reasonable, they are inherently subject to significant business, economic, competitive, regulatory and other risks, contingencies and uncertainties, most of which are difficult to predict and many of which are beyond our control, including the duration of the COVID19 pandemic and the resiliency of the economy thereafter, unforeseen productivity delays and other difficulties encountered in project execution, levels of government funding or other governmental budgetary constraints, and contract cancellation at the discretion of the customer. These and other important factors, including those described under “Risk Factors” in Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 (“2019 Form 10-K”) may cause our actual results, performance or achievements to differ materially from any future results, performance or achievements expressed or implied by these forward-looking statements. The forward-looking statements in this quarterly report on Form 10-Q speak only as of the date of this report; we disclaim any obligation to update these statements unless required by securities law, and we caution you not to rely on them unduly.
MD&A provides a narrative analysis explaining the reasons for material changes in the Company’s (i) financial condition since the most recent fiscal year-end, and (ii) results of operations during the current fiscal year-to-date period and current fiscal quarter as compared to the corresponding periods of the preceding fiscal year. In order to better understand such changes, this MD&A should be read in conjunction with the Company’s fiscal 2019 audited consolidated financial statements and notes thereto included in our 2019 Form 10-K, Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our 2019 Form 10-K and with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this quarterly report.
Overview
Orion Group Holdings, Inc., its subsidiaries and affiliates (hereafter collectively referred to as the “Company”), provides a broad range of specialty construction services in the infrastructure, industrial and building sectors of the continental United States, Alaska, and the Caribbean Basin. The Company’s marine segment services the
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infrastructure sector through marine transportation facility construction, marine pipeline construction, marine environmental structures, dredging of waterways, channels and ports, environmental dredging, design, and specialty services. Its concrete segment services the building sector by providing turnkey concrete construction services including pour and finish, dirt work, layout, forming, rebar, and mesh across the light commercial structural and other associated business areas. The Company is headquartered in Houston, Texas with offices throughout its operating areas.
Our contracts are obtained primarily through competitive bidding in response to “requests for proposals” by federal, state and local agencies and through negotiation and competitive bidding with private parties and general contractors. Our bidding activity and strategies are affected by such factors as our backlog, current utilization of equipment and other resources, job location, our ability to obtain necessary surety bonds and competitive considerations. The timing and location of awarded contracts may result in unpredictable fluctuations in the results of our operations.
Most of our revenue is derived from fixed-price contracts. We generally record revenue on construction contracts over time, measured by the percentage of actual contract costs incurred to date to total estimated costs for each contract. There are a number of factors that can create variability in contract performance and therefore impact the results of our operations. The most significant of these include the following:
● completeness and accuracy of the original bid;
● increases in commodity prices such as concrete, steel and fuel;
● customer delays, work stoppages, and other costs due to weather and environmental restrictions;
● availability and skill level of workers; and
● a change in availability and proximity of equipment and materials.
All of these factors can have a negative impact on our contract performance, which can adversely affect the timing of revenue recognition and ultimate contract profitability. We plan our operations and bidding activity with these factors in mind and they generally have not had a material adverse impact on the results of our operations in the past.
Third quarter 2020 Recap and 2020 Outlook
In the quarter ended September 30, 2020, we recorded revenues of $189.4 million, of which $112.9 million was attributable to our marine segment and the remaining $76.5 million to our concrete segment. In addition, we ended the quarter with a consolidated backlog of $428.8 million. Our revenues in the quarter decreased by 5.0% as compared with the comparable prior year period and we recorded net income of $11.8 million, as compared with net income of $4.0 million in the comparable prior year period.
Looking toward the balance of 2020, the Company continues to focus on developing opportunities across the infrastructure, industrial, and building sectors through organic growth and greenfield expansion.
The spread of COVID-19 has impacted the global economy, leaving supply chains disrupted. As the world uses tactics like “social distancing” and “stay at home orders” to slow and stop the spread of COVID-19, demand destruction has led to increased unemployment and to the weakening of consumer confidence. Although to date the Company hasn’t experienced materially negative impacts from COVID-19, such as widespread project
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stoppage/cancelations or a slowdown/stoppage of accounts receivables collections, any delays in the timing of future awards could create gaps in the Company’s project delivery schedule across quarterly periods.
Federal and State governments have increased spending as part of efforts to mitigate the impact of COVID-19 on the economy. The amount and timing of such spending will be directly impacted by the duration of required efforts to contain COVID-19 and the severity of the negative impacts created by the virus and its effect on the economy. Although little progress has been made to date and on a federal infrastructure bill concerns have recently arisen that the impact of the COVID-19 pandemic may further delay or reduce its scope, the Company will continue to track and monitor any developments on a federal infrastructure bill which could potentially create bid opportunities for the Company.
Marine Segment
Demand for our marine construction services continues, given our differentiated capabilities and service offering within the space. We continue to see bid opportunities to help maintain and expand the infrastructure that facilitates the movement of goods and people on or over waterways. However, we are closely monitoring the short and long-term cruise line capital expenditures as their current demand has been negatively impacted by COVID-19. Further, while we currently see bid opportunities from our private sector energy-related customers as they expand their marine facilities related to the storage, transportation and refining of domestically produced energy, we recognize that the timing of project awards may be impacted as a result of volatility of oil prices due to COIVD-19 related uncertainties. Over the long-term, we expect to see bid opportunities in this sector from petrochemical-related businesses, energy exporters, and liquefied natural gas facilities. Opportunities from local port authorities will also remain over the long-term, many of which are related to the widened Panama Canal. Additionally, bid opportunities related to coastal restoration funded through the Resource and Ecosystems Sustainability, Tourist Opportunities and Revived Economies of the Gulf Coast States Act (the “RESTORE Act”) may arise throughout 2020 and into 2021. We believe our current equipment fleet will allow us to better meet market demand for projects from both our public and private customers.
In the long-term, we see positive trends in demands for our services in our end markets, including:
● Continuing need to repair and improve degrading U. S. marine infrastructure;
● Long-term demand from downstream energy-related companies will be driven by larger capital projects, as well as maintenance call-out work;
● Expected increases in cargo volume and future demands from larger ships transiting the Panama Canal will require ports along the Gulf Coast and Atlantic Seaboard to expand port infrastructure as well as perform additional dredging services;
● Possible work opportunities generated by the Water Resources Reform and Development Act (the “WRRDA Act”) authorizing expenditures for the conservation and development of the nation’s waterways as well as addressing funding deficiencies within the Harbor Maintenance Trust Fund;
● Renewed focus on coastal rehabilitation along the Gulf Coast, particularly through the use of RESTORE Act funds based on fines collected related to the 2010 Gulf of Mexico oil spill;
● Funding for highways and transportation under successor Acts to the FAST Act;
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● Nearly $7 billion of federal funding provided by the USACE in connection with disaster recovery in Texas; and,
● Potential opportunities related to the impending federal infrastructure bill.
Concrete Segment
Demand for our concrete segment’s services continues, although timing of certain new project releases could be delayed as a result of COVID-19 related macroeconomic impacts. We currently see long-term demand for our concrete construction services in the Texas building sector as Texas’ four major metropolitan areas, and expanding suburbs, continuously retain their positions as leading destinations for population and business growth. Population growth throughout our markets continues to drive new distribution centers, education facilities, office expansion, retail and grocery establishments, new multi-family housing units, and structural towers for business, residential or mixed-use purposes. The diversified Texas economy provides us with multiple sources of bid opportunities. Additional demand for concrete services in our markets could be provided by work as part of a federal infrastructure bill.
Consolidated Results of Operations
Backlog Information
Our contract backlog represents our estimate of the revenues we expect to realize under the portion of contracts remaining to be performed. Given the typical duration of our contracts, which is generally less than a year, our backlog at any point in time usually represents only a portion of the revenue that we expect to realize during a twelve-month period. We have not been adversely affected by contract cancellations or modifications in the past, although we may be in the future, especially in economically uncertain periods. Consequently, backlog is not necessarily indicative of future results. In addition to our backlog under contract, we also have a substantial number of projects in negotiation or pending award at any time.
Backlog as of the periods ended below are as follows (in millions):
September 30, 2020
June 30, 2020
March 31, 2020
December 31, 2019
September 30, 2019
Marine segment
$
241.7
$
312.2
$
344.6
$
326.9
$
394.3
Concrete segment
187.1
216.2
247.3
231.6
226.2
Consolidated
$
428.8
$
528.4
$
591.9
$
558.5
$
620.5
Previously reported backlog amounts have been adjusted in the accompanying table to correct for a clerical error in the underlying calculation file, as to which steps have been taken to prevent a recurrence. Accordingly, reported backlog has been reduced by $17.6 million, $13.8 million and $10.0 million for the periods ended March 31, 2020, December 31, 2019 and September 30, 2019, respectively. The recent trends of declining backlog, reflect headwinds created by the COVID-19 pandemic in certain end market sectors and uncertainty around the US elections. We, however, remain optimistic in our end-markets and in the opportunities that are emerging across our various market places as evidenced by the $1.1 billion of quoted bids outstanding, of which $108 million we are the apparent low bidder on or have been awarded contracts subsequent to the end of the third quarter of 2020.
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Three months ended September 30, 2020, compared with three months ended September 30, 2019
Three months ended September 30,
2020
2019
Amount
Percent
Amount
Percent
(dollar amounts in thousands)
Contract revenues
$
189,433
100.0
%
$
199,507
100.0
%
Cost of contract revenues
166,932
88.1
%
178,614
89.5
%
Gross profit
22,501
11.9
%
20,893
10.5
%
Selling, general and administrative expenses
15,270
8.1
%
14,590
7.3
%
Amortization of intangible assets
519
0.3
%
662
0.3
%
Gain on disposal of assets, net
(6,373)
(3.4)
%
(451)
(0.2)
%
Operating income
13,085
6.9
%
6,092
3.1
%
Other (expense) income:
Other income
115
0.1
%
17
—
%
Interest income
57
—
%
75
—
%
Interest expense
(1,151)
(0.6)
%
(1,678)
(0.8)
%
Other expense, net
(979)
(0.5)
%
(1,586)
(0.8)
%
Income before income tax expense
12,106
6.4
%
4,506
2.3
%
Income tax expense
303
0.2
%
467
0.3
%
Net income
$
11,803
6.2
%
$
4,039
2.0
%
Contract Revenues. Contract revenues for the three months ended September 30, 2020 of $189.4 million decreased 5.0% as compared to $199.5 million in the prior year period. The decrease was primarily driven by a decrease in production volume in the concrete segment due to tropical weather in Texas in the last few weeks of the current year quarter.
Gross Profit. Gross profit was $22.5 million for the three months ended September 30, 2020, compared to $20.9 million in the prior year period, an increase of $1.6 million or 7.7%. Gross profit in the third quarter was 11.9% of total contract revenues as compared to 10.5% in the prior year period. The increase in gross profit dollars and percentage was primarily driven by project execution related margin expansion in both segments and better labor utilization in the marine segment.
Selling, General and Administrative Expense. Selling, general and administrative ("SG&A") expenses were $15.3 million for the three months ended September 30, 2020 compared to $14.6 million in the prior year period, an increase of $0.7 million, or 4.7%. As a percentage of total contract revenues, SG&A expenses increased from 7.3% to 8.1%. The increase in SG&A dollars and percentage were primarily attributable to the full ratable accrual of the annual incentive compensation plan during the current year period compared to zero accrual during the comparable 2019 period.
Gain on Disposal of Assets, net. During the three months ended September 30, 2020, we realized $3.5 million of net gains on sales of assets and $2.9 million of net gains on insurance recoveries. There were no such material net gains realized during the prior year comparative period.
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Other Income, net of Expense. Other expense primarily reflects interest on our borrowings, partially offset by interest income and non-operating gains or losses.
See Note 11 for additional discussion of the amended syndicated credit agreement, also known as the Seventh Amendment, executed in June 2020.
Income Tax Expense. We recorded tax expense of $0.3 million in the three months ended September 30, 2020, compared to tax expense of $0.5 million in the prior year period. Our effective tax rate for the three months ended September 30, 2020 was 2.5%, which differs from the federal statutory rate of 21% primarily due to movement in the valuation allowance to offset foreign tax credits and net operating loss carryforwards, foreign taxes, state income taxes and the non-deductibility of certain permanent items.
Nine months ended September 30, 2020, compared with nine months ended September 30, 2019
Nine months ended September 30,
2020
2019
Amount
Percent
Amount
Percent
(dollar amounts in thousands)
Contract revenues
$
539,766
100.0
%
$
508,597
100.0
%
Cost of contract revenues
476,763
88.3
%
463,645
91.2
%
Gross profit
63,003
11.7
%
44,952
8.8
%
Selling, general and administrative expenses
47,651
8.8
%
44,677
8.7
%
Amortization of intangible assets
1,552
0.3
%
1,980
0.4
%
Gain on disposal of assets, net
(7,734)
(1.4)
%
(1,197)
(0.2)
%
Operating income (loss) from operations
21,534
4.0
%
(508)
(0.1)
%
Other (expense) income:
Other income
251
—
%
574
0.1
%
Interest income
151
—
%
317
0.1
%
Interest expense
(3,722)
(0.6)
%
(4,981)
(1.0)
%
Other expense, net
(3,320)
(0.6)
%
(4,090)
(0.8)
%
Income (loss) before income taxes
18,214
3.4
%
(4,598)
(0.9)
%
Income tax expense
1,660
0.3
%
920
0.2
%
Net income (loss)
$
16,554
3.1
%
$
(5,518)
(1.1)
%
Contract Revenues. Contract revenues for the nine months ended September 30, 2020 of $539.8 million increased approximately 6.1% as compared to $508.6 million in the prior year period. The increase was primarily attributable to the higher volume of work in both the marine and concrete segments. Additionally, the execution on a few large projects in both segments increased year over year results.
Gross Profit. Gross profit was $63.0 million for the nine months ended September 30, 2020, compared to $45.0 million in the prior year period, an increase of $18.0 million or 40.2%. Gross profit in the nine months ended September 30, 2020 was 11.7% of total contract revenues as compared to 8.8% in the prior year period. The increase in gross profit dollars and percentage were primarily driven by revenue and margin expansion as the result of improved fixed and labor related cost recovery.
Selling, General and Administrative Expense. Selling, general and administrative ("SG&A") expenses were $47.7 million for the nine months ended September 30, 2020 compared to $44.7 million in the prior year period, an increase of $3.0 million, or 6.7%. As a percentage of total contract revenues, SG&A expenses increased from 8.7% to 8.8%. The increase in SG&A dollars and percentage were primarily attributable to the full ratable
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accrual of the incentive compensation plan in the 2020 period compared to zero accrual during the comparable 2019 period.
Gain on Disposal of Assets, net. During the nine months ended September 30, 2020, we realized $4.8 million of net gains on sales of assets and $2.9 million of net gains on insurance recoveries. This compared to realizing $1.2 million of net gains on the assets we sold during the 2019 comparative period.
Other Income, net of Expense. Other expense primarily reflects interest on our borrowings, partially offset by interest income and non-operating gains or losses.
See Note 11 for additional discussion of the amended syndicated credit agreement, also known as the Seventh Amendment, executed in June 2020.
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Income Tax Expense. We recorded tax expense of $1.7 million in the nine months ended September 30, 2020, compared to tax expense of $0.9 million in the prior year period. Our effective tax rate for the nine months ended September 30, 2020 was 9.1%, which differs from the federal statutory rate of 21% primarily due to movement in the valuation allowance to offset foreign tax credits and net operating loss carryforwards, foreign taxes, state income taxes and the non-deductibility of certain permanent items.
Segment Results
The following table sets forth, for the periods indicated, statements of operations data by segment, segment revenues as a percentage of consolidated revenues and segment operating (loss) income as a percentage of segment revenues:
Three months ended September 30, 2020 compared with three months ended September 30, 2019
Three months ended September 30,
2020
2019
Amount
Percent
Amount
Percent
(dollar amounts in thousands)
Contract revenues
Marine segment
Public sector
$
68,353
60.6
%
$
73,921
68.8
%
Private sector
44,528
39.4
%
33,483
31.2
%
Marine segment total
$
112,881
100.0
%
$
107,404
100.0
%
Concrete segment
Public sector
$
8,784
11.5
%
$
14,169
15.4
%
Private sector
67,768
88.5
%
77,934
84.6
%
Concrete segment total
$
76,552
100.0
%
$
92,103
100.0
%
Total
$
189,433
$
199,507
Operating income
Marine segment
$
8,992
8.0
%
$
4,863
4.5
%
Concrete segment
4,093
5.3
%
1,229
1.3
%
Total
$
13,085
$
6,092
Marine Segment
Revenues for our marine segment for the three months ended September 30, 2020 were $112.9 million compared to $107.4 million for the three months ended September 30, 2019, an increase of $5.5 million, or 5.1%. The increase was primarily attributable to the higher volume of work in the marine segment. Additionally, the execution on a few large projects boosted year over year results.
Operating income for our marine segment for the three months ended September 30, 2020 was $9.0 million, compared to $4.9 million for the three months ended September 30, 2019, an increase of $4.1 million. This increase in operating income was primarily due to an increase in net gains on disposal of assets of $6.1 million. Such gains were derived from a combination of asset sales and insurance recovery proceeds. Excluding the increase related to the net gain on disposal of assets, net operating income for our marine segment for the three months ended September 30, 2020 was $2.7 million compared to $4.7 million for the comparative prior year quarter, a decrease of $2.0 million.
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Concrete Segment
Revenues for our concrete segment for the three months ended September 30, 2020 were $76.6 million compared to $92.1 million for the three months ended September 30, 2019, a decrease of $15.5 million, or 16.9%. This decrease in revenue was primarily driven by a decrease in production volume due to tropical weather in Texas in the last few weeks of the current year quarter.
Operating income for our concrete segment for the three months ended September 30, 2020 was $4.1 million, compared to $1.2 million for the three months ended September 30, 2019, an increase of $2.9 million. This increase in operating income was primarily due to improved recovery of equipment and labor related project costs.
Nine months ended September 30, 2020 compared with nine months ended September 30, 2019
Nine months ended September 30,
2020
2019
Amount
Percent
Amount
Percent
(dollar amounts in thousands)
Contract revenues
Marine segment
Public sector
$
181,684
62.5
%
$
180,487
70.0
%
Private sector
108,865
37.5
%
77,427
30.0
%
Marine segment total
$
290,549
100.0
%
$
257,914
100.0
%
Concrete segment
Public sector
$
36,858
14.8
%
$
40,551
16.2
%
Private sector
212,359
85.2
%
210,132
83.8
%
Concrete segment total
$
249,217
100.0
%
$
250,683
100.0
%
Total
$
539,766
$
508,597
Operating income (loss)
Marine segment
$
12,443
4.3
%
$
(1,584)
(0.6)
%
Concrete segment
9,091
3.6
%
1,076
0.4
%
Total
$
21,534
$
(508)
Marine Segment
Revenues for our marine segment for the nine months ended September 30, 2020 were $290.5 million compared to $257.9 million for the nine months ended September 30, 2019, an increase of $32.6 million, or 12.7%. This increase is primarily attributable to execution on the larger volume of work in our backlog and significant uninstalled material purchases in the current year period which gross up revenue and costs when purchased but only contribute to gross margin as they are installed.
Operating income for our marine segment for the nine months ended September 30, 2020 was $12.4 million, compared to an operating loss of $1.6 million for the nine months ended September 30, 2019, an increase of $14.0 million. This increase in operating income included $6.5M of net gains on disposal of assets. Excluding the increase in net gains on disposal of assets, net operating income for our marine segment for the nine months ended September 30, 2020 was $5.2 million compared to an operating loss of $2.3 million for the nine months ended September 30, 2019, an increase of $7.5 million. This increase in operating income was primarily due to
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improved project execution and cost recovery as well as the completion of several projects with lower margin in the prior year period.
Concrete Segment
Revenues for our concrete segment for the nine months ended September 30, 2020 were $249.2 million compared to $250.7 million for the nine months ended September 30, 2019, a decrease of $1.5 million, or 0.6%.
Operating income for our concrete segment for the nine months ended September 30, 2020 was $9.1 million, compared to operating income of $1.1 million for the nine months ended September 30, 2019, an increase of $8.0 million. This increase in operating income was primarily due to the improvement in man-hours per cubic yard production, and increased recovery of project related costs such as labor and equipment.
Liquidity and Capital Resources
Our primary liquidity needs are to finance our working capital, fund capital expenditures, and pursue strategic acquisitions. Historically, our source of liquidity has been cash provided by our operating activities and borrowings under our credit facilities.
Changes in working capital are normal within our business given the varying mix in size, scope and timing of delivery of our projects. At September 30, 2020, our working capital was $56.8 million, as compared with $62.2 million at December 31, 2019. As of September 30, 2020, we had unrestricted cash on hand of $2.7 million. Our borrowing capacity at September 30, 2020 was approximately $57.9 million.
We expect to meet our future internal liquidity and working capital needs and maintain or replace our equipment fleet through capital expenditure purchases, leases and major repairs, from funds generated by our operating activities for at least the next 12 months. We believe our cash position is adequate for our general business requirements discussed above and to service our debt.
The following table provides information regarding our cash flows and our capital expenditures for the three and nine months ended September 30, 2020 and 2019:
Three months ended
Nine months ended
September 30,
September 30,
2020
2019
2020
2019
Net income (loss)
$
11,803
$
4,039
$
16,554
$
(5,518)
Adjustments to remove non-cash and non-operating items
1,505
8,538
19,333
27,337
Cash flow from net income after adjusting for non-cash and non-operating items
13,308
12,577
35,887
21,819
Change in operating assets and liabilities (working capital)
(8,006)
(13,392)
2,489
(23,716)
Cash flows provided by (used in) operating activities
$
5,302
$
(815)
$
38,376
$
(1,897)
Cash flows used in investing activities
$
(153)
$
(4,507)
$
(2,197)
$
(9,648)
Cash flows (used in) provided by financing activities
$
(12,760)
$
3,913
$
(34,533)
$
4,211
Capital expenditures (included in investing activities above)
$
(4,408)
$
(4,917)
$
(9,444)
$
(13,035)
Operating Activities. During the three months ended September 30, 2020, we generated approximately $5.3 million in cash from our operating activities. The net cash inflow is comprised of $13.3 million of cash inflows
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from net income, after adjusting for non-cash items, partially offset by $8.0 million of cash outflows related to changes in net working capital. The changes in net working capital, which are reflected as changes in operating assets and liabilities in our Condensed Consolidated Statements of Cash Flows, were primarily driven by a $19.7 million outflow pursuant to the relative timing and significance of project progression and billings during the period and a $1.4 million decrease in operating lease liabilities during the period, partially offset by a $13.1 million inflow related to an increase in our net position of accounts receivable and accounts payable plus accrued liabilities during the period.
During the nine months ended September 30, 2020, we generated approximately $38.4 million in cash from our operating activities. The net cash inflow is comprised of $35.9 million of cash inflows from net income, after adjusting for non-cash items and $2.5 million of cash inflows related to changes in net working capital. The changes in net working capital, which are reflected as changes in operating assets and liabilities in our Condensed Consolidated Statements of Cash Flows, were primarily driven by a $15.9 million inflow related to an increase in our net position of accounts receivable and accounts payable plus accrued liabilities and $0.3 million of inflows related to other working capital changes, partially offset by a $9.6 million outflow pursuant to the relative timing and significance of project progression and billings during the period and a $4.1 million decrease in operating lease liabilities during the period.
Investing Activities. Capital asset additions and betterments to our fleet were $4.4 million in the three months ended September 30, 2020, as compared with $4.9 million in the three months ended September 30, 2019.
Capital asset additions and betterments to our fleet were $9.4 million in the nine months ended September 30, 2020, as compared with $13.0 million in the nine months ended September 30, 2019.
The changes are primarily a result of the timing of purchase of capital assets.
Financing Activities.
During the three months ended September 30, 2020, we drew down $5.0 million from our revolving line of credit and repaid $13.0 million on our revolving line of credit, as well as made the regularly scheduled debt payments on the term loan of $1.1 million and an additional principal paydown of $2.6 million with proceeds from the sale of equipment.
During the nine months ended September 30, 2020, we drew down $10.0 million from our revolving line of credit. Additionally, we repaid $36.0 million on our revolving line of credit, as well as made the regularly scheduled debt payment on the term loan of $2.6 million and an additional principal paydown of $2.6 million with proceeds from the sale of equipment.
Sources of Capital
The Company entered into an amended syndicated credit agreement (the “Credit Agreement” also known as the “Fourth Amendment”) on July 31, 2018, with Regions Bank, as administrative agent and collateral agent, and the following co-syndication agents: Bank of America, N.A., BOKF, NA dba Bank of Texas, KeyBank National Association, NBH Bank, IBERIABANK, Trustmark National Bank, First Tennessee Bank NA, and Branch Baking and Trust Company. The primary purpose of the Credit Agreement was to provide the Company with greater flexibility as it provides for the calculation of Adjusted EBITDA that adds back various project specific costs. Additionally, the Company executed the Fifth Amendment during March 2019, which was made
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effective as of December 31, 2018, executed the Sixth Amendment during May 2019 and executed the Seventh Amendment during June 2020.
The Credit Agreement, which may be amended from time to time, provides for borrowings under a revolving line of credit and a term loan (together, the “Credit Facility”). The Credit Facility is guaranteed by the subsidiaries of the Company, secured by the assets of the Company, including stock held in its subsidiaries, and may be used to finance general corporate and working capital purposes, to finance capital expenditures, to refinance existing indebtedness, to finance permitted acquisitions and associated fees, and to pay for all related expenses to the Credit Facility. Interest is computed based on the designation of the loan, with the option of a Base Rate Loan (the base rate plus the Applicable Margin), or an Adjusted LIBOR Rate Loan (the adjusted LIBOR rate plus the Applicable Margin). Interest is due on the last day of each quarter end for Base Rate Loans and at the end of the LIBOR rate period for Adjusted LIBOR Rate Loans. Principal balances drawn under the Credit Facility may be prepaid at any time, in whole or in part, without premium or penalty. Amounts repaid under the revolving line of credit may be re-borrowed. The Credit Facility matures on July 31, 2023.
The Company has a maximum borrowing availability under the 364-Day Revolving Credit Facility of $20.0 million. Borrowings may be designated as Base Rate Loan or Adjusted LIBOR Rate Loans, at the Company’s request, and must be drawn in an aggregate minimum amount of $1.0 million and integral multiples of $250,000 in excess of that amount. The Company may convert, change, or modify rate designations from time to time.
The Company is subject to a commitment fee for the unused portion of the maximum borrowing availability under the 364-Day Revolving Credit Facility. The commitment fee, which is due quarterly in arrears, is equal to the Applicable Margin of the actual daily amount by which the Aggregate Revolving Commitments exceeds the Total Revolving Outstanding.
See Note 11 in the Notes to the Financial Statements (of this Form 10-Q) for further discussion on the Company’s Debt.
Financial covenants
Restrictive financial covenants under the Credit Facility include:
● A consolidated Fixed Charge Coverage Ratio to not be less than the following during each noted period:
-Fiscal Quarter Ending December 31, 2019 and each Fiscal Quarter thereafter, to not be less than 1.25 to 1.00.
● A consolidated Leverage Ratio to not exceed the following during each noted period:
-Fiscal Quarter Ending March 31, 2020 and each Fiscal Quarter thereafter, to not exceed 3.00 to 1.00.
In addition, the Credit Facility contains events of default that are usual and customary for similar arrangements, including non-payment of principal, interest or fees; breaches of representations and warranties that are not timely cured; violation of covenants; bankruptcy and insolvency events; and events constituting a change of control.
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The Company expects to meet its future internal liquidity and working capital needs and maintain or replace its equipment fleet through capital expenditure purchases, leases and major repairs, from funds generated by its operating activities for at least the next 12 months. The Company believes that its cash position and available borrowings together with cash flow from its operations is adequate for general business requirements and to service its debt. The Company was in compliance with all financial covenants as of September 30, 2020.
Derivative Financial Instruments
On September 16, 2015, the Company entered into a series of receive-variable, pay-fixed interest rate swaps to hedge the variability in the interest payments on 50% of the aggregate principal amount of the Regions Term Loan outstanding, beginning with a notional amount of $67.5 million. There was a total of five sequential interest rate swaps to achieve the hedged position and each year on August 31, with the exception of the final swap, the existing interest rate swap was scheduled to expire and be immediately replaced with a new interest rate swap until the expiration of the final swap on July 31, 2020. On December 6, 2018, the Company entered into a sixth receive-variable, pay-fixed interest rate swap to hedge the variability of interest payments. The sixth swap began with a notional amount of $27.0 million on July 31, 2020 and hedges the variability in the interest payments on the aggregate scheduled principal amount of the Regions Term Loan outstanding. The sixth swap is scheduled to expire on July 31, 2023. At inception, these interest rate swaps were designated as cash flow hedges for hedge accounting, and as such, the effective portion of unrealized changes in market value are recorded in other comprehensive income (loss) and reclassified into earnings during the period in which the hedged forecasted transaction affects earnings. Gains and losses from hedge ineffectiveness are recognized in current earnings. The change in fair market value of the swaps for the comparative periods ended September 30, 2020 and September 30, 2019, as reflected in accumulated other comprehensive loss in the Condensed Consolidated Statements of Stockholders’ Equity, is approximately $0.8 million and $1.2 million. The fair market value of the swaps as of September 30, 2020 is reflected as a liability of $1.8 million on the Condensed Consolidated Balance Sheets. See Note 8 for more information regarding the fair value of the Company’s derivative instruments.
Sale-Leaseback Arrangement
On September 27, 2019, the Company entered into a purchase and sale agreement (the “Purchase and Sale Agreement”). Pursuant to the terms of the Purchase and Sale Agreement, the Company sold its 17300 & 17140 Market Street location in Channelview, Texas (the “Property”) for a purchase price of $19.1 million. Concurrent with the sale of the Property, the Company entered into a fifteen-year lease agreement (the “Lease Agreement”), whereby the Company will lease back the Property at an annual rental rate of approximately $1.5 million, subject to annual rent increases of 2.0%. Under the Lease Agreement, the Company has two consecutive options to extend the term of the Lease by ten years for each such option. This transaction was recorded as a failed sale-leaseback. The Company recorded a liability for the amounts received, will continue to depreciate the non-land portion of the asset, and has imputed an interest rate so that the net carrying amount of the financial liability and remaining assets will be zero at the end of the initial lease term. Concurrently with the sale, the Company
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paid $18.2 million as an additional principal payment towards the Term loan portion of the Company’s Credit Facility, consistent with terms of the Sixth Amendment.
Bonding Capacity
We are often required to provide various types of surety bonds that provide additional security to our customers for our performance under certain government and private sector contracts. Our ability to obtain surety bonds depends on our capitalization, working capital, past performance and external factors, including the capacity of the overall surety market. At September 30, 2020, the capacity under our current bonding arrangement was at least $500 million, with approximately $230 million of projects being bonded. We believe our strong balance sheet and working capital position will allow us to continue to access our bonding capacity.
Effect of Inflation
We are subject to the effects of inflation through increases in the cost of raw materials, and other items such as fuel, concrete and steel. Due to the relative short-term duration of our projects, we are generally able to include anticipated price increases in the cost of our bids.
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.