Aly Energy Services, Inc. - Annual Report: 2016 (Form 10-K)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

x Annual Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934

for the Period Ended December 31, 2016

or

¨ Transition Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934

for the Transition Period From ____________ to ____________

Commission File Number 33-92894

(713)-333-4000

(Registrant’s Telephone Number, including area code.)

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes x No ¨

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ¨ No x

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No x

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

The aggregate market value of common stock held by non-affiliates of the registrant was approximately $0.9 million as of June 30, 2017, the last business day of the registrant’s most recently completed second fiscal quarter, based upon the closing sales price of the registrant’s common stock on that date.

At August 31, 2017, the registrant had 13,818,795 shares of common stock, $0.001 par value, outstanding.

Documents Incorporated by Reference: None

ALY ENERGY SERVICES, INC.

(A Delaware Corporation)

INDEX

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Current Report on Form 10-K (this “Report”) contains certain statements and information that may constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). The words “anticipate,” “believe,” “ensure,” “expect,” “if,” “intend,” “plan,” “estimate,” “project,” “forecasts,” “predict,” “outlook,” “aim,” “will,” “could,” “should,” “potential,” “would,” “may,” “probable,” “likely,” and similar expressions that convey the uncertainty of future events or outcomes, and the negative thereof, are intended to identify forward-looking statements. Forward-looking statements, which are not generally historical in nature, include those that express a belief, expectation or intention regarding our future activities, plans and goals and our current expectations with respect to, among other things:

Forward-looking statements are not assurances of future performance and actual results could differ materially from our historical experience and our present expectations or projections. These forward-looking statements are based on management’s current expectations and beliefs, forecasts for our existing operations, experience, expectations and perception of historical trends, current conditions, anticipated future developments and their effect on us, and other factors believed to be appropriate. Although management believes the expectations and assumptions reflected in these forward-looking statements are reasonable as and when made, no assurance can be given that these assumptions are accurate or that any of these expectations will be achieved (in full or at all). Our forward-looking statements involve significant risks, contingencies and uncertainties, most of which are difficult to predict and many of which are beyond our control. Known material factors that could cause actual results to differ materially from those in the forward-looking statements include, but are not limited to, the following:

Should one or more of the factors, risks or uncertainties described above materialize (or the other consequences of such a development worsen), or should underlying assumptions prove incorrect, actual results and plans could differ materially from those expressed in any forward-looking statements. You are cautioned not to place undue reliance on these statements, which speak only as of the date of this Report.

PART I

Item 1. Business

General

Throughout this report, we refer to Aly Energy Services, Inc., together with its subsidiaries, as “we,” “our”, “us,” “Aly Energy” or “the Company.” References to financial results and operations of the Company are limited to continuing operations unless otherwise specified.

We provide a variety of oilfield services to owners and operators of oil and gas wells. Generally, these services fall within the category of surface rental equipment or solids control services.

On July 17, 2012, Munawar “Micki” Hidayatallah founded Aly Energy with the strategic objective of creating an oilfield services company that serves exploration and production companies from well planning to plug and abandonment. We have grown our business both through organic growth resulting from investment in existing operations and through the strategic acquisition of certain businesses operating in our industry.

To date, we have acquired three businesses:

Business Outlook

Our core businesses depend on our customers’ willingness to make expenditures to produce, develop and explore for oil and natural gas. Industry conditions are influenced by numerous factors, such as oil and natural gas prices, the supply of and demand for oil and natural gas, domestic and worldwide economic conditions, political instability in oil producing countries and available supply of and demand for the services we provide. Oil and natural gas prices began a rapid and substantial decline in the fourth quarter of 2014. Depressed commodity price conditions persisted and worsened during 2015 and that trend continued into 2016. As a result, the rig count and demand for our products and services declined substantially, and the prices we are able to charge our customers for our products and services have also declined substantially. While we have reshaped our organizational and cost structure to mitigate the negative impact of these declines and to improve our ability to react to future declines, we continued to experience negative operating results and cash flows from operations through 2016.

Oil prices have improved off the low point of 2016 with the November 2016 decision by OPEC to curtail the cartel’s oil production, the Baker Hughes U.S. land drilling rig count has increased significantly from its low point in mid-2016, and our revenue has improved substantially during the first six months of 2017. We believe that stability in oil prices at an attractive price to our customers coupled with the increases in drilling activity during the first half of 2017 will result in further increases in demand for our services and will provide us opportunities to increase the price of our products and services, particularly in 2018. However, with increased demand for oilfield services broadly, the demand for qualified employees and the demand for the sub-rental equipment we require to increase our activity will increase and we may experience increases in costs which we cannot completely offset with price increases to our customers. As of June 30, 2017, based on our expectations of improved activity levels and pricing throughout the remainder of 2017 and 2018, we believe that we will be able to service our debt obligations and ongoing operations through operating cash flow and, if necessary, availability under our credit facility.

Operational Restructuring

Our activity is tied directly to the rig count and, even though we instituted significant cost cutting measures beginning in 2015, we were unable to cut costs enough to match the decline in our business. As a result, as of December 31, 2015, we were in default of our credit agreement with Wells Fargo Bank, National Association (“Wells Fargo”).

Throughout 2015, in an effort to mitigate the significant declines in pricing and utilization of our equipment, we committed to a reorganization initiative to strengthen our sales and marketing efforts, consolidate support functions, and operate more efficiently. The reorganization effort included, but was not limited to, training our salesforce to enable the cross-selling of our product lines in certain geographical markets, sharing a common support services infrastructure across all reporting units, reducing headcount and wage rates, and rebranding and launching a new web site to increase awareness of our service lines. We recognized some benefit from these measures in late 2015 resulting in increased gross margins and lower selling, general and administrative expenses when compared to the first half of 2015.

During the year ended December 31, 2016, we entered into a series of forbearance agreements with our lender. Under the forbearance agreements, among other provisions, the lenders agreed to forbear from exercising their remedies under the credit agreement. These forbearance agreements permitted us to operate within the parameters of our normal course of business despite the continuing default under the credit agreement. Without these forbearance agreements, our outstanding debt would have been immediately due and payable. Throughout 2016, we remained in default and we did not have sufficient liquidity to repay all of the outstanding debt to the lender at any point during the year ($20.1 million as of December 31, 2015). As such, we may have been forced to file for protection under Chapter 11 of the U.S. Bankruptcy Code.

In early 2016, we were hopeful that a successful operational restructuring would facilitate negotiations to modify the terms of our existing credit facility with Wells Fargo. Our operational restructuring in 2016 consisted of severe cost cuts which were incremental to the year-over-year cost cuts already achieved in 2015 when compared to 2014. In 2016, significant cost savings were primarily generated by:

We also achieved significant cost savings from the decrease in third party costs, such as sub-rental equipment and trucking, and other variable costs which declined with the decrease in activity.

In order to further support our working capital needs, we identified and sold idle and underutilized assets. During 2016, we realized aggregate proceeds from sales of approximately $0.8 million of which $0.5 million and $0.3 million was used to fund working capital needs and pay down debt, respectively (see “Note 4 – Reduction in Value of Assets and Other Charges” in the notes to our consolidated financial statements).

Capital Restructuring

Despite our successful operational restructuring efforts, particularly during the first half of 2016, the decline in our activity levels and the declines in customer pricing outpaced the impact of our cost reductions and it became evident that a capital restructuring would also be necessary to continue operations and position our business for an industry turnaround.

In the second quarter of 2016, certain of the Company’s principal stockholders (“Shareholder Group”) began negotiations with Wells Fargo with the objective of consummating a recapitalization transaction (the “Recapitalization”) whereby our obligations under the credit agreement and the outstanding capital leases in favor of Wells Fargo’s equipment finance affiliate and certain other obligations of Aly Energy (collectively the “Aly Senior Obligations”) would be restructured. In August 2016, the Shareholder Group was introduced to a third party, Tiger Finance, LLC (“Tiger”), to provide bridge financing and to extend forbearance until such date as sufficient capital could be raised to complete the Recapitalization.

In September 2016, the Shareholder Group formed Permian Pelican, LLC (“Pelican”) with the objective of raising capital and executing the steps necessary to complete the restructuring, inclusive of successfully effecting the exchange of the Aly Operating redeemable preferred stock, Aly Centrifuge redeemable preferred stock, Aly Centrifuge subordinated debt and liability for a contingent payment into approximately 10% of our common stock on a fully diluted basis.

Effective January 31, 2017, the Recapitalization was completed through the execution and delivery of a Securities Exchange Agreement and a Second Amended and Restated Credit Agreement. As a result of the Recapitalization, the Company became a “Controlled Company” as defined under the listing standards of the principal national securities exchanges; however, since the Shareholder Group’s proportionate interest did not change significantly, a change in control did not occur and the transaction was accounted for at historical cost.

As a result of the Recapitalization, the credit facility, now with Pelican, consisted of a term loan of $5.1 million and a revolving credit facility of up to $1.0 million as of January 31, 2017. Availability under the revolving credit facility is determined by a borrowing base calculated as 80% of eligible receivables (receivables less than 90 days old).

Subsequent to the Recapitalization, we entered into several further amendments to capitalize on improved market conditions and increased activity in our business:

To the extent there is free cash flow as defined in the credit agreement, principal payments of 50% of such free cash flow are due annually. The maturity date of all remaining outstanding balances under the credit facility is December 31, 2019.

The obligations under the credit facility are guaranteed by all of our subsidiaries and secured by substantially all of our assets. The credit agreement contains customary events of default and covenants including restrictions on our ability to incur additional indebtedness, make capital expenditures, pay dividends or make other distributions, grant liens and sell assets. The credit facility does not include any financial covenants. We are in full compliance with the credit facility as of June 30, 2017.

As of June 30, 2017, there were outstanding borrowings of $5.0 million, $0.8 million, and $0.3 million on the term loan, revolving credit facility, and delayed draw term loan, respectively. As of June 30, 2017, we have the availability to borrow an incremental $0.2 million under the revolving credit facility and, if we have capital expenditures which are eligible to be financed, an incremental $1.0 million under the delayed draw term loan to finance 90% of such expenditures.

For a discussion of the accounting treatment for the Recapitalization, see “Note 2 – Recent Developments” in the notes to our consolidated financial statements included elsewhere in this document.

Strategy

Since 2012, we have made significant investments to expand operations and capitalize on organic growth opportunities in existing and expansion markets. We consistently seek opportunities to bundle product offerings and to cross sell services across markets and product lines, which we believe increases client retention and the utilization of our equipment.

Our growth strategy focuses on pursuing organic growth and, when capital resources are available, acquiring existing businesses. The strategy consists of the following elements:

Products and Services

We are a provider of solids control systems and surface rental equipment. Our equipment and services are primarily designed for and used in land-based horizontal drilling. Our equipment includes centrifuges and auxiliary solids control equipment, mud circulating tanks (400 and 500 barrel capacity) and auxiliary surface rental equipment (e.g. portable mud mixing plants, and containment systems). In conjunction with the rental of some of our solids control packages, we provide personnel at the customer’s well site to operate our equipment. We also provide personnel to rig-up/rig-down and haul our equipment to and from the customer’s location.

Our Rental Products:

Centrifuges: We currently own approximately 54 centrifuges. We provide two different sizes of centrifuges to meet varying client specifications (i.e. SS1000 and SS2000). We believe our centrifuges provide a competitive advantage because the rotating assembly within each centrifuge can be removed and replaced on a customer’s well site within 45 minutes if it fails thereby minimizing downtime.

Mud Circulating Tanks (“MCTs”): We currently own approximately 60 vertical 400-barrel MCTs and approximately 125 500-barrel MCTs. We developed vertical 400-barrel MCTs as an innovative solution that minimizes location size, which we believe is an attractive feature for customers. The majority of our 500-barrel MCTs are highly mobile with rounded bottoms and customized jet-lines to ensure more consistent mud and easier cleanout at the completion of a job. In addition to the 500-barrel MCTs we own, we sub-rent 500-barrel MCTs (approximately 235 sub-rented as of June 30, 2017) in order to satisfy demand for our services. MCTs are typically rented to customers with auxiliary equipment such as diesel or electric mud pumps, hoses, and wooden mats.

Mud Mixing Plants (“MMPs”): We own 9 MMPs ranging in size from 100-barrel capacity to 500-barrel capacity. We believe that the large 400-barrel and 500-barrel capacity MMPs, which are designed and fabricated in-house, are unique and offer significant advantages to our customers.

Containment Systems: Containment systems consist of berms and plastic linings constructed to ensure that all products and chemicals present on the well site, particularly those which might be environmentally undesirable if spilled, are contained. We believe the demand for containment systems will continue to increase as environmental regulations tighten.

Solids control equipment rental: We provide a variety of solids control equipment used in and critical to wellsite activities including shakers, vertical dryers, waste removal units, and/or various tanks.

Our Service Offerings Which Include Personnel:

Solids Control Services: When a customer’s solids control operations are complex, we provide operators on-site 24 hours a day at an additional day rate. In these instances, we typically rent a full package of solids control equipment to the customer, which may include two centrifuges, shakers, vertical dryers, waste removal units, and/or various tanks.

Hauling of Equipment and Rig-Up/Rig-Down Services: We offer hauling of our rental equipment to the well site and rig-up/rig-down of such equipment.

Fabricating Capabilities

We fabricate certain equipment in our rental fleet, including 400-barrel MCTs and MMPs. Fabrication primarily takes place in our facility in Giddings, Texas. Items fabricated in-house are typically unique and we believe our ability to fabricate such products in-house provides us with cost efficiencies that result in a competitive advantage.

Geographic Markets

We operate primarily in Texas (West Texas and South Texas), Oklahoma, New Mexico, and Louisiana.

Competition

We experience significant competition in our business. The markets in which we operate are highly fragmented and there are a large number of companies in these markets offering rental equipment and services that overlap with our offerings. We believe the principal differentiators among competitors in the sectors and markets in which we operate are safety record, service quality, existence of unique attributes of equipment that benefit the customer, customer relationships, response time and price.

The level of our revenue, earnings and cash flows are substantially dependent upon, and affected by, the level of U.S. oil and natural gas exploration, development and production activity, as well as the equipment capacity in any particular region.

Customers

We provide equipment and services to several well-known, established operators, such as EOG Resources, Inc., Pioneer Natural Resources, Sanchez Oil and Gas Corporation, Encana, Continental Resources, Inc. and Devon Energy Corporation.

For the years ended December 31, 2016 and 2015, our top three customers represented approximately 43.5% and 35.4% of total revenue, respectively.

If we are unable to continue to provide services to our top three existing customers and sales to new or other existing customers do not increase sufficiently, our business and operations could be materially adversely affected.

Raw Materials

We purchase a wide variety of raw materials, parts and components that are made by other manufacturers and suppliers for our use. We are not dependent on any single source of supply for those parts, supplies or materials.

Safety

Our record and reputation for safety is important to all aspects of our business. In the oilfield services industry, an important competitive factor in establishing and maintaining long-term customer relationships is having an experienced, skilled and well-trained work force. In recent years, many of our larger customers have placed an added emphasis on the safety records and quality management systems of their vendors.

We commit substantial resources toward employee safety and quality management. We believe our policies and procedures provide a solid framework to ensure our employees minimize the hazards inherent in our work environment, meet regulatory requirements and exceed customer expectations.

Employees

As of July 24, 2017, we employed approximately 50 individuals. The corporate cost center employs four individuals, including the chairman, the chief executive officer, the chief operating officer and the chief financial officer, approximately 40 individuals work primarily in the field, and the remaining employees provide selling, general, and administrative services. We believe we have good relationships with our employees.

Seasonality

We have historically experienced a slowdown during the Thanksgiving and Christmas holiday seasons and demand in the fourth quarter sometimes slows during this period as our customers exhaust their annual spending budgets.

Intangibles

We are not dependent on any significant patents, trademarks, licenses, franchises, concessions, royalty agreements or labor contracts. In the last two years, we have not spent or incurred a material amount on research and development activities.

Governmental Regulation

Our business is impacted by federal, state and local laws and other regulations relating to the oil and natural gas industry, as well as laws and regulations relating to worker safety and environmental protection. We cannot predict the level of enforcement of existing laws and regulations or how such laws and regulations may be interpreted by enforcement agencies or court rulings, whether additional laws and regulations will be adopted, or the effect such changes may have on us, our business or financial condition.

In addition, our customers are impacted by laws and regulations relating to the exploration for and production of natural resources such as oil and natural gas. These regulations are subject to change, and new regulations may curtail or eliminate our customers’ activities in certain areas where we currently operate. We cannot determine the extent to which new legislation may impact our customers’ activity levels, and ultimately, the demand for our services.

Environmental Matters

Our operations, and those of our customers, are subject to extensive laws, regulations and treaties relating to air and water quality, generation, storage and handling of hazardous materials, and emission and discharge of materials into the environment. We believe we are in substantial compliance with all regulations affecting our business. Historically, our expenditures in furtherance of our compliance with these laws, regulations and treaties have not been material, and we do not expect the cost of compliance to be material in the future.

Access to Company Reports

We make available, free of charge, on our website, www.alyenergy.com, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports on the same day as they are filed with the Securities and Exchange Commission.

Item 1A. Risk Factors

We face numerous risk factors. The following list contains risk factors that we believe are significant to our current and future operations. Additional risk factors that are either not known by us or that we currently deem immaterial may also impact our current and future operating results and financial condition.

Risks Related to Our Business

Our business depends on domestic drilling activity and spending by the oil and natural gas industry in the United States. From late 2014 through most of 2016, our business was severely negatively affected by the significant and rapid decline in domestic drilling activity. We may be adversely affected by industry conditions that are beyond our control in 2017 and beyond.

We depend on our customers’ willingness to make expenditures to explore for and to develop and produce oil and natural gas in the United States. Our customers’ willingness to undertake these activities depends largely upon prevailing industry conditions that are influenced by numerous factors over which management has no control, such as:

Current and anticipated oil and natural gas prices, the related level of drilling activity, and general production spending in the areas in which we have operations are the primary drivers of demand for our services. The level of oil and natural gas exploration and production activity in the United States is volatile and this volatility could have a material adverse effect on the level of activity by our customers. A reduction by our customers of activity levels from late 2014 through most of 2016 has caused and may continue to cause a decline in the demand for our services and has adversely affected and may continue to adversely affect the prices that we can charge or collect for our services. In addition, any prolonged substantial reduction in oil and natural gas prices would likely affect oil and natural gas production levels and, therefore, affect demand for the services we provide. Moreover, a decrease in the development rate of oil and natural gas reserves in our market areas, whether due to increased governmental regulation of or limitations on exploration and drilling activity or other factors, may also have an adverse impact on our business, even in an environment of stronger oil and natural gas prices.

From the second half of 2014 through most of 2016, oil prices declined dramatically resulting in a significant reduction in the land-based drilling rig count in the United States. Our customers have sought and received significant price reductions from us and our competitors in 2014, 2015 and 2016, which has materially adversely affected our financial results. Although we believe some oil and natural gas exploration and production companies, including our customers, are beginning to increase their drilling-related capital budgets in 2017, the timing and magnitude of a beneficial impact, if any, from this increase is highly uncertain.

Competition within the oilfield services industry may adversely affect our ability to market our services.

The oilfield services industry is competitive and fragmented and includes numerous small companies capable of competing in our markets on a local basis as well as several large companies that possess substantially greater financial and other resources than us. Some of our competitors hold significant market share in the markets in which we operate, which may make it difficult for us to successfully sell competing products and services. Our larger competitors may have greater resources which could allow them to compete more effectively than us and they may benefit from economies of scale which enable them to offer products and services at a lower cost than us. Our operations may be adversely affected if our current competitors or new market entrants introduce new products or services with better features, performance, prices or other characteristics, or that better address environmental concerns, than our products and services. Competitive pressures also may result in significant price competition that could have a material adverse effect on our results of operations and financial condition.

We operate in a highly competitive industry, with intense price competition, which may intensify as our competitors expand their operations.

The market for oilfield services in which we operate is highly competitive and includes numerous small companies capable of competing effectively in our markets on a local basis, as well as several large companies that possess substantially greater financial resources than we do. Contracts are traditionally awarded on the basis of competitive bids or direct negotiations with customers. The principal competitive factors in our markets are product and service quality and availability, responsiveness, experience, equipment quality, reputation for safety and price. The competitive environment has intensified as recent mergers among exploration and production companies have reduced the number of available customers. The fact that drilling rigs and other vehicles and oilfield services equipment are mobile and can be moved from one market to another in response to market conditions heightens the competition in the industry. We may be competing for work against competitors that may be better able to withstand industry downturns and may be better suited to compete on the basis of price, retain skilled personnel and acquire new equipment and technologies, all of which could affect our revenue and profitability.

We may be unable to implement price increases or maintain existing prices on our core services.

We periodically seek to increase the prices of our services to offset rising costs and to generate higher returns for our stockholders. Currently, the prices we are able to charge for our services and the demand for such services are severely depressed. Even when industry conditions are favorable, we operate in a very competitive industry and, as a result, we are not always successful in raising, or maintaining, our existing prices. Additionally, during periods of increased market demand, a significant amount of new surface rental and solids control equipment may enter the market, which also puts pressure on the pricing of our services and limits our ability to increase or maintain prices. Furthermore, during periods of declining pricing for our services, we may not be able to reduce our costs accordingly, which could further adversely affect our profitability. Even when we are able to increase our prices, we may not be able to do so at a rate that is sufficient to offset such rising costs. In periods of high demand for oilfield services, a tighter labor market may result in higher labor costs. During such periods, our labor costs could increase at a greater rate than our ability to raise prices for our services. Also, we may not be able to successfully increase prices without adversely affecting our activity levels. The inability to maintain our prices or to increase our prices as costs increase could have a material adverse effect on our business, financial position and results of operations.

Increased prices charged by manufacturers of our products and/or interruptions in deliveries of products could adversely affect our profitability, margins, and revenue.

We depend upon a number of vendors for supplies and equipment. Increased prices charged by our manufacturers could materially and adversely impact our results of operations. In addition, interruptions or a work stoppage by our manufacturers could adversely affect our operations until arrangements with alternate suppliers could be made. Such alternate arrangements may be less favorable to us and could further adversely affect our results of operations.

We may not be able to grow successfully through future acquisitions or to integrate the businesses we do acquire effectively.

Our long-term business strategy includes growth through the acquisition of other businesses. However, we may not be able to identify attractive acquisition opportunities or successfully acquire identified targets on terms favorable to us in 2017 and beyond. Competition for acquisition opportunities may be substantial and may cause us to refrain from making acquisitions. In addition, we may not be successful in integrating future acquisitions into our existing operations, which may result in unforeseen operational difficulties, diminished financial performance or our inability to report financial results and may require a disproportionate amount of our management’s attention. If we fail to manage future acquisitions effectively, our results of operations could be adversely affected.

Acquisitions that we complete could present a number of risks, including but not limited to:

We may not realize the anticipated benefits of acquisitions or divestitures.

We continually seek opportunities to increase efficiency and value through various transactions, including purchases or sales of assets or businesses. These transactions are intended to result in the offering of new services or products, the entry into new markets, the generation of income or cash, the creation of efficiencies or the reduction of risk. Whether we realize the anticipated benefits from an acquisition or any other transactions depends, in part, upon our ability to timely and efficiently integrate the operations of the acquired business, the performance of the underlying product and service portfolio, and the management team and other personnel of the acquired operations. Accordingly, our financial results could be adversely affected from unanticipated performance issues, legacy liabilities, transaction-related charges, amortization of expenses related to intangibles, charges for impairment of long-term assets, credit guarantees, partner performance and indemnifications. In addition, the financing of any future acquisition completed by us could adversely impact our capital structure or increase our leverage. While we believe that we have established appropriate and adequate procedures and processes to mitigate these risks, there is no assurance that these transactions will be successful. We also may make strategic divestitures from time to time. These transactions may result in continued financial involvement in the divested businesses, such as guarantees or other financial arrangements, following the transaction. Nonperformance by those divested businesses could affect our future financial results through additional payment obligations, higher costs or asset write-downs. Except as required by law or applicable securities exchange listing standards, we do not expect to ask our shareholders to vote on any proposed acquisition or divestiture. Moreover, we generally do not announce our acquisitions or divestitures until we have entered into a preliminary or definitive agreement.

We may require additional capital in the future, which may not be available to us or the terms of such financings may negatively impact our business.

We may need to raise additional funds through debt or equity financings. Adequate funds may not be available when needed or may not be available on favorable terms. If funding is insufficient at any time in the future, we may be unable to support and grow our ongoing operations, meet our debt obligations, fund acquisitions, take advantage of business opportunities or respond to competitive pressures, any of which could materially and adversely affect our business.

Existing and future debt service requirements may impose a significant burden on us, which may adversely affect our results of operations and financial condition. In the future, we may incur debt which requires us to meet or maintain certain financial ratios, which could limit our flexibility and adversely affect our business.

Our near-term capital requirements will primarily depend on our ability to maintain adequate working capital levels and to maintain and refurbish our equipment fleet. Future capital requirements will primarily depend on the frequency, timing, size and success of future equipment purchases and business acquisitions.

We depend on significant customers for a substantial portion of our revenue.

We derive a significant amount of our revenue from exploration and production companies and drilling contractors that are active in our markets. For the year ended December 31, 2016, our top three customers accounted for approximately 43.5% of total revenue. If we fail to retain a number of our large existing customers or if we incur significant price reductions in order to retain the business of key customers, our business and operations could be adversely affected. Moreover, if any of these customers fails to remain competitive in their respective markets, encounters financial or operational problems or consolidates with a third party, our revenue and profitability may decline.

We are subject to the credit risk of our customers.

We provide credit to our customers in the normal course of business and generally do not require collateral in extending such credit. This exposure, coupled with material instances of default, could have an adverse effect on our business, financial condition, results of operations and cash flows. In addition, we may need to undertake collection efforts that could cause our business from certain customers to decline, or the collection of certain receivables could become impossible, requiring us to write them off. The current oilfield industry conditions are resulting in an increased number of bankruptcies among companies that could use our services, which may impact the demand for our services.

Historically, we have experienced a high employee turnover rate. Any difficulty we experience replacing or adding workers could adversely affect our business.

We believe that the high turnover rate in our industry is attributable to the nature of oilfield services work, which is physically demanding and performed outdoors. As a result, workers may choose to pursue employment in fields that offer a more desirable work environment at wage rates that are competitive with ours. The potential inability or lack of desire by workers to commute to our facilities and job sites, as well as the competition for workers from competitors or other industries, are factors that could negatively affect our ability to attract and retain workers. We may not be able to recruit, train and retain an adequate number of workers to replace departing workers. The inability to maintain an adequate workforce could have a material adverse effect on our business, financial condition and results of operations.

If we are unable to attract and retain senior management, qualified sales personnel, and a sufficient number of field personnel, our operations, financial condition and prospects will be materially adversely affected.

Our future success depends in part on the contributions of our existing management team and key personnel and on our ability to attract and retain qualified new personnel. We cannot assure you that we will be able to retain our key senior managerial and sales personnel or that we will be able to attract, integrate and retain other such personnel that we may require in the future. If we are unable to attract and retain key personnel in the future, our business, operations, financial condition, results of operations and prospects could be materially adversely affected.

Companies in our industry, including us, are dependent upon the available labor pool of skilled employees. We compete with other oilfield services businesses and other employers to attract and retain qualified personnel with the technical skills and experience required to provide our customers with the highest quality service. We are also subject to the Fair Labor Standards Act, which governs such matters as minimum wage, overtime and other working conditions, and which can increase our labor costs or subject us to liabilities to our employees. A shortage in the labor pool of skilled workers or other general inflationary pressures or changes in applicable laws and regulations could make it more difficult for us to attract and retain personnel and could require us to enhance our wage and benefits packages. Labor costs may increase in the future or we may not be able to reduce wages when demand and pricing falls, and such changes could have a material adverse effect on our business, financial condition and results of operations.

Our future financial results could be adversely impacted by the further reduction in value of our assets or other charges.

We have recorded reductions in the value of our assets in the past. We periodically evaluate our long-lived assets, including our property and equipment, intangible assets, and goodwill for impairment. In performing these assessments, we project future cash flows on a discounted basis for goodwill, and on an undiscounted basis for other long-lived assets, and compare these cash flows to the carrying amount of the related assets. These cash flow projections are based on our current operating plans, estimates and other judgmental assumptions. We perform the assessment of potential impairment for our property and equipment whenever facts and circumstances indicate that the carrying value of those assets may not be recoverable due to various external or internal factors. If conditions in our industry do not improve or worsen, we could record additional impairment charges in future periods, which could have a material adverse effect on our financial position and results of operations. These cash flow projections are based on our current operating plans, estimates and judgmental assumptions. During 2016 and 2015, our continuing operations recorded $17.7 million and $11.4 million respectively, in a reduction in value of assets and, if conditions in our industry worsen or do not improve, we may record additional impairment charges in future periods, which could have a material adverse effect on our financial position and results of operations.

Severe weather could have a material adverse effect on our business.

Our business could be materially and adversely affected by severe weather. Our customers’ oil and natural gas operations located in Louisiana and parts of Texas may be adversely affected by hurricanes and tropical storms, resulting in reduced demand for our services. Furthermore, our customers’ operations may be adversely affected by seasonal weather conditions. Adverse weather can also directly impede our own operations. Repercussions of severe weather conditions may include:

These constraints could delay our operations and materially increase our operating and capital costs. Unusually warm winters may also adversely affect the demand for our services by decreasing the demand for natural gas.

Our operations are subject to hazards inherent in the oil and natural gas industry.

The operational risks inherent in our industry could expose us to substantial liability for personal injury, wrongful death, property damage, loss of oil and natural gas production, pollution and other environmental damages. The frequency and severity of such incidents will affect our operating costs, insurability and relationships with customers, employees and regulators. In particular, our customers may elect not to retain our services if they view our safety record as unacceptable, which could cause us to lose substantial revenue.

We do not have insurance against all foreseeable risks, either because insurance is not available or because of the high premium costs. We evaluate certain of our risks and insurance coverage annually. After carefully weighing the costs, risks, and benefits of retaining versus insuring various risks, we occasionally opt to retain certain risks not covered by our insurance policies. The occurrence of an event not fully insured against, or the failure of an insurer to meet its insurance obligations, could result in substantial losses. In addition, we may not be able to maintain adequate insurance in the future at rates we consider reasonable and there can be no assurance that insurance will be available to cover any or all of these risks, or, even if available, that it will be adequate or that insurance premiums or other costs will not rise significantly in the future, so as to make such insurance costs prohibitive. In addition, our insurance is subject to coverage limits and some policies exclude coverage for damages resulting from environmental contamination.

We are subject to federal, state and local regulation regarding issues of health, safety and protection of the environment. Under these regulations, we may become liable for penalties, damages or costs of remediation. Any changes in laws and government regulations could increase our costs of doing business.

Our operations and the operations of our customers are subject to extensive and frequently changing regulation. More stringent legislation or regulation or taxation of drilling activity could directly curtail such activity or increase the cost of drilling, resulting in reduced levels of drilling activity and therefore reduced demand for our services. Numerous federal, state and local departments and agencies are authorized by statute to issue, and have issued, rules and regulations binding upon participants in the oil and gas industry. Our operations and the markets in which we participate are affected by these laws and regulations and may be affected by changes to such laws and regulations in the future, which may cause us to incur materially increased operating costs or realize materially lower revenue, or both.

Laws protecting the environment generally have become more stringent over time and are expected to continue to do so, which could lead to material increases in costs for future environmental compliance and remediation. The modification or interpretation of existing laws or regulations, or the adoption of new laws or regulations, could curtail exploratory or developmental drilling for oil and natural gas and could limit well site services opportunities. Additionally, environmental groups have advocated increased regulation in certain areas in which we currently operate or in which we may operate in the future. These initiatives could lead to more stringent permitting requirements, increased regulation, possible enforcement actions against the regulated community, and a moratorium or delays on permitting, which could adversely affect our well site service opportunities.

Some environmental laws and regulations may impose strict liability, which means that in some situations we could be exposed to liability as a result of our conduct that was lawful at the time it occurred as a result of conduct of, or conditions caused by, prior operators or other third parties. Clean-up costs and other damages, arising as a result of environmental laws, and costs associated with changes in environmental laws and regulations could be substantial and could have a material adverse effect on our financial condition. In addition, the occurrence of a significant event not fully insured or indemnified against could have a material adverse effect on our financial condition and operations.

Increased regulation of hydraulic fracturing could result in reductions or delays in oil and gas production by our customers, which could adversely impact our revenue.

A significant portion of our customers’ oil and gas production is developed from unconventional sources, such as shales, that require hydraulic fracturing as part of the completion process. Hydraulic fracturing involves the injection of water, sand and chemicals under pressure into the formation to stimulate gas production. We do not engage in any hydraulic fracturing activities although many of our customers do. If additional levels of regulation and permits were required through the adoption of new laws and regulations at the federal or state level that could lead to delays, increased operating costs and prohibitions for our customers, such regulations could reduce demand for our services and materially adversely affect our results of operations.

Climate change legislation, regulatory initiatives and litigation could result in increased operating costs and reduced demand for the services we provide.

In recent years, the U.S. Congress has considered legislation to restrict or regulate emissions of greenhouse gases, or GHGs, such as carbon dioxide and methane that may be contributing to global warming. In addition, almost half of the states, either individually or through multi-state regional initiatives, have begun to address GHG emissions, primarily through the planned development of emission inventories or regional GHG cap and trade programs.

Although it is not possible at this time to accurately estimate how potential future laws or regulations addressing GHG emissions would impact our business, either directly or indirectly, any future federal or state laws or implementing regulations that may be adopted to address GHG emissions could require us to incur increased operating costs and could adversely affect demand for the natural gas our customers extract using our services. Moreover, incentives to conserve energy or use alternative energy sources could reduce demand for oil and natural gas, resulting in a decrease in demand for our services. We cannot predict with any certainty at this time how these possibilities may affect our operations.

We may be subject to litigation, which, if adversely determined, could result in substantial losses.

We may be, from time-to-time, during the ordinary course of business, subject to various litigation claims and legal disputes, including contract, lease, employment, and regulatory claims. Certain litigation claims may not be covered entirely or at all by our insurance policies or our insurance carriers may seek to deny coverage or impose significant deductibles. In addition, litigation claims can be expensive to defend and may divert our attention from the operations of our business. Further, litigation, even if without merit, can attract adverse media attention. As a result, litigation can have a material adverse effect on our business, financial condition, results of operations, and cash flows and, because we cannot predict the outcome of any action, it is possible that adverse judgments or settlements could significantly reduce our earnings or result in losses.

Governmental taxation policies could adversely affect our business, financial condition, and results of operations.

Substantive changes in federal and state tax laws could materially and adversely affect our results of operations. In addition, the final determination of our income tax liabilities involves the interpretation of various federal and state laws and regulations, as well as the significant use of estimates and assumptions regarding the scope of past, current and future operations and results achieved and the timing and nature of income earned and expenditures incurred. Changes in the operating environment, including changes in or interpretation of tax law and currency/repatriation controls, could affect the determination of our income tax liabilities for a tax year.

If we fail to maintain an effective system of internal control over financial reporting, we may be unable to accurately report our financial results or prevent fraud, and investor confidence in our company and the market price of our common stock may be adversely affected.

Our reporting obligations as a public company place a significant strain on our management, operational and financial resources and systems. We may experience difficulty in maintaining management, legal and financial controls, collecting financial data and preparing financial statements, books of account and corporate records and instituting business practices required for us as a publicly traded and reporting company. It may be difficult to design and implement effective internal control over financial reporting for combined operations following the addition of other businesses which we may acquire in the future. In addition, differences in existing controls of acquired businesses may result in weaknesses that require remediation when internal controls over financial reporting are combined.

As directed by Section 404 of the Sarbanes-Oxley Act of 2002, we would be required to include a report from management on the effectiveness of our internal control over financial reporting in our annual reports once we ceased to be a “smaller reporting company” under applicable SEC rules. Although we are not required to assess internal control over financial reporting, we have included such report in this filing.

In connection with our report from management on the effectiveness of our internal control over financial reporting, management identified certain control deficiencies that represent material weaknesses as of December 31, 2016. Due to these material weaknesses, our management has concluded that our internal control over financial reporting is not effective. This conclusion could adversely impact the market price of our common stock due to a loss of investor confidence in the reliability of our reporting processes.

Risks Related to Debt

Our indebtedness, which is currently collateralized by substantially all of our assets, could restrict our operations and make us more vulnerable to adverse economic conditions.

Our credit agreement with Pelican, and any replacement or future indebtedness, could have important consequences to our stockholders. For example, it could:

We may not be able to generate sufficient cash flow to meet our debt service and other obligations.

Our ability to make payments on our indebtedness and fund planned capital expenditures depends on our ability to generate cash flow. Due to the cyclical nature of the industry we operate in, our cash flow from operations can vary significantly from year to year. Consequently, our cash flow may be insufficient to service our debt and that could negatively impact our business, financial condition and results of operations. During 2015 and 2016, our cash flow from operations was not sufficient to service our debt based upon how our credit agreement was structured at the time.

During fiscal year 2016, we had negative cash flows from operations, and this trend could continue if conditions in our industry continue or worsen. If that situation were to recur, we might need to sell assets, seek additional equity or change our business direction to service our debt and there can be no assurance that we could execute these actions in a timely manner sufficient to allow us to service our debt.

Our variable rate indebtedness subjects us to interest rate risk, which could cause our debt service obligations to increase significantly.

Borrowings under our credit agreement with Pelican bear interest at variable rates, exposing us to interest rate risk. We have decided not to hedge against the interest rate risk associated with the borrowings under our credit facility. As such, our debt service obligations could increase significantly in the event of large increases in interest rates.

Risks Related to Ownership of our Common Stock

The concentration of our capital stock ownership limits the ability of other stockholders to influence corporate matters.

As a result of the Recapitalization, Pelican owns 100% of our outstanding Series A Convertible Preferred Stock, which represents the substantial majority of our fully diluted capital stock. Pelican further owns virtually all of our secured debt, which aggregated to $20.2 million and $6.1 million as of December 31, 2016 and June 30, 2017, respectively. This significant concentration of share ownership may adversely affect the trading price for our common stock because investors often perceive disadvantages in owning stock in companies with controlling stockholders. Also, subject to certain SEC regulations and if Pelican were to convert the preferred stock, Pelican could begin selling shares of our common stock. These sales, or the market perception that the holders of a large number of shares intend to sell shares, could reduce the market price of our common stock.

In addition, Pelican will be able to control our management and affairs and matters requiring stockholder approval, including the election of directors and the approval of significant corporate transactions, such as mergers, consolidations or the sale of substantially all of our assets. Consequently, this concentration of ownership will have the effect of delaying or preventing a change of control, including a merger, consolidation or other business combination involving us, or discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control, even if that change of control would benefit our other stockholders.

As a “controlled company” under the rules of the national securities exchanges, our stockholders will not have all of the corporate governance protections customarily available to stockholders of other publicly held companies.

A company in which over 50% of the voting power is held by a single company qualifies as a “controlled company” under the listing standards of the principal national securities exchanges and, as such, is exempt from compliance with certain corporate governance requirements generally applicable to publicly traded companies. In the event that we are able to cause our common stock to be listed by a national securities exchange, we will be entitled, and would intend, to qualify as a “controlled company” under those listing standards. As such, we would be exempt from compliance with requirements that (1) a majority of our Board of Directors consist of independent directors, (2) we have a nominating/corporate governance committee that is composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities, (3) we have a compensation committee that is composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities and (4) we perform an annual performance evaluation of the nominating/corporate governance committee and compensation committee. We would intend to utilize these exemptions while we are a controlled company. As a result, we will not have a majority of independent directors nor will we establish a nominating and corporate governance committee or a compensation committee. Accordingly, our stockholders will not have all of the corporate governance protections that are customarily available to stockholders of publicly held companies which are not “controlled companies.”

The Recapitalization resulted in substantial dilution to our stockholders, and future issuances will result in additional dilution.

Consummation of the Recapitalization resulted in substantial dilution to our existing stockholders, whose aggregate percentage ownership declined from 100% to 9.9%. Further, we may need to raise significant additional funds through equity financings to repay debt, to expand our operations or to execute our acquisition strategy. Holders of our common stock could experience substantial dilution if we issue additional capital stock in the future. Our future capital requirements will primarily depend on our ability to service our debt from operating cash flow and the frequency, timing, and size of future growth opportunities.

Certain provisions of our corporate documents and Delaware law, as well as change of control provisions in our debt agreements, could delay or prevent a change of control, even if that change would be beneficial to stockholders, or could have a material negative impact on our business.

Certain provisions in our certificate of incorporation, bylaws and debt agreements may have the effect of deterring transactions involving a change in control, including transactions in which stockholders might receive a premium for their shares.

In addition to the risks of having a controlling stockholder as described in the risk factor “The concentration of our capital stock ownership limits the ability of other stockholders to influence corporate matters,” our certificate of incorporation provides authorization to issue up to 10,000,000 shares of preferred stock with such designations, rights and preferences as may be determined from time to time by our board of directors. The authorization of preferred shares empowers our board, without further stockholder approval, to issue preferred shares with dividend, liquidation, conversion, voting or other rights which could adversely affect the voting power or other rights of the holders of the common stock. If issued, the preferred stock could also dilute the holders of our common stock and could be used to discourage, delay or prevent a change of control.

We are also a Delaware corporation subject to Section 203 of the Delaware General Corporation Law (the “DGCL”). In general, Section 203 of the DGCL prevents an “interested stockholder” (as defined in the DGCL) from engaging in a “business combination” (as defined in the DGCL) with us for three years following the date that person becomes an interested stockholder unless one or more of the following occurs:

The DGCL generally defines “interested stockholder” as any person who, together with affiliates and associates, is the owner of 15% or more of our outstanding voting stock or is our affiliate or associate and was the owner of 15% or more of our outstanding voting stock at any time within the three-year period immediately before the date of determination.

All of these factors could materially adversely affect the price of our common stock.

Because we have no current plans to pay dividends on our common stock, investors must look solely to stock appreciation for a return on their investment in us.

We do not anticipate paying any cash dividends on our common stock in the foreseeable future. We currently intend to retain all future earnings to service debt and fund the development and growth of our business. Any payment of future dividends will be at the discretion of our board of directors and will depend on, among other things, our earnings, financial condition, capital requirements, level of indebtedness, statutory and contractual restrictions applying to the payment of dividends and other considerations that the board of directors deems relevant. For example, our credit agreement limits our ability to pay dividends. Investors may need to rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize a return on their investment. Investors seeking cash dividends should not purchase our common stock.

Because our common stock is subject to the “penny stock” rules, brokers cannot generally solicit the purchase of our common stock, which adversely affects its liquidity and market price.

The SEC has adopted regulations, which generally define “penny stock” to be an equity security that has a market price of less than $5.00 per share, subject to specific exemptions. The market price of our common stock on the Over-The-Counter Bulletin Board (“Bulletin Board”) is substantially less than $5.00 per share and therefore we are considered a “penny stock” according to SEC rules. This designation requires any broker-dealer selling these securities to disclose certain information concerning the transaction, obtain a written agreement from the purchaser and determine that the purchaser is reasonably suitable to purchase the securities. These rules limit the ability of broker-dealers to solicit purchases of our common stock and therefore reduce the liquidity of the public market for our shares.

Moreover, as a result of apparent regulatory pressure from the SEC and the Financial Industry Regulatory Authority, a growing number of broker-dealers decline to permit investors to purchase and sell or otherwise make it difficult to sell shares of penny stocks. This may have a depressive effect upon our common stock price.

Due to factors beyond our control, our stock price may be volatile.

The market price of our common stock can be affected by:

Item 1B: Unresolved Staff Comments

None.

Item 2. Properties

Our corporate headquarters are located at 3 Riverway, Suite 920, Houston, Texas, 77056 and consist of approximately 2,291 square feet of office space under a lease that expires on January 31, 2020. This facility accommodates our executive offices.

We lease facilities and administrative offices in the various geographic areas in which we operate. We believe that our existing facilities are suitable and adequate and that we have sufficient capacity to meet our current anticipated needs. As of June 30, 2017, we leased properties in Texas and Pennsylvania as follows:

During 2016, we abandoned a lease in connection with our operational restructuring efforts. There were no cancellation, transfer or assignment charges in the years ended December 31, 2016 and 2015.

During 2017, our lease for the office and shop space utilized by our discontinued operations was assumed by a third party. During the third quarter of 2017, we will cease leasing properties in Celina, Texas, Montrose, Pennsylvania, and Mt. Morris, Pennsylvania. The idle equipment previously stored at these facilities will be transported to Texas to satisfy increasing customer demand. We do not anticipate any cancellation, transfer or assignment charges will be incurred.

Item 3. Legal Proceedings

In 2015, we ceased compensating our employees on a day rate basis in order to ensure full compliance with the Fair Labor Standards Act (“FLSA”). Certain former employees of Aly Centrifuge, Inc. who were paid a day rate for their work prior to February 2015 alleged that we failed to pay overtime when they worked over 40 hours per week. During the years ended December 31, 2016 and 2015, certain of these employees pursued legal action against us based on such allegations:

The Company entered into certain employment agreements in connection with the acquisition of United and Evolution in 2014 which provided for specified severance obligations of the Company in the event of a termination of employment of the subject employees. The Company also entered into a similar employment agreement in 2014 in connection with the recruitment of an additional employee for the solids control operations. During 2015 and 2016, the employment of these individuals terminated, and the Company did not pay the severance obligations that were contemplated by the employment agreements in the event that the cessation of employment would be determined to have been a termination by the Company “without cause.” As of December 31, 2016, the aggregate unpaid severance obligation under these agreements was approximately $0.7 million.

We are subject to various other legal proceedings and claims incidental to or arising in the ordinary course of our business. While many of these matters involve inherent uncertainty, we believe that the liability, if any, ultimately incurred with respect to such proceedings and claims will not have a material adverse effect on our consolidated financial position as a whole or on our liquidity, capital resources or results of operations. We will continue to evaluate proceedings and claims involving us on a quarter-by-quarter basis and will establish and adjust any reserves as appropriate to reflect our assessment of the then-current status of the matters.

Item 4. Mine Safety Disclosures

Not Applicable.

PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

Commencing May 23, 2013, our common stock was listed on the OTCQB under the symbol “ALYE.” We became delinquent in our filings with the SEC in August 2016. Due to the lack of publicly available financial information, OTCQB subsequently moved the listing of our common stock to OTC Pink and, as of May 1, 2017, ceased to list our common stock.

The following table indicates the quarterly high and low bid price for our common stock on the OTCQB and OTC Pink for the years ended December 31, 2016 and 2015 and for the period from January 1, 2017 to May 1, 2017. Such inter-dealer quotations do not necessarily represent actual transactions and do not reflect retail mark-ups, markdowns or commissions.

The last reported sales price of our common stock on the OTC Pink was on May 1, 2017 for $0.08 per share.

Our peer group includes, but is not limited to, the following companies: Basic Energy Services Inc., ENSERVCO Corporation, Flotek Industries, Inc., Key Energy Services, Inc., Oil States International, Inc., and Superior Energy Services, Inc.

Holders

The number of holders of record of our common stock as of July 24, 2017 was 89. This number does not include an undetermined number of stockholders whose stock is held in “street” or “nominee” name.

Dividends

In the past, we have not distributed earnings to our common stockholders. Our board of directors has complete discretion on whether to pay dividends and, as such, will make any future decisions regarding dividends. We currently intend to retain and use any future earnings for servicing our debt and for developing and expanding our business and we do not anticipate paying any cash dividends in the foreseeable future. Even if our board of directors decides to pay dividends, the form, frequency and amount will depend upon our future operations and earnings, capital requirements and surplus, general financial condition, contractual restrictions and other factors that the board of directors may deem relevant.

Stock Options

As of December 31, 2016 and 2015, we had a stock-based compensation plan available to grant incentive stock options, non-qualified stock options and restricted stock to employees and non-employee members of the board of directors.

As of December 31, 2016 and 2015, options to purchase 242,507 and 330,111 common shares under the Plan were outstanding and $0.3 million and $0.5 million of total unrecognized compensation cost related to non-vested stock option awards, respectively. Such amount will be recognized in the future upon occurrence of a Liquidity Event that results in a vesting of the options. No options were granted during the years ended December 31, 2016 and 2015. No options were vested as of December 31, 2016 and 2015. During the year ended December 31, 2016 forfeited options totaled 87,604. There were no forfeited options during the year ended December 31, 2015.

Effective April 4, 2017, the 2017 Stock Option Plan (the “2017 Plan”) was approved by the board of directors. On May 30, we granted approximately 16.9 million common shares under the 2017 Plan which was the maximum amount authorized. The option contract term is 10 years and the exercise price is $0.10. The options vested and became exercisable immediately upon grant. The Company is in the process of determining the value of these options.

Recent Sales of Unregistered Securities

On May 23, 2017 and in consideration of the increase in the revolving credit facility and the extension of the final maturity date, the Company agreed to issue Pelican an amendment fee of 1,200 shares of our Series A Convertible Preferred Stock.

On January 31, 2017, we completed the Recapitalization which resulted in the issuance of 7,111,981 shares of our common stock to the former holders of Aly Operating redeemable preferred stock, Aly Centrifuge redeemable preferred stock, Aly Centrifuge subordinated debt, and liability for contingent payment (an aggregate of six individual entities and persons).

On January 31, 2017, we issued 16,092 shares of our Series A Convertible Preferred Stock to Pelican in exchange for a $16.1 million reduction of the Aly Senior Obligations which Pelican acquired on December 12, 2016 in connection with the Recapitalization.

We issued 82,649 shares of our common stock during the year ended December 31, 2015, to one of our directors in respect of his arrangement of certain issuances of common stock.

On September 30, 2015, we closed a private offering and issued 1,047,424 shares of our common stock to multiple accredited investors at a price of $3.20 per share.

On January 12, 2015, we issued 50,000 shares of our common stock in a private placement at a price of $11.00 per share for gross proceeds of approximately $0.6 million. The proceeds were used for general working capital requirements.

Equity Repurchases

We have not repurchased any of our equity securities during the past two years; however, as of December 31, 2016 and 2015, we held 225 shares of treasury stock.

Authorized Shares

As of August 31, 2017, we have approximately 13.8 million shares of common stock outstanding.

On May 18, 2016, we filed an amendment to our certificate of formation reducing our authorized common stock from 100 million to 25 million shares and also reducing our authorized preferred stock from 25 million shares to 10 million shares.

On December 21, 2015, we filed an amendment to our certificate of formation reducing our authorized common stock from 200 million to 100 million shares and also authorizing 25 million shares of preferred stock to be issued in one or more series.

Common Authorized Shares. Authorized common shares total 25,000,000 with a par value of $0.001 per share, of which, 6,707,039 and 6,706,814 were issued and outstanding, respectively as of December 31, 2016 and 6,707,039 and 6,706,814 were issued and outstanding, respectively as of December 31, 2015. Common stock held in treasury as of December 31, 2016 and 2015 were 225 shares.

On January 31, 2017, we completed the Recapitalization which resulted in the issuance of 7,111,981 shares of our common stock to the former holders of Aly Operating redeemable preferred stock, Aly Centrifuge redeemable preferred stock, Aly Centrifuge subordinated debt, and liability for contingent payment (an aggregate of six individual entities and persons).

Preferred Authorized Shares. Authorized preferred shares total 10,000,000 with a par value of $0.001 per share, of which, none were issued and outstanding as of December 31, 2016 and 2015.

As a result of the Recapitalization, the Company allocated 20,000 of its authorized shares from available authorized preferred shares to Series A Convertible Preferred Stock and issued 16,092 shares on January 31, 2017. The Series A Convertible Preferred Stock have a par value of $0.001 per share, a face value of $16.1 million, which have no determinable market value as of January 31, 2017. The conversion feature provides that each Series A Convertible Preferred share shall be convertible into 3332.64 common shares at the option of the shareholder and retains a liquidation preference equal to $1,000 per share. All shares vote on an as if converted basis, whereby Pelican, who owns 100% of the Series A Convertible Preferred Stock controls the substantial majority of votes of Aly Energy. (See further discussion in “Note 11 – Controlling Shareholder and Other Related Party Transactions” in the notes to our consolidated financial statements.)

On May 23, 2017 and in consideration of the increase in the revolving credit facility and the extension of the final maturity date, the Company agreed to issue Pelican an amendment fee of 1,200 shares of our Series A Convertible Preferred Stock.

Item 6. Selected Financial Data

As a smaller reporting company, we are not required to provide the information required by this Item.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations is intended to assist you in understanding our business and results of operations together with our present financial condition. Unless otherwise noted, all discussion and analysis relates to continuing operations. This section should be read in conjunction with the audited consolidated financial statements and the related notes thereto included elsewhere in “Item 8. Financial Statements and Supplementary Data” in this Form 10-K. This section contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those discussed in any forward-looking statement because of various factors, including, without limitation, those described in the sections titled “Cautionary Note Regarding Forward-Looking Statements” and Part I, Item 1A “Risk Factors” of this Form 10-K.

History of Our Business

On July 17, 2012, Munawar “Micki” Hidayatallah founded Aly Energy with the strategic objective of creating an oilfield services company that serves exploration and production companies from well planning to plug and abandonment. We have grown our business both through organic growth resulting from investment in existing operations and through the strategic acquisition of certain businesses operating in our industry.

To date, we have acquired three businesses:

Subsequent to the acquisition of each of these businesses, we have made significant investments to expand their operations and capitalize on organic growth opportunities in existing and expansion markets. We consistently seek opportunities to bundle product offerings and to cross sell services across markets and product lines, which we believe improves client retention and increases the utilization of our equipment.

Overview of Our Business

We are a provider of solids control systems and surface rental equipment. Our equipment and services are primarily designed for and used in land-based horizontal drilling. Our equipment includes centrifuges and auxiliary solids control equipment, mud circulating tanks (400 and 500 barrel capacity) and auxiliary surface rental equipment, portable mud mixing plants and containment systems. In conjunction with the rental of some of our solids control packages, we provide personnel at the customer’s well site to operate our equipment. We also provide personnel to rig-up/rig-down and haul our equipment to and from the customer’s location. We operate primarily in Texas (West Texas and South Texas), Oklahoma, New Mexico, and Louisiana. Our primary operating yards, shop and repair facilities, and division management are located in Giddings, Texas, San Angelo, Texas, and Houston, Texas.

We derive the majority of our revenue from day rates or hourly rates charged for the rental of our equipment and for the services provided by our personnel. The price we charge for our services depends on both the level of activity within the geographic area in which we operate and also the competitive environment.

Our operating costs do not fluctuate in direct proportion to changes in revenue. Our operating expenses consist of both fixed and variable costs. Although most variable costs are highly correlated with revenue and activity, certain variable costs, such as sub-rental equipment expenses and third-party trucking expenses, can be reduced as a percentage of revenue by our investment in new rental and transportation equipment.

Industry Trends

We operate in the commodity-driven, cyclical oil and gas industry. From 2011 through mid-2014, the industry operated in an environment where crude oil prices were relatively stable and, except for comparatively short intervals, generally traded at prices at or in excess of $100 per barrel. However, subsequent to the third quarter of 2014, crude oil prices declined significantly due to a variety of factors, including, but not limited to, continued growth in U.S. oil production, weakened outlooks for the global economy and continued strong international crude oil supply resulting in part from OPEC’s unexpected decision to maintain oil production levels. As a result of the weaker crude oil price environment, many crude oil development prospects became less economical for exploration and production operators, leading to a dramatic reduction in U.S. land-based rig count and weaker demand for oilfield services, such as the services we provide.

The decline in both oil prices and the U.S. land-based rig count continued during the first half of 2016. Barring a few brief rallies, the price of oil bottomed out in February 2016 at less than $30 per barrel and the U.S. land-based rig count reached its low of less than 400 rigs in July 2016. After reaching its low point, the price of oil then increased steadily for several months and has hovered between $45 per barrel and $50 per barrel since June 2016. With the price of oil fairly constant for the past twelve months at a level which is economical for exploration and production operators, the U.S. land-based rig count has increased steadily and, in July 2017, the count had increased to over 900 rigs, an increase of greater than 100% compared to its low of less than 400 rigs in July 2016.

The favorable impact of the recent increase in the U.S. land-based rig count on demand for our services has been magnified by an increase in the proportion of rigs drilling directional and horizontal wells. As illustrated in the graph below, the proportion of rigs drilling directional and horizontal wells as a percentage of total U.S. land-based rigs has increased from approximately 80% in the first quarter of 2014 to 92% in the second quarter of 2017. Rigs drilling directional and horizontal wells typically utilize oil-based or other sophisticated mud systems which creates demand for Aly’s specialized mud circulating tanks, pumps, containment systems, solids control and associated equipment.

Our financial performance is significantly affected by the price of oil and the U.S. land-based rig count, specifically the count of rigs drilling directional and horizontal wells. The graph below illustrates the trends in these key drivers from 2014 through mid-2017:

Source: Baker Hughes (Rig Counts) and Bloomberg (Price Per Barrel of WTI Crude)

How We Evaluate Our Operations

We disclose and discuss EBITDA as a non-GAAP financial measure in our public releases, including quarterly earnings releases, investor conference calls and other filings with the Securities and Exchange Commission.

We define EBITDA as earnings (net income) before interest, income taxes, depreciation and amortization. Our measure of EBITDA may not be comparable to similarly titled measures presented by other companies, which may limit its usefulness as a comparative measure.

We also make certain adjustments to EBITDA for (i) non-cash charges, such as reduction in value of assets, bad debt expense, share-based compensation expense, and changes in fair value of our liability for contingent payments and (ii) certain expenses, such as severance, legal settlements, and professional fees and other expenses related to transactions outside the ordinary course of business, to derive a normalized EBITDA run-rate (“Adjusted EBITDA”), which we believe is a useful measure of operating results and the underlying cash generating capability of our business.

The following table provides the detailed components of EBITDA and Adjusted EBITDA as we define that term for the years ended December 31, 2016 and 2015, respectively (in thousands):

Because EBITDA and Adjusted EBITDA are not measures of financial performance calculated in accordance with GAAP, these metrics should not be considered in isolation or as a substitute for operating income, net income or loss, cash flows provided by operating, investing and financing activities, or other income or cash flow statement data prepared in accordance with GAAP.

EBITDA and Adjusted EBITDA are widely used by investors and other users of our financial statements as supplemental financial measures that, when viewed with our GAAP results and the accompanying reconciliation, we believe provide additional information that is useful to gain an understanding of our ability to service debt, pay income taxes and fund growth and maintenance capital expenditures. We also believe the disclosure of EBITDA and Adjusted EBITDA helps investors meaningfully evaluate and compare our cash flow generating capacity from quarter-to-quarter and year-to-year.

EBITDA and Adjusted EBITDA are also financial metrics used by management as (i) supplemental internal measures for planning and forecasting and for evaluating actual results against such expectations; (ii) significant criteria for incentive compensation paid to our executive officers and management; (iii) reference points to compare to the EBITDA and Adjusted EBITDA of other companies when evaluating potential acquisitions; and, (iv) assessments of our ability to service existing fixed charges and incur additional indebtedness.

Set forth below are the material limitations associated with using EBITDA and Adjusted EBITDA as non-GAAP financial measures compared to cash flows provided by and used in operating, investing and financing activities:

Management compensates for the above-described limitations in using EBITDA and Adjusted EBITDA as non-GAAP financial measures by only using EBITDA and Adjusted EBITDA to supplement our GAAP results.

Business Outlook

Our core businesses depend on our customers’ willingness to make expenditures to produce, develop and explore for oil and natural gas. Industry conditions are influenced by numerous factors, such as oil and natural gas prices, the supply of and demand for oil and natural gas, domestic and worldwide economic conditions, political instability in oil producing countries and available supply of and demand for the services we provide. Oil and natural gas prices began a rapid and substantial decline in the fourth quarter of 2014. Depressed commodity price conditions persisted and worsened during 2015 and that trend continued into 2016. As a result, the rig count and demand for our products and services declined substantially, and the prices we are able to charge our customers for our products and services have also declined substantially. While we have reshaped our organizational and cost structure to mitigate the negative impact of these declines and to improve our ability to react to future declines, we continued to experience negative operating results and cash flows from operations through 2016.

Oil prices have improved off the low point of 2016 with the November 2016 decision by OPEC to curtail the cartel’s oil production, the Baker Hughes U.S. land drilling rig count has increased significantly from its low point in mid-2016, and our revenue has improved substantially during the first six months of 2017. We believe that stability in oil prices at an attractive price to our customers coupled with the increases in drilling activity during the first half of 2017 will result in further increases in demand for our services and will provide us opportunities to increase the price of our products and services, particularly in 2018. However, with increased demand for oilfield services broadly, the demand for qualified employees and the demand for the sub-rental equipment we require to increase our activity will increase and we may experience increases in costs which we cannot completely offset with price increases to our customers. As of June 30, 2017, based on our expectations of improved activity levels and pricing throughout the remainder of 2017 and 2018, we believe that we will be able to service our debt obligations and ongoing operations through operating cash flow and, if necessary, availability under our credit facility.

Operational Restructuring

Our activity is tied directly to the rig count and, even though we instituted significant cost cutting measures beginning in 2015, we were unable to cut costs enough to match the decline in our business. As a result, as of December 31, 2015, we were in default of our credit agreement with Wells Fargo Bank, National Association (“Wells Fargo”).

Throughout 2015, in an effort to mitigate the significant declines in pricing and utilization of our equipment, we committed to a reorganization initiative to strengthen our sales and marketing efforts, consolidate support functions, and operate more efficiently. The reorganization effort included, but was not limited to, training our salesforce to enable the cross-selling of our product lines in certain geographical markets, sharing a common support services infrastructure across all reporting units, reducing headcount and wage rates, and rebranding and launching a new web site to increase awareness of our service lines. We recognized some benefit from these measures in late 2015 resulting in increased gross margins and lower selling, general and administrative expenses when compared to the first half of 2015.

During the year ended December 31, 2016, we entered into a series of forbearance agreements with our lender. Under the forbearance agreements, among other provisions, the lenders agreed to forbear from exercising their remedies under the credit agreement. These forbearance agreements permitted us to operate within the parameters of our normal course of business despite the continuing default under the credit agreement. Without these forbearance agreements, our outstanding debt would have been immediately due and payable. Throughout 2016, we remained in default and we did not have sufficient liquidity to repay all of the outstanding debt to the lender at any point during the year ($20.1 million as of December 31, 2015). As such, we may have been forced to file for protection under Chapter 11 of the U.S. Bankruptcy Code.

In early 2016, we were hopeful that a successful operational restructuring would facilitate negotiations to modify the terms of our existing credit facility with Wells Fargo. Our operational restructuring in 2016 consisted of severe cost cuts which were incremental to the year-over-year cost cuts already achieved in 2015 when compared to 2014. In 2016, significant cost savings were primarily generated by:

We also achieved significant cost savings from the decrease in third party costs, such as sub-rental equipment and trucking, and other variable costs which declined with the decrease in activity.

In order to further support our working capital needs, we identified and sold idle and underutilized assets. During 2016, we realized aggregate proceeds from sales of approximately $0.8 million of which $0.5 million and $0.3 million was used to fund working capital needs and pay down debt, respectively (see “Note 4 – Reduction in Value of Assets and Other Charges” in the notes to our consolidated financial statements for further details).

Capital Restructuring

Despite our successful operational restructuring efforts, particularly during the first half of 2016, the decline in our activity levels and the declines in customer pricing outpaced the impact of our cost reductions and it became evident that a capital restructuring would also be necessary to continue operations and position our business for an industry turnaround.

In the second quarter of 2016, certain of the Company’s principal stockholders (“Shareholder Group”) began negotiations with Wells Fargo with the objective of consummating a recapitalization transaction (the “Recapitalization”) whereby our obligations under the credit agreement and the outstanding capital leases in favor of Wells Fargo’s equipment finance affiliate and certain other obligations of Aly Energy (collectively the “Aly Senior Obligations”) would be restructured. In August 2016, the Shareholder Group approached a third party, Tiger Finance, LLC (“Tiger”), to provide bridge financing and to extend forbearance until such date as sufficient capital could be raised to complete the Recapitalization.

In September 2016, the Shareholder Group formed Permian Pelican, LLC (“Pelican”) with the objective of raising capital and executing the steps necessary to complete the restructuring, inclusive of successfully effecting the exchange of the Aly Operating redeemable preferred stock, Aly Centrifuge redeemable preferred stock, Aly Centrifuge subordinated debt and liability for a contingent payment into approximately 10% of our common stock on a fully diluted basis.

Effective January 31, 2017, the Recapitalization was completed through the execution and delivery of a Securities Exchange Agreement and a Second Amended and Restated Credit Agreement. As a result of the Recapitalization, the Company became a “Controlled Company” as defined under the listing standards of the principal national securities exchanges; however, since the Shareholder Group’s proportionate interest did not change significantly, a change in control did not occur and the transaction was accounted for at historical cost.

As a result of the Recapitalization, the credit facility, now with Pelican, consisted of a term loan of $5.1 million and a revolving facility of up to $1.0 million as of January 31, 2017. Availability under the revolving credit facility is determined by a borrowing base calculated as 80% of eligible receivables (receivables less than 90 days old).

Subsequent to the Recapitalization, we entered into several further amendments to capitalize on improved market conditions and increased activity in our business:

To the extent there is free cash flow as defined in the credit agreement, principal payments of 50% of such free cash flow are due annually. The maturity date of all remaining outstanding balances under the credit facility is December 31, 2019.

The obligations under the credit facility are guaranteed by all of our subsidiaries and secured by substantially all  of our assets. The credit agreement contains customary events of default and covenants including restrictions on our ability to incur additional indebtedness, make capital expenditures, pay dividends or make other distributions, grant liens and sell assets. The credit facility does not include any financial covenants. We are in full compliance with the credit facility as of June 30, 2017.

As of June 30, 2017, there were outstanding borrowings of $5.0 million, $0.8 million, and $0.3 million on the term loan, revolving credit facility, and delayed draw term loan, respectively. As of June 30, 2017, we have the availability to borrow an incremental $0.2 million under the revolving credit facility and, if we have capital expenditures which are eligible to be financed, an incremental $1.0 million under the delayed draw term loan to finance 90% of such expenditures.

For a discussion of the accounting treatment for the Recapitalization, see “Note 2 – Recent Developments” in the notes to our consolidated financial statements included elsewhere in this document.

Results of Operations

The following table summarizes the change in our results of operations for the year ended December 31, 2016 when compared to the year ended December 31, 2015 (in thousands):

Results for the Year Ended December 31, 2016 Compared to the Year Ended December 31, 2015

Overview. Our results of operations depend on the demand for our services and our ability to provide high quality equipment and service to satisfy that demand while maintaining an efficient cost structure. During the fourth quarter of 2016, our total revenue was $2.2 million, which was a decline of 76.0% when compared to revenue of $9.0 million during the first quarter of 2015. The steady decline in revenue throughout 2015 and 2016 was a result of decreased activity, decreased pricing of our core products and services of approximately 40% to 50% when comparing the fourth quarter of 2016 to the first quarter of 2015 and the wind-down of our solids control operations in the northeast due to decreased demand in the area combined with high overhead costs. Despite significant declines in activity and pricing, by the end of 2016, after implementing significant cost cutting measures, we successfully achieved a more efficient cost structure in which operating expenses as a percentage of revenue decreased to 66.6% in the fourth quarter of 2016 from 71.8% in the first quarter of 2015 and in which our selling, general and administrative expenses decreased by 76.8% to $0.6 million from $2.4 million when comparing the fourth quarter of 2016 to the first quarter of 2015.

Revenue. Our revenue for the year ended December 31, 2016 was $11.0 million, a decrease of 56.8%, compared to $25.5 million for the year ended December 31, 2015. Our activity is directly tied to drilling activity and, as discussed in the industry trends section above, the average U.S. land-based rig count for 2016 dropped almost 100% to approximately 485 rigs from the average in 2015 of approximately 940 rigs. This decrease in activity resulted in intense competition in the oilfield services sector, which, in turn, required us to reduce pricing significantly in order to retain existing customers and attract new customers. Pricing for our primary rental products decreased approximately 25% when comparing the year ended December 31, 2016 to the year ended December 31, 2015. In addition, demand for our services declined throughout 2015 and through most of 2016 resulting in reduced utilization of equipment and further contributing to our decline in revenue. During the fourth quarter of 2016, we ceased all operating activity in the northeast due to a significant decline in demand in the area. The resulting declines in revenue were minimally offset by increases in demand for our equipment in Texas, particularly in the Permian Basin, in the fourth quarter of 2016.

Operating Expenses. Our operating expenses for the year ended December 31, 2016 decreased to $8.3 million, or 75.7% of revenue, from $16.2 million, or 63.5% of revenue, for the year ended December 31, 2015. The decrease of $7.9 million from the year ended December 31, 2015 is primarily due to the decline in activity described above, specifically the resulting decline in payroll and other variable expenses, combined with a decrease of our reliance on third party sub-rental and trucking services. During 2016, payroll decreased due to both a decline in headcount, 50 as of December 31, 2016 compared to 125 as of December 31, 2015, and decreases in average wage rates. The increase in the percentage of operating expenses to revenue between the years is primarily due to the significant decline in pricing and the inability to reduce our costs to mirror the timing and magnitude of the reduction in customer pricing (see further discussion of cost cuts in “Operational Restructuring” section above).

Depreciation and Amortization. Depreciation and amortization expense decreased 10.9% to $5.3 million for the year ended December 31, 2016 compared to $6.0 million for the year ended December 31, 2015. The decrease is due primarily to the disposition of assets to Tiger in connection with the Recapitalization (see further discussion in “Note 2 – Recent Developments” in the notes to our consolidated financial statements).

Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased to $4.1 million, or 37.0% of revenue, for the year ended December 31, 2016 compared to $7.3 million, or 28.6% of revenue, for the year ended December 31, 2015. Selling, general and administrative expenses consist primarily of overhead costs which we generally consider to be fixed. The year-over-year decline of $3.2 million, or 44.2%, reflects the severe cost cutting initiatives started in 2015 which continued in 2016. These initiatives, implemented in response to the massive downturn in the industry, included headcount and wage rate decreases, the reduction of executive management salaries and elimination of bonuses, and significant reductions in travel, entertainment and office expense. Selling, general and administrative expenses also include expenses that are either non-recurring or non-cash in nature with an aggregate value of $0.9 million and $0.5 million during the years ended December 31, 2016 and 2015, respectively (see further discussion in “How We Evaluate Our Operations” section above).

Reduction in Value of Assets. In the years ended December 31, 2016 and 2015, we recorded a reduction in value of assets of $17.7 million and $11.4 million, respectively. The primary component of the reduction in value during 2016 was a $15.6 million impairment charge on the transfer of equipment to Tiger in connection with the Recapitalization (see further discussion in “Note 2 – Recent Developments” in the notes to our consolidated financial statements). In addition, in 2016, we recorded a reduction in value of intangibles of $1.1 million and a reduction in value of property and equipment of $1.1 million. The reduction in the value of intangibles consisted of a $0.5 million reduction in an intangible associated with a non-compete which management determined was non-enforceable and a $0.6 million reduction in an intangible associated with a supply agreement which had no value subsequent to the liquidation of the supplier under bankruptcy proceedings. The $1.1 million reduction in value of property and equipment was in connection with asset sales and disposals completed during the year to fund working capital needs and repay debt. In 2015, we recorded a $11.1 million reduction in value of goodwill in connection with our annual impairment testing (see Critical Accounting Policies and Estimates – Valuation of Indefinite-Lived Intangible Assets) and a $0.3 million reduction in property and equipment.

Debt Modification Fee. During the year ended December 31, 2016, we recorded $0.6 million of expense due to a debt modification fee paid to Tiger in connection with the Recapitalization (see further discussion in “Note 2 – Recent Developments” in the notes to our consolidated financial statements).

Interest Expense, net. Interest expense and amortization of deferred loan costs was $2.4 million for the year ended December 31, 2016 compared to $2.0 million for the year ended December 31, 2015. The $0.4 million increase is due primarily to the quarterly ticking fee being accrued for a full year in 2016 compared to one quarter in 2015, the write-off of deferred loan costs related to the Recapitalization, and an increased interest rate on our primary credit facility. These increases were partially offset by interest being charged on a reduced outstanding debt balance subsequent to the debt modification effective in September 2015.

Interest Expense – Pelican. During the year ended December 31, 2016, we recorded $0.1 million of interest expense due to Pelican, a related party, in connection with the Recapitalization.

Income Taxes. Income taxes increased to a benefit of $7.9 million, or an effective tax rate of 28.7%, for the year ended December 31, 2016 from a benefit of $3.4 million, or an effective tax rate of 19.5%, for the year ended December 31, 2015. The effective tax rate increased by 9.2% when comparing the year ended December 31, 2016 to the year ended December 31, 2015 due to goodwill impairment in 2015 which did not recur in 2016 offset by a valuation allowance taken in 2016. Management assesses the realizability of deferred tax assets on a quarterly basis. From its evaluation as of December 31, 2016, the Company has concluded that based on the weight of available evidence, it is not more likely than not to realize the benefit of its deferred tax assets. Therefore, the Company established a valuation allowance of $2.4 million for the year ended December 31, 2016. There was no valuation allowance recorded during the year ended December 31, 2015.

Discontinued Operations. Discontinued operations include Evolution which specialized as an operator of MWD downhole tools. Losses from discontinued operations, net of income taxes, were $2.5 million during 2016, as compared to $2.0 million during 2015. The increase in the loss from discontinued operations in 2016 is primarily due to a $2.6 million reduction in value of assets and a $3.3 million decrease in revenue partially offset by a corresponding decrease in operating expenses. See “Note 15 – Discontinued Operations” in the notes to our consolidated financial statements for additional detail.

Liquidity and Capital Resources

Net Cash Provided by Operating Activities. Cash flow used in operating activities was less than $0.1 million for the year ended December 31, 2016 as compared to cash provided by operations of $3.9 million for the year ended December 31, 2015. The decrease in 2016 was due primarily to a decrease in operating cash flow generated by discontinued operations and due to the recording of a valuation allowance, partially offset by a decrease in working capital.

Liquidity. As a result of the industry downturn, many customers have experienced a significant reduction in their liquidity and have faced challenges accessing the capital markets. Several energy service and equipment companies have declared bankruptcy, or have had to exchange equity for the forgiveness of debt, while others have been forced to sell assets in an effort to preserve liquidity. We faced similar challenges requiring us to undergo a capital restructuring. For a discussion of the Recapitalization and its restructuring of our credit facility, see “Note 2 – Recent Developments” in the notes to our consolidated financial statements included elsewhere in this document.

While as of December 31, 2016, our liquidity was limited solely to cash and cash equivalents of $0.7 million, the Recapitalization increased our liquidity. The table below reflects our liquidity as of June 30, 2017 (in thousands):

____________

Capital Expenditures. Capital expenditures are the main component of our investing activities. Cash capital expenditures for the year ended December 31, 2016 decreased to $0.4 million from $1.4 million for the year ended December 31, 2015 due to a significant decrease in expansionary capital expenditures and the minimization of maintenance capital expenditures. In 2017, our cash flows for capital expenditures are limited to maintenance capital expenditures and acquiring assets to replace equipment which we sub-rent to meet customer demand when our owned equipment is fully utilized. Although we do not budget acquisitions in the normal course of business, we regularly engage in discussions related to potential acquisitions of companies which provide oilfield services.

Credit Facility. As of June 30, 2017, we have availability to borrow an incremental $1.2 million under our credit facility with Pelican and, effective January 31, 2017 through the maturity date of December 31, 2019, principal payments on our credit facility are based solely on excess free cash flows, significantly reducing our overall debt service requirements. For a discussion of the Recapitalization and its restructuring of our credit facility, see “Note 2 – Recent Developments” in the notes to our consolidated financial statements included elsewhere in this document.

We have experienced significant growth during the beginning of 2017 and we believe that our cash flow from operations combined with access to capital through our lender and controlling shareholder, Pelican, will be sufficient to fund our working capital needs, contractual obligations and maintenance capital expenditures for the next twelve months.

Contractual Obligations

The table below indicates our contractual obligations as of June 30, 2017 (in thousands):

________

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements, other than normal operating leases and employee contracts, that have or are likely to have a current or future material effect on our financial condition, changes in financial condition, revenue, expenses, results of operations, liquidity, capital expenditures, or capital resources.

Net Operating Losses

As of December 31, 2016, we had approximately $29.5 million of federal net operating loss carryforwards. Based on the weight of all available evidence including the future reversal of existing U.S. taxable temporary differences as of December 31, 2016, we believe that it is more likely than not that the benefit from certain federal and state net operating loss carryforwards and other deductible temporary differences will not be realized. In recognition of this risk, we have provided a valuation allowance of approximately $2.4 million on the net deferred tax asset as a result of the Company being in a cumulative three-year pre-tax book loss position and absence of other objectively verifiable positive evidence including reversal of existing taxable temporary differences in these certain state tax jurisdictions.

Critical Accounting Policies and Estimates

The accounting policies described below are considered critical in obtaining an understanding of our consolidated financial statements because their application requires significant estimates and judgments by management in preparing our consolidated financial statements. Management’s estimates and judgments are inherently uncertain and may differ significantly from actual results achieved. Management considers an accounting estimate to be critical if the following conditions apply:

It is management’s view that the current assumptions and other considerations used to estimate amounts reflected in our consolidated financial statements are appropriate. However, actual results can differ significantly from those estimates under different assumptions and conditions.

We have identified the following critical accounting policies that require a significant amount of estimation or judgment to accurately present our financial position, results of operations and cash flows:

For a detailed discussion on the application of these and other accounting policies, see “Note 3 – Summary of Significant Accounting Policies” in the notes to our consolidated financial statements included elsewhere in this document.

Revenue Recognition: We generate revenue primarily from renting equipment at per-day rates. In connection with certain of our solids control operations, we also provide personnel to operate our equipment at the customer’s location at per-day or per-hour rates. In addition, we may provide equipment transportation and rig-up/rig-down services to the customer at flat rates per job or at an hourly rate. Our services are generally sold based upon purchase orders or contracts with customers that include fixed or determinable prices. We recognize revenue when services or equipment are provided and collectability is reasonably assured. We contract for a majority of our services on a day rate basis. We rent products on a day rate basis, and revenue from the sale of equipment is recognized when the title to the equipment has transferred to the customer. 

Allowance for Doubtful Accounts: We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of some of our customers to make required payments. These estimated allowances are periodically reviewed on a case by case basis, analyzing the customer’s payment history and information regarding the customer’s creditworthiness known to us. In addition, we provide an allowance for doubtful accounts which is based upon a review of outstanding receivables, historical collection information and existing economic conditions. Provisions for doubtful accounts are recorded when it is deemed probable that the customer will not make the required payments. If the financial condition of our customers deteriorates, resulting in their inability to make payments, additional allowances may be required.

Estimates of Depreciable Lives: We use the estimated depreciable lives of our long-lived assets to compute depreciation expense, to estimate future asset retirement obligations and to conduct impairment tests. We base the estimates of our depreciable lives on a number of factors, such as the environment in which the assets operate, industry factors including forecasted prices and competition, and the assumption that we provide the appropriate amount of capital expenditures while the asset is in operation to maintain economical operation of the asset and prevent untimely demise to scrap. The useful lives of our intangible assets are determined by the years over which we expect the assets to generate a benefit based on legal, contractual or other expectations.

We depreciate our operational assets over their depreciable lives to their salvage value, which is generally 20% of the acquisition cost. Typically, these assets contain a large amount of iron in their construction. We recognize a gain or loss upon ultimate disposal of the asset based on the difference between the carrying value of the asset on the disposal date and any proceeds we receive in connection with the disposal. Maintenance and repairs, which do not improve or extend the life of the related assets, are charged to expense when incurred. Refurbishments and renewals are capitalized when the value of the equipment is enhanced for an extended period.

We periodically analyze our estimates of the depreciable lives of our fixed assets to determine if the depreciable periods and salvage value continue to be appropriate. We also analyze useful lives and salvage value when events or conditions occur that could shorten the remaining depreciable life of the asset. We review the depreciable periods and salvage values for reasonableness, given current conditions. As a result, our depreciation expense is based upon estimates of depreciable lives of the fixed assets, the salvage value and economic factors, all of which require management to make significant judgments and estimates. If we determine that the depreciable lives should be different than originally estimated, depreciation expense may increase or decrease and impairments in the carrying values of our fixed assets may result, which could negatively impact our earnings.

Valuation of Long-lived Assets: Our property and equipment and intangibles are tested for potential impairment when circumstances or events indicate a possible impairment may exist. These circumstances or events are referred to as “trigger events” and examples of such trigger events include, but are not limited to, an adverse change in market conditions, a significant decrease in benefits being derived from an acquired business, a change in the use of an asset, or a significant disposal of a particular asset or asset class.

If a trigger event occurs, an impairment test is performed based on an undiscounted cash flow analysis. To perform an impairment test, we make judgments, estimates and assumptions regarding long-term forecasts of revenue and expenses relating to the assets subject to review. Market conditions, energy prices, estimated depreciable lives of the assets, discount rate assumptions and legal factors impact our operations and have a significant effect on the estimates we use to determine whether our assets are impaired. If the results of the undiscounted cash flow analysis indicate that the carrying value of the assets being tested for impairment are not recoverable, then we record an impairment charge to write the carrying value of the assets down to their fair value. Using different judgments, assumptions or estimates, we could potentially arrive at a materially different fair value for the assets being tested for impairment, which may result in an impairment charge.

Valuation of Indefinite-Lived Intangible Assets: We periodically review our intangible assets not subject to amortization, including our goodwill, to determine whether an impairment of those assets may exist. These tests must be made on at least an annual basis, or more often if circumstances indicate that the assets may be impaired. These circumstances include, but are not limited to, significant adverse changes in the business climate.

The test for impairment of indefinite-lived intangible assets allows us to first assess the qualitative factors to determine whether it is “more likely than not” that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. If our qualitative analysis shows that it is “more likely than not” that the fair value of a reporting unit is less than its carrying amount, we will perform the two-step goodwill impairment test. In the first step, a fair value is calculated for each of our reporting units, and that fair value is compared to the current carrying value of the reporting unit, including the reporting unit’s goodwill. If the fair value of the reporting unit exceeds its carrying value, there is no potential impairment, and the second step is not performed. If the carrying value exceeds the fair value of the reporting unit, then the second step is required.

The second step of the test for impairment compares the implied fair value of the reporting unit’s goodwill to its current carrying value. The implied fair value of the reporting unit’s goodwill is determined in the same manner as the amount of goodwill that would be recognized in a business combination, with the purchase price being equal to the fair value of the reporting unit. If the implied fair value of the reporting unit’s goodwill is in excess of its carrying value, no impairment charge is recorded. If the carrying value of the reporting unit’s goodwill is in excess of its implied fair value, an impairment charge equal to the excess is recorded.

In determining the fair value of our reporting units, we use a weighted-average approach of three commonly used valuation techniques — a discounted cash flow method, a guideline companies method, and a similar transactions method. We assigned a weight to the results of each of these methods based on the facts and circumstances that are in existence for that testing period. We assigned more weight to the discounted cash flow method as we believe it is more representative of the future of the business.

In addition to the estimates made by management regarding the weighting of the various valuation techniques, the creation of the techniques themselves requires that we make significant estimates and assumptions. The discounted cash flow method, which was assigned the highest weight by management during the current year, requires us to make assumptions about future cash flows, future growth rates, tax rates in future periods, book-tax differences in the carrying value of our assets in future periods, and discount rates. The assumptions about future cash flows and growth rates are based on our current budgets for future periods, as well as our strategic plans, the beliefs of management about future activity levels, and analysts’ expectations about our revenue, profitability and cash flows in future periods. The assumptions about our future tax rates and book-tax differences in the carrying value of our assets in future periods are based on the assumptions about our future cash flows and growth rates, and management’s knowledge of and beliefs about tax law and practice in current and future periods. The assumptions about discount rates include an assessment of the specific risk associated with each reporting unit being tested, and were developed with the assistance of a third-party valuation consultant. The ultimate conclusions of the valuation techniques remain our responsibility.

Contingencies: We are periodically required to record other loss contingencies, which relate to lawsuits, claims, proceedings and tax-related audits in the normal course of our operations, on our consolidated balance sheet. We record a loss contingency for these matters when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. We periodically review our loss contingencies to ensure that we have recorded appropriate liabilities on the balance sheet. We adjust these liabilities based on estimates and judgments made by management with respect to the likely outcome of these matters, including the effect of any applicable insurance coverage for litigation matters. Our estimates and judgments could change based on new information, changes in laws or regulations, changes in management’s plans or intentions, the outcome of legal proceedings, settlements or other factors. Actual results could vary materially from these reserves.

Income Taxes: We account for deferred income taxes using the asset and liability method and provide income taxes for all significant temporary differences. Management determines our current tax liability as well as taxes incurred as a result of current operations, yet deferred until future periods. Current taxes payable represents our liability related to our income tax returns for the current year, while net deferred tax expense or benefit represents the change in the balance of deferred tax assets and liabilities reported on our consolidated balance sheets. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Our deferred tax calculation requires us to make certain estimates about our future operations. Changes in state, federal and foreign tax laws, as well as changes in our financial condition or the carrying value of existing assets and liabilities, could affect these estimates. The effect of a change in tax rates is recognized as income or expense in the period that the rate is enacted. Further, management makes certain assumptions about the timing of temporary tax differences for the differing treatment of certain items for tax and accounting purposes or whether such differences are permanent. The final determination of our tax liability involves the interpretation of local tax laws, tax treaties, and related authorities in each jurisdiction as well as the significant use of estimates and assumptions regarding the scope of future operations and results achieved and the timing and nature of income earned and expenditures incurred.

We record valuation allowances to reduce deferred tax assets if we determine that it is more likely than not (e.g., a likelihood of more than 50%) that some or all of the deferred tax assets will not be realized in future periods. To assess the likelihood, we use estimates and judgment regarding our future taxable income, as well as the jurisdiction in which this taxable income is generated, to determine whether a valuation allowance is required. The ultimate realization of the deferred tax assets depends on the ability to generate sufficient taxable income of the appropriate character and in the related jurisdiction in the future. Evidence supporting this ability can include our current financial position, our results of operations, both actual and forecasted results, the reversal of deferred tax liabilities, and tax planning strategies as well as the current and forecasted business economics of our industry. Additionally, we record uncertain tax positions in the financial statements at their net recognizable amount, based on the amount that management deems is more likely than not to be sustained upon ultimate settlement with the tax authorities in the domestic and international tax jurisdictions in which we operate.

If our estimates or assumptions regarding our current and deferred tax items are inaccurate or are modified, these changes could have potentially material negative impacts on our earnings.

Valuation of Contingent Payment Liability: In connection with the United Acquisition we recorded a contingent payment liability with an estimated fair value on the acquisition date of $3.5 million. The contingent consideration consisted of up to three future cash payments to the sellers in an amount equal to 5% of the gross revenue of the business acquired for each of the twelve-month periods ending on March 31, 2015, 2016, and 2017; provided, however, that the aggregate consideration would not exceed $5.0 million. The fair value of the liability for contingent payments represents the sum of (i) the known required payments for periods which have ended and (ii) the present value of projected required payments for future periods based upon our internal model and projections.

Valuation of Redeemable Preferred Stock: Two of our subsidiaries have redeemable preferred stock. At issuance, our redeemable preferred stock was recorded at fair value as follows:

Our redeemable preferred stock is classified outside of permanent equity in our consolidated balance sheet because the settlement provisions provided the holder the option to require us to redeem the preferred stock at a liquidation price plus any accrued dividends, as defined in the agreement.

Cash Flow Estimates: Our estimates of future cash flow are based on the most recent available market and operating data for the applicable asset base at the time we made the estimate. Significant management judgment is necessary to evaluate the impact of operating and macroeconomic changes on us. Critical assumptions include projected revenue growth, gross profit margins, selling, general and administrative expenses, working capital fluctuations, capital expenditures, discount rates and terminal growth rates. Our cash flow estimates are used for all our valuation based estimates detailed above.

Recently Issued Accounting Standards

For a discussion of new accounting standards, see “Note 3 – Summary of Significant Accounting Policies” in the notes to our consolidated financial statements included elsewhere in this document.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

As a smaller reporting company, we are not required to provide the information required by this Item.

Item 8. Financial Statements and Supplementary Data

Index to Consolidated Financial Statements

Report of Independent Registered Public Accounting Firm

To Board of Directors and Stockholders

Aly Energy Services, Inc.

We have audited the accompanying consolidated balance sheets of Aly Energy Services, Inc. and Subsidiaries (collectively the “Company”) as of December 31, 2016 and 2015, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for each of the years then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the auditing standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting policies used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Aly Energy Services, Inc. and Subsidiaries as of December 31, 2016 and 2015, and the results of their operations and their cash flows for each of the years then ended in conformity with accounting principles generally accepted in the United States of America.

/s/ RSM US LLP                             

Houston, TX

The accompanying notes are an integral part of these consolidated financial statements.

The accompanying notes are an integral part of these consolidated financial statements.