NCS Multistage Holdings, Inc. - Quarter Report: 2017 June (Form 10-Q)

 



UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

☑ Quarterly Report Pursuant to Section 13 or 15(d) of

the Securities Exchange Act of 1934

For the quarterly period ended June 30, 2017

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: 001-38071



NCS Multistage Holdings, Inc.

(Exact name of registrant as specified in its charter)



Registrant’s telephone number, including area code: (281) 453-2222

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 ☐

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 ☐

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 Act).    Yes ☐   No ☑

As of August 7, 2017, there were 43,555,978 shares of common stock outstanding.



 



 

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TABLE OF CONTENTS











 



 

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PART I.  FINANCIAL INFORMATION

ITEM 1.  Financial Statements

NCS MULTISTAGE HOLDINGS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

(Unaudited)











 

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NCS MULTISTAGE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

(Unaudited)









 

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NCS MULTISTAGE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(In thousands)

(Unaudited)









 



 

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NCS MULTISTAGE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(In thousands, except share data)

(Unaudited)





 



 

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NCS MULTISTAGE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)







 



 

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Note 1.   Basis of Presentation



Nature of Business



NCS Multistage Holdings, Inc., through its wholly owned subsidiaries and subsidiaries for which we have a controlling voting interest (collectively referred to as the “Company,” “NCS,” “we” or “us”), is primarily engaged in providing engineered products and support services for oil and natural gas well completions and field development strategies. We offer our products and services primarily to exploration and production companies for use in onshore wells. We operate through six service facilities principally located in Houston and Midland, Texas; and Calgary, Red Deer, Grande Prairie and Estevan, Canada. We changed our name from Pioneer Super Holdings, Inc. to NCS Multistage Holdings, Inc. on December 13, 2016.



Basis of Presentation



The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), issued by the Securities Exchange Commission (“SEC”) and have not been audited by our independent registered public accounting firm. The Condensed Consolidated Balance Sheet at December 31, 2016 is derived from our audited financial statements. However, certain information and footnote disclosures required by GAAP for complete annual financial statements have been omitted or condensed as permitted by the rules and regulations of the SEC, and, therefore, these interim financial statements should be read in conjunction with our audited financial statements included in the prospectus, dated April 27, 2017 (the “Prospectus”), filed by us with the SEC on May 1, 2017 pursuant to Rule 424(b)(4) under the Securities Act of 1933, as amended (the “Securities Act”). In the opinion of management, these condensed consolidated financial statements, which have been prepared pursuant to the rules of the SEC and GAAP for interim financial reporting, reflect all adjustments, which consisted only of normal recurring adjustments that were necessary for a fair statement of the interim periods presented. The results of operations for interim periods are not necessarily indicative of those for a full year. All intercompany accounts and transactions have been eliminated for purposes of preparing these condensed consolidated financial statements.



Initial Public Offering



On April 13, 2017, in connection with the initial public offering of shares of our common stock (“IPO”), our board of directors and stockholders approved an amendment to the amended and restated certificate of incorporation effecting a 3.00 for 1.00 stock split of our issued and outstanding shares of common stock. The stock split was implemented on April 13, 2017 and the par value of the common and preferred stock was not adjusted as a result of the stock split. All other common stock share amounts disclosed in this Form 10-Q have been adjusted to reflect this stock split for all periods presented.



On May 3, 2017, we completed the initial public offering of 9.5 million shares of our common stock, $0.01 par value, at a price to the public of $17.00 per share pursuant to a Registration Statement on Form S-1, as amended (File No. 333-216580) (the “Registration Statement”). The underwriters exercised their option to purchase an additional 1.425 million shares of our common stock from certain selling stockholders and the closing of the over-allotment option occurred on May 3, 2017 concurrently with the closing of the IPO. We received $148.9 million in net proceeds after deducting underwriting discounts and commissions and other offering expenses of $12.6 million. We used a portion of the net proceeds from the IPO to repay our indebtedness under our Credit Facility (see “Note 7. Revolving Line of Credit and Long-Term Debt”) and will use the remainder for general corporate purposes, which may include the payment of costs and expenses associated with the implementation of our business strategy. In addition, in connection with the IPO, our certificate of incorporation was amended and restated to increase our authorized capital stock to consist of 225.0 million shares of common stock, par value $0.01 per share, and 10.0 million shares of preferred stock, par value $0.01 per share.

 

Recent Accounting Pronouncements



Pronouncements Adopted in 2017



In May 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Updates (“ASU”) No. 2017-09, Scope of Modification Accounting (Topic 718),  which clarifies when to account for a change to the terms and conditions of a share-based payment award as a modification. Under the new guidance, an entity should apply modification accounting unless the modified award has the same fair value, vesting conditions, and classification of equity or liability as the original award. We have elected to early adopt this ASU in the second quarter of 2017. The adoption of this ASU had no material impact on our consolidated financial statements.



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In January 2017, the FASB issued ASU No. 2017-04, Simplifying the Accounting for Goodwill Impairment (Topic 350). This new standard simplifies the test for goodwill impairment. In the original guidance, an entity is required to perform additional analysis in Step 2, which measures a goodwill impairment loss by comparing the implied fair value of a report unit’s goodwill with the carrying amount of that goodwill. The FASB simplifies the subsequent measurement of goodwill by eliminating Step 2. Instead, under the amendments in this update, an entity should perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount with excess carrying value over the fair value recognized as a loss on impairment. In addition, income tax effects from any tax deductible goodwill should be considered in measuring the goodwill impairment loss, if applicable. The amendments in this update are effective for public companies for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2020, with early adoption permitted. We elected to adopt the guidance in ASU 2017-04 effective April 1, 2017, and as a result, will apply the new guidance to our annual goodwill impairment tests performed as of December 31, 2017.



In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting (Topic 718), to simplify the accounting for share-based payment transactions, including accounting for forfeitures, excess tax benefit/expense, and tax withholding requirements. The guidance is effective for fiscal years, and interim periods within those years, beginning after December 31, 2016. We adopted this guidance on January 1, 2017 and have elected to recognize actual forfeitures when they occur. The adoption did not have a material impact on our consolidated financial statements. 



In November 2015, the FASB issued ASU No. 2015-17, Balance Sheet Classification of Deferred Taxes (Topic 740). This standard requires all deferred taxes, along with any related valuation allowance, to be presented as a noncurrent deferred asset or liability. The guidance is effective for fiscal years beginning after December 15, 2016, and includes interim periods within those fiscal years. Early adoption is permitted and the guidance may be applied either prospectively, for all deferred tax assets and liabilities, or retrospectively by reclassifying the comparative balance sheet. We adopted this ASU in the first quarter of 2017 on a prospective basis.



Pronouncements Not Yet Effective



In January 2017, the FASB issued ASU 2017-01, Clarifying the Definition of a Business (Topic 805), to clarify the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions or disposals of assets or businesses. For public entities, this guidance will be effective for annual periods beginning after December 15, 2017, including interim periods within those periods, and is not expected to have a material impact on our consolidated financial statements.



In August 2016, the FASB issued ASU 2016-15, Classification of Certain Cash Receipts and Cash Payments (Topic 230). The objective of the guidance is to reduce the existing diversity in practice related to the presentation and classification of certain cash receipts and cash payments. The guidance addresses eight specific cash flow issues including but not limited to, debt prepayment or extinguishment costs, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims and proceeds from the settlement of corporate-owned life insurance policies. For public entities, the guidance is effective for financial statements issued for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years and is retrospective for all periods presented. Early adoption is permitted including for interim periods. We are evaluating the provisions of this new accounting guidance, including which period to adopt, and have not determined what impact the adoption will have on our consolidated statements of cash flows.



In June 2016, the FASB issued ASU 2016-13, Measurement of Credit Losses on Financial Instruments (Topic 326),  which introduces a new impairment model for financial instruments, including trade accounts receivable, that is based on expected credit losses rather than incurred credit losses. The new standard is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years with early adoption permitted in fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The standard requires entities to record a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. We are evaluating the impact that the adoption of this standard will have on our consolidated financial statements.



In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which replaces the existing guidance in ASC 840, Leases. ASC 842 requires lessees to recognize most leases on their balance sheets as lease liabilities with corresponding right-of-use assets. The new lease standard does not substantially change lessor accounting. The new standard is effective for interim and annual reporting periods beginning after December 15, 2018, with early adoption permitted. We are currently evaluating the impact of the adoption of this guidance.



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In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). The new standard is effective for annual reporting periods beginning after December 15, 2017 and early adoption is permitted, however, not before fiscal years beginning after December 15, 2016. Subsequent to ASU 2014-09’s issuance, Topic 606 was amended for FASB updates that changed the effective date as well as addressed certain aspects regarding new revenue standards. The comprehensive new standard will supersede existing revenue recognition guidance and require revenue to be recognized when promised goods or services are transferred to customers in amounts that reflect the consideration to which entities expect to be entitled in exchange for those goods or services. Adoption of the new rules could affect the timing of revenue recognition for certain transactions. The guidance permits the use of either a full retrospective or modified retrospective transition method. We are assessing the impacts of the new standard on our revenues and financial statement disclosures. We have put in place a team, including a third-party consultant, to develop and carry out our implementation plan. The team is currently reviewing our revenue streams, comparing historical accounting policies and practices to the new accounting guidance and finalizing an implementation plan.

 

Note 2.  Acquisition



On February 1, 2017, we acquired a 50% interest in Repeat Precision, LLC (“Repeat”) for $6.0 million. Historically, the business has been a supplier to NCS. Our strategic purchase of 50% of this business ensures that we have continued access to these services, but more importantly, allows us greater control of the allocation of their capacity, ensuring that we can scale their operations together with ours. In addition, Repeat also markets certain completion products on a wholesale basis, providing an additional revenue opportunity.



Concurrent with entering into the transaction, the previous owner of the 50% interest repaid a $1.0 million promissory note to us. We also recorded an earn-out as a contingent adjustment to the asset purchase price in the amount of $7.0 million, which is included in other long-term liabilities on the balance sheet. We estimated the fair value of the earn-out using a Monte Carlo simulation on the acquisition date. The earn-out equity value was based on 2018 EBITDA, multiplied by three, which was then reduced by debt and increased by cash. The earn-out equity value was then discounted at the adjusted cost of equity. The earn-out is subject to re-measurement each reporting period using Level 3 inputs until the full amount of the liability has been satisfied. Subsequent changes in the fair value of the liability are reflected in our condensed consolidated statements of operations as a change in fair value of contingent consideration. As of June 30, 2017, the earn-out had a value of $7.8 million. During the three months ended June 30, 2017, we recognized $0.8 million as a  change in fair value of contingent consideration in the condensed consolidated statements of operations related to the change in fair value of the earn-out. The payment, if any, is expected to be paid during the first quarter of 2019 and will not exceed $10.0 million.



As NCS has the controlling voting interest in the joint venture, we accounted for the acquisition as a business combination and included Repeat in our consolidated financial statements from the acquisition date. As a result, the other party’s ownership percentage is presented separately as a non-controlling interest.



The purchase price is allocated to the fair value of assets acquired and liabilities assumed based on a discounted cash flow model and goodwill is recognized for the excess consideration transferred over the fair value of the net assets. The purchase price allocation is preliminary and adjustments to provisional amounts may occur as we continue to analyze information. We have recognized $15.9 million of goodwill as a result of the transaction and expect the full amount to be deductible for tax purposes. Additional changes to the purchase price allocation may result in a corresponding change to goodwill in the period of the change, however, we do not expect such adjustments to materially change the purchase price allocation. We also incurred acquisition costs of $0.3 million during the first quarter of 2017, which were included in general and administrative expense on our condensed consolidated statements of operations.



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The following table summarizes the consideration and the assets acquired at the Repeat closing date (in thousands):







The unaudited pro forma operating results pursuant to ASC 805 related to the Repeat acquisition have been excluded due to immateriality.



In connection with the Repeat acquisition, we acquired intangible assets in the amount of $4.1 million related to customer relationships. The intangible assets are amortized over their estimated ten year useful lives. Amortization expense for the intangible assets for the Repeat acquisition was $0.1 million and $0.2 million for the three and six months ended June 30, 2017.  

 

Note 3.   Inventories



Inventories consist of the following as of June 30, 2017 and December 31, 2016 (in thousands):





 

Note 4.  Property and Equipment



Property and equipment by major asset class consist of the following as of June 30, 2017 and December 31, 2016 (in thousands):





 

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Note 5.   Goodwill and Identifiable Intangibles



Changes in the carrying amount of goodwill are as follows (in thousands):







Identifiable intangibles by major asset class consist of the following (in thousands):











 





Note 6.  Accrued Expenses



Accrued expenses consist of the following as of June 30, 2017 and December 31, 2016 (in thousands):





 

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Note 7.  Revolving Line of Credit and Long-Term Debt



Our long-term debt is as follows (in thousands):







The estimated fair value of total debt for the periods ended June 30, 2017 and December 31, 2016 was $1.4 million and $92.8 million, respectively. The fair value was estimated using Level 2 inputs by calculating the sum of the discounted future interest and principal payments through the date of maturity.



Below is a description of our prior and new credit agreements and other financing arrangements.



Prior Senior Secured Credit Facilities



Effective August 7, 2014, we entered into a credit agreement with a group of financial institutions which was denominated in Canadian dollars (“CAD”) and allowed for a term loan of up to $197.6 million CAD ($180.0 million USD), and a $38.4 million CAD ($35.0 million USD) revolving line of credit of which $5.0 million CAD was available for letters of credit and $5.0 million CAD was available for swingline loans (together, the “Credit Facility”). We entered into Amendment No. 1, effective April 15, 2015, and Amendment No. 2, effective December 22, 2015, which modified the original credit agreement governing the Credit Facility. The modifications changed various defined terms as well as the covenants. These amendments also revised the revolving credit commitment to $27.8 million CAD ($20.0 million USD) and evidenced the prepayment of the Term Loan in an amount of $55.8 million CAD.



The term loan accrued interest at the adjusted base rate or Canadian base rate plus an applicable margin, as defined in the credit agreement governing the Credit Facility, with quarterly interest payments. The term loan was collateralized by certain assets of the Company and guaranteed by certain wholly owned subsidiaries of the Company. The interest on the term loan was payable in quarterly installments. All unpaid principal and interest was scheduled to mature on August 7, 2019. As of December 31, 2016, the term loan had an outstanding balance of $90.8 million. We incurred interest expense of $0.5 million and $1.3 million for the three months ended June 30, 2017 and 2016, respectively, and $1.7 million and $2.6 million for the six months ended June 30, 2017 and 2016, respectively.



The revolving line of credit was collateralized by certain assets of the Company and guaranteed by certain wholly owned subsidiaries of the Company. Interest on the revolving line of credit was payable quarterly at the adjusted base rate or Canadian base rate plus an applicable margin, as defined in the agreement governing the Credit Facility.



Direct costs incurred in connection with the term loan were capitalized and amortized over the term of the debt using the effective interest method. Net fees attributable to the lenders of $1.7 million were presented as a discount to the carrying value of debt as of December 31, 2016. As a result of the payment of the loan in full on May 4, 2017, we wrote off the remainder of the deferred loan costs of $1.4 million as a component of interest expense, net in the condensed consolidated statements of operations during the second quarter of 2017.



In February 2017, to ensure compliance with non-financial covenants per the Credit Facility, we made a $3.0 million term loan prepayment. On May 4, 2017, the term loan was paid in full and terminated using a portion of the proceeds from our IPO and we also entered into a new Amended and Restated Credit Agreement (the “Credit Agreement”).



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New Senior Secured Credit Facility



On May 4, 2017, we entered into an Amended and Restated Credit Agreement with Pioneer Investment, Inc., as borrower (the “U.S. Borrower”), NCS Multistage Inc., as borrower (the “Canadian Borrower”), Pioneer Intermediate, Inc. (together with the Company, the “Parent Guarantors”) and the lenders party thereto, Wells Fargo Bank, National Association as administrative agent in respect of the U.S. Facility (as defined below) and Wells Fargo Bank, National Association, Canadian Branch, as administrative agent in respect of the Canadian Facility (as defined below) (the senior secured revolving credit facilities provided thereunder, the “New Senior Secured Credit Facility”).



The New Senior Secured Credit Facility consists of a (i) senior secured revolving credit facility in an aggregate principal amount of $25.0 million made available to the U.S. Borrower (the “U.S. Facility”), of which up to $5.0 million may be made available for letters of credit and up to $5.0 million may be made available for swingline loans and (ii) senior secured revolving credit facility in an aggregate principal amount of $25.0 million made available to the Canadian Borrower (the “Canadian Facility”). The New Senior Secured Credit Facility will mature on May 4, 2020. At June 30, 2017, we had no outstanding indebtedness under the New Senior Secured Credit Facility.



Borrowings under the U.S. Facility may be made in U.S. dollars, Canadian dollars or Euros and bear interest at a rate equal to the Adjusted Base Rate or Eurocurrency Rate (each as defined in the Credit Agreement), in each case, plus an applicable interest margin as set forth in the Credit Agreement. Borrowings under the Canadian Facility may be made in U.S. dollars or Canadian dollars and bear interest at the Canadian (Cdn) Base Rate, Canadian (U.S.) Base Rate, Eurocurrency Rate or Discount Rate (each as defined in the Credit Agreement), in each case, plus an applicable interest margin as set forth in the Credit Agreement. The Adjusted Base Rate, Canadian (U.S.) Base Rate and Canadian (Cdn) Base Rate applicable margin will be between 2.25% and 3.00% and Eurocurrency Rate applicable margin will be between 3.25% and 4.00%, in each case, depending on our leverage ratio.



The obligations of the U.S. Borrower under the U.S. Facility are guaranteed by the Parent Guarantors and each of the other existing and future direct and indirect restricted subsidiaries of the Company organized under the laws of the United States (subject to certain exceptions) and are secured by substantially all of the assets of the Parent Guarantors, the U.S. Borrower and such other subsidiary guarantors, in each case, subject to certain exceptions and permitted liens. The obligations of the Canadian Borrower under the Canadian Facility are guaranteed by the Parent Guarantors, the U.S. Borrower and each of the future direct and indirect restricted subsidiaries of the Company organized under the laws of the United States and Canada (subject to certain exceptions) and are secured by substantially all of the assets of the Parent Guarantors, the U.S. Borrower, the Canadian Borrower and such subsidiary guarantors, if any, in each case, subject to certain exceptions and permitted liens.



The Credit Agreement contains financial covenants that require (i) commencing with the fiscal quarter ending June 30, 2017, compliance with a leverage ratio test set at (A) 3.00 to 1.00 as of the last day of each fiscal quarter ending prior to March 31, 2018 and (B) 2.50 to 1.00 as of the last day of each fiscal quarter ending on or after March 31, 2018, (ii) commencing with the fiscal quarter ending June 30, 2017, compliance with an interest coverage ratio test set at 2.75 to 1.00 as of the last day of each fiscal quarter, (iii) if the leverage ratio as of the end of any fiscal quarter is greater than 2.00 to 1.00 and the amount outstanding under the Canadian Facility at any time during such fiscal quarter was greater than $0, compliance as of the end of such fiscal quarter with a Canadian asset coverage ratio test set at 1.00 to 1.00 and (iv) if the leverage ratio as of the end of any fiscal quarter is greater than 2.00 to 1.00 and the amount outstanding under the U.S. Facility at any time during such fiscal quarter was greater than $0, compliance as of the end of such fiscal quarter with a U.S. asset coverage ratio test set at 1.00 to 1.00. The Credit Agreement also contains customary affirmative and negative covenants, including, among other things, restrictions on the creation of liens, the incurrence of indebtedness, investments, dividends and other restricted payments, dispositions and transactions with affiliates. As of June 30, 2017, we were in compliance with these covenants. The Credit Agreement also includes customary events of default for facilities of this type (with customary grace periods, as applicable). If an event of default occurs, the lenders under each of the U.S. Facility and the Canadian Facility may elect (after the expiration of any applicable notice or grace periods) to declare all outstanding borrowings under such facility, together with accrued and unpaid interest and other amounts payable thereunder, to be immediately due and payable, The lenders under each of the U.S. Facility and the Canadian Facility also have the right upon an event of default thereunder to terminate any commitments they have to provide further borrowings under such facility. Further, following an event of default under each of the U.S. Facility and the Canadian Facility, the lenders thereunder will have the right to proceed against the collateral granted to them to secure such facility.



Direct costs of $0.7 million were incurred in connection with the New Senior Secured Credit Facility. The costs were capitalized as an asset as there are currently no borrowings under the New Senior Secured Credit Facility. The costs are being amortized over the term of the credit facilities using the straight line method. Amortization expense of the deferred financing charges of $40 thousand were included in interest expense, net for the three months ended June 30, 2017. 



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Promissory Note



In connection with the acquisition, Repeat entered into a promissory note with Security State Bank & Trust, Fredericksburg on February 27, 2017, for an aggregate borrowing capacity of $3.8 million. The promissory note is secured against equipment, inventory and receivables. It bears interest at a variable interest rate based on prime plus 1% and matures on February 27, 2018. Any principal amount not paid by the maturity date bears interest at the lesser of the maximum rate allowed per law or 18% per annum. As of June 30, 2017, the outstanding balance on the promissory note was $1.7 million.



Equipment Notes



In February 2017, Repeat entered into an equipment note in the amount of $0.8 million with Security State Bank & Trust, Fredericksburg also in connection with the acquisition. The equipment note bears interest at prime plus 1%, matures on February 27, 2021 and is collateralized by certain property. Any principal amount not paid by the maturity date bears interest at the lesser of the maximum rate allowed per law or 18% per annum. As of June 30, 2017, the outstanding balance on the equipment note was $0.7 million.



In April 2017, Repeat entered into another equipment note in the amount of $0.8 million with Security State Bank & Trust, Fredericksburg. The equipment note bears interest at prime plus 1%, matures on December 21, 2018 and is collateralized by certain property. Any principal amount not paid by the maturity date bears interest at the lesser of the maximum rate allowed per law or 18% per annum. As of June 30, 2017, the outstanding balance on the equipment note was $0.8 million.

 

Note 8.  Commitments and Contingencies



Litigation



In the ordinary course of our business, from time to time, we have various claims, lawsuits and administrative proceedings that are pending or threatened with respect to commercial, product liability and employee matters.



Our management currently does not expect that the results of any of these legal proceedings, either individually or in the aggregate, would have a material adverse effect on our financial position, results of operations or cash flows.



On March 3, 2017, we received $0.9 million resulting from an arbitration case that was decided in our favor in February 2017. This was recorded as other income (expense), net in our condensed consolidated statements of operations for the six months ended June 30, 2017.

 

Note 9.  Stockholders’ Equity



As disclosed in “Note 1. Basis of Presentation”, on April 13, 2017 our board of directors and stockholders approved an amendment to the amended and restated certificate of incorporation effecting a 3.00 for 1.00 stock split of our issued and outstanding shares of common stock. The stock split was implemented on April 13, 2017. The par value of the common and preferred stock was not adjusted as a result of the stock split. All other issued and outstanding shares and per share amounts included in the accompanying financial statements have been adjusted to reflect this stock split for all periods presented.



On April 27, 2017, our certificate of incorporation was amended and restated and the number of shares of common stock authorized to be issued by the Company was increased from 54.0 million to 225.0 million and the number of our authorized shares of preferred stock was increased from one share to 10.0 million shares. As of June 30, 2017 and December 31, 2016,  one share of preferred stock, designated as the “Special Voting Share” in our amended and restated certificate of incorporation, was issued and outstanding.



The holders of common stock are entitled to one vote for each share of common stock held. The holder of the Special Voting Share shall be entitled to vote on all matters that a holder of common stock is entitled to vote on and shall be entitled to cast a number of votes equal to the number of exchangeable shares of NCS Multistage, Inc. (“NCS Canada”), a subsidiary of the Company, then outstanding that are not owned by us, multiplied by the exchange ratio (as defined in the articles of incorporation of NCS Canada). In connection with our stock split, the exchange ratio was adjusted to three from one. As of December 31, 2016, the number of shares of common stock issuable for the exchangeable shares totaled 1,819,247 and was held by the preferred stockholder. On May 3, 2017, the preferred stockholder sold shares of our common stock in our initial public offering, which reduced the number of shares of common stock issuable for the exchangeable shares. As of June 30, 2017, the number of shares of common stock issuable for the exchangeable shares totaled 1,769,247. The holders of common stock are entitled to receive dividends as declared from time-to-time by our board of

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directors. The holder of the Special Voting Share is not entitled to receive dividends. No dividends were declared during the periods ended June 30, 2017 or December 31, 2016.

 

Note 10.  Share-Based Compensation



In connection with the IPO, certain options that were to vest only in connection with a change of control (the “Liquidity Awards”) were amended to provide that such awards will vest in three equal installments on each of the first three anniversaries of the consummation of our IPO, which occurred on May 3, 2017, subject to certain requirements including, as applicable, the recipient’s continued employment on the vesting date. The Liquidity Awards are still subject to accelerated vesting upon a company sale, as defined in our 2012 Equity Incentive Plan.  



As a result of the modification, we estimated the fair value of the Liquidity Awards on April 27, 2017, the amendment date, using the Black-Scholes option-pricing model, which required estimates of key assumptions based on both historical information and management judgment regarding market factors and trends. The weighted average assumptions used to estimate the fair value of the Liquidity Awards were as follows:







As of April 27, 2017, the total unamortized compensation expense was valued at $17.2 million compared to $10.1 million at December 31, 2016. The unamortized compensation expense of the Liquidity Awards will be recognized over a period of three years from the date of the modification.



The total share-based compensation expense for all awards was $1.5 million and $0.3 million for the three months ended June 30, 2017 and 2016, respectively, and $1.8 million and $0.7 million for the six months ended June 30, 2017 and 2016, respectively.

 

Note 11.  Income Taxes



The computation of the annual expected effective tax rate at each interim period requires certain estimates and assumptions including, but not limited to, the expected operating income (or loss) for the year, projections of the proportion of income (or loss) earned and taxed in foreign jurisdictions, permanent and temporary differences and the likelihood of recovering deferred tax assets generated in the current year. The accounting estimates used to compute the provision for income taxes may change as new events occur, more experience is acquired or additional information is obtained. The computation of the annual effective rate would include applicable modifications, which were projected for the year, such as certain book expenses not deductible for tax, the domestic manufacturing deduction, tax credits and foreign deemed dividends.



We recorded a tax (benefit) of $(0.9) million and $(3.7) million for the three months ended June 30, 2017 and 2016, respectively. For the three months ended June 30, 2017 and 2016, our effective tax rates were (15.3)% and (29.9)%, respectively. For the six months ended June 30, 2017 and 2016, we recorded a tax expense (benefit) of $1.2 million and $(7.1) million, respectively. The effective tax rates for the six months ended June 30, 2017 and 2016 were 43.7% and (29.9)%, respectively. The primary difference in these effective tax rates was due to the effect of not providing U.S. income taxes on the undistributed earnings of foreign subsidiaries because we intend to permanently reinvest such earnings outside the U.S. We changed our assertion during the first quarter of 2017 that undistributed foreign earnings are indefinitely or permanently reinvested as a result of cash proceeds received from the IPO during May 2017, a portion of which was used to pay off existing debt. The excess proceeds from the IPO leaves cash available in the U.S. without requiring cash from foreign operations. Our effective tax rate for the three months ended June 30, 2017 was also impacted by a $0.5 million tax expense recorded for provision to return estimates as a result of the filing of prior year Canadian tax returns.



ASC 740 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. The impact of an uncertain income tax position on the income tax returns must be recognized at the largest amount that is more-likely-than-not to be required to be recognized upon audit by the relevant taxing authority. This standard also provides guidance on de-recognition, measurement, classification, interest and penalties, accounting for interim periods, disclosure and transition issues with respect to tax positions. We include interest and penalties as a component of other income (expense), net in the condensed consolidated statements of operations and recognized $2 thousand and $6 thousand for the six months ended June 30, 2017 and 2016, respectively. 

 

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Note 12.  (Loss) Earnings Per Common Share



The following table presents the reconciliation of the numerator and denominator for calculating (loss) earnings per common share from net (loss) income (in thousands, except per share data):



 

Note 13.  Related Party Transactions



As of December 31, 2016, we held a long-term note receivable in the amount of $0.8 million due from a related party. During the first quarter of 2017, the long-term note receivable was paid in full. We also purchased services and grease from a related party in the amount of $17 thousand for the three months ended June 30, 2016 and $21 thousand and $49 thousand for the six months ended June 30, 2017 and 2016, respectively.  We had no purchases from a related party for the three months ended June 30, 2017.  On May 3, 2017, the preferred stockholder, a related party, sold 50,000 shares of our common stock in our initial public offering. See “Note 9. Stockholders’ Equity”. 

 

Note 14.  Segment and Geographic Information



We have determined that we operate in one reportable segment that has been identified based on how our chief operating decision maker manages our business.

 

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Note 15.  Subsequent Events



Employee Stock Purchase Plan



On August 3, 2017, our board of directors adopted the Company’s Employee Stock Purchase Plan (the “U.S. ESPP”) and an employee stock purchase plan specifically applicable to non-U.S. employees on substantially the same terms as the ESPP (the “Non-U.S. ESPP” and together with the U.S. ESPP, the “ESPP”). There are an aggregate of 2.0 million shares of our common stock reserved for issuance and sale pursuant to the ESPP. The first offering period under our ESPP is expected to begin on or about October 16, 2017 and will end on December 31, 2018 and future offering periods are expected to span a calendar year. The ESPP allows eligible employees to contribute, subject to any other plan limitations, up to 18% of their base salary, up to a maximum of $25 thousand per calendar year ($50 thousand for the first offering period), toward the purchase of our common stock at a discounted price. The purchase price of the shares on each purchase date is equal to 85% of the lower of the fair market value of our common stock on the first and last trading days of each offering period. The U.S. ESPP is designed to be qualified under Section 423 of the Internal Revenue Code.  



 

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operation



The following discussion and analysis of the financial condition and results of our operations should be read together with our financial statements and the related notes thereto included in this Quarterly Report on Form 10-Q (“Quarterly Report”) and our audited financial statements and the related notes thereto included in our final prospectus (the “Prospectus”), dated April 27, 2017, filed with the Securities and Exchange Commission (the “SEC”) pursuant to Rule 424(b) of the Securities Act of 1933, as amended (the “Securities Act”), which is deemed to be part of the Company’s Registration Statement on Form S-1 (File No. 333-216580), as amended, as well as the section of the Prospectus entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” On May 3, 2017, the Company completed the initial public offering (the “IPO”) of shares of common stock, par value $0.01 per share, of the Company, at a price to the public of $17.00 per share. On May 3, 2017, certain selling stockholders identified in the Prospectus completed the sale of 1.425 million shares of our common stock, par value $0.01 per share, to the underwriters in the initial public offering at the initial public offering price less the underwriting discount pursuant to the full exercise of the over-allotment option granted to the underwriters in connection with the Company’s initial public offering. 



As used in this Quarterly Report, except where the context otherwise requires or where otherwise indicated, the terms “Company,” “NCS,” “we,” “our” and “us” refer to NCS Multistage Holdings, Inc.



This discussion and analysis contains forward-looking statements regarding the industry outlook, estimates and assumptions concerning events and financial and industry trends that may affect our future results of operations or financial condition and other non-historical statements. These forward-looking statements are subject to numerous risks and uncertainties, including but not limited to the risks and uncertainties described in “—Cautionary Note Regarding Forward-Looking Statements” and “Risk Factors.” Our actual results may differ materially from those contained in or implied by these forward-looking statements.



Overview



We are a leading provider of highly engineered products and support services that facilitate the optimization of oil and natural gas well completions and field development strategies. We provide our products and services primarily to exploration and production (“E&P”) companies for use in onshore wells, predominantly wells that have been drilled with horizontal laterals in unconventional oil and natural gas formations. Our products and services are utilized in oil and natural gas basins throughout North America and in selected international markets, including Argentina, China and Russia. We have provided our products and services to various customers, including leading large independent oil and natural gas companies and major oil companies.



Our primary offering is our Multistage Unlimited family of completion products and services, which enable efficient pinpoint stimulation: the process of individually stimulating each entry point into a formation targeted by an oil or natural gas well. Our Multistage Unlimited products and services are typically utilized in cemented wellbores and enable our customers to precisely place stimulation treatments in a more controlled and repeatable manner as compared with traditional completion techniques. Our Multistage Unlimited products and services are utilized in conjunction with third-party providers of pressure pumping, coiled tubing and other services.



In addition to our Multistage Unlimited family of completion products and services, we sell other products including our AirLock casing buoyancy system and liner hanger systems. We also provide engineering services through our Anderson Thompson Reservoir Strategies group.



Industry Trends Affecting our Results of Operations



Oil and Natural Gas Drilling and Completion Activity



Our products and services are primarily sold to North American E&P companies and sales of our products and services depend upon oil and natural gas drilling and production activity in North America. Oil and natural gas drilling and production activity is directly related to oil and natural gas prices.



Over the past several years, North American E&P companies have been able to reduce their cost structures in response to lower oil and natural gas prices and have also utilized technologies, including ours, to increase efficiency and improve well performance. After a period of declining drilling and completion activity from late 2014 through early 2016, North American E&P companies began to increase activity levels beginning in the second quarter of 2016, as evidenced by increasing rig counts in the U.S. and Canada. The average U.S. land rig count improved from 398 in the second quarter of 2016 to 874 in the second quarter of 2017, while the average rig count in Canada increased from 47 in the second quarter of 2016 to 116 in the second quarter of 2017. Over this time, the demand for our products and services has also increased.



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Oil and natural gas prices remain volatile, with WTI crude oil pricing falling to below $43 per barrel in June 2017. Sustained declines in commodity prices, combined with potential increases in the cost of drilling and completing wells resulting from high utilization in certain oilfield services categories could lead North America E&P companies to reduce drilling and completion activity, which could negatively impact our business.



Listed below are recent crude oil and natural gas pricing trends, as provided by the Energy Information Administration (“EIA”) of the U.S. Department of Energy: 





Listed below are the average number of operating onshore rigs in the U.S. and in Canada per quarter since the second quarter of 2016, as provided by Baker Hughes, a GE company:







In addition, a substantial portion of our business is subject to quarterly variability. In Canada, we typically experience higher activity levels in the first quarter and fourth quarter of each year, as our customers take advantage of the winter freeze to gain access to remote drilling and production areas. In the past, our revenue in Canada has declined during the second quarter due to warming weather conditions that result in thawing, softer ground, difficulty accessing drill sites and road bans that curtail drilling and completion activity.



Increasing Adoption of Pinpoint Stimulation



Traditional well completion techniques, including plug and perf and ball drop, currently account for the majority of unconventional well completions in North America. We believe that pinpoint stimulation provides substantial benefits compared to these traditional well completion techniques and that pinpoint stimulation has become increasingly utilized by operators in North America, particularly in Canada. Our ability to grow our market share, as evidenced by the percentage of horizontal wells in North America completed using our products and services, will depend in large part on the industry’s continued adoption of pinpoint stimulation to complete wells.



Increasing Well Complexity and Focus on Completion Optimization



In recent years, E&P companies have drilled longer horizontal wells and completed more hydraulic fracturing stages per well to maximize the volume of hydrocarbon recoveries per well. This trend towards more complex wells has resulted in us selling more sleeves per well on average, which increases our revenue opportunity per well completion. Additionally, E&P companies have become increasingly focused on well productivity through optimization of completion designs and we believe this trend may further the adoption of pinpoint stimulation, and in turn, increase the opportunity for sales of our products and services if our customers observe operational benefits and long-term production results from the application of pinpoint stimulation.



How We Generate Revenues



We derive the majority of our revenues from the sale of our Multistage Unlimited products and the provision of related services. The remainder of our revenues are generated from sales of our AirLock casing buoyancy system, our liner hanger systems and services provided by Anderson Thompson Reservoir Strategies. Our joint venture, Repeat Precision, LLC, or Repeat, generates revenue through the provision of third-party manufacturing services and the sale of composite bridge plugs.

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Product sales represented 79.8% and 77.5% of our revenue for the three months ended June 30, 2017 and 2016, respectively, and 78.5% and 75.5% for the six months ended June 30, 2017 and 2016, respectively. We offer two primary models of sliding sleeves: our MultiCycle sliding sleeves and our GripShift sliding sleeves. Our MultiCycle sliding sleeves are sold at a higher price per sleeve as compared to our GripShift sliding sleeves, reflecting the additional features they incorporate. Most of our sales are on a just-in-time basis, as specified in individual purchase orders, with a fixed price for our sliding sleeves. We occasionally supply our customers with large orders that may be filled on negotiated terms. Tool charges and related services (which are classified together as “services” in our financial results) represented 20.2% and 22.5% of our revenues for the three months ended June 30, 2017 and 2016, respectively, and 21.5% and 24.5% for the six months ended June 30, 2017 and 2016, respectively. Tool charges and related services relate to agreed rates we charge to our customers for the provision of our downhole frac isolation assembly and our personnel.



During periods of low drilling and well completion activity we will, in certain instances, lower the prices of our products and services. Our revenues are also impacted by well complexity, with wells with more stages resulting in longer jobs and increased revenue attributable to selling more sliding sleeves and the provision of our services.



For the three months ended June 30, 2017 and 2016, approximately 45% and 63%, respectively, of our revenues were derived from sales in Canada and were denominated in Canadian dollars. For the six months ended June 30, 2017 and 2016, approximately 61% and 74%, respectively, of our revenues were attributable to our Canadian sales. Because our Canadian contracts are typically invoiced in Canadian dollars, the effects of foreign currency fluctuations are regularly monitored.



Although most of our sales are to North American E&P companies, we do have sales to customers outside of North America and expect sales to international customers to increase over time. These international sales are typically made to our local operating partners on a free on board basis with a point of sale in the United States. Some of the locations in which we have operating partners or sales representatives include Argentina, China, Russia and the Middle East. Our operating partners and representatives do not have authority to contractually bind our company, but market our products in their respective territories as part of their product or service offering.



Costs of Conducting our Business



Our cost of sales is comprised of expenses relating to the manufacture of our products in addition to the costs of our support services. Manufacturing cost of sales includes payments made to our suppliers for raw materials and payments made to machine shops for the manufacturing of components used in our products and costs related to our employees that perform quality control analysis, assemble and test our products. During the first quarter of 2017, we entered into our joint venture, Repeat, which we believe will allow us to reduce our costs for certain product categories. Cost of sales for support services includes compensation and benefit-related expenses for employees who provide direct revenue generating services to customers in addition to the costs incurred by these employees for travel and subsistence while on site. Cost of sales includes other variable manufacturing costs, such as shrinkage, obsolescence and revaluation or scrap related to our existing inventory.



Our selling, general and administrative (“SG&A”) expenses are comprised of compensation expense, which includes compensation and benefit-related expenses for our employees who are not directly involved in revenue generating activities, including those involved in our research and development activities, as well as all of our general operating costs. These general operating costs include, but are not limited to: rent and occupancy for our facilities, information technology infrastructure, software licensing, advertising and marketing, third party research and development, risk insurance and professional service fees for audit, legal and other consulting services. As a result of being a public company, our legal, accounting and other expenses have increased and will further increase for costs associated with our compliance with the Sarbanes-Oxley Act.

 

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Results of Operations



The following table summarizes our revenues and expenses for the periods indicated (in thousands):







Three Months Ended June 30, 2017 compared to Three Months Ended June 30, 2016 



Revenues



Revenues were $36.9 million for the three months ended June 30, 2017 as compared to $11.3 million for the three months ended June 30, 2016. This increase was primarily attributable to an increase in the volume of sales of our completions products and services  due to higher customer drilling and well completion activity as a result of an improved commodity price environment in the second quarter of 2017 as compared to the second quarter of 2016, as well as an increase in the percentage of revenue derived from the U.S. and the Canadian Deep Basin, which exhibit less seasonality. Product sales for the three months ended June 30, 2017 were $29.4 million as compared to $8.7 million for the three months ended June 30, 2016. Our service revenue was $7.5 million for the three months ended June 30, 2017 as compared to $2.5 million for the three months ended June 30, 2016.  



Cost of sales



Cost of sales was $18.9 million, or 51.2% of revenues, for the three months ended June 30, 2017 as compared to $6.5 million, or 57.5% of revenues, for the three months ended June 30, 2016. The increase in cost of sales was primarily a result of a higher number of wells completed and a higher volume of product sales. Cost of sales were a lower percentage of revenues due to the higher volume of well completions and sliding sleeve and AirLock sales, resulting in greater absorption of fixed costs. 



Selling, general and administrative expenses



Selling, general and administrative expenses were $16.2 million for the three months ended June 30, 2017 as compared to $8.4 million for the three months ended June 30, 2016. The increase was the direct result of headcount additions in all functional areas. In addition, there were significant additional expenses incurred related to our initial public offering process, subsequent costs related to operating as a public company and an increase in share-based compensation related to amendments to our Liquidity Awards.

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Change in fair value of contingent consideration



Change in fair value of contingent consideration was $0.8 million for the three months ended June 30, 2017 due to the $0.8 million increase in the fair value of the earn-out associated with the Repeat acquisition.



Interest expense, net



Interest expense, net was $2.0 million for the three months ended June 30, 2017 as compared to $1.6 million for the three months ended June 30, 2016. The increase in interest expense, net was primarily a result of the write-off of the remaining loan fees of $1.4 million associated with the prepayment of the term loan in May 2017 by using a portion of the proceeds from our IPO. This increase was partially offset by lower interest expense as a result of paying our term loan in full.  



Foreign currency exchange gain (loss)



Foreign currency exchange gain was $2.0 million for the three months ended June 30, 2017 as compared to a loss of $(0.5) million for the three months ended June 30, 2016. The change was primarily due to the impact of the retirement of our foreign currency denominated debt and changes in the foreign currency exchange rates between the periods.



Income tax (benefit)



Income tax (benefit) was $(0.9) million for the three months ended June 30, 2017 as compared to $(3.7) million for the three months ended June 30, 2016. For the three months ended June 30, 2017 and 2016 our effective income tax rates were (15.3)% and (29.9)%, respectively. The primary difference in these effective tax rates was due to the effect of not providing U.S. income taxes on the undistributed earnings of foreign subsidiaries because we intend to permanently reinvest such earnings outside the U.S. We changed our assertion during the first quarter of 2017 that undistributed foreign earnings are indefinitely or permanently reinvested as a result of cash proceeds received from the IPO during May 2017, a portion of which was used to pay off existing debt. The excess proceeds from the IPO leaves cash available in the U.S. without requiring cash from foreign operations. Our effective tax rate for the three months ended June 30, 2017 was also impacted by a $0.5 million tax expense recorded for provision to return estimates as a result of the filing of prior year Canadian tax returns.



As a result of the geographic mix of earnings and losses, including discrete tax items, our tax rate has been and will continue to be volatile until the market stabilizes.



Six Months Ended June 30, 2017 compared to Six Months Ended June 30, 2016 



Revenues



Revenues were $95.5 million for the six months ended June 30, 2017 as compared to $34.4 million for the six months ended June 30, 2016. This increase was primarily attributable to an increase in volume of sales of our completions products and services due to higher drilling and well completion activity as a result of an improved commodity price environment in the six months of 2017 as compared to the six months of 2016 as well as an increase in the percentage of revenue derived from the U.S. and the Canadian Deep Basin, which exhibit less seasonality. Product sales for the six months ended June 30, 2017 were $75.0 million, as compared to $26.0 million for the six months ended June 30, 2016. Our service revenue was $20.5 million for the six months ended June 30, 2017 as compared to $8.4 million for the six months ended June 30, 2016.



Cost of sales



Cost of sales was $48.2 million, or 50.5% of revenues, for the six months ended June 30, 2017 as compared to $19.2 million, or 55.8% of revenues, for the six months ended June 30, 2016. The increase in cost of sales was primarily a result of a higher number of wells completed and a higher volume of product sales. Cost of sales were a lower percentage of revenues due to the higher volume of well completions and sliding sleeve and AirLock sales, resulting in greater absorption of fixed costs. 



Selling, general and administrative expenses



Selling, general and administrative expenses were $28.9 million for the six months ended June 30, 2017 as compared to $16.9 million for the six months ended June 30, 2016. The increase was the direct result of headcount additions in all functional areas. In addition, there were significant additional expenses incurred related to our initial public offering process,  subsequent costs related to operating  as a  public company and an increase in share-based compensation related to amendments to our Liquidity Awards.



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Change in fair value of contingent consideration



Change in fair value of contingent consideration was $0.8 million for the six months ended June 30, 2017 due to the $0.8 million increase in the fair value of the earn-out associated with the Repeat acquisition.



Interest expense, net



Interest expense, net was $3.5 million for the six months ended June 30, 2017 as compared to $3.1 million for the six months ended June 30, 2016. The increase in interest expense, net was primarily a result of the write-off of the remaining loan fees of $1.4 million associated with the prepayment of the term loan in May 2017 by using a portion of the proceeds from our IPO. This increase was partially offset by lower interest expense as a result of paying our term loan in full.



Other income (expense), net



Other income (expense), net was $1.0 million for the six months ended June 30, 2017 as compared to $(11) thousand for the six months ended June 30, 2016.  Other income (expense), net was higher primarily due to the receipt of $0.9 million from an arbitration case that was decided in our favor in February 2017.



Foreign currency exchange gain (loss)



Foreign currency exchange gain was $1.0 million for the six months ended June 30, 2017 as compared to a loss of $(6.3) million for the six months ended June 30, 2016. The change was primarily due to the impact of the retirement of our foreign currency denominated debt and changes in the foreign currency exchange rates between the periods.



Income tax expense (benefit)



Income tax expense was $1.2 million for the six months ended June 30, 2017 as compared to a  benefit of $(7.1) million for the six months ended June 30, 2016. For the six months ended June 30, 2017 and 2016 our effective income tax rates were 43.7% and (29.9)%, respectively. The primary difference in these effective tax rates was due to the effect of not providing U.S. income taxes on the undistributed earnings of foreign subsidiaries because we intend to permanently reinvest such earnings outside the U.S. We changed our assertion during the first quarter of 2017 that undistributed foreign earnings are indefinitely or permanently reinvested as a result of cash proceeds received from the IPO during May 2017, a portion of which was used to pay off existing debt. The excess proceeds from the IPO leaves cash available in the U.S. without requiring cash from foreign operations. Our effective tax rate was also impacted by a $0.5 million tax expense recorded in the second quarter of 2017 for provision to return estimates as a result of the filing of prior year Canadian tax returns.



As a result of the geographic mix of earnings and losses, including discrete tax items, our tax rate has been and will continue to be volatile until the market stabilizes.

 

Liquidity and Capital Resources



Our primary sources of liquidity are our existing cash and cash equivalents, cash provided by operating activities and borrowings under our New Senior Secured Credit Facility. As of June 30, 2017, we had cash and cash equivalents of $80.0 million and availability under the New Senior Secured Credit Facility of $50.0 million. Our total indebtedness was $3.2 million as of June 30, 2017. 



Our principal liquidity needs have been, and are expected to continue to be, capital expenditures, working capital, debt service and potential mergers and acquisitions. On February 1, 2017, we contributed $6.0 million in exchange for a 50% interest in a joint venture, Repeat, which was funded from available cash. Concurrent with entering into the joint venture, we made a $3.0 million Prior Term Loan prepayment, also funded from available cash, and the previous owner of the 50% interest repaid in full a $1.0 million promissory note to us. 



On May 3, 2017, we completed our initial public offering of 9.5 million shares of our common stock at a price to the public of $17.00 per share. The underwriters exercised their option to purchase an additional 1.425 million shares of our common stock from certain selling stockholders and the closing of the over-allotment option occurred on May 3, 2017 concurrently with the closing of the IPO. We received $148.9 million in net proceeds after deducting underwriting discounts and commissions and other offering expenses. We used a portion of the net proceeds from the IPO to repay our remaining indebtedness under our Prior Term Loan and will use the remainder for general corporate purposes, which may include the payment of costs and expenses associated with the implementation of our business strategy.



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Our capital expenditures for the six months ended June 30, 2017 and 2016 were $3.9 million and $0.3 million, respectively. We plan to incur $6.0 million to $8.0 million in capital expenditures in 2017, which includes our estimated 2017 spending for our research and development facility described below.  We expect to make investments in our owned facility in Canada to create a research and development facility for product development as well as to further demonstrate the capabilities and benefits of our products to our customers. We estimate total spending for the project to be approximately 11 million Canadian dollars, which we expect to incur over the remainder of 2017 and 2018. We believe our cash on hand, cash flows from operations and potential borrowings under our New Senior Secured Credit Facility, will be sufficient to fund our capital expenditure and liquidity requirements for the next twelve months. 



We anticipate that to the extent that we require additional liquidity, it will be funded through the incurrence of additional indebtedness, the proceeds of equity issuances, or a combination thereof. We cannot assure you that we will be able to obtain this additional liquidity on reasonable terms, or at all. Our liquidity and our ability to meet our obligations and fund our capital requirements are also dependent on our future financial performance, which is subject to general economic, financial and other factors that are beyond our control. Accordingly, we cannot assure you that our business will generate sufficient cash flow from operations or that funds will be available from additional indebtedness, the capital markets or otherwise to meet our liquidity needs. If we decide to pursue one or more significant acquisitions, we may incur additional debt or sell additional equity to finance such acquisitions, which could result in additional expenses or dilution.



Cash Flows



The following table provides a summary of cash flows from operating, investing and financing activities (in thousands):







Operating Activities



Net cash provided by operating activities was $7.0 million and $10.9 million for the six months ended June 30, 2017 and 2016, respectively. The decrease in 2017 was primarily related to increases in accounts receivable and inventories. The decrease was partially offset by increases in accounts payable and income taxes payable and higher net income, net of the foreign exchange (gain) loss on financing items, as a result of increased business activity.

 

Investing Activities



Net cash used in investing activities was $8.7 million and $0.1 million for the six months ended June 30, 2017 and 2016, respectively. The increase in cash used in investing activities during the six months ended June 30, 2017 as compared to the six months ended June 30, 2016 primarily was due to the $6.0 million funding of a 50% interest in a joint venture and $3.6 million of additional capital expenditures partially offset by  a $1.0 million note receivable repayment.



Financing Activities



The net cash provided by financing activities for the six months ended June 30, 2017 was $63.4 million as compared to net cash used in financing activities of $(0.1) million for the six months ended June 30, 2016. The cash provided by financing activities for the six months ended June 30, 2017 primarily related to the net proceeds of $151.4 million from our IPO, which was partially offset by the $89.1 million of note repayments of the Prior Term Loan under our Prior Senior Secured Credit Facilities. 



Financing Arrangements



Prior Senior Secured Credit Facilities



On August 7, 2014, Pioneer Investment, Inc. (the “Borrower”) and Pioneer Intermediate, Inc. (the “Parent Borrower”), each of our wholly owned subsidiaries along with certain of their subsidiaries entered into senior secured credit facilities (the “Prior Senior Secured Credit Facilities”). The Prior Senior Secured Credit Facilities consisted of a term loan in the original principal amount of

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$197.6 million CAD (the “Prior Term Loan”) and a $27.8 million CAD revolving credit facility (the “Prior Revolving Credit Facility”), of which $5.0 million CAD was available for letters of credit and $5.0 million CAD was available for swingline loans. In connection with the IPO, we repaid all outstanding indebtedness under the Prior Term Loan. See “Note 7. Revolving Line of Credit and Long-Term Debt” to our unaudited condensed consolidated financial statements for additional details of our Prior Senior Secured Credit Facilities.



New Senior Secured Credit Facility



On May 4, 2017,  we entered into an Amended and Restated Credit Agreement (the “Credit Agreement”) with Pioneer Investment, Inc., as borrower (the “U.S. Borrower”), NCS Multistage Inc., as borrower (the “Canadian Borrower”), Pioneer Intermediate, Inc. (together with the Company, the “Parent Guarantors”) and the lenders party thereto, Wells Fargo Bank, National Association as administrative agent in respect of the U.S. Facility (as defined below) and Wells Fargo Bank, National Association, Canadian Branch as administrative agent in respect of the Canadian Facility (as defined below) (the senior secured revolving credit facilities provided thereunder, the “New Senior Secured Credit Facility”).



The New Senior Secured Credit Facility consists of a (i) senior secured revolving credit facility in an aggregate principal amount of $25.0 million made available to the U.S. Borrower (the “U.S. Facility”), of which up to $5.0 million may be made available for letters of credit and up to $5.0 million may be made available for swingline loans and (ii) senior secured revolving credit facility in an aggregate principal amount of $25.0 million made available to the Canadian Borrower (the “Canadian Facility”). The New Senior Secured Credit Facility will mature on May 4, 2020. At June 30, 2017, we had no outstanding indebtedness under the New Senior Secured Credit Facility.



Borrowings under the U.S. Facility may be made in U.S. dollars, Canadian dollars or Euros and bear interest at a rate equal to the Adjusted Base Rate or Eurocurrency Rate (each as defined in the Credit Agreement), in each case, plus an applicable interest margin as set forth in the Credit Agreement. Borrowings under the Canadian Facility may be made in U.S. dollars or Canadian dollars and bear interest at the Canadian (Cdn) Base Rate, Canadian (U.S.) Base Rate, Eurocurrency Rate or Discount Rate (each as defined in the Credit Agreement), in each case, plus an applicable interest margin as set forth in the Credit Agreement. The Adjusted Base Rate, Canadian (U.S.) Base Rate and Canadian (Cdn) Base Rate applicable margin will be between 2.25% and 3.00% and Eurocurrency Rate applicable margin will be between 3.25% and 4.00%, in each case, depending on our leverage ratio.



The obligations of the U.S. Borrower under the U.S. Facility are guaranteed by the Parent Guarantors and each of the other existing and future direct and indirect restricted subsidiaries of the Company organized under the laws of the United States (subject to certain exceptions) and are secured by substantially all of the assets of the Parent Guarantors, the U.S. Borrower and such other subsidiary guarantors, in each case, subject to certain exceptions and permitted liens. The obligations of the Canadian Borrower under the Canadian Facility are guaranteed by the Parent Guarantors, the U.S. Borrower and each of the future direct and indirect restricted subsidiaries of the Company organized under the laws of the United States and Canada (subject to certain exceptions) and are secured by substantially all of the assets of the Parent Guarantors, the U.S. Borrower, the Canadian Borrower and such subsidiary guarantors, if any, in each case, subject to certain exceptions and permitted liens.



The Credit Agreement contains financial covenants that require (i) commencing with the fiscal quarter ending June 30, 2017, compliance with a leverage ratio test set at (A) 3.00 to 1.00 as of the last day of each fiscal quarter ending prior to March 31, 2018 and (B) 2.50 to 1.00 as of the last day of each fiscal quarter ending on or after March 31, 2018, (ii) commencing with the fiscal quarter ending June 30, 2017, compliance with an interest coverage ratio test set at 2.75 to 1.00 as of the last day of each fiscal quarter, (iii) if the leverage ratio as of the end of any fiscal quarter is greater than 2.00 to 1.00 and the amount outstanding under the Canadian Facility at any time during such fiscal quarter was greater than $0, compliance as of the end of such fiscal quarter with a Canadian asset coverage ratio test set at 1.00 to 1.00 and (iv) if the leverage ratio as of the end of any fiscal quarter is greater than 2.00 to 1.00 and the amount outstanding under the U.S. Facility at any time during such fiscal quarter was greater than $0, compliance as of the end of such fiscal quarter with a U.S. asset coverage ratio test set at 1.00 to 1.00. The Credit Agreement also contains customary affirmative and negative covenants, including, among other things, restrictions on the creation of liens, the incurrence of indebtedness, investments, dividends and other restricted payments, dispositions and transactions with affiliates. As of June 30, 2017, we were in compliance with these covenants. The Credit Agreement also includes customary events of default for facilities of this type (with customary grace periods, as applicable). If an event of default occurs, the lenders under each of the U.S. Facility and the Canadian Facility may elect (after the expiration of any applicable notice or grace periods) to declare all outstanding borrowings under such facility, together with accrued and unpaid interest and other amounts payable thereunder, to be immediately due and payable. The lenders under each of the U.S. Facility and the Canadian Facility also have the right upon an event of default thereunder to terminate any commitments they have to provide further borrowings under such facility. Further, following an event of default under each of the U.S. Facility and the Canadian Facility, the lenders thereunder will have the right to proceed against the collateral granted to them to secure such facility. If the debt under the New Senior Secured Credit Facility were to be accelerated, our assets may not be sufficient to repay in full that debt or any other debt that may become due as a result of that acceleration.



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Common Stock Offering



On May 3, 2017, we sold 9.5 million shares of our common stock in a public offering at a price to the public of $17.00 per share. We used the proceeds of $148.9 million, net of underwriting discounts and other offering expenses,  to repay indebtedness under our Prior Senior Secured Credit Facilities and the remainder for general corporate purposes, which may include the payment of costs and expenses associated with the implementation of our business strategy. In addition, on  May 3, 2017, certain selling stockholders identified in the Prospectus sold 1.425 million of their shares of our common stock in a public offering pursuant to the full exercise of the over-allotment option granted to the underwriters in connection with the offering. We did not receive any proceeds from the sale of shares by the selling stockholders.



Contractual Obligations



Except for the repayment of all outstanding indebtedness under the Prior Term Loan and the earn-out for the Repeat acquisition as discussed in “Note 2. Acquisition” in our unaudited condensed consolidated financial statements, there have been no material changes in our contractual obligations and commitments disclosed in the Prospectus.



Off-Balance Sheet Arrangements



We have no off-balance sheet financing arrangements.

 

Critical Accounting Policies



There were no material changes to our critical accounting policies from those disclosed in the Prospectus.

 

Recently Issued Accounting Pronouncements



See “Note 1. Basis of Presentation” to our unaudited condensed consolidated financial statements for discussion of the accounting pronouncements we recently adopted and the accounting pronouncements recently issued by the Financial Accounting Standards Board.

 

Jumpstart Our Business Act of 2012



We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”). We will remain an emerging growth company until the earlier of (1) the last day of our fiscal year (a) following the fifth anniversary of the completion of our IPO, (b) in which we have total annual gross revenue of at least $1.070 billion, or (c) in which we are deemed to be a large accelerated filer, which means the market value of our common stock that is held by non-affiliates exceeds $700.0 million as of the last business day of our most recently completed second fiscal quarter, and (2) the date on which we have issued more than $1.0 billion in non-convertible debt securities during the prior three-year period. An emerging growth company may take advantage of specified reduced reporting and other burdens that are otherwise applicable generally to public companies.

 

Cautionary Note Regarding Forward-Looking Statements



This Quarterly Report contains forward-looking statements. Forward-looking statements can be identified by words such as “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects” and similar references to future periods, or by the inclusion of forecasts or projections. Examples of forward-looking statements include, but are not limited to, statements we make regarding the outlook for our future business and financial performance.



Forward-looking statements are based on our current expectations and assumptions regarding our business, the economy and other future conditions. Because forward-looking statements relate to the future, by their nature, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. As a result, our actual results may differ materially from those contemplated by the forward-looking statements. Important factors that could cause our actual results to differ materially from those in the forward-looking statements include regional, national or global political, economic, business, competitive, market and regulatory conditions and the following:

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For the reasons described above, as well as factors identified in “Item 1A. Risk Factors” in this Quarterly Report and the section of the Prospectus entitled “Risk Factors,” we caution you against relying on any forward-looking statements. Any forward-looking statement made by us in this Quarterly Report on Form 10-Q speaks only as of the date on which we make it. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.

 

Item 3.  Qualitative and Quantitative Disclosures About Market Risk



Except as set forth below, there have been no material changes to our quantitative and qualitative disclosures about market risk compared to the quantitative and qualitative disclosure about market risk described in the Prospectus.



Foreign Currency Exchange Rate Risk



A substantial amount of our revenues are derived in Canada and, accordingly, our competitiveness and financial results are subject to foreign currency fluctuations where revenues and costs are denominated in Canadian dollars rather than U.S. dollars. The revenues attributable to our operations in Canada were approximately 45% and 63% during the three months ended June 30, 2017 and 2016, respectively, and were approximately 61% and 74% for the six months ended June 30, 2017 and 2016, respectively. We indirectly hedged our exposure to adverse changes in foreign currency exchange rates by having our Prior Senior Secured Credit Facilities denominated in Canadian dollars, which allowed us to have a significant amount of our fixed costs related to interest and principal payments denominated in Canadian dollars. On May 4, 2017, we repaid the Prior Term Loan under our Prior Senior Secured Credit Facilities in full and entered into a New Senior Secured Facility, which included a U.S. Facility and a Canadian Facility. We also may use foreign currency forward exchange contracts to hedge our future exposure to the Canadian dollar.



Interest Rate Risk



We were exposed to interest rate risk through our Prior Revolving Credit Facility and the Prior Term Loan under our Prior Senior Secured Credit Facilities. We repaid the Prior Term Loan under our Prior Senior Secured Credit Facilities on May 4, 2017 and entered into our New Senior Secured Credit Facility, which is also subject to variable interest rates. The New Senior Secured Credit Facility consists of a U.S. Facility and a Canadian Facility. As of June 30, 2017, we had no borrowings outstanding under our New Senior Secured Credit Facility.

Borrowings under the U.S. Facility may be made in U.S. dollars, Canadian dollars or Euros and will bear interest at a rate equal to the Adjusted Base Rate or Eurocurrency Rate (each as defined in the Credit Agreement), in each case, plus an applicable interest margin. Borrowings under the Canadian Facility may be made in U.S. dollars or Canadian dollars and will bear interest at the Canadian (Cdn) Base Rate, Canadian (U.S.) Base Rate, Eurocurrency Rate or Discount Rate (each as defined in the Credit Agreement), in each case, plus an applicable interest margin as set forth in the Credit Agreement. The Adjusted Base Rate, Canadian

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(U.S.) Base Rate and Canadian (Cdn) Base Rate applicable margin will be between 2.25% and 3.00% and Eurocurrency Rate applicable margin will be between 3.25% and 4.00%, in each case, depending on our leverage ratio.

 

Item 4.  Controls and Procedures



Disclosure Controls and Procedures



Under the supervision and with the participation of our management, including the Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.



Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not effective as of such date due to the material weakness described below.



Material Weakness in Internal Control over Financial Reporting



In connection with the audit of our financial statements for the years ended December 31, 2016 and 2015, we and our independent registered public accounting firm identified material weaknesses in our internal control over financial reporting. A material weakness is defined as a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis.



We determined that we did not design or maintain an effective control environment with a sufficient number of trained professionals with the appropriate level of accounting knowledge and experience to properly analyze, record and disclose accounting matters commensurate with our financial reporting requirements. This material weakness contributed to the following material weaknesses in our internal control over financial reporting:

 

These material weaknesses resulted in the need to correct material misstatements in our consolidated financial statements for the years ended December 31, 2014 and 2015 prior to their issuance. Each of the material weaknesses described above or any newly identified material weakness could result in a misstatement of our accounts or disclosures that would result in a material misstatement of our annual or interim consolidated financial statements that would not be prevented or detected.



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We have begun to remediate and plan to further remediate these material weaknesses primarily by implementing additional review procedures within the accounting and finance department, hiring additional staff and, if appropriate, engaging external accounting experts with the appropriate knowledge to supplement our internal resources in our computation and review processes. These actions and planned actions are subject to ongoing management review and the oversight of our board of directors. We cannot assure you that the measures we have taken to date, or any measures we may take in the future, will be sufficient to remediate the control deficiencies that led to our material weaknesses in our internal control over financial reporting or to avoid potential future material weaknesses. In addition, neither our management nor an independent registered public accounting firm has ever performed an evaluation of our internal control over financial reporting in accordance with the provisions of the Sarbanes-Oxley Act because no such evaluation has been required. Had we or our independent registered public accounting firm performed an evaluation of our internal control over financial reporting in accordance with the provisions of the Sarbanes-Oxley Act, additional material weaknesses may have been identified. If we are unable to successfully remediate our existing or any future material weakness in our internal control over financial reporting, or identify any additional material weaknesses that may exist, the accuracy and timing of our financial reporting may be adversely affected, we may be unable to maintain compliance with securities law requirements regarding timely filing of periodic reports in addition to applicable stock exchange listing requirements, we may be unable to prevent fraud, investors may lose confidence in our financial reporting, and our stock price may decline as a result. Additionally, our reporting obligations as a public company could place a strain on our management, operational and financial resources and systems for the foreseeable future and may cause us to fail to timely achieve and maintain the adequacy of our internal control over financial reporting.



Changes in Internal Control Over Financial Reporting



There were no changes to our internal control over financial reporting that occurred during the quarter ended June 30, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II. OTHER INFORMATION



Item 1. Legal Proceedings



In the ordinary course of our business, from time to time, we have various claims, lawsuits and administrative proceedings that are pending or threatened with respect to commercial, product liability and employee matters. 



Our management currently does not expect that the results of any of these legal proceedings, either individually or in the aggregate, would have a material adverse effect on our financial position, results of operations or cash flows.



Item 1A.  Risk Factors



There have been no material changes from the risk factors disclosed in the Prospectus.



Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds



Use of Proceeds of Public Offering of Common Stock



On May 3, 2017, we completed our IPO of 9.5 million shares of common stock at a price to the public of $17.00 per share. In addition, on May 3, 2017, certain selling stockholders identified in the Prospectus sold 1.425 million of their shares of our common stock pursuant to the full exercise of the over-allotment option granted to the underwriters in connection with the offering. We will not receive any proceeds from the sale of shares by the selling stockholders. The offer and sale of all the shares of common stock in the IPO were registered under the Securities Act pursuant to a Registration Statement on Form S-1 (File No. 333-216580), which was declared effective by the SEC on April 27, 2017. Credit Suisse Securities (USA) LLC, Citigroup Global Markets Inc. and Wells Fargo Securities, LLC acted as the representatives of the underwriters. We raised $148.9 million in net proceeds from the offering, after deducting underwriting discounts of $10.1 million and other offering expenses of $2.5 million. All of the foregoing expenses were direct or indirect payments to persons other than (i) our directors, officers or any of their associates; (ii) persons owning 10% or more of our common stock; or (iii) our affiliates. We used a portion of the net proceeds from the IPO to repay our indebtedness under our Prior Senior Secured Credit Facilities. After the repayment of indebtedness under our Prior Senior Secured Credit Facilities, we currently intend to use the remaining net proceeds from the IPO for general corporate purposes, which may include the payment of costs and expenses associated with the implementation of our business strategy. 

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Item 6.  Exhibits





 

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SIGNATURES



Pursuant to the requirements of Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.







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