TopBuild Corp - Quarter Report: 2016 June (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE

COMMISSION

WASHINGTON, D.C.  20549

 

 

FORM 10-Q

 

For the quarterly period ended June 30, 2016

 

 

For the transition period from                to               

 

Commission file number: 1-36870

 

TopBuild Corp.

(Exact name of Registrant as Specified in its Charter)

 

 

 

 

(386) 304-2200

(Registrant's telephone number, including area code)

 

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 website, 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, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. 

 

Large accelerated filer   ☐      Accelerated filer   ☐      Smaller reporting company   ☐

Non-accelerated filer ☒ (Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

                                                 ☐ Yes            ☒ No

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

 

 

 

 

TOPBUILD CORP.

 

TABLE OF CONTENTS

 

 

 

 

 

PART I – FINANCIAL INFORMATION

 

Item 1.  FINANCIAL STATEMENTS

 

TOPBUILD CORP.

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)

(In thousands except share data)

 

See notes to our unaudited condensed consolidated financial statements.

TOPBUILD CORP.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

(In thousands except per common share data)

 

See notes to our unaudited condensed consolidated financial statements.

TOPBUILD CORP.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(In thousands)

 

 

See notes to our unaudited condensed consolidated financial statements.

TOPBUILD CORP.

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY (Unaudited)

(In thousands except share data)

 

See notes to our unaudited condensed consolidated financial statements.

 

 

1. BASIS OF PRESENTATION

 

On June 30, 2015 (the “Effective Date”), Masco Corporation (“Masco” or the “Former Parent”) completed the separation (the “Separation”) of its Installation and Other Services businesses (the “Services Business”) from its other businesses.  On the Effective Date, TopBuild Corp., a Delaware corporation formed in anticipation of the Separation (“TopBuild” or the “Company”), became an independent public company which holds, through its subsidiaries, the assets and liabilities associated with the Services Business.  The Separation was achieved through the distribution of 100 percent of the outstanding capital stock of TopBuild to holders of Masco common stock.  References to “TopBuild,” the “Company,” “we,” “our,” and “us” refer to TopBuild Corp. and its consolidated subsidiaries.

 

These condensed consolidated financial statements and related notes should be read in conjunction with the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

 

Prior to the Separation, the consolidated financial statements of TopBuild were prepared on a stand-alone basis and reflect the historical results of operations, financial position, and cash flows of Masco’s Services Business, including an allocable portion of corporate costs. 

 

We report our business in two segments: Installation and Distribution.  Our Installation segment principally includes the sale and installation of insulation and other building products.  Our Distribution segment principally includes the distribution of insulation and other building products.  Our segments are based on our operating units, for which financial information is regularly evaluated by our corporate operating executives.

 

In our opinion, the accompanying unaudited condensed consolidated financial statements contain all adjustments, of a normal recurring nature, necessary to state fairly our financial position as of June 30, 2016, our results of operations for the three and six months ended June 30, 2016 and 2015, and cash flows for the six months ended June 30, 2016 and 2015.  The Condensed Consolidated Balance Sheet at December 31, 2015, was derived from our audited financial statements, but does not include all disclosures required by generally accepted accounting principles in the United States of America (“U.S. GAAP”).

 

2. ACCOUNTING POLICIES

 

Financial Statement Presentation.  The condensed consolidated financial statements have been developed in conformity with U.S. GAAP, which requires management to make estimates and assumptions.  These estimates and assumptions affect the reported amounts of assets and liabilities and disclosures of contingent liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period.  Actual results could differ materially from these estimates.  Our financial statements for the periods prior to the Separation have been derived from the financial statements and accounting records of Masco using the historical results of operations and historical basis of assets and liabilities of the Services Business, and reflect Masco’s net investment in the Services Business. 

 

All intercompany transactions between TopBuild entities have been eliminated.  Transactions between TopBuild and Masco prior to the Separation, with the exception of purchase transactions, are reflected in the Condensed Consolidated Statements of Cash Flows as a financing activity in “Net transfer from Former Parent” and in the Condensed Consolidated Statements of Changes in Equity in the column, “Former Parent Investment.”

 

The accompanying condensed consolidated financial statements for the periods prior to the Separation include allocations of general corporate expenses incurred by Masco for functions such as corporate human resources, finance, and legal, including salaries, benefits, and other related costs.  These general corporate expenses were allocated to TopBuild on the basis of sales.  Total allocated general corporate costs were $5.7 million and $13.6 million for the three and six months ended June 30, 2015, respectively.  These costs were included in selling, general, and administrative expenses.

 

Prior to the Separation, Masco incurred certain operating expenses on behalf of the Services Business that were allocated to TopBuild based on direct benefit or usage.  These allocated operating expenses were $1.2 million and $5.6 million for the three and six months ended June 30, 2015, respectively.  These costs were included in selling, general, and administrative expenses.  An estimate of these operating expenses was allocated to each of TopBuild’s reporting segments based on a percentage of sales.

 

For periods prior to the Separation, these condensed consolidated financial statements may not reflect the actual expenses that would have been incurred had we operated as a stand-alone company and may not reflect the consolidated results of operations, financial position, and cash flows had we operated as a stand-alone company.  Actual costs that would have been incurred if we had operated as a stand-alone company prior to the Separation would have depended on multiple factors, including organizational structure and strategic decisions made in various areas, including, without limitation, information technology and infrastructure.

 

During the quarter ended March 31, 2015, we identified an error related primarily to the misallocation of a favorable legal settlement to general corporate expenses of TopBuild in the fourth quarter of 2014.  The impact of the error was to understate the allocation of corporate expenses reported as selling, general, and administrative expense and overstate operating profit by $1.9 million.  The error was not considered material to the previously reported 2014 financial statements.  The Company recorded the correction of the error by an out-of-period adjustment in the first quarter of 2015, which is therefore reflected in the six months ended June 30, 2015, Condensed Consolidated Statements of Operations and Condensed Consolidated Statements of Cash Flows.

 

Share-based Compensation.  Our share-based compensation program currently consists of restricted share awards (“RSAs”) and stock option awards (“Options”).  Share-based compensation is reported in selling, general, and administrative expense.

 

The following table details our award types and accounting policies:

 

 

†Stock options expire no later than 10 years after the grant date.

‡Expense is reversed if award is forfeited prior to vesting.

 

Recently Issued Accounting Pronouncements:    In May 2014, the Financial Accounting Standards Board (“FASB”) issued a new standard for revenue recognition, Accounting Standards Codification 606 (“ASC 606”).  The purpose of ASC 606 is to provide a single, comprehensive revenue recognition model for all contracts with customers to improve comparability across industries.  ASC 606 is effective for us for annual periods beginning January 1, 2018.  We are currently evaluating the impact the adoption of this new standard will have on our results of operations.

 

In July 2015, the FASB issued Accounting Standards Update 2015-11 (“ASU 2015-11”) “Simplifying the Measurement of Inventory.”  Under the amendment, ASU 2015-11, inventory should be measured at the lower of cost and net realizable value.  Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation.  This guidance is effective for fiscal years beginning after December 15, 2016.  Early adoption is permitted; however, we do not anticipate adopting this standard until the first quarter of 2017.  We do not anticipate the adoption of this amendment will have a material impact on our financial position or results of operations.

 

In February 2016, the FASB issued Accounting Standards Update 2016-02 (“ASU 2016-02”), “Leases.”  This standard requires a lessee to recognize most leases on their balance sheet.  Companies are required to use a modified retrospective transition method for all existing leases.  This standard is effective for annual periods beginning after December 15, 2018, and interim periods therein.  Early adoption is permitted.  We have not yet selected an adoption date and we are currently evaluating the effect on our financial position and results of operations.

 

In March 2016, the FASB issued Accounting Standards Update 2016-09 (“ASU 2016-09”), “Improvements to Employee Share-Based Payment Accounting.”  This update is intended to simplify several aspects of the accounting for share-based payment transactions, including the accounting for income taxes, forfeitures, and statutory tax withholding requirements, as well as classification in the statement of cash flows.  Under this guidance, an entity recognizes all excess tax benefits and tax deficiencies as income tax expense or benefit in the income statement.  This update is effective for annual and interim periods beginning after December 15, 2016, which will require us to adopt these provisions in the first quarter of 2017.  Early adoption is permitted.  We have not yet selected an adoption date and we are currently determining the effect on our financial position and results of operations.

 

3. GOODWILL AND OTHER INTANGIBLES

 

Changes in the carrying amount of goodwill for the six months ended June 30, 2016, by segment, were as follows, in thousands:

 

 

Other intangible assets, net includes customer relationships, non-compete agreements, and trademarks.  The following table sets forth our other intangible assets as of June 30, 2016, and December 31, 2015, in thousands:

 

 

4. DEPRECIATION AND AMORTIZATION

 

The following table sets forth our depreciation and amortization expense for the three and six months ended June 30, 2016 and 2015, in thousands:

 

 

 

5. LONG-TERM DEBT

 

The Company and its wholly-owned domestic subsidiaries (collectively, the “Guarantors”) entered into a senior secured credit agreement and related collateral and guarantee documentation (collectively, the “Credit Agreement”) with PNC Bank, National Association, as administrative agent, and the other lenders and agents party thereto.  The Credit Agreement became effective on June 30, 2015.  The following table summarizes the key terms of the Credit Agreement, dollars in thousands:

 

*Subject to certain conditions (including existing or new lenders providing commitments in respect of such additional borrowing capacity).

** Use of the sublimits for the issuance of letters of credit and swingline loans reduces the availability under the Revolving Facility.

 

The following table sets forth our remaining principal payments for the following five years as of June 30, 2016, in thousands:

 

 

The following table reconciles the principal balance of our long-term debt to our Condensed Consolidated Balance Sheets, in thousands:

 

 

The Company has outstanding standby letters of credit that secure our financial obligations related to our workers compensation, general insurance, and auto liability programs.  These standby letters of credit reduce the availability under the Revolving Facility.  The following table summarizes our availability under the Revolving Facility, in thousands:

 

 

The Credit Agreement contains certain covenants that limit, among other things, certain actions we may take and require us to maintain certain financial ratios.  On May 9, 2016, the Company and its lenders executed an Amendment to the Credit Agreement (“Amendment No. 1”).  Amendment No. 1 provides for the exclusion of up to $50 million of completed share repurchases (on a trailing twelve month basis) from the Credit Agreement’s definition of “Fixed Charges” for the purposes of determining the Company’s compliance with the quarterly Fixed Charge Coverage Ratio (“FCCR”) financial covenant.  Amendment No. 1 provides for an initial exclusion of up to $25 million and allows for the exclusion of an additional $25 million of completed share repurchases from the FCCR calculation, provided that the Company’s Total Leverage Ratio (as defined in the Credit Agreement) is below 2.0x at the time of such share repurchase and after giving pro forma effect to any such share repurchase. 

 

The following table outlines the key financial covenants effective for the period covered by this report:

 

 

6. FAIR VALUE MEASUREMENTS

 

The fair value measurement standard defines fair value as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date (referred to as an “exit price”).  Authoritative guidance on fair value measurements and disclosures clarifies that a fair value measurement for a liability should reflect the entity’s non-performance risk.  In addition, a fair value hierarchy is established that prioritizes the inputs to valuation techniques used to measure fair value.  The hierarchy gives the highest priority to unadjusted quoted market prices in active markets for identical assets and liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).

 

Fair Value on Recurring Basis

 

The carrying values of cash and cash equivalents, receivables, net, and accounts payable are considered to be representative of their respective fair values due to the short-term nature of these instruments. 

 

Fair Value on Non-Recurring Basis

 

Fair value measurements were applied to our long-term debt.  The carrying value of our long-term debt approximates the fair market value primarily due to the fact that the non-performance risk of servicing our debt obligations, as reflected in our business and credit risk profile, has not materially changed since we assumed our debt obligations under the Credit Facility.  In addition, due to the floating-rate nature of our long-term debt, the market value is not subject to variability solely due to changes in the general level of interest rates as is the case with a fixed-rate debt obligation.  During the periods presented, there were no transfers between fair value hierarchical levels.

7. SEGMENT INFORMATION

 

Information about us by segment is as follows, in thousands:

 

 

 

 

 

 

8. OTHER COMMITMENTS AND CONTINGENCIES

 

Litigation.  We are subject to claims, charges, litigation, and other proceedings in the ordinary course of our business, including those arising from or related to contractual matters, intellectual property, personal injury, environmental matters, product liability, product recalls, construction defects, insurance coverage, personnel and employment disputes, antitrust, and other matters, including class actions.  We believe we have adequate defenses in these matters and that the likelihood the outcome of these matters would have a material adverse effect on us is remote.  However, there is no assurance that we will prevail in these matters, and we could in the future incur judgments, enter into settlements of claims, or revise our expectations regarding the outcome of these matters, which could materially impact our results of operations.

 

Other Matters.  We enter into contracts, which include customary indemnifications that are standard for the industries in which we operate.  Such indemnifications include customer claims against builders for issues relating to our products and workmanship.  In conjunction with divestitures and other transactions, we occasionally provide customary indemnifications relating to various items including: the enforceability of trademarks; legal and environmental issues; and asset valuations.  We evaluate the probability that amounts may be incurred and appropriately record an estimated liability when deemed probable.

 

We occasionally use performance bonds to ensure completion of our work on certain larger customer contracts that can span multiple accounting periods.  Performance bonds generally do not have stated expiration dates; rather, we are released from the bonds as the contractual performance is completed.  Other types of bonds outstanding were principally license and insurance related.

 

9. INCOME TAXES

 

Our effective tax rates were 38.7 percent and 38.8 percent for the three and six months ended June 30, 2016, respectively.  The effective tax rates for the three and six months ended June 30, 2015, were 20.4 percent and 29.8 percent, respectively.  The lower rate in 2015 was primarily due to decreases in our valuation allowance resulting from a partial use of our Federal net operating loss carryforward by Masco.

 

For 2015 activity through the Separation, we filed our tax returns as a member of the Masco consolidated group for U.S. Federal and certain State jurisdictions.  As a result, certain tax attributes, primarily the Federal and State net operating loss carryforwards, were treated as assets of the Masco consolidated group, which they were able to utilize through December 31, 2015.  Masco fully utilized the Federal net operating loss and certain State net operating losses by the end of 2015.

 

In the fourth quarter of 2015, we released all but $0.8 million of our valuation allowance against U.S. Federal and certain state deferred tax assets, due primarily to a return to sustainable operating profitability.

 

10. INCOME (LOSS) PER SHARE

 

Basic net income per share is calculated by dividing net income by the weighted average shares outstanding during the period, without consideration for common stock equivalents.

 

Diluted net income per share is calculated by adjusting weighted average shares outstanding for the dilutive effect of common stock equivalents outstanding for the period, determined using the treasury stock method.

 

For comparative purposes, the computation of basic and diluted income per common share for prior year periods presented was calculated using the shares distributed at Separation.  On June 30, 2015, we distributed 37.7 million shares of our common stock to Masco stockholders in conjunction with the Separation.

Basic and diluted income (loss) per share were computed as follows, in thousands, except share and per share amounts:

 

 

The following table summarizes shares excluded from the calculation of diluted income (loss) per share because their effect would have been anti-dilutive:

 

 

 

 

11. SHARE-BASED COMPENSATION

 

Prior to the Separation, our eligible employees participated in the Masco share-based compensation program and received restricted share awards and stock options.  Effective July 1, 2015, our eligible employees participate in the 2015 TopBuild Long-Term Incentive Plan (the “2015 Plan”).  The 2015 Plan authorizes the Board of Directors to grant stock options, stock appreciation rights, restricted shares, restricted share units, performance awards, and dividend equivalents.  No more than 4.0 million shares of common stock may be issued under the 2015 Plan.  As of June 30, 2016, we had 2.4 million shares available under the 2015 Plan.

 

Prior to the Separation, share-based compensation expense was allocated to TopBuild based on the awards and options previously granted by Masco to TopBuild employees.  Outstanding, unvested Masco stock options and restricted share awards held by employees of TopBuild as of June 30, 2015, were forfeited upon Separation and replaced with TopBuild long-term incentive awards, issued under the 2015 Plan, immediately subsequent to the Separation.  The replacement awards are subject to the same terms and conditions in effect prior to the Separation and are of generally equivalent value.

 

Included in selling, general, and administrative expense is share-based compensation expense as presented in the following table, in thousands:

 

 

The following table presents a summary of our share-based compensation activity for the six months ended June 30, 2016, in thousands, except per share amounts:

 

 

As of June 30, 2016, we had unrecognized share-based compensation expense relating to unvested awards as shown in the following table, dollars in thousands:

 

 

Our RSAs with performance-based conditions are evaluated on a quarterly basis with adjustments to compensation expense based on the likelihood of the performance target being achieved or exceeded.  The following table shows the range of payouts and the related expense for our RSAs with performance-based conditions, in thousands: