TopBuild Corp - Quarter Report: 2019 March (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE

COMMISSION

WASHINGTON, D.C.  20549

 

 

FORM 10-Q

 

For the quarterly period ended March 31, 2019

 

 

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 every Interactive Data File required to be submitted 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 such files).                  ☒ Yes            ☐ No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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. 

 

Large accelerated filer  ☒    Accelerated filer  ☐    Non-accelerated filer ☐     Smaller reporting company    ☐   Emerging growth company    ☐

 

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

 

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

 

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

 

 

The registrant had outstanding 34,424,249 shares of Common Stock, par value $0.01 per share as of April 30, 2019.

 

 

 

 

TOPBUILD CORP.

TABLE OF CONTENTS

 

 

GLOSSARY

 

We use acronyms, abbreviations, and other defined terms throughout this quarterly report on Form 10-Q, which are defined in the glossary below:

 

 

 

 

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 share and 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

 

TopBuild is a Delaware corporation incorporated on June 30, 2015, and is listed on the NYSE under the ticker symbol “BLD.”  We report our business in two segments: Installation and Distribution.  Our Installation segment primarily installs insulation and other building products.  Our Distribution segment primarily sells and distributes insulation and other building products.  Our segments are based on our operating units, for which financial information is regularly evaluated by our chief operating decision maker.

 

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 March 31, 2019, our results of operations for the three months ended March 31, 2019 and 2018, and cash flows for the three months ended March 31, 2019 and 2018.  The condensed consolidated balance sheet at December 31, 2018, was derived from our audited financial statements, but does not include all disclosures required by GAAP.

 

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 for the year ended December 31, 2018.

 

2.  ACCOUNTING POLICIES

 

Financial Statement Presentation.  Our condensed consolidated financial statements have been developed in conformity with 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.  All intercompany transactions between TopBuild entities have been eliminated.

 

Business Combinations.  The purchase price for business combinations is allocated to the estimated fair values of acquired tangible and intangible assets, including goodwill, and liabilities assumed.  These estimates include, but are not limited to, discount rates, projected future revenue growth, cost synergies and expected cash flows, customer attrition rates, useful lives and other prospective information.  Additionally, we recognize customer relationships, trademarks and trade names, and non-competition agreements as identifiable intangible assets, which are recorded at fair value as of the transaction date.  The fair value of these intangible assets is determined primarily using the income approach and using current industry information.  Goodwill is recorded when consideration transferred exceeds the fair value of identifiable assets and liabilities.  Measurement-period adjustments to assets acquired and liabilities assumed with a corresponding offset to goodwill are recorded in the period in which they occur, which may include up to one year from the acquisition date.  Contingent consideration is recorded at fair value at the acquisition date.

 

Share-based Compensation.  Our share-based compensation program currently consists of RSAs and stock options.  Share-based compensation expense is reported in selling, general, and administrative expense.  We do not capitalize any compensation cost related to share-based compensation awards.  The income tax benefits and deficiencies associated with share-based awards are reported as a component of income tax expense.  Excess tax benefits and deficiencies are included in net cash provided by (used in) operating activities while shares withheld for tax-withholding are reported in financing activities under the caption “Taxes withheld and paid on employees’ equity awards” in our condensed consolidated statements of cash flows.  Award forfeitures are accounted for in the period they occur. 

 

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.

 

Revenue Recognition

 

Revenue is disaggregated between our Installation and Distribution segments. A reconciliation of disaggregated revenue by segment is included in Note 6 – Segment Information. 

 

We recognize revenue for our Installation segment using the percentage of completion method of accounting with respect to each particular order within a given customer’s contract, based on the amount of material installed at that customer’s location and the associated labor costs, as compared to the total expected cost for the particular order. Revenue is recognized over time as the customer is able to receive and utilize the benefits provided by our services. Each contract contains one or more individual orders, which are based on services delivered. When a contract modification is made, typically the remaining goods or services are considered distinct and we recognize revenue for the modification as a separate performance obligation. When insulation and installation services are bundled in a contract, we combine these items into one performance obligation as the overall promise is to transfer the combined item.

 

Revenue from our Distribution segment is recognized when title to products and risk of loss transfers to our customers.  This represents the point in time when the customer is able to direct the use of and obtain substantially all the benefits from the product. The determination of when control is deemed transferred depends on the shipping terms that are agreed upon in the contract.

 

At time of sale, we record estimated reductions to revenue for customer programs and incentive offerings, including special pricing and other volume-based incentives based on historical experience, which is continuously adjusted. The duration of our contracts with customers is relatively short, generally less than a 90-day period, therefore there is not a significant financing component when considering the determination of the transaction price which gets allocated to the individual performance obligations, generally based on standalone selling prices. Additionally, we consider shipping costs charged to a customer as a fulfillment cost rather than a promised service and expense as incurred. Sales taxes, when incurred, are recorded as a liability and excluded from revenue on a net basis.

 

We record a contract asset when we have satisfied our performance obligation prior to billing and a contract liability generally when a customer payment is received prior to the satisfaction of our performance obligation. The difference between the beginning and ending balances of our contract assets and liabilities primarily results from the timing of our performance and the customer’s payment.

 

The following table represents our contract assets and contract liabilities with customers, in thousands:

 

 

Our contract liabilities are normally recognized to net sales in the immediately subsequent reporting period due to the generally short-term nature of our contracts with customers.

 

Recently Adopted Accounting Pronouncements:

 

Leases

 

In February 2016 the FASB issued ASU 2016-02, “Leases.”  This standard requires a lessee to recognize certain leases on its balance sheet.  Effective January 1, 2019, we adopted ASU 2016-02 using the modified retrospective transition method with the optional transition relief provided in targeted improvements ASU 2018-11, which allows the new standard to be applied in financial year 2019.  Adoption of the new standard resulted in the recognition of right of use (ROU) assets and lease liabilities of $99.1 million and $101.6 million, respectively, as of January 1, 2019 on our unaudited condensed consolidated balance sheet.  There was no cumulative adjustment required to be recorded to our beginning retained earnings balance.  Adoption of this standard did not materially impact our results of operations or cash flows for any periods presented.

 

We elected certain practical expedients allowed under ASC 842 – Leases. As such, we did not reassess whether any existing contracts are or contain leases, the lease classification of existing leases, or the initial direct costs for any existing leases.  In addition, we elected by class of underlying asset to not separate fixed non-lease components from the lease component. Further, for all leases with an initial term of 12 months or less, we elected not to record any right of use asset or lease liability.  We declined the option to use hindsight in determining lease term, assessing likelihood that a lease purchase option will be exercised or in assessing impairment of right of use asset for all classes of assets.  To initially measure our lease liability, we used our incremental borrowing rate (IBR) at January 1, 2019 based on the remaining lease term for all existing leases.  See Note 7 – Leases for additional information.

 

Recently Issued Accounting Pronouncements Not Yet Adopted:

 

In June 2016 the FASB issued ASU 2016-13, “Financial Instruments - Credit Losses”.  This guidance introduces a current expected credit loss (“CECL”) model for the recognition of impairment losses on financial assets, including trade receivables.  The CECL model replaces current GAAP’s incurred loss model.  Under CECL, companies will record an allowance through current earnings for the expected credit loss for the life of the financial asset upon initial recognition of the financial asset.  This update is effective for us at the beginning of 2020 with early adoption permitted at the beginning of 2019.  We have not yet selected an adoption date, and we are currently evaluating the effect of adoption of this standard on our financial position and results of operations.

 

In January 2017 the FASB issued ASU 2017-04, “Simplifying the Test for Goodwill Impairment.”  The new standard simplifies the subsequent measurement of goodwill by eliminating the second step of the goodwill impairment test.  This update is effective for us beginning January 1, 2020.  Early adoption is permitted, and the new standard will be applied on a prospective basis.  We have not yet selected an adoption date, and we do not anticipate that the adoption of this standard will have a material impact on our financial position and results of operations.

In August 2018 the FASB issued ASU 2018-13, “Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.”  The new standard modifies the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement, including adjustments to Level 3 fair value measurement disclosures as well as the removal of disclosures around Level 1 and Level 2 transfers.  This update is effective for us beginning January 1, 2020.  Early adoption is permitted and the new standard will be applied on a prospective basis.  We have not yet selected an adoption date, and we are currently evaluating the effect of adoption of this standard on our financial position and results of operations.

 

3.  GOODWILL AND OTHER INTANGIBLES

 

We have two reporting units which are also our operating and reporting segments: Installation and Distribution.  Both reporting units contain goodwill.  Assets acquired and liabilities assumed are assigned to the applicable reporting unit based on whether the acquired assets and liabilities relate to the operations of and determination of the fair value of such unit.  Goodwill assigned to the reporting unit is the excess of the fair value of the acquired business over the fair value of the individual assets acquired and liabilities assumed for the reporting unit.

 

The estimated fair values of the two reporting units substantially exceeded their respective carrying values based on the most recent annual impairment test which occurred in the fourth quarter of 2018. 

 

Changes in the carrying amount of goodwill for the three months ended March 31, 2019, by segment, were as follows, in thousands:

 

 

During the first quarter of 2019, we recorded measurement-period adjustments related to the acquisition of USI, which decreased goodwill by approximately $0.7 million, primarily to record state income tax carryforward items.

 

Other intangible assets, net includes customer relationships, non-compete agreements, and trademarks / tradenames.  The following table sets forth our other intangible assets, in thousands:

 

 

Amortization expense was $5.2 million and $1.3 million for the three months ended March 31, 2019 and 2018, respectively. 

 

4.  LONG-TERM DEBT

 

The following table reconciles the principal balances of our outstanding debt to our condensed consolidated balance sheets, in thousands:

   

 

The following table sets forth our remaining principal payments for our outstanding debt balances as of March 31, 2019, in thousands:

 

 

Amended Credit Agreement and Senior Secured Term Loan Facility 

On March 28, 2018, the Company executed an amendment to its credit agreement, which primarily facilitated the acquisition of USI by (i) extending until August 29, 2018, the period during which the Company could access the $100.0 million delayed draw term loan feature and (ii) providing that the Company could issue up to $500.0 million of Senior Notes in connection with its acquisition of USI.  On May 1, 2018, the Company closed on its acquisition of USI.  The acquisition was funded through net proceeds from the issuance of our Senior Notes on April 25, 2018 together with the net proceeds from the $100.0 million delayed draw term loan commitment accessed on May 1, 2018 under the Company’s Amended Credit Agreement.  These funds were also used for the payment of related fees and expenses, as well as for general corporate purposes.

 

The following table outlines the key terms of our Amended Credit Agreement (dollars in thousands):

 

 

Interest payable on borrowings under the Amended Credit Agreement is based on an applicable margin rate plus, at our option, either: 

 

 

 

The applicable margin rate is determined based on our Secured Leverage Ratio.  In the case of base rate borrowings, the applicable margin rate ranges from 0.00 percent to 1.50 percent and in the case of LIBOR rate borrowings, the applicable margin ranges from 1.00 percent to 2.50 percent.  Borrowings under the Amended Credit Agreement are prepayable at the Company’s option without premium or penalty.  The Company is required to make prepayments with the net cash proceeds of certain asset sales and certain extraordinary receipts.

 

Revolving Facility

 

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, as well as any outstanding amount borrowed under our Revolving Facility, reduce the availability under the Revolving Facility.  The following table summarizes our availability under the Revolving Facility, in thousands:

 

 

We are required to pay commitment fees to the Lenders in respect of any unutilized commitments.  The commitment fees range from 0.15 percent to 0.275 percent per annum, depending on our Secured Leverage Ratio.  We must also pay customary fees on outstanding letters of credit.

 

Senior Notes 

The Senior Notes are our senior unsecured obligations and bear interest at 5.625% per year, payable semiannually in arrears on May 1 and November 1 of each year, which began on November 1, 2018. The Senior Notes mature on May 1, 2026, unless redeemed early or repurchased.  We have the right to redeem the Senior Notes under certain circumstances, and, if we undergo a change in control, we must make an offer to repurchase all of the Senior Notes then outstanding at a repurchase price equal to 101% of their aggregate principal amount, plus accrued and unpaid interest (if any) to, but not including, the repurchase date. 

   

Equipment Notes 

During 2018, the Company executed $26.6 million of equipment notes for the purpose of financing the purchase of vehicles and equipment.  The Company did not issue any equipment notes during the quarter ended March 31, 2019.  The Company’s equipment notes each have a five year maturity through 2023 and bear interest at fixed rates between 3.9% and 4.4%.

   

Covenant Compliance 

The indenture governing our Senior Notes contains customary restrictive covenants that, among other things, generally limit our ability to incur additional debt and issue preferred stock; to create liens; to pay dividends, acquire shares of capital stock, make payments on subordinated debt or make investments; to place limitations on distributions from certain subsidiaries; to issue guarantees; to issue or sell the capital stock of certain subsidiaries; to sell assets; to enter into transactions with affiliates; and to effect mergers.  The Senior Notes indenture also contains customary events of default, subject in certain cases to grace and cure periods. Generally, if an event of default occurs and is continuing, the trustee under the indenture or the holders of at least 25% in aggregate principal amount of the Senior Notes then outstanding may declare the principal of, premium, if any, and accrued interest on all the Senior Notes immediately due and payable.  The Senior Notes and related guarantees have not been registered under the Securities Act of 1933, and we are not required to register either the Senior Notes or the guarantees in the future.

   

The Amended Credit Agreement contains certain covenants that limit, among other things, the ability of the Company to incur additional indebtedness or liens; to make certain investments or loans; to make certain restricted payments; to enter into consolidations, mergers, sales of material assets, and other fundamental changes; to transact with affiliates; to enter into agreements restricting the ability of subsidiaries to incur liens or pay dividends; or to make certain accounting changes.  The Amended Credit Agreement contains customary affirmative covenants and events of default.

 

The Amended Credit Agreement requires that we maintain a Net Leverage Ratio and minimum FCCR throughout the term of the agreement.  The following table sets forth the maximum Net Leverage Ratios and minimum FCCR required:

 

 

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

 

 

 

5.  FAIR VALUE 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.  We measure our contingent consideration liabilities related to business combinations at fair value.  For more information see Note 12 –Business Combinations. 

   

Fair Value on Non-Recurring Basis 

   

Fair value measurements were applied to our long-term debt portfolio.   We believe the carrying value of our term loan 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 Amended Credit Agreement.  In addition, due to the floating-rate nature of our term loan, 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.  Based on active market trades of our Senior Notes close to March 31, 2019 (Level 1 fair value measurement), we estimate that the fair value of the Senior Notes is approximately $399.0 million compared to a gross carrying value of $400.0 million at March 31, 2019.

   

During all periods presented, there were no transfers between fair value hierarchical levels.

 

6.  SEGMENT INFORMATION

 

The following table sets forth our net sales and operating results by segment, in thousands:

 

 

 

7.  LEASES

 

We have operating leases for our installation branch locations, distribution centers, our Branch Support Center in Daytona, Florida, vehicles and certain equipment.  As of March 31, 2019, we did not have any finance leases.  At the inception of a contract, we determine whether the contract is, or contains, a lease based on the unique facts and circumstances present.  Our facilities operating leases have lease and non-lease fixed cost components, which we account for as one single lease component in calculating the present value of minimum lease payments.   Variable lease and non-lease cost components are expensed as incurred and are included in selling, general and administrative expenses on the accompanying unaudited condensed consolidated statement of operations.

 

Operating lease payments are recognized as an expense in the unaudited condensed consolidated statements of operations on a straight-line basis over the lease term, including future option periods the Company reasonably expects to exercise, whereby an equal amount of rent expense is attributed to each period during the term of the lease, regardless of when actual payments are made.  This generally results in rent expense in excess of cash payments during the early years of a lease and rent expense less than cash payments in later years.  The difference between rent expense recognized and actual rental payments is typically represented as the spread between the ROU asset and lease liability.

 

We recognize a ROU asset and a lease liability at the lease commencement date.  Our leases may include options to extend or terminate the lease, which will be reflected in the calculation of the lease liability and corresponding ROU asset when it is reasonably certain that we will exercise that option. We do not recognize ROU assets and lease liabilities for short-term leases that have an initial lease term of 12 months or less.  We recognize the lease payments associated with short-term leases as an expense on a straight-line basis over the lease term.

 

The lease liability is initially measured as the present value of the unpaid lease payments as of the lease commencement date. The lease liability is discounted based on our IBR at the time of initial adoption of ASU 2016-02 for all exiting leases and at the time of lease commencement for all future leases.  For existing leases, our IBR included significant assumptions regarding our secured borrowing rates obtained on equipment note issuances and adjustments for differences in the remaining lease term, underlying assets and market conditions for companies with similar credit qualities as well as interest rate index fluctuations.

 

The ROU asset is initially measured at cost, which comprises the initial amount of the lease liability adjusted for lease payments made at or before the lease commencement date, plus any initial direct costs incurred less any lease incentives received.  The ROU asset is subsequently measured throughout the lease term as the carrying amount of the lease liability, plus initial direct costs, plus (minus) any prepaid (accrued) lease payments, less the unamortized balance of lease incentives received.  Lease expense for lease payments is recognized on a straight-line basis over the lease term.  Certain vehicle lease agreements have residual value guarantees at the end of the lease which require us to return the asset with a specified percentage of the original or other calculated value. 

 

The components of lease expense were as follows and are included in selling, general and administrative expenses on the accompanying unaudited condensed consolidated statement of operations:

 

 

Future minimum lease payments under non-cancellable operating leases as of March 31, 2019 were as follows:

 

 

As of March 31, 2019, the weighted average remaining lease term was 3.5 years and the related lease liability was calculated using a weighted average discount rate of 4.4%.