NOTES
TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE
1 – BASIS OF PRESENTATION
The
condensed consolidated financial statements of ENGlobal Corporation (which may be referred to as “ENGlobal,” the “Company,”
“we,” “us,” or “our”) are prepared in accordance with accounting principles generally accepted
in the United States of America. The Company consolidates all of its subsidiaries’ financial results, and significant inter-company
accounts and transactions have been eliminated in the consolidation.
The
condensed consolidated financial statements of the Company included herein are unaudited for the six month periods ended June
25, 2016 and June 27, 2015, have been prepared from the books and records of the Company pursuant to the rules and regulations
of the Securities and Exchange Commission, and in the case of the condensed balance sheet as of December 26, 2015, have been derived
from the audited financial statements of the Company. These financial statements reflect all adjustments (consisting of normal
recurring adjustments), which are, in the opinion of management, necessary to fairly present the results for the periods presented.
Certain information and note disclosures, normally included in financial statements prepared in accordance with accounting principles
generally accepted in the United States of America, have been condensed or omitted pursuant to rules and regulations of the Securities
and Exchange Commission. These condensed consolidated financial statements should be read in conjunction with the Company’s
audited financial statements for the year ended December 26, 2015, included in the Company’s 2015 Annual Report on Form
10-K filed with the Securities and Exchange Commission. The Company has assessed subsequent events through the date of filing
of these condensed consolidated financial statements with the Securities and Exchange Commission and believes that the disclosures
made herein are adequate to make the information presented herein not misleading.
A
summary of our critical accounting policies is disclosed in Note 2 to the consolidated financial statements included in our 2015
Annual Report on Form 10-K. Our critical accounting policies are further described under the caption “Critical Accounting
Policies” in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our 2015 Annual
Report on Form 10-K.
In the second quarter
of 2016, the Company corrected the presentation of the proceeds of the Notes Receivable that affected the second, third and fourth
quarters of 2015. Proceeds from Notes Receivable of $6.1 million were classified as a component of Cash Flows from Financing Activities
when the proper classification should have been as a component of Cash Flows from Investing Activities. Management has evaluated
the reclassification from both a quantitative and qualitative impact and has determined that this reclassification was not material
to previously released financial statements. This reclassification had no impact on income or loss from operations, the balance
sheet or the net cash generated or used for any period.
Each
of our quarters is comprised of 13 weeks, which includes two 4-week months and one 5-week month (4-5-4 calendar quarter).
Table
of Contents
ENGLOBAL
CORPORATION AND SUBSIDIARIES
NOTES
TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE
2 – CONTRACTS
Costs,
estimated earnings and billings on uncompleted contracts consisted of the following at June 25, 2016 and December 26, 2015:
|
|
June 25, 2016
|
|
|
December
26, 2015
|
|
|
|
(dollars in thousands)
|
|
Costs incurred on uncompleted contracts
|
|
$
|
55,810
|
|
|
$
|
67,488
|
|
Estimated earnings on uncompleted contracts
|
|
|
21,565
|
|
|
|
27,492
|
|
Earned revenues
|
|
|
77,375
|
|
|
|
94,980
|
|
Less: billings to date
|
|
|
77,477
|
|
|
|
94,830
|
|
Net costs and estimated earnings (loss) in excess of billings on uncompleted
contracts
|
|
$
|
(102
|
)
|
|
$
|
150
|
|
|
|
|
|
|
|
|
|
|
Costs and estimated earnings in excess of billings on uncompleted contracts
|
|
$
|
3,648
|
|
|
$
|
4,062
|
|
Billings in excess of costs and estimated earnings on uncompleted contracts
|
|
|
(3,750
|
)
|
|
|
(3,912
|
)
|
Net costs and estimated earnings (loss) in excess of billings on uncompleted
contracts
|
|
$
|
(102
|
)
|
|
$
|
150
|
|
Revenue
on fixed-price contracts is recorded primarily using the percentage-of-completion (cost-to-cost) method. Revenue and gross margin
on fixed-price contracts are subject to revision throughout the lives of the contracts and any required adjustments are made in
the period in which the revisions become known. To manage unknown risks, management may use contingency amounts to increase the
estimated costs, therefore, lowering the earned revenues until the risks are better identified and quantified or have been mitigated.
We currently have $2.1 million in contingency amounts as of June 25, 2016 compared to $2.4 million as of December 26, 2015. Losses
on contracts are recorded in full as they are identified. Fixed price contracts generally include retainage provisions under which
a percentage of the contract price is withheld until the project is complete and has been accepted by our customer. We currently
have $3.9 million in retainage as of June 25, 2016 compared to $6.9 million as of December 26, 2015.
We
recognize service revenue as soon as the services are performed. For clients that we consider higher risk, due to past payment
history or history of not providing written work authorizations, we have deferred revenue recognition until we receive either
a written authorization or a payment. We currently have $0.1 million in deferred revenue recognition as of June 25, 2016 compared
to $0.1 million as of December 26, 2015. This deferred revenue represents work on not–to-exceed contracts that has been
performed but has not been billed or booked as revenue due to our revenue recognition policies as the work was performed outside
the contracted amount without obtaining proper work order changes. It is uncertain as to whether these revenues will eventually
be recognized by us or the proceeds collected. The costs associated with these billings have been expensed as incurred.
Table of
Contents
ENGLOBAL
CORPORATION AND SUBSIDIARIES
NOTES
TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE
3 – LINE OF CREDIT AND LETTER OF CREDIT FACILITIES
Line
of Credit Facility
On
September 16, 2014, we entered into a three year Loan and Security Agreement (“Loan Agreement”) with Regions Bank
(“Lender”) pursuant to which the Lender agreed to extend credit to us in the form of revolving loans of up to the
lesser of $10.0 million (the “Commitment”) or the Borrowing Base (as defined in the Loan Agreement). The Loan Agreement
includes a sub-facility for standby and / or trade letters of credit up to an amount not to exceed $2.5 million. There were no
loans outstanding under the Loan Agreement as of June 25, 2016 or December 26, 2015. On June 16, 2016, but effective May 29, 2016,
we entered into the Second Amendment to the Loan Agreement (“Second Amendment”) with the Lender pursuant to which
the Company is not required to comply with the fixed charge coverage ratio financial covenant from the fiscal month ending April
30, 2016 through the fiscal month ending December 31, 2016, provided that the Company is not permitted to have any obligations
or borrowings related to working capital outstanding and the Company is required to retain a cash balance of $5 million in collection
accounts with the Lender. In effect, this prohibits the Company from borrowing any material amount under the Loan Agreement with
Regions Bank until the Company regains compliance with the fixed charge coverage ratio.
Borrowing
Base:
The Borrowing Base is an amount equal to the sum of (a) 85% of the total amount of Eligible Approved Cost Plus Contract
Amounts, plus (b) the lesser of (i) 85% of the total amount of Eligible Approved Fixed Price Contract Accounts or (ii) $2,500,000,
plus (c) the lesser of (i) 85% of the total amount of Eligible Approved Government Contract Accounts or (ii) $1,000,000, plus
(d) the lesser of (i) 75% of the total amount of Eligible Unbilled Accounts or (ii) total revenues from all Accounts over the
preceding 30-day period, provided that to the extent that any Eligible Unbilled Accounts consist of Accounts that would be Eligible
Approved Government Contracts and be included in provision (c) above if billed there shall be a limitation in eligibility thereof
under this provision (d) of $800,000, plus (e) 75% of the total amount of Eligible Costs in Excess of Billings, and minus (f)
such amounts as may be required by Lender to be reserved at any time and from time to time.
Interest:
Any loans will bear interest at a rate per annum equal to the LIBOR Index Rate plus 2.25%. If the loan is converted to
a Base Rate Loan, then such loan will bear interest at a rate per annum equal to the Base Rate (defined as a rate per annum equal
to the greatest of (a) the Federal Funds Rate in effect on such day plus 0.50%, (b) the Prime Rate in effect on such day, or (c)
a per annum rate equal to LIBOR determined with respect to an interest period of one month plus 1.00%) plus 1.25%.
Collateral:
All obligations of the Company under the Loan Agreement are secured by a first priority perfected lien against any and
all personal property assets of the Company (other than certain excluded property).
Term
:
All loans and all other obligations outstanding under the Loan Agreement shall be payable in full on September 14, 2017, unless
otherwise terminated pursuant to the terms of the Loan Agreement.
Material
Covenants:
The Loan Agreement requires the Company to comply with various financial, affirmative and negative covenants
affecting its businesses and operations, including:
|
●
|
The
Company will not be a party to mergers, acquisitions, consolidations, reorganizations or similar transactions.
|
|
|
|
|
●
|
The
Company will not sell, lease, transfer or otherwise dispose of any of its properties or assets (subject to certain exceptions
set forth in the Loan Agreement).
|
|
|
|
|
●
|
The
Company will not declare, pay or make any dividend or distribution on any shares of common or preferred stock or make any
cash payment to repurchase or otherwise retire any common or preferred stock, provided that the Company may repurchase up
to $2 million of its common stock pursuant to its announced stock repurchase plan, subject to certain conditions.
|
|
|
|
|
●
|
The
fixed charge coverage ratio must not be less than 1.10 to 1.00.
|
|
|
|
|
●
|
The
Company will not permit capital expenditures during any fiscal year to exceed $3.5 million.
|
The
Company was in compliance with all of the material covenants of the Loan Agreement as of June 25, 2016 other than the fixed charge
coverage ratio, for which compliance is not required from the fiscal month ending April 30, 2016 through the fiscal month ending
December 31, 2016, as described above.
Table
of Contents
ENGLOBAL
CORPORATION AND SUBSIDIARIES
NOTES
TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE
4 – SEGMENT INFORMATION
The
Engineering, Procurement and Construction Management (“EPCM”) segment provides services relating to the development,
management and execution of projects requiring professional engineering and related project services primarily to the energy industry
throughout the United States. The EPCM segment includes the government services group, which provides engineering, design, installation
and operation and maintenance of various government, public sector and international facilities. The Automation segment provides
services related to the design, fabrication and implementation of process distributed control and analyzer systems, advanced automation,
information technology and electrical projects primarily to the upstream and downstream sectors throughout the United States as
well as a specific project in Central Asia.
Revenues,
operating income, and identifiable assets for each segment are set forth in the following tables. The amount identified as Corporate
includes those activities that are not allocated to the operating segments and include costs related to business development,
executive functions, finance, accounting, safety, human resources and information technology that are not specifically identifiable
with the segments.
Segment
information for the three months ended June 25, 2016 and June 27, 2015 is as follows (dollars in thousands):
For the three months ended June 25, 2016:
|
|
EPCM
|
|
|
Automation
|
|
|
Corporate
|
|
|
Consolidated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
8,257
|
|
|
$
|
5,585
|
|
|
$
|
—
|
|
|
$
|
13,842
|
|
Gross profit
|
|
|
789
|
|
|
|
1,064
|
|
|
|
—
|
|
|
|
1,853
|
|
SG&A
|
|
|
754
|
|
|
|
775
|
|
|
|
1,784
|
|
|
|
3,313
|
|
Operating income (loss)
|
|
|
35
|
|
|
|
289
|
|
|
|
(1,784
|
)
|
|
|
(1,460
|
)
|
Other income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
Interest expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(49
|
)
|
Tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
95
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(1,603
|
)
|
For the three months ended June 27, 2015:
|
|
EPCM
|
|
|
Automation
|
|
|
Corporate
|
|
|
Consolidated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
12,931
|
|
|
$
|
8,122
|
|
|
$
|
—
|
|
|
$
|
21,053
|
|
Gross profit
|
|
|
2,074
|
|
|
|
2,535
|
|
|
|
—
|
|
|
|
4,609
|
|
SG&A
|
|
|
739
|
|
|
|
579
|
|
|
|
2,237
|
|
|
|
3,555
|
|
Operating income (loss)
|
|
|
1,335
|
|
|
|
1,956
|
|
|
|
(2,237
|
)
|
|
|
1,054
|
|
Other income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
26
|
|
Interest expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(44
|
)
|
Tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(60
|
)
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
976
|
|
Table of Contents
ENGLOBAL
CORPORATION AND SUBSIDIARIES
NOTES
TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE
4 – SEGMENT INFORMATION (CONTINUED)
Segment
information for the six months ended June 25, 2016 and June 27, 2015 is as follows (dollars in thousands):
For the six months ended June 25, 2016:
|
|
EPCM
|
|
|
Automation
|
|
|
Corporate
|
|
|
Consolidated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
16,784
|
|
|
$
|
11,870
|
|
|
$
|
—
|
|
|
$
|
28,654
|
|
Gross profit
|
|
|
1,423
|
|
|
|
2,103
|
|
|
|
—
|
|
|
|
3,526
|
|
SG&A
|
|
|
1,523
|
|
|
|
1,518
|
|
|
|
3,661
|
|
|
|
6,703
|
|
Operating income (loss)
|
|
|
(100
|
)
|
|
|
585
|
|
|
|
(3,661
|
)
|
|
|
(3,177
|
)
|
Other income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7
|
|
Interest expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(85
|
)
|
Tax benefit
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
903
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(2,352
|
)
|
For the six months ended June 27, 2015:
|
|
EPCM
|
|
|
Automation
|
|
|
Corporate
|
|
|
Consolidated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
26,229
|
|
|
$
|
17,926
|
|
|
$
|
—
|
|
|
$
|
44,155
|
|
Gross profit
|
|
|
4,132
|
|
|
|
4,599
|
|
|
|
—
|
|
|
|
8,731
|
|
SG&A
|
|
|
1,463
|
|
|
|
1,285
|
|
|
|
4,811
|
|
|
|
7,559
|
|
Operating income (loss)
|
|
|
2,669
|
|
|
|
3,314
|
|
|
|
(4,811
|
)
|
|
|
1,172
|
|
Other income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
645
|
|
Interest expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(66
|
)
|
Tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(152
|
)
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
1,599
|
|
Total Assets by Segment
|
|
As
of
June
25, 2016
|
|
|
As
of
December
26, 2015
|
|
|
|
(dollars in thousands)
|
|
EPCM
|
|
$
|
8,238
|
|
|
$
|
13,009
|
|
Automation
|
|
|
13,842
|
|
|
|
19,570
|
|
Corporate
|
|
|
26,671
|
|
|
|
19,621
|
|
Consolidated
|
|
$
|
48,751
|
|
|
$
|
52,200
|
|
Table
of Contents
ENGLOBAL
CORPORATION AND SUBSIDIARIES
NOTES
TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE
5 – FEDERAL AND STATE INCOME TAXES
The
Company accounts for income taxes in accordance with FASB Accounting Standards Codification 740 for interim reporting periods.
Under ASC 740-270, the Company estimates an annual effective tax rate based on year-to-date operating results and its projection
of operating results for the remainder of the year. We apply this annual effective tax rate to the year-to-date operating results.
If its actual results differ from the estimated annual projection, its estimated annual effective tax rate can change affecting
the tax expense for successive interim results as well as the estimated annual tax expense results. Certain states are not included
in the calculation of the estimated annual effective tax rate because the underlying basis for the tax is related to revenues
and not taxable income. Amounts for Texas margin taxes are reported as income tax expense.
The
Company applies a more likely than not recognition threshold for all tax uncertainties. The Financial Accounting Standards Board
(“FASB”) guidance for uncertain tax positions only allows the recognition of those tax benefits, based on their technical
merits that are greater than 50 percent likelihood of being sustained upon examination by the taxing authorities. Management has
reviewed the Company’s tax positions and determined there are no uncertain tax positions requiring recognition in the financial
statements. U.S. federal tax returns prior to 2012 and Texas margins tax returns prior to 2012 are closed. Generally, the applicable
statutes of limitations are three to four years from their filings.
The
Company recorded a $0.1 million income tax expense and $0.9 million income tax benefit for the three and six months ended June
25, 2016, respectively, compared to a tax expense of $0.1 million and $0.2 million for the three and six months ended June 27,
2015, respectively. The Company’s effective tax rate was -6.3% and 27.7% for the three and six months ended June 25, 2016,
respectively, as compared with 5.8% and 8.7% for the three and six months ended June 27, 2015, respectively. The effective tax
rate for the three and six months ended June 25, 2016 differed from the federal statutory rate of 35% primarily due a change in
the operating results from net income to net loss, non-deductible items, foreign withholding tax expense and tax credits for the
three and six months ending June 25, 2016. The effective tax rate for the six months ended June 27, 2015 differed from the federal
statutory rate of 35% due to a full valuation allowance on the Company’s deferred tax assets. The majority of the valuation
allowance was released in the fourth quarter of fiscal 2015.
NOTE
6 – STOCK REPURCHASE PROGRAM
On
April 21, 2015, the Company announced that its Board of Directors authorized the repurchase of up to $2 million of the Company’s
common stock from time to time through open market or privately negotiated transactions, based on prevailing market conditions.
The Company is not obligated to repurchase any dollar amount or specific number of shares of common stock under the repurchase
program, which may be suspended or discontinued at any time. As of June 25, 2016, the Company had purchased 499,344 shares for
$533 thousand under the repurchase program of which 180,989 shares were purchased in the three months ended June 25, 2016 for
$228 thousand.
NOTE
7 – COMMITMENTS AND CONTINGENCIES
From
time to time, ENGlobal or one or more of its subsidiaries is involved in various legal proceedings or is subject to claims that
arise in the ordinary course of business alleging, among other things, claims of breach of contract or negligence in connection
with the performance or delivery of goods and/or services. The outcome of any such claims or proceedings cannot be predicted with
certainty. Management is not aware of any pending or threatened lawsuits or proceedings that are expected to have a material effect
on the Company’s financial position, results of operations or liquidity.
The
Company carries a broad range of insurance coverage, including general and business automobile liability, commercial property,
professional errors and omissions, workers’ compensation insurance, directors’ and officers’ liability insurance
and a general umbrella policy, all with standard self-insured retentions/deductibles. The Company also provides health insurance
to its employees (including vision and dental), and is partially self-funded for these claims. Provisions for expected future
payments are accrued based on the Company’s experience, and specific stop loss levels provide protection for the Company.
The Company believes it has adequate reserves for the self-funded portion of its insurance policies. The Company is not aware
of any material litigation or claims that are not covered by these policies or which are likely to materially exceed the Company’s
insurance limits.
Table
of Contents
ENGLOBAL
CORPORATION AND SUBSIDIARIES