Item 1. Financial Statements
FORTERRA, INC.
Condensed Consolidated Statements of Operations
(in thousands, except per share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
Nine months ended
|
|
September 30,
|
|
September 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
|
(unaudited)
|
|
(unaudited)
|
Net sales
|
$
|
434,510
|
|
|
$
|
444,257
|
|
|
$
|
1,140,557
|
|
|
$
|
1,219,244
|
|
Cost of goods sold
|
357,374
|
|
|
362,150
|
|
|
953,743
|
|
|
1,022,574
|
|
Gross profit
|
77,136
|
|
|
82,107
|
|
|
186,814
|
|
|
196,670
|
|
Selling, general & administrative expenses
|
(48,492
|
)
|
|
(59,366
|
)
|
|
(151,617
|
)
|
|
(191,964
|
)
|
Impairment and exit charges
|
(2,170
|
)
|
|
(1,193
|
)
|
|
(3,891
|
)
|
|
(13,004
|
)
|
Earnings from equity method investee
|
2,224
|
|
|
2,936
|
|
|
7,745
|
|
|
9,449
|
|
Other operating income, net
|
1,538
|
|
|
2,008
|
|
|
6,864
|
|
|
5,251
|
|
|
(46,900
|
)
|
|
(55,615
|
)
|
|
(140,899
|
)
|
|
(190,268
|
)
|
Income from operations
|
30,236
|
|
|
26,492
|
|
|
45,915
|
|
|
6,402
|
|
|
|
|
|
|
|
|
|
Other income (expense)
|
|
|
|
|
|
|
|
Interest expense
|
(21,940
|
)
|
|
(15,582
|
)
|
|
(52,993
|
)
|
|
(46,202
|
)
|
Other income (expense), net
|
—
|
|
|
(30,866
|
)
|
|
6,016
|
|
|
(30,866
|
)
|
Income (loss) before income taxes
|
8,296
|
|
|
(19,956
|
)
|
|
(1,062
|
)
|
|
(70,666
|
)
|
Income tax (expense) benefit
|
(2,793
|
)
|
|
8,454
|
|
|
(6,351
|
)
|
|
25,448
|
|
Net income (loss)
|
$
|
5,503
|
|
|
$
|
(11,502
|
)
|
|
$
|
(7,413
|
)
|
|
$
|
(45,218
|
)
|
|
|
|
|
|
|
|
|
Earnings (loss) per share:
|
|
|
|
|
|
|
|
Basic
|
$
|
0.09
|
|
|
$
|
(0.18
|
)
|
|
$
|
(0.12
|
)
|
|
$
|
(0.71
|
)
|
Diluted
|
$
|
0.09
|
|
|
$
|
(0.18
|
)
|
|
$
|
(0.12
|
)
|
|
$
|
(0.71
|
)
|
Weighted average common shares outstanding:
|
|
|
|
|
|
|
|
Basic
|
63,919
|
|
|
63,799
|
|
|
63,883
|
|
|
63,794
|
|
Diluted
|
64,269
|
|
|
63,799
|
|
|
63,883
|
|
|
63,794
|
|
See accompanying notes to unaudited condensed consolidated financial statements
FORTERRA, INC.
Condensed Consolidated Statements of Comprehensive Income (Loss)
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
Nine months ended
|
|
September 30,
|
|
September 30,
|
|
2018
|
2017
|
|
2018
|
|
2017
|
|
(unaudited)
|
|
(unaudited)
|
Net income (loss)
|
$
|
5,503
|
|
$
|
(11,502
|
)
|
|
$
|
(7,413
|
)
|
|
$
|
(45,218
|
)
|
Unrealized gain (loss) on derivative activities, net of tax
|
—
|
|
(2,195
|
)
|
|
970
|
|
|
(4,103
|
)
|
Foreign currency translation adjustment
|
1,486
|
|
2,762
|
|
|
(1,640
|
)
|
|
3,998
|
|
Comprehensive income (loss)
|
$
|
6,989
|
|
$
|
(10,935
|
)
|
|
$
|
(8,083
|
)
|
|
$
|
(45,323
|
)
|
See accompanying notes to unaudited condensed consolidated financial statements
FORTERRA, INC.
Condensed Consolidated
Balance Sheets
(in thousands)
|
|
|
|
|
|
|
|
|
|
September 30,
2018
|
|
December 31,
2017
|
ASSETS
|
(unaudited)
|
|
|
Current assets
|
|
|
|
Cash and cash equivalents
|
$
|
30,348
|
|
|
$
|
104,534
|
|
Receivables, net
|
280,831
|
|
|
192,654
|
|
Inventories
|
265,609
|
|
|
236,655
|
|
Prepaid expenses
|
7,315
|
|
|
5,381
|
|
Other current assets
|
18,170
|
|
|
27,059
|
|
Current assets held for sale
|
—
|
|
|
12,242
|
|
Total current assets
|
602,273
|
|
|
578,525
|
|
Non-current assets
|
|
|
|
Property, plant and equipment, net
|
490,439
|
|
|
412,572
|
|
Goodwill
|
507,002
|
|
|
496,141
|
|
Intangible assets, net
|
196,987
|
|
|
225,304
|
|
Investment in equity method investee
|
53,315
|
|
|
54,445
|
|
Other long-term assets
|
18,086
|
|
|
18,866
|
|
Non-current assets held for sale
|
—
|
|
|
25,385
|
|
Total assets
|
$
|
1,868,102
|
|
|
$
|
1,811,238
|
|
|
|
|
|
LIABILITIES AND EQUITY
|
|
|
|
Current liabilities
|
|
|
|
Trade payables
|
$
|
145,112
|
|
|
$
|
108,560
|
|
Accrued liabilities
|
70,321
|
|
|
72,782
|
|
Deferred revenue
|
8,384
|
|
|
9,029
|
|
Current portion of long-term debt
|
12,510
|
|
|
12,510
|
|
Current portion of tax receivable agreement
|
34,601
|
|
|
34,601
|
|
Current liabilities held for sale
|
—
|
|
|
4,615
|
|
Total current liabilities
|
270,928
|
|
|
242,097
|
|
Non-current liabilities
|
|
|
|
Long-term debt
|
1,177,382
|
|
|
1,181,277
|
|
Long-term capital leases
|
134,867
|
|
|
4,155
|
|
Deferred tax liabilities
|
43,014
|
|
|
67,481
|
|
Deferred gain on sale-leaseback
|
9,406
|
|
|
75,743
|
|
Other long-term liabilities
|
20,670
|
|
|
25,032
|
|
Long-term tax receivable agreement
|
82,962
|
|
|
82,962
|
|
Total liabilities
|
1,739,229
|
|
|
1,678,747
|
|
Commitments and Contingencies (Note 14)
|
|
|
|
|
|
Equity
|
|
|
|
Common stock, $0.001 par value, 190,000 shares authorized; 64,202 and 64,231 shares issued and outstanding
|
18
|
|
|
18
|
|
Additional paid-in-capital
|
234,487
|
|
|
230,023
|
|
Accumulated other comprehensive loss
|
(6,598
|
)
|
|
(5,098
|
)
|
Retained deficit
|
(99,034
|
)
|
|
(92,452
|
)
|
Total shareholders' equity
|
128,873
|
|
|
132,491
|
|
Total liabilities and shareholders' equity
|
$
|
1,868,102
|
|
|
$
|
1,811,238
|
|
See accompanying notes to unaudited condensed consolidated financial statements
FORTERRA, INC.
Condensed Consolidated Statements of Cash Flows
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended
|
|
|
September 30,
|
|
|
2018
|
|
2017
|
CASH FLOWS FROM OPERATING ACTIVITIES
|
|
(unaudited)
|
Net loss
|
|
$
|
(7,413
|
)
|
|
$
|
(45,218
|
)
|
Adjustments to reconcile net loss to net cash used in operating activities:
|
Depreciation & amortization expense
|
|
79,373
|
|
|
87,463
|
|
(Gain) / loss on business divestiture
|
|
(6,016
|
)
|
|
31,606
|
|
(Gain) / loss on disposal of property, plant and equipment
|
|
(2,447
|
)
|
|
1,749
|
|
Amortization of debt discount and issuance costs
|
|
6,099
|
|
|
6,061
|
|
Stock-based compensation expense
|
|
4,588
|
|
|
2,838
|
|
Impairment charges
|
|
936
|
|
|
10,551
|
|
Earnings from equity method investee
|
|
(7,745
|
)
|
|
(9,449
|
)
|
Distributions from equity method investee
|
|
8,875
|
|
|
9,000
|
|
Unrealized gain on derivative instruments, net
|
|
(4,291
|
)
|
|
(2,035
|
)
|
Unrealized foreign currency gains, net
|
|
(358
|
)
|
|
(1,314
|
)
|
Provision (recoveries) for doubtful accounts
|
|
(1,905
|
)
|
|
2,289
|
|
Deferred taxes
|
|
(24,787
|
)
|
|
(16,321
|
)
|
Deferred rent
|
|
1,022
|
|
|
1,941
|
|
Other non-cash items
|
|
77
|
|
|
166
|
|
Change in assets and liabilities:
|
|
|
|
|
Receivables, net
|
|
(83,720
|
)
|
|
(84,974
|
)
|
Inventories
|
|
(25,019
|
)
|
|
(18,217
|
)
|
Other current assets
|
|
6,910
|
|
|
(15,522
|
)
|
Accounts payable and accrued liabilities
|
|
25,042
|
|
|
2,668
|
|
Other assets & liabilities
|
|
2,184
|
|
|
(2,415
|
)
|
NET CASH USED IN OPERATING ACTIVITIES
|
|
(28,595
|
)
|
|
(39,133
|
)
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
Purchase of property, plant and equipment, and intangible assets
|
|
(31,474
|
)
|
|
(38,729
|
)
|
Proceeds from business divestiture
|
|
618
|
|
|
23,200
|
|
Proceeds from sale of fixed assets
|
|
4,874
|
|
|
—
|
|
Settlement of net investment hedges
|
|
(4,990
|
)
|
|
—
|
|
Business combinations, net of cash acquired
|
|
(4,500
|
)
|
|
(35,380
|
)
|
NET CASH USED IN INVESTING ACTIVITIES
|
|
(35,472
|
)
|
|
(50,909
|
)
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
Payment of debt issuance costs
|
|
—
|
|
|
(2,498
|
)
|
Payments on term loans
|
|
(9,383
|
)
|
|
(8,880
|
)
|
Proceeds from term loans, net
|
|
—
|
|
|
200,000
|
|
Proceeds from revolver
|
|
—
|
|
|
194,000
|
|
Payments on revolver
|
|
—
|
|
|
(293,000
|
)
|
Other financing activities
|
|
(385
|
)
|
|
(232
|
)
|
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES
|
|
(9,768
|
)
|
|
89,390
|
|
Effect of exchange rate changes on cash
|
|
(351
|
)
|
|
1,759
|
|
Net change in cash and cash equivalents
|
|
(74,186
|
)
|
|
1,107
|
|
Cash and cash equivalents, beginning of period
|
|
104,534
|
|
|
40,024
|
|
Cash and cash equivalents, end of period
|
|
$
|
30,348
|
|
|
$
|
41,131
|
|
|
|
|
|
|
SUPPLEMENTAL DISCLOSURES:
|
Cash interest paid
|
|
$
|
50,217
|
|
|
$
|
40,968
|
|
Income taxes paid
|
|
21,508
|
|
|
27,590
|
|
SUPPLEMENTAL NON-CASH INVESTING AND FINANCING DISCLOSURES:
|
Assets and liabilities acquired in non-cash exchange
|
|
18,140
|
|
|
—
|
|
Fair value changes of derivatives recorded in OCI, net of tax
|
|
970
|
|
|
(4,103
|
)
|
Capital lease obligation
|
|
(148,962
|
)
|
|
—
|
|
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
1. Organization and description of the business
Description of the Business
Forterra, Inc. (“Forterra” or the ‘‘Company’’) is involved in the manufacturing, sale and distribution of building products in the United States and Eastern Canada. Forterra’s primary products are concrete drainage pipe, precast concrete structures, and water transmission pipe used in drinking and wastewater systems. These products are used in the residential, infrastructure and non-residential sectors of the construction industry.
Organization
Forterra, a Delaware corporation, was formed on June 21, 2016 to hold the business of Forterra Building Products. The entities comprising the business of Forterra Building Products were indirect wholly-owned subsidiaries of HeidelbergCement A.G. ("HC") prior to its acquisition by LSF9 Concrete Holdings Ltd. ("LSF9") on March 13, 2015, including certain businesses that were divested between March 2015 and October 2016. In October 2016, in a corporate reorganization transaction (the "Reorganization") ownership of the remaining businesses of Forterra Building Products was transferred to Forterra, a wholly-owned subsidiary of Forterra US Holdings, LLC, which is indirectly wholly-owned by an affiliate of Lone Star Fund IX (U.S.),L.P. (along with its affiliates, related parties and associated, but excluding the Company and other companies that it owns as a result of its investment activity, "Lone Star"). On October 25, 2016,
Forterra sold
18,420,000
shares of common stock in its initial public offering (the “IPO”).
2. Summary of significant accounting policies
General
The Company's condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) and include the accounts and results of operations of the Company and its consolidated subsidiaries. All intercompany transactions have been eliminated in consolidation.
The condensed consolidated balance sheets and the condensed consolidated statements of operations, comprehensive income (loss) and cash flows for the periods presented herein reflect all adjustments that are of a normal recurring nature and are necessary for a fair statement of the results of the periods shown. Certain information and note disclosures normally included in annual financial statements have been condensed or omitted pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”).
The results of operations for the periods presented are not necessarily indicative of the results that may be expected for the year ending December 31, 2018. Seasonal changes and other conditions can affect the sales volumes of the Company's products. The financial results for any interim period do not necessarily indicate the expected results for the year.
These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2017 as provided in Forterra, Inc.'s Annual Report on Form 10-K for the year ended December 31, 2017 filed with the SEC on March 7, 2018 (the “2017 10-K”). The Company has continued to follow the accounting policies set forth in those financial statements, except as supplemented and documented below.
During the first quarter of 2017, the Company identified and corrected prior period errors related to cost accrual items which should have been recognized in 2016. A cumulative correction was recorded during the quarter ended March 31, 2017 that increased pretax loss by
$4.6 million
, which consisted of a
$3.3 million
increase to cost of goods sold and a
$2.0 million
increase to selling, general and administrative expenses, partially offset by a
$0.7 million
increase in revenues. The Company evaluated the impact of correcting these errors and concluded the errors were immaterial to the annual operating results for the year ended December 31, 2017 and the trend of earnings.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
Use of estimates
The preparation of the condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities as of the reporting date, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. These estimates are based on management’s best knowledge of current events and actions that the Company may undertake in the future. The more significant estimates made by management relate to fair value estimates for assets and liabilities acquired in business combinations; estimates for accrued liabilities for environmental cleanup, bodily injury and insurance claims; estimates for commitments and contingencies; and estimates for the realizability of deferred tax assets, the tax receivable agreement obligation, inventory reserves, allowance for doubtful accounts and impairment of goodwill and long-lived assets.
Credit Risk
The Company had an individual customer within its Water Pipe & Products segment that accounted for more than
10%
of total net sales for the nine months ended
September 30, 2018
. The customer represented approximately
14%
of the Company's total net sales for the nine months ended
September 30, 2018
, and amounts receivable from the customer at
September 30, 2018
represented approximately
15%
of the Company's total receivables, net.
Recent Accounting Guidance Adopted
- Revenue recognition
In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2014-09,
Revenue from Contracts with Customers
(Topic 606)
and issued subsequent amendments to the initial guidance. Topic 606
supersedes the revenue recognition requirements in Topic 605,
Revenue Recognition
. The new guidance outlines a single comprehensive model for accounting for revenue arising from contracts with customers. This guidance requires an entity to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services and also requires certain additional disclosures. The Company adopted the new standard on January 1, 2018 using the modified retrospective method which did not have a material impact on the Company's condensed consolidated financial statements for the three and nine months ending September 30, 2018 and is not expected to have a material impact in future periods.
No
adjustment to retained earnings was required for the cumulative effect of initially applying the new standard. Results for periods beginning on or after January 1, 2018 are presented under Topic 606, which prior period amounts are not adjusted and continue to be reported in accordance with the prior accounting guidance under Topic 605,
Revenue Recognition
.
Revenue recognition policy
The Company's revenue contracts are primarily single performance obligations for the sale of product both to trade customers and distributors. A majority of revenue recognized by the Company is recognized at the time control is transferred to customers, in an amount that reflects the consideration the Company expects to be entitled to in exchange for the products. The Company considers several indicators for the transfer of control to its customers, including the significant risks and rewards of ownership of products, the Company's right to payment and the legal title of the products. Based upon the assessment of control indicators, sales to trade customers and distributors are generally recognized when products are delivered to customers.
All variable consideration that may affect the total transaction price, including contractual discounts, rebates, returns and credits, is included in net sales. Estimates for variable consideration are based on historical experience, anticipated performance and management's judgment. Generally, the Company's contracts do not contain significant financing.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
For certain engineering and construction contracts and building contracting arrangements, the Company enters into long-term contracts with customers. Revenue is recognized as the identified performance obligations are satisfied over time using an acceptable input method to measure the progress toward completion of the performance obligation if: the customer receives the benefits as work is performed, the customer controls the asset as it is being produced, or if the product being produced for the customer has no alternative use and the Company has a contractual right to payment. The Company uses its cost incurred to date relative to total estimated costs at completion to measure progress. The Company's contract liabilities consist of billings to customers in excess of revenue recognized which the Company records as deferred revenue. Revenue recognized during the three and nine months ended September 30, 2018, which was included in contract liabilities at the beginning of the period was not material. Contract assets include revenue recognized in excess of amounts billed and balances billed but not yet paid by customers under retainage provisions which are classified as a current asset within receivables, net on the Company's balance sheet. The Company had no material contract assets on the condensed consolidated balance sheets as of September 30, 2018 or December 31, 2017.
The Company records net sales including taxes collected on behalf of its customers. Shipping and handling costs are accounted for as contract fulfillments costs and classified as cost of goods sold. See Note 18, Segment reporting, for the Company's disaggregated revenue disclosures.
Recent Accounting Guidance Adopted - Other
In
February 2018, the
FASB
issued
ASU
2018-02,
Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income
to allow a reclassification from accumulated other comprehensive income ("AOCI") to retained earnings for stranded tax effects resulting from the
U.S. tax reform legislation commonly known as the Tax Cuts and Jobs Act of 2017 (
“
TCJA
”
)
. This guidance is effective
for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, with early adoption permitted. The Company early adopted the guidance provided in the ASU during the first quarter of 2018 and reclassified
$0.8 million
of stranded deferred tax benefits related to its derivative instruments from accumulated other comprehensive loss to retained deficit.
In
August 2016, the FASB issued ASU No. 2016-15,
Statement of Cash Flows
(Topic 230): Classification of Certain Cash Receipts and Cash Payments, providing guidance on eight specific cash flow statement classification matters, including but not limited to prepayment of debt or debt extinguishment costs, contingent consideration payments made after a business combination, insurance claims and policies, and distributions received from equity method investees. The Company adopted this standard on January 1, 2018. The adoption of this guidance did not have a material impact on the Company's condensed consolidated financial statements.
In March 2018, the FASB issued ASU 2018-05,
Income Taxes - Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118
, which added paragraphs to the codification pursuant to the SEC Staff Accounting Bulletin No. 118, which addressed the application of U.S. GAAP in situations when a company does not have the necessary information available, prepared, or analyzed (including computations) in reasonable detail to finalize the calculations for the 2017 income tax effects of the TCJA. ASU 2018-05 provides entities with a one year measurement period from the December 22, 2017 enactment date to complete the accounting for the effects of the TCJA. See Note 17,
Income taxes
,
for a further discussion of the effect of the TCJA on the Company's income taxes
.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
In August 2018,
the
FASB
issued
ASU
2018-15,
Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.
ASU 2018-15 requires a customer in a cloud computing arrangement that is a service contract to follow the internal-use software guidance to determine which implementation costs to defer and recognize as an asset.
Capitalized implementation costs are amortized over the term of the hosting arrangement, and the expense related to the capitalized implementation costs is recorded in the same line in the financial statements as the cloud service cost.
The guidance is effective
for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, with early adoption permitted. The Company early adopted the guidance provided in the ASU during the third quarter of 2018. The adoption of this guidance did not have a material impact on the Company's condensed consolidated financial statements.
Recent Accounting Guidance Not Yet Adopted
In February 2016, the FASB issued ASU 2016-02,
Leases
(Topic 842), amending the existing accounting standards for lease accounting, including requiring lessees to recognize most leases on their balance sheets and making targeted changes to lessor accounting. For public business entities, the amendments in this update are effective for annual reporting periods beginning after December 15, 2018. The Company
will adopt this standard effective January 1, 2019.
ASU 2016-02 requires a modified retrospective transition approach for all leases existing at, or entered into after, the date of initial application, with an option to use certain transition relief.
In July 2018, the FASB issued ASU 2018-10,
Codification Improvements to Topic 842, Leases
, which provides narrow amendments to clarify how to apply certain aspects of the new lease standard.
In July 2018, the FASB issued ASU 2018-11,
Targeted Improvements,
which allows entities to initially apply the new standard at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption.
The Company has not finalized its assessment, but
believes the adoption of the new accounting guidance will have a material impact on its consolidated balance sheets primarily due to the recognition of right-of-use assets and lease obligations for its operating lease. The Company does not expect the new accounting guidance to have a material impact on its consolidated statements of operations or cash flows
.
3.
Acquisitions and divestitures
On January 31, 2018,
the Company divested assets relating to the operation of certain Drainage Pipe & Products facilities in Tennessee, Alabama, and Georgia to Foley Products Company (
“
Foley
”
) in exchange for
$10.1 million
in cash offset by a
$1.0 million
working capital adjustment, land in Sherman, Texas and a Drainage Pipe & Products facility located in Prentiss, Mississippi.
The acquisition was accounted for as a business combination as defined by FASB ASC 805,
Business Combinations
. In accordance with Accounting Standards Codification ("ASC") 805, the purchase price is measured as the acquisition date fair value of the assets transferred by the Company to Foley in the exchange. In the exchange, the Company divested of the net working capital and certain of the real property of its Drainage Pipe & Products plants in Tennessee and Alabama, as well as the net working capital of certain Drainage Pipe & Products plants in Georgia. The purchase price of
$37.2 million
was the fair value of the divested assets which resulted in the recognition of a gain of
$6.0 million
, recognized in Other income, net. The purchase price was subject to a
$1.0 million
net working capital adjustment pursuant to the terms of the asset purchase agreement. The Company allocated the purchase price to the individually identifiable assets acquired and liabilities assumed based on their estimated fair value on the date of acquisition. The excess purchase price over those fair values was recorded as goodwill.
The determination of fair values of the divested and acquired assets and assumed liabilities requires significant judgment, including estimates impacting the determination of estimated lives of tangible and intangible assets, calculation of the fair value of property, plant and equipment, inventory, and various intangibles. The fair values of assets and liabilities were determined using level 3 inputs as defined by ASC 820,
Fair Value Measurements and Disclosures
.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
The preliminary respective fair values of the assets acquired and liabilities assumed in the transaction, including
$10.1 million
in cash partially
offset by a
$1.0 million
working capital adjustment
, the Prentiss plant, and a parcel of land in Sherman, Texas, at the acquisition date are as follows
(in thousands)
:
|
|
|
|
|
|
|
Net working capital
|
$
|
10,984
|
|
Property, plant and equipment
|
9,221
|
|
Customer relationship intangible
|
2,100
|
|
Non-compete agreement intangible
|
5,600
|
|
Other intangibles
|
290
|
|
Net identifiable assets acquired
|
28,195
|
|
Goodwill
|
8,996
|
|
Consideration transferred
|
$
|
37,191
|
|
The fair values described above are preliminary and are subject to change upon the Company's final determination of the fair value of divested and acquired assets and liabilities.
Goodwill recognized is attributable primarily to expected operating efficiencies and expansion opportunities in the business acquired.
Goodwill is expected to be deductible for tax purposes for the Foley transaction.
On April 2, 2018, the Company acquired substantially all the assets of Watkins Industries, Inc. (“Mineral Wells”), for aggregate consideration of
$4.5 million
in cash. Mineral Wells is a manufacturer of metal forms, concrete vaults and pipe operating in Mineral Wells, Texas. Mineral Wells operates as part of the Company’s
Drainage Pipe & Products
segment. This acquisition was accounted for as a business combination as defined by ASC 805,
Business Combinations
, consequently, goodwill of
$1.0 million
was recorded.
During the third quarter of 2018, the Company acquired certain assets of
Anchor Concrete Products, Ltd. (“Anchor") in Kingston, Ontario, for aggregate consideration of
$2.5 million
in cash, inclusive of a
$0.4 million
hold back that is payable on the
one
-year anniversary of the execution date of the purchase agreement. The acquired assets did not meet the definition of a business and,
as such, the transaction was accounted for as an asset acquisition pursuant to the guidance in subsection 805-50 of ASC 805,
Business Combinations.
Transaction costs
The Company recognized aggregate transaction costs,
including legal, accounting, valuation and advisory fees,
specific to acquisitions and divestitures of
$0.2 million
and
$0.8 million
, for the three and nine months ended
September 30, 2018
, respectively, and
$0.0 million
and
$0.4 million
for the three and nine months ended
September 30, 2017
, respectively. These costs are recorded in the condensed consolidated statements of operations within selling, general and administrative expenses.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
4. Receivables, net
Receivables consist of the following
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Trade receivables
|
$
|
270,374
|
|
|
$
|
190,143
|
|
Amounts billed, but not yet paid under retainage provisions
|
1,698
|
|
|
1,091
|
|
Other receivables
|
10,256
|
|
|
5,453
|
|
Total receivables
|
282,328
|
|
|
196,687
|
|
Less: Allowance for doubtful accounts
|
(1,497
|
)
|
|
(4,033
|
)
|
Receivables, net
|
$
|
280,831
|
|
|
$
|
192,654
|
|
5. Inventories
Inventories consist of the following
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Finished goods
|
$
|
170,951
|
|
|
$
|
156,207
|
|
Raw materials
|
92,935
|
|
|
79,905
|
|
Work in process
|
1,723
|
|
|
543
|
|
Total inventories
|
$
|
265,609
|
|
|
$
|
236,655
|
|
6.
Investment in equity method investee
The Company contributed plant assets and related inventory from
nine
operating locations as part of the agreement to form a joint venture with Americast, Inc., Concrete Pipe & Precast LLC ("CP&P"), and in return for the contribution the Company obtained a
50%
ownership stake in the joint venture through its
500
Common Unit voting shares in CP&P. Both at
September 30, 2018
and December 31, 2017, the Company owned
50%
of CP&P's voting common stock.
The Company's investment in the joint venture was
$53.3 million
at
September 30, 2018
, which is included within the Drainage Pipe & Products segment. At
September 30, 2018
, the difference between the amount at which the Company's investment is carried and the amount of the Company's share of the underlying equity in net assets of CP&P was approximately
$13.1 million
.
The basis difference is primarily attributed to the value of land and equity method goodwill associated with the investment.
Selected financial data for the investee is as follows (
in thousands
):
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
Nine months ended
|
|
September 30,
|
|
September 30,
|
|
2018
|
|
2018
|
Net sales
|
$
|
31,864
|
|
|
$
|
96,537
|
|
Gross profit
|
9,042
|
|
|
28,537
|
|
Income from operations
|
4,540
|
|
|
15,235
|
|
Net income
|
$
|
4,479
|
|
|
$
|
15,052
|
|
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
7. Property, plant and equipment, net
Property, plant and equipment, net, consist of the following
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Machinery and equipment
|
$
|
375,160
|
|
|
$
|
343,827
|
|
Land, buildings and improvements
|
225,287
|
|
|
144,273
|
|
Other equipment
|
6,882
|
|
|
5,141
|
|
Construction-in-progress
|
27,776
|
|
|
30,295
|
|
Total property, plant and equipment
|
635,105
|
|
|
523,536
|
|
Less: accumulated depreciation
|
(144,666
|
)
|
|
(110,964
|
)
|
Property, plant and equipment, net
|
$
|
490,439
|
|
|
$
|
412,572
|
|
Depreciation expense totaled
$12.9 million
and
$39.9 million
for the
three and nine
months ended
September 30, 2018
, and
$15.6 million
and
$45.7 million
for the three and nine months ended
September 30, 2017
, which is included in cost of goods sold and selling, general and administrative expenses in the condensed consolidated statements of operations.
8. Goodwill and other intangible assets, net
The Company has goodwill which has been recorded in connection with its acquisition of businesses. The following table summarizes the changes in goodwill by operating segment for the
nine
months ended
September 30, 2018
(
in thousands
):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
|
Water Pipe & Products
|
|
Total
|
Balance at December 31, 2017
|
$
|
179,723
|
|
|
$
|
316,418
|
|
|
$
|
496,141
|
|
Acquisitions
|
9,951
|
|
|
—
|
|
|
9,951
|
|
Foreign currency and other adjustments
|
910
|
|
|
—
|
|
|
910
|
|
Balance at September 30, 2018
|
$
|
190,584
|
|
|
$
|
316,418
|
|
|
$
|
507,002
|
|
ASC 350,
Intangibles -- Goodwill and Other
, requires goodwill to be either qualitatively or quantitatively assessed for impairment annually (or more frequently if impairment indicators arise) for each reporting unit. The Company performs its annual impairment testing of goodwill as of October 1 of each year and in interim periods if events occur that would indicate that it is more likely than not the fair value of a reporting unit is less than carrying value. The Company first assesses qualitative factors to evaluate whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as the basis for determining whether it is necessary to perform a quantitative goodwill impairment test.
The Company may bypass the qualitative assessment for any reporting unit in any period and proceed directly with the quantitative analysis.
The quantitative analysis compares the fair value of the reporting unit with its carrying amount. If the carrying amount of a reporting unit exceeds the fair value, impairment is recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit. As of September 30, 2018, no indications exist which would indicate the fair value of the reporting units is less than its carrying value.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
Intangible assets other than goodwill at
September 30, 2018
and December 31, 2017 included the following (
in thousands
):
|
|
|
|
|
|
|
|
|
|
Net carrying value as of September 30, 2018
|
|
Net carrying value as of December 31, 2017
|
Customer relationships
|
$
|
141,451
|
|
|
$
|
168,000
|
|
Trade names
|
25,800
|
|
|
29,632
|
|
Patents
|
12,410
|
|
|
15,729
|
|
Customer backlog
|
59
|
|
|
404
|
|
Non-compete agreements
|
10,321
|
|
|
4,543
|
|
In-Process R&D
|
6,354
|
|
|
6,354
|
|
Other
|
592
|
|
|
642
|
|
Total intangible assets
|
$
|
196,987
|
|
|
$
|
225,304
|
|
Amortization expense totaled
$13.1 million
and
$39.4 million
for the
three and nine
months ended
September 30, 2018
, and
$13.5 million
and
$41.8 million
for the three and
nine months ended September 30, 2017
, which is included in selling, general and administrative expenses in the condensed consolidated statements of operations. All of the Company's intangible assets are amortizable.
9. Fair value measurement
The Company's financial instruments consist primarily of cash and cash equivalents, trade and other receivables, derivative instruments, accounts payable, long-term debt, accrued liabilities, capital lease obligations, and the tax receivable agreement payable. The carrying value of the Company's cash equivalents, trade receivables, other receivables, trade payables and accrued liabilities approximates fair value due to their short-term maturity. The carrying value of capital lease obligations approximates fair value, as estimated by using discounted future cash flows based on the Company's current incremental borrowing rates for similar types of borrowing arrangements. The Company may adjust the carrying amount of certain non-financial assets to fair value on a non-recurring basis when they are impaired.
The carrying amount and estimated fair value of the Company’s financial instruments and other assets and liabilities measured and recorded at fair value on a recurring basis is as follows for the dates indicated
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value measurements at September 30, 2018 using
|
|
|
Quoted Prices in Active Markets for Identical Assets (Level 1)
|
Significant Other Observable Inputs
(Level 2)
|
Significant Unobservable Inputs
(Level 3)
|
Total Fair Value September 30, 2018
|
Assets:
|
|
|
|
|
Interest rate swaps
|
—
|
|
$
|
9,542
|
|
—
|
|
$
|
9,542
|
|
|
|
|
|
|
|
Fair value measurements at December 31, 2017 using
|
|
|
Quoted Prices in Active Markets for Identical Assets (Level 1)
|
Significant Other Observable Inputs (Level 2)
|
Significant Unobservable Inputs (Level 3)
|
Total Fair Value December 31, 2017
|
Assets:
|
|
|
|
|
Interest rate swaps
|
—
|
|
$
|
5,251
|
|
—
|
|
$
|
5,251
|
|
Liabilities:
|
|
|
|
|
Foreign exchange forward contracts
|
—
|
|
6,286
|
|
—
|
|
6,286
|
|
Liabilities and assets recorded at fair value classified as level 2 are valued using observable market inputs.
The fair values of derivative assets and liabilities are determined using quantitative models that utilize
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
multiple market inputs including interest rates and exchange rates to generate continuous yield or pricing curves and volatility factors to value the position. The majority of market inputs are actively quoted and can be validated through external sources, including brokers, market transactions and third-party pricing services. The fair values of derivative assets and liabilities include adjustments for market liquidity, counter-party credit quality and other instrument-specific factors, where appropriate. In addition, the Company incorporates within its fair value measurements a valuation adjustment to reflect the credit risk associated with the net position. Positions are netted by counter-parties, and fair value for net long exposures is adjusted for counter-party credit risk while the fair value for net short exposures is adjusted for the Company’s own credit risk.
The estimated carrying amount and fair value of the Company’s financial instruments and liabilities for which fair value is only disclosed is as follows
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value measurements at September 30, 2018 using
|
|
|
Carrying Amount September 30, 2018
|
Quoted Prices in Active Markets for Identical Assets (Level 1)
|
Significant Other Observable Inputs
(Level 2)
|
Significant Unobservable Inputs
(Level 3)
|
Total Fair Value September 30, 2018
|
Liabilities:
|
|
|
|
|
|
2016 Senior Term Loan
|
$1,189,892
|
—
|
|
$1,175,413
|
—
|
|
$1,175,413
|
Tax receivable agreement payable
|
117,563
|
|
—
|
|
—
|
|
78,206
|
|
78,206
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value measurements at December 31, 2017 using
|
|
|
Carrying Amount December 31, 2017
|
Quoted Prices in Active Markets for Identical Assets (Level 1)
|
Significant Other Observable Inputs (Level 2)
|
Significant Unobservable Inputs (Level 3)
|
Total Fair Value December 31, 2017
|
Liabilities:
|
|
|
|
|
|
2016 Senior Term Loan
|
$1,193,787
|
—
|
|
$1,151,981
|
—
|
|
$1,151,981
|
Tax receivable agreement payable
|
117,563
|
|
—
|
|
—
|
|
75,865
|
|
75,865
|
|
The fair value of debt is valued using a market approach based on indicative quoted prices for our debt instruments traded in over-the-counter markets, therefore, is classified as Level 2 within the fair value hierarchy. See Note 11, Debt and deferred financing costs, for a further discussion of Company debt.
The determination of the fair value of the Company's tax receivable agreement payable was determined using a discounted cash flow methodology with level 3 inputs as defined by ASC 820,
Fair Value Measurements and Disclosures
. The determination of fair value required significant judgment, including estimates of the timing and amounts of various tax attributes.
These estimates are based on management’s best knowledge of current events and actions that the Company may undertake in the future.
Actual results could differ from these estimates.
See Note 14, Commitments and contingencies, for a further discussion of the Company's tax receivable agreement.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
10.
Accrued liabilities
Accrued liabilities consist of the following
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Accrued payroll and employee benefits
|
$
|
24,399
|
|
|
$
|
26,597
|
|
Short-term capital leases
|
16,476
|
|
|
183
|
|
Accrued taxes
|
11,863
|
|
|
10,294
|
|
Accrued rebates
|
8,875
|
|
|
8,428
|
|
Short-term derivative liability
|
—
|
|
|
6,286
|
|
Warranty
|
3,798
|
|
|
5,038
|
|
Environmental obligation
|
570
|
|
|
446
|
|
Other miscellaneous accrued liabilities
|
4,340
|
|
|
15,510
|
|
Total accrued liabilities
|
$
|
70,321
|
|
|
$
|
72,782
|
|
11. Debt and deferred financing costs
The Company’s debt consisted of the following
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
2016 Senior Term Loan, net of debt issuance costs and original issuance discount of $36,093 and $41,580, respectively
|
$
|
1,189,892
|
|
|
$
|
1,193,787
|
|
Total debt
|
$
|
1,189,892
|
|
|
$
|
1,193,787
|
|
Less: current portion debt
|
(12,510
|
)
|
|
(12,510
|
)
|
Total long-term debt
|
$
|
1,177,382
|
|
|
$
|
1,181,277
|
|
Concurrent with the completion of the IPO, Forterra entered into a
$300 million
asset based revolving credit facility for working capital and general corporate purposes (“2016 Revolver”) and a
$1.05 billion
senior term loan facility (“2016 Senior Term Loan”).
The 2016 Senior Term Loan initially provided for a
$1.05 billion
senior secured term loan. Subject to the conditions set forth in the term loan agreement, the 2016 Senior Term Loan may be increased by (i) up to the greater of
$285.0 million
and 1.0x consolidated EBITDA (defined below) of Forterra and its restricted subsidiaries for the four quarters most recently ended prior to such incurrence plus (ii) the aggregate amount of any voluntary prepayments, plus (iii) an additional amount, provided certain financial tests are met.
Effective May 1, 2017, the Company amended the 2016 Senior Term Loan to increase the principal outstanding by an additional
$200.0 million
and to reduce the interest margins applicable to the full balance of the 2016 Senior Term Loan by 50 basis points such that applicable margin based on LIBOR was reduced from
3.50%
to
3.00%
. The net proceeds from the incremental term loan of
$196.8 million
were used to pay down a portion of the outstanding balance on the 2016 Revolver. This amendment had no effect on the Company's ability to increase the size of the 2016 Senior Term Loan under the original provisions. The 2016 Senior Term Loan matures on October 25, 2023 and is subject to quarterly amortization equal to
0.25%
of the initial principal amount. Interest accrues on outstanding borrowings thereunder at a rate equal to LIBOR (with a floor of
1.0%
) or an alternate base rate, in each case plus a margin of
3.00%
or
2.00%
, respectively. The weighted average interest rates for the 2016 Senior Term Loan were
5.1%
,
4.9%
,
4.2%
and
4.5%
for the three and nine months ended September 30, 2018 and 2017, respectively.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
Outstanding borrowings under the 2016 Senior Term Loan are guaranteed by Forterra and each of its direct and indirect material wholly-owned domestic subsidiaries except certain excluded subsidiaries (the "Guarantors"). The 2016 Senior Term Loan is secured by substantially all of the assets of Forterra, the borrower and the Guarantors; provided that the obligations under the 2016 Senior Term Loan are not secured by any liens on more than
65%
of the voting stock of the Canadian subsidiaries or assets of the Canadian subsidiaries. The 2016 Senior Term Loan contains customary representations and warranties, and affirmative and negative covenants, that, among other things, restrict the ability of Forterra and its restricted subsidiaries to incur additional debt, incur or permit liens on assets, make investments and acquisitions, consolidate or merge with any other company, engage in asset sales and pay dividends and make distributions. The 2016 Senior Term Loan does not contain any financial covenants. Obligations under the 2016 Senior Term Loan may be accelerated upon certain customary events of default (subject to grace periods, as appropriate).
The 2016 Revolver provides for an aggregate principal amount of up to
$300.0 million
, with up to
$280.0 million
to be made available to the U.S. borrowers and up to
$20.0 million
to be made available to the Canadian borrowers (the allocation may be modified periodically at the Company's request). Subject to the conditions set forth in the revolving credit agreement related to the 2016 Revolver (the "2016 Credit Agreement"), the 2016 Revolver may be increased by up to the greater of (i)
$100.0 million
and (ii) such amount as would not cause the aggregate borrowing base to be exceeded by more than
$50.0 million
. Borrowings under the 2016 Revolver may not exceed a borrowing base equal to the sum of (i)
100%
of eligible cash, (ii)
85%
of eligible accounts receivable and (iii) the lesser of (a)
75%
of eligible inventory and (b)
85%
of the orderly liquidation value of eligible inventory, with the U.S. and Canadian borrowings being subject to separate borrowing base limitations. The advance rates for accounts receivable and inventory are subject to increase by
2.5%
during certain periods. As of September 30, 2018 and December 31, 2017, there were
no
outstanding borrowings under the 2016 Revolver.
The 2016 Revolver matures on October 25, 2021. The Revolver also provides for the issuance of letters of credit of up to an agreed sublimit. Interest accrues on outstanding borrowings at a rate equal to LIBOR or CDOR plus a margin ranging from
1.25%
to
1.75%
per annum, or at an alternate base rate, Canadian prime rate or Canadian base rate plus a margin ranging from
0.25%
to
0.75%
per annum, in each case, based upon the average excess availability under the 2016 Revolver for the most recently completed calendar quarter. The obligations of the borrowers under the 2016 Revolver are guaranteed by Forterra and its direct and indirect wholly-owned restricted subsidiaries other than certain excluded subsidiaries; provided that the obligations of the U.S. borrowers are not guaranteed by the Canadian subsidiaries. The 2016 Revolver is secured by substantially all of the assets of the borrowers; provided that the obligations of the U.S. borrowers are not secured by any liens on more than
65%
of the voting stock of the Canadian subsidiaries or assets of the Canadian subsidiaries.
The 2016 Revolver contains customary representations and warranties, and affirmative and negative covenants, including representations, warranties, and covenants that, among other things, restrict the ability of Forterra and its restricted subsidiaries to incur additional debt, incur or permit liens on assets, make investments and acquisitions, consolidate or merge with any other company, engage in asset sales and pay dividends and make distributions. The 2016 Credit Agreement contains a financial covenant restricting Forterra from allowing its fixed charge coverage ratio to drop below
1.00
:1.00 during a compliance period, which is triggered when the availability under the 2016 Revolver falls below a threshold set forth in the 2016 Credit Agreement. Obligations under the 2016 Credit Agreement may be accelerated upon certain customary events of default (subject to grace periods, as appropriate). The fixed charge coverage ratio is the ratio of consolidated earnings before interest, depreciation, and amortization (“EBITDA’’) less cash payments for capital expenditures and income taxes to consolidated fixed charges (interest expense plus scheduled payments of principal on indebtedness).
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
In addition, Forterra pays a facility fee of between
20.0
and
32.5
basis points per annum based upon the utilization of the total 2016 Revolver. Availability under the 2016 Revolver at
September 30, 2018
based on draws, and outstanding letters of credit and allowable borrowing base was
$284.4 million
.
As of
September 30, 2018
, scheduled maturities of long-term debt were as follows (in thousands):
|
|
|
|
|
|
|
|
2016 Senior Term Loan
|
2018
|
|
$
|
3,128
|
|
2019
|
|
12,510
|
|
2020
|
|
12,510
|
|
2021
|
|
12,510
|
|
2022
|
|
12,510
|
|
2023
|
|
1,172,817
|
|
|
|
$
|
1,225,985
|
|
Lines of Credit and Other Debt Facilities
The Company had standby letters of credit outstanding of
$15.6 million
as of
September 30, 2018
which reduce the borrowings available under the 2016 Revolver.
12. Derivatives and hedging
The Company uses derivatives to manage selected foreign exchange and interest rate exposures. The Company does not use derivative instruments for speculative trading purposes, and, except as discussed below, cash flows from derivative instruments are included in net cash provided by (used in) operating activities in the condensed consolidated statements of cash flows.
At December 31, 2017, the Company had foreign exchange forward contracts, designated as net investment hedges in accordance with ASC 815-20
Derivatives - Hedging
, which allows for the effective portion of the changes in the fair value of the instruments to be captured in accumulated other comprehensive income, and the ineffective portion recorded in earnings. These instruments were assigned to Forterra by an affiliate concurrent with the Reorganization, directly prior to the refinancing of existing indebtedness in connection with the IPO and were settled in March 2018 resulting in a cash outlay of
$5.0 million
. This cash outlay was recorded within the investing activities section of the c
onsolidated statements of cash flows. The net investment hedges were intended to mitigate foreign exchange exposure related to non-U.S. dollar net investments in certain foreign subsidiaries against changes in foreign exchange rates.
A quantitative analysis was utilized to assess hedge effectiveness for the hedges. The Company assessed the hedge effectiveness and measured the amount of ineffectiveness for the hedge relationships based on changes in forward exchange rates.
Cumulative changes in fair value of the effective portion of the hedging instruments were recorded in Accumulated other comprehensive income, and will be reclassified into earnings upon the sale or complete or substantially complete liquidation of the foreign entity.
On
February 9, 2017, Forterra entered into interest rate swap transactions with a combined notional value of
$525 million
. Under the terms of the swap transactions, Forterra agreed to pay a fixed rate of interest of
1.52%
and receive floating rate interest indexed to one-month LIBOR with monthly settlement terms with the swap counterparties. The swaps have a
three
-year term and expire on March 31, 2020. The interest rate swaps are not designated as cash flow hedges, therefore all changes in the fair value of these instruments are captured as a component of interest expense in the condensed consolidated statements of operations. Accordingly,
cash flows from the monthly interest rate swap settlements are included in net cash provided by (used in) operating activities in the condensed consolidated statements of cash flows.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
The Company elects to present all derivative assets and derivative liabilities on a net basis on its condensed consolidated balance sheets when a legally enforceable International Swaps and Derivatives Association, Inc. (“ISDA”) Master Agreement exists. An ISDA Master Agreement is an agreement between two counterparties, which may have multiple derivative transactions with each other governed by such agreement, and such ISDA Master Agreement generally provides for the net settlement of all or a specified group of these derivative transactions, through a single payment, in a single currency, in the event of a default on, or affecting any, one derivative transaction or a termination event affecting all, or a specified group of, derivative transactions. At
September 30, 2018
and December 31, 2017, the Company’s derivative instruments fall under an ISDA master netting agreement.
The following table presents the fair values of derivative assets and liabilities in the condensed consolidated balance sheets
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2018
|
|
Derivative Assets
|
|
Derivative Liabilities
|
|
Notional Amount
|
|
Fair Value
|
|
Notional Amount
|
|
Fair Value
|
Interest rate swaps
|
$
|
525,000
|
|
|
$
|
9,542
|
|
|
—
|
|
|
—
|
|
Total derivatives, gross
|
|
|
9,542
|
|
|
|
|
—
|
|
Less: Legally enforceable master netting agreements
|
|
|
—
|
|
|
|
|
—
|
|
Total derivatives, net
|
|
|
|
$
|
9,542
|
|
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
Derivative Assets
|
|
Derivative Liabilities
|
|
Notional Amount
|
|
Fair Value
|
|
Notional Amount
|
|
Fair Value
|
Foreign exchange forward contracts
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
92,961
|
|
|
$
|
6,286
|
|
Interest rate swaps
|
525,000
|
|
|
5,251
|
|
|
—
|
|
|
—
|
|
Total derivatives, gross
|
|
|
5,251
|
|
|
|
|
6,286
|
|
Less: Legally enforceable master netting agreements
|
|
|
—
|
|
|
|
|
—
|
|
Total derivatives, net
|
|
|
$
|
5,251
|
|
|
|
|
$
|
6,286
|
|
The following table presents the effect of derivative instruments on the condensed consolidated statements of operations
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
Nine months ended
|
|
September 30,
|
|
September 30,
|
|
2018
|
2017
|
|
2018
|
2017
|
Net investment hedges
|
|
|
|
|
|
Foreign exchange forward contracts
|
|
|
|
|
|
Gain (loss) on derivatives recognized in Accumulated other comprehensive loss
|
$
|
—
|
|
$
|
(2,195
|
)
|
|
$
|
970
|
|
$
|
(4,103
|
)
|
Derivatives not designated as hedges
|
|
|
|
|
|
Interest rate swaps
|
|
|
|
|
|
Gain (loss) on derivatives not designated as hedges included in interest expense
|
71
|
|
709
|
|
|
4,291
|
|
2,035
|
|
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
13.
Sale-Leaseback Transaction
On April 5, 2016, the Company sold properties in
47
sites throughout the U.S. and Canada to Pipe Portfolio Owner (Multi) LP (the “U.S. Buyer”) and FORT-BEN Holdings (ONQC) Ltd. (the “Canadian Buyer”) for an aggregate purchase price of approximately
$204.3 million
. On April 14, 2016, the Company sold additional properties in
two
sites located in the U.S. to the U.S. Buyer for an aggregate purchase price of approximately
$11.9 million
. In connection with these transactions, the Company and U.S. Buyer and an affiliate of the Canadian Buyer entered into master land and building lease agreements under which the Company agreed to lease back each of the properties for an initial term of
twenty years
, followed by
one
optional renewal term of
9 years, 11 months
. The proceeds received from the sale-leaseback transactions net of transaction costs of
$6.5 million
amounted to
$209.7 million
.
A deferred gain of
$81.5 million
related to the sale-leaseback transaction was being
amortized over the life of the master leases. In addition, the Company concluded that the leases for land and buildings were operating leases, and the leases for the machinery equipment were capital leases.
On June 5, 2018, the Company entered into Exchange Agreements and Amended and Restated Master Leases with each of the U.S. Buyer and the Canadian Buyer (collectively, the “Exchange Transaction”). Under the Exchange Agreement between the Company and the U.S. Buyer, the Company exchanged ownership of a ductile iron pipe facility located in Bessemer, Alabama used in its Water Pipe & Products segment (the “Bessemer Facility”) for
21
facilities used in its Drainage Pipe & Products segment and the U.S. concrete and steel pressure pipe facilities previously part of the Water Pipe & Products segment, including a portion of
one
property used in both segments, all of which were previously included in the sale-leaseback transaction. Under the Exchange Agreement between the Company and the Canadian Buyer, the Company exchanged ownership of a smaller diameter ductile iron pipe facility located in Bessemer, Alabama used in its Water Pipe & Products segment (the “Mini Mill Facility”) for ownership of
three
Canadian concrete pressure pipe facilities that were previously included in the sale-leaseback transaction. No cash changed hands in the Exchange Transaction.
Under the Amended and Restated Master Leases, the Company will lease a total of
26
properties from the U.S. Buyer and a total of
2
properties from an affiliate of the Canadian Buyer, each for an initial term of
25 years
, through June 30, 2043, followed by
one
optional renewal term of
nine years, eleven months
that may be exercised at the Company’s option. The initial base rent under the U.S. Amended and Restated Master Lease is
$17.1 million
per annum, payable monthly, and is subject to a
2%
annual increase during the initial term. If the Company elects to extend the term of the U.S. Amended and Restated Master Lease, the base rent for the first year of the extension will be the greater of
95%
of the fair market rental value of the properties and an amount equal to
102%
of the prior year’s base rent, subject to an annual increase based on changes in the Consumer Price Index, but capped at
4%
. The U.S. Amended and Restated Master Lease restricts the Company’s use of the U.S. properties to heavy manufacturing, industrial, and other related uses. The Company cannot sublease or assign the properties covered by the U.S. Amended and Restated Master Lease without the prior written consent of the U.S. Landlord and subject to certain other restrictions. The terms of the Canadian Amended and Restated Master Lease are similar to those of the U.S. Amended and Restated Master Lease described above, except that the initial base rent is
$1.2 million
(CAD) per annum. The Company’s aggregate liability in connection with its representations, warranties, covenants and indemnification and other obligations is
$5.0 million
under the U.S. Exchange Agreement and
$6.4 million
(CAD) under the Canadian Exchange Agreement, subject to limited exceptions.
The Company accounted for the Exchange Transaction in accordance with the sale-leaseback accounting guidance under ASC 840,
Leases
. The fair value of the
24
facilities exchanged back was
$86.1 million
, and was accounted for as the proceeds from the sale of the Bessemer and Mini Mill Facilities after adjusting for the transaction cost of
$2.7 million
. Consequently, a deferred gain of
$67.3 million
was recorded at June 5, 2018.
The carrying value of the deferred gains of
$35.0 million
, the deferred rent of
$3.1 million
, and the deferred transaction costs of
$2.4 million
from the original sale-leaseback transaction were reclassified to reduce the carrying value of the
24
facilities exchanged back.
The Amended and Restated Master Leases extended the lease terms for all facilities, which caused the majority of the leases to be classified as capital leases instead of operating leases. Consequently, the Company recognized capital lease obligations as well as the gross value of the capital lease assets of
$149.0 million
,
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
calculated by discounting minimum future lease payments using its incremental borrowing rate of
12.33%
. The carrying value of the deferred gains of
$100.0 million
, the deferred rent of
$3.8 million
, and the deferred transaction cost of
$5.7 million
were reclassified to reduce the carrying value of capital lease assets.
14.
Commitments and contingencies
Legal matters
The Company is involved in legal proceedings and litigation in the ordinary course of business. In the opinion of management, the outcome of such matters will not have a material adverse effect on the Company’s condensed consolidated financial position, results of operations, or liquidity. Other than routine litigation incidental to the Company's business and those matters described below, there are no material legal proceedings to which the Company is a party or to which any of the Company’s properties are subject.
Earnout matter
The acquisition of Forterra Building Products from HC in March 2015 included an earnout contingency of up to
$100.0 million
if and to the extent the 2015 financial results of the businesses acquired by Lone Star in the acquisition, including the Company and HC's former building products business in the United Kingdom that were divested prior to the IPO, exceeded a specified Adjusted EBITDA target for fiscal year 2015, as calculated pursuant to the terms of the purchase agreement. If such Adjusted EBITDA calculation exceeds the specified target, LSF9, and therefore, Forterra would be required to pay HC an amount equal to a multiple of such excess Adjusted EBITDA, with any payment capped at
$100.0 million
. In April 2016, the Company provided an earnout statement to HC demonstrating that no payment was required. On June 13, 2016, HC provided notification that it is disputing, among other things, the Company’s calculation of Adjusted EBITDA under the purchase agreement and asserting that a payment should be made in the amount of
$100.0 million
. The Company does not believe HC’s position has merit and is vigorously opposing HC's assertions.
On October 5, 2016, affiliates of
HC
filed a lawsuit in the Delaware Court of Chancery seeking specific performance and claiming access to the Company's books, records, and personnel; seeking a declaratory judgment concerning the scope of the neutral accounting expert’s authority; and in the alternative, cla
im
ing a breach of contract and seeking the
$100.0 million
and other damages (the "Delaware Action").
In November 2016, the defendants filed a motion to dismiss the Delaware Action, and on January 6, 2017, the plaintiffs filed a First Amended Complaint. The defendants filed a motion to dismiss the First Amended Complaint on February 22, 2017, requesting that the Court dismiss all claims in the Delaware Action.
On December 8, 2017, the court granted the defendants' Motion to Dismiss the First Amended Complaint in the Delaware Action, finding that the earnout dispute should be heard before a neutral accounting arbitrator as set forth in the purchase agreement. The court further found that any claims that required to be brought as indemnification claims under the purchase agreement were time-barred by the contractual limitations period. The plaintiffs in the Delaware Action filed a Motion for Clarification and Reargument of the Court's December 8, 2017 Memorandum Opinion, which the court denied on February 7, 2018. The plaintiffs in the Delaware Action did not appeal the court's ruling.
Following the resolution of the Delaware Action, the parties negotiated an engagement agreement with the neutral accountant as contemplated by the purchase agreement and that engagement was made effective April 23, 2018. Following the briefing of certain preliminary matters, the neutral accountant ordered production of some of the additional documents sought by HC, and the Company is currently working to complete that production, which is expected to be complete in the fourth quarter of 2018, after which the parties are expected to begin briefing on the merits of the matter.
As a result of the Reorganization, the defendants in the Delaware Action are no longer part of the Company and its consolidated subsidiaries, however the Company remains the liable party in this matter. As of
September 30, 2018
,
no
liability for this contingency has been accrued as payment of any earnout is not considered probable. However, the outcome of this matter is uncertain, and no assurance can be given to the ultimate outcome of the resulting proceedings. If the Company is unsuccessful in resolving the dispute, it could recognize a material charge to its earnings.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
Securities Lawsuit and Shareholder Derivative Action
Beginning on August 14, 2017,
four
plaintiffs filed putative class action complaints in the United States District Court for the Eastern District of New York against a group of defendants that varies by complaint but includes the Company, certain members of senior management, the Board of Directors, Lone Star and certain of its affiliates, and certain banks that acted as underwriters of the IPO (collectively or in groups that vary by complaint, the “defendants”). On August 14, 2017, a putative class action complaint was filed by Charles Forrester; on August 16, 2017, a putative class action complaint was filed by Supanin Disayawathana; on August 23, 2017 a putative class action complaint was filed by Matthew Spindler; and on September 27, 2017, a putative class action complaint was filed by Nancy Maloney, which complaint was subsequently voluntarily dismissed without prejudice to refiling (the four complaints together, the "Securities Lawsuits").
The Securities Lawsuits are brought by each plaintiff individually and on behalf of all persons who purchased Company securities during an alleged class period that varies by complaint, but generally begins with the IPO in October 2016 and lasts through a range of dates from May 12, 2017 through August 14, 2017. The Securities Lawsuits generally allege that the Company's registration statement on Form S-1 filed in connection with the IPO, and in the case of certain complaints, statements made by the Company or the individual defendants at times after the IPO, contained false or misleading statements and/or omissions of material facts relating to (1) the lack of growth from organic sales versus sales from acquisitions, and the lack of organic growth related thereto, (2) increased pricing pressure on the Company's products, (3) softness in the concrete and steel pressure pipe business, (4) operational problems at plants, including problems relating to defective products, (5) unpaid invoices for products and services that resulted in understated expenses, (6) an undisclosed material weakness in internal controls related to inventory, and (7) an undisclosed material weakness in internal controls relating to bill and hold transactions.
The Securities Lawsuits generally assert claims under Section 11 of the Securities Act of 1933, as amended ("Securities Act"), Section 15 of the Securities Act, Section 10(b) of the Securities Exchange Act of 1934 as amended (the "Exchange Act") and Rule 10b-5 promulgated thereunder, and Section 20(a) of the Exchange Act, and they seek (1) class certification under the Federal Rules of Civil Procedure, (2) damages in an amount to be proven at trial, (3) prejudgment and post-judgment interest, (4) an award of reasonable costs and expense of plaintiffs, including counsel and expert fees, (5) an award of rescission or a rescissionary measure of damages, and (6) equitable or other relief as deemed appropriate by the court.
On July 27, 2018, an order was entered consolidating the
three
remaining Securities Lawsuits into a single action in the Forrester case and transferring the venue of the case from the Eastern District of New York to the Northern District of Texas. On September 17, 2018, an order was entered appointing Wladislaw Maciuga as lead plaintiff and approving his counsel as lead counsel. The Court has also entered an order agreeing to a proposed schedule for plaintiff to file an Amended Complaint by November 30, 2018 and deadlines under which the parties may file responsive pleadings and related briefing.
On July 31, 2018, a putative shareholder derivative complaint captioned
Maloney v. Bradley, et al.,
was filed in the United States District Court for the Northern District of Texas, naming as defendants certain of the Company’s current and former directors and officers (the "Derivative Action"). The complaint alleges the directors and officers breached their fiduciary duties to the Company and wasted corporate assets, and also alleges constructive fraud and unjust enrichment against certain defendants. The complaint seeks, on behalf of the Company, unspecified damages, an order directing the return certain payments to the defendants and imposing a constructive trust thereon, and certain injunctive relief. The Court has entered a scheduling order in the Derivative Action requiring defendants to file responsive pleadings by November 15, 2018 and providing other deadlines for related briefing.
The Company is defending the Securities Lawsuits and the Derivative Action vigorously. Given the stage of the proceedings, the Company cannot reasonably estimate at this time the possible loss or range of loss, if any, that may arise from the Securities Lawsuits.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
Long-term incentive plan
Following the Acquisition, Lone Star implemented a cash-based long term incentive plan (the “LTIP”), which entitles the participants in the LTIP a potential cash payout upon a monetization event as defined by the LTIP. Potential monetization events include the sale, transfer or otherwise disposition of all or a portion of the Company or successor entities of LSF9, an initial public offering where Lone Star reduces its ownership interest in the Company or successor entities of LSF9, or through certain cash distribution as defined in the LTIP. Before the payout of any cash the LTIP requires Lone Star realize in cash the full return of their investment plus a specified internal rate of return, which is calculated by comparing the return to Lone Star over the timeline of its investment in the Company and certain successor entities of LSF9. As of
September 30, 2018
, no such monetization events that meet the required return for an LTIP payment have occurred, and therefore no amounts were accrued in the accompanying condensed consolidated balance sheets. While no payments have occurred thus far, payments under the LTIP could be significant depending upon future monetization events. The timing and amount of such payments are unknown and is dependent upon future monetization events and market conditions that are outside of the control of the Company or the participants of the plan. Subsequent to the IPO, Forterra became directly liable for any payment obligations triggered under the LTIP, but LSF9 or one of its affiliates will remain obligated to make payments to the Company in amounts equal to any payment obligations triggered under the LTIP as and when such payment obligations are triggered.
Tax receivable agreement
In connection with the IPO, the Company entered into a tax receivable agreement with Lone Star that provides for, among other things, the payment by the Company to Lone Star of
85%
of the amount of certain covered tax benefits, which may reduce the actual liability for certain taxes that the Company might otherwise be required to pay. The tax benefits subject to the tax receivable agreement include: (i) all depreciation and amortization deductions, and any offset to taxable income and gain or increase to taxable loss, resulting from the tax basis that the Company had in its assets as of the time of the consummation of the IPO, (ii) the utilization of the Company's and its subsidiaries’ net operating losses and tax credits, if any, attributable to periods prior to the IPO, (iii) deductions in respect of payments made, funded or reimbursed by an initial party to the tax receivable agreement (other than the Company or one of its subsidiaries) or an affiliate thereof to participants under the LTIP, (iv) deductions in respect of transaction expenses attributable to the USP Acquisition and (v) certain other tax benefits attributable to payments made under the tax receivable agreement.
For purposes of the tax receivable agreement, the aggregate reduction in income tax payable by the Company will be computed by comparing the Company's actual income tax liability with its hypothetical liability had it not been able to utilize the related tax benefits. The agreement will remain in effect for the period of time in which any such related tax benefits remain. The Company accounts for potential payments under the tax receivable agreement as a contingent liability, with amounts accrued when considered probable and reasonably estimable. As of the IPO date, the Company recorded a
$160.8 million
liability and a reduction to additional paid-in-capital related to the tax receivable agreement for the undiscounted value of probable future payments. Net of tax effects of
$18.5 million
, the net reduction to additional paid-in-capital related to the initial liability for the tax receivable agreement issued was
$142.3 million
.
The enactment of the TCJA described in Note 17 significantly reduced the Company's anticipated liability under the tax receivable agreement. Net of other adjustments, the Company's tax receivable agreement liability a
s of
September 30, 2018
is
$117.6 million
, of which
$34.6 million
is in c
urrent portion of tax receivable agreement and
$83.0 million
is in long-term tax receivable agreement in the condensed consolidated balance sheets
. The timing and amount of future tax benefits associated with the tax receivable agreement are
subject to change, and additional payments may be required which could be materially different from the current accrued liability. The Company anticipates that it will have sufficient taxable income in future periods to realize the full value of the obligation recorded. Future tax receivable agreement payments related to the tax basis of assets at the time of the IPO will be recorded as a reduction to the liability and will be recorded as a financing activity in the consolidated statement of cash flows.
No
payments have been made as of
September 30, 2018
.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
15. Earnings per share
Basic earnings per share (
“
EPS
”
) is calculated by dividing net earnings by the weighted average number of shares of common stock outstanding during the period. Potentially dilutive securities include employee stock options and shares of restricted stock. Diluted EPS reflects the assumed exercise, vesting or conversion of all dilutive securities.
The calculations of the basic and diluted EPS for the three and nine months ended
September 30,
2018 and 2017 are presented below
(in thousands, except per share amounts)
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended September 30,
|
|
For the nine months ended September 30,
|
|
2018
|
2017
|
|
2018
|
2017
|
Net income (loss)
|
$
|
5,503
|
|
$
|
(11,502
|
)
|
|
$
|
(7,413
|
)
|
$
|
(45,218
|
)
|
Less: Earnings (loss) allocated to unvested restricted stock awards
|
25
|
|
—
|
|
|
—
|
|
—
|
|
Earnings (loss) allocated to common shareholders
|
$
|
5,478
|
|
$
|
(11,502
|
)
|
|
$
|
(7,413
|
)
|
$
|
(45,218
|
)
|
|
|
|
|
|
|
Common stock:
|
|
|
|
|
|
Weighted average basic shares outstanding
|
63,919
|
|
63,799
|
|
|
63,883
|
|
63,794
|
|
Effect of dilutive securities
|
350
|
|
—
|
|
|
—
|
|
—
|
|
Weighted average diluted shares outstanding
|
64,269
|
|
63,799
|
|
|
63,883
|
|
63,794
|
|
|
|
|
|
|
|
Basic earnings (loss) per share:
|
|
|
|
|
|
Net income (loss)
|
$
|
0.09
|
|
$
|
(0.18
|
)
|
|
$
|
(0.12
|
)
|
$
|
(0.71
|
)
|
Diluted earnings (loss) per share:
|
|
|
|
|
|
Net income (loss)
|
$
|
0.09
|
|
$
|
(0.18
|
)
|
|
$
|
(0.12
|
)
|
$
|
(0.71
|
)
|
As detailed further below, potential dilutive shares of common stock were anti-dilutive as a result of the Company's net loss for the three and nine months ended September 30, 2017 and the nine months ended September 30, 2018. As a result, basic weighted average shares were used in the calculations of basic earnings per share and diluted earnings per share for those periods.
The number of stock options and restricted shares that were excluded from the computation of diluted earnings per share because their inclusion would result in an anti-dilutive effect on per share amounts for the three months ended September 30, 2018 and September 30, 2017 and the nine months ended September 30, 2018 and September 30, 2017 were
3,032,201
,
1,331,165
,
2,559,752
and
889,072
, respectively.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
16. Stock-based plans
The Company's previous equity compensation plan under which it has granted stock awards is the Forterra, Inc. 2016 Stock Incentive Plan (the "2016 Incentive Plan"). The 2016 Incentive Plan served as the umbrella plan for the Company's stock-based and cash-based incentive compensation programs for its directors, officers, and other eligible employees. The aggregate number of shares of common stock that may be issued under the 2016 Incentive Plan may not exceed
5,000,000
shares. The Company's board of directors has granted employees and independent directors options to purchase shares of common stock, shares of restricted common stock, and restricted stock units. The options, restricted stock and restricted stock units awarded to employees are subject to either
three
-year or
four
-year vesting periods, and the options, restricted stock and restricted stock units awarded to independent directors are subject to a
one
-year vesting period. The awards of stock options granted under the 2016 Incentive Plan have a term of
ten
years. In May 2018, the Company's shareholders approved the Forterra, Inc. 2018 Stock Incentive Plan (the "2018 Incentive Plan"). The aggregate number of shares of common stock issuable under the 2018 Incentive Plan is
5,000,000
shares plus any remaining shares issuable under the 2016 Incentive Plan.
In accordance with ASC 718,
Compensation-Stock Compensation
, the Company recognizes stock-based compensation expense over the requisite service period for the entire award, or to the date at which retirement eligibility is achieved and subsequent service no longer required for continued vesting of the award, in an amount equal to the grant date fair value of share-based payments, which include stock options granted and restricted stock awards to employees and non-employee members of Forterra's board of directors. The Company records stock-based compensation expense in cost of goods sold and selling, general and administrative expenses.
Stock-based compensation expense was approximately
$1.5 million
and
$4.6 million
for the three and
nine months ended September 30, 2018
, respectively, and approximately
$1.4 million
and
$2.8 million
for the three and nine months ended
September 30, 2017
, respectively.
17.
Income taxes
On December 22, 2017, the U.S. government enacted comprehensive tax reform legislation commonly known as the TCJA. Effective January 2018, the TCJA, among other things, reduced the marginal U.S. corporate income tax rate from 35% to 21%, limited the deductibility of interest expense, limited the deduction for net operating losses and eliminated net operating loss carrybacks, provided for immediate expensing of qualified capital expenditures placed in service after September 27, 2017 and modified or eliminated many business deductions and credits. The TCJA also includes international provisions, which generally establish a territorial-style system for taxing foreign source income of domestic multinational corporations known as
global intangible low-taxed income ("GILTI")
and imposes a mandatory one-time transition tax on undistributed international earnings.
Due to the complexities involved in accounting for the enactment of TCJA, SEC Staff Accounting Bulletin 118 provides the registrants with the measurement period up to one year following the enactment of the TCJA to account for the impact of the new U.S. corporate income tax law. During the measurement period the Company will provide provisional estimates of the impacts of the TCJA in its condensed consolidated financial statements until the accounting for the TCJA is complete.
For the year ended December 31, 2017 the Company recorded a provisional
$26.9 million
income tax benefit primarily related to the remeasurement of certain deferred tax assets and liabilities in connection with the TCJA. The Company considers it likely that further technical guidance will be provided regarding certain new provisions included in the TCJA, as well as clarity regarding the state income tax conformity to the current federal tax code. The Company
will continue to refine the provision amounts for the impacts of the TCJA as further guidance becomes available. During the
three and nine months ended September 30, 2018
, the Company recorded an adjustment related to the transition tax in the amount of
$0.4 million
.
The accounting is expected to be completed once the Company's 2017 U.S. Corporate income tax return is completed in the fourth quarter of 2018.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
The Company recorded income tax expense from continuing operations of
$2.8 million
and
$6.4 million
for the three and nine months ended September 30, 2018, respectively, and an income tax benefit of
$8.5 million
and
$25.4 million
for the three and nine months ended September 30, 2017, respectively.
The income tax expense for the three months ended September 30, 2018 differs from the expense computed at the statutory rate primarily due to an increase in the unfavorable inclusion of global intangible low-taxed income, an adjustment to the transition tax and an increase to the valuation allowance in certain state and foreign jurisdictions.
T
he income tax expense for the nine months ended September 30, 2018 is higher than the benefit computed at the statutory rate primarily as a result of a
$3.7 million
partial valuation allowance, unfavorable inclusion of GILTI and the unfavorable impact of the disposition of nondeductible goodwill in connection with the Foley exchange that occurred in the three months ended March 31, 2018.
The income tax benefit for the three and nine months ended
September 30, 2017
is lower than the benefit computed at the statutory rate primarily attributable to the effect of state income taxes and valuation allowance in certain states and foreign jurisdictions, partially offset by
the impact of the higher statutory tax rates in the foreign jurisdictions compared to the statutory rate in the United States, commonly referred to as the foreign tax rate differential.
The Company's quarterly provision for income taxes has historically been calculated using the annual effective rate method, which applies an estimated annual effective tax rate to pre-tax income or loss. However, when the result of the expected annual effective tax rate is not deemed reliable and distorts the income tax provision for an interim period, the Company calculates the income tax provision or benefit using the actual year-to-date effective tax rate (the "discrete method"), which results in an income tax provision or benefit based solely on the year-to-date pre-tax income or loss as adjusted for permanent differences on a pro rata basis. The Company has recorded its interim income tax provision using the discrete method, as allowed under ASC 740-270,
Accounting for Income Taxes - Interim Reporting
for the three and nine months ended September 30, 2018.
18.
Segment reporting
Segment information is presented in accordance with ASC 280,
Segment Reporting
, which establishes standards for reporting information about operating segments. It also establishes standards for related disclosures about products and geographic areas. Operating segments are defined as components of an enterprise that engage in business activities that earn revenues, incur expenses and prepare separate financial information that is evaluated regularly by the Company’s chief operating decision maker (
“
CODM
”
) in order to allocate resources and assess performance. The Company's Chief Executive Officer is its CODM. The Corporate and Other segment includes expenses related to certain
executive salaries, interest costs related to the Company's credit agreements, acquisition related costs, and other corporate costs that are not directly attributable to the Company's operating segments. The Company's segments follow the same accounting policies as the Company.
Net sales from the major products sold to external customers include drainage pipe and precast products and concrete and steel water transmission pipe.
The Company’s
three
geographic areas consist of the United States, Canada and Mexico for which it reports net sales, fixed assets and total assets. For purposes of evaluating segment profit, the CODM reviews EBITDA as a basis for making the decisions to allocate resources and assess performance.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
The following tables set forth the disaggregation of revenue earned from contracts with customers based on the Company's reportable segments as well as other financial information attributable to the Company's reportable segments for the
three and nine
months ended
September 30,
2018 and 2017
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended September 30,
|
|
For the nine months ended September 30,
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Net sales:
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
$
|
242,997
|
|
|
$
|
248,231
|
|
|
$
|
621,523
|
|
|
$
|
630,200
|
|
Water Pipe & Products
|
191,513
|
|
|
195,987
|
|
|
519,031
|
|
|
588,999
|
|
Corporate and Other
|
—
|
|
|
39
|
|
|
3
|
|
|
45
|
|
Total
|
$
|
434,510
|
|
|
$
|
444,257
|
|
|
$
|
1,140,557
|
|
|
$
|
1,219,244
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization:
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
$
|
10,447
|
|
|
$
|
11,703
|
|
|
$
|
30,898
|
|
|
$
|
34,847
|
|
Water Pipe & Products
|
15,218
|
|
|
17,136
|
|
|
47,775
|
|
|
52,046
|
|
Corporate and Other
|
257
|
|
|
319
|
|
|
697
|
|
|
570
|
|
Total
|
$
|
25,922
|
|
|
$
|
29,158
|
|
|
$
|
79,370
|
|
|
$
|
87,463
|
|
|
|
|
|
|
|
|
|
Segment EBITDA and reconciliation to income (loss) before income taxes:
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
$
|
53,271
|
|
|
$
|
47,342
|
|
|
$
|
122,841
|
|
|
$
|
98,832
|
|
Water Pipe & Products
|
17,818
|
|
|
(4,144
|
)
|
*
|
48,923
|
|
|
30,881
|
|
Corporate and Other
|
(14,931
|
)
|
|
(18,414
|
)
|
|
(40,463
|
)
|
|
(66,714
|
)
|
Less: Interest expense
|
(21,940
|
)
|
|
(15,582
|
)
|
|
(52,993
|
)
|
|
(46,202
|
)
|
Depreciation and amortization
|
(25,922
|
)
|
|
(29,158
|
)
|
|
(79,370
|
)
|
|
(87,463
|
)
|
Income (loss) before income taxes
|
$
|
8,296
|
|
|
$
|
(19,956
|
)
|
|
$
|
(1,062
|
)
|
|
$
|
(70,666
|
)
|
|
|
|
|
|
|
|
|
Capital expenditures:
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
$
|
9,397
|
|
|
$
|
4,696
|
|
|
$
|
18,702
|
|
|
$
|
19,161
|
|
Water Pipe & Products
|
3,080
|
|
|
2,774
|
|
|
10,732
|
|
|
10,935
|
|
Corporate and Other
|
728
|
|
|
68
|
|
|
992
|
|
|
1,041
|
|
Total
|
$
|
13,205
|
|
|
$
|
7,538
|
|
|
$
|
30,426
|
|
|
$
|
31,137
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
|
|
|
|
2018
|
|
2017
|
Total assets:
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
|
|
|
|
$
|
846,320
|
|
|
$
|
744,135
|
|
Water Pipe & Products
|
|
|
|
|
959,291
|
|
|
925,457
|
|
Corporate and Other
|
|
|
|
|
62,491
|
|
|
141,646
|
|
Total
|
|
|
|
|
|
|
$
|
1,868,102
|
|
|
$
|
1,811,238
|
|
|
|
*
|
For the three months ended September 30, 2017, income (loss) from continuing operations before income taxes and EBITDA included a
$31.6 million
non-cash loss as a result of the U.S. Pressure Pipe Divestiture in July 2017.
|
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
The Company has an investment in an equity method investee included in the Drainage Pipe & Products segment for which earnings from equity method investee were
$2.2 million
,
$2.9 million
,
$7.7 million
and
$9.4 million
for the three and nine months ended
September 30, 2018
and
September 30, 2017
, respectively, and with the following balances
(in thousands)
:
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
Investment in equity method investee
|
$
|
53,315
|
|
|
$
|
54,445
|
|
Disaggregated revenue by geographic location is provided in the tables below. The Company has operations in the United States, Canada and Mexico. The economic characteristics of the Company's customers does not significantly vary across geographic locations or product lines. The Company has both revenues and long-lived assets in each country; and those assets and revenues are recorded within geographic location as follows
(in thousands)
:
|
|
|
|
|
|
|
|
|
Property, plant, and equipment, net:
|
September 30,
|
|
December 31,
|
|
2018
|
|
2017
|
United States
|
$
|
437,587
|
|
|
$
|
381,754
|
|
Canada
|
42,779
|
|
|
20,251
|
|
Mexico
|
10,073
|
|
|
10,567
|
|
|
$
|
490,439
|
|
|
$
|
412,572
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales:
|
For the three months ended September 30,
|
|
For the nine months ended September 30,
|
|
2018
|
2017
|
|
2018
|
2017
|
United States
|
$
|
406,479
|
|
$
|
412,562
|
|
|
$
|
1,071,918
|
|
$
|
1,146,292
|
|
Canada
|
25,160
|
|
27,688
|
|
|
61,046
|
|
62,507
|
|
Mexico
|
2,871
|
|
4,007
|
|
|
7,593
|
|
10,445
|
|
|
$
|
434,510
|
|
$
|
444,257
|
|
|
$
|
1,140,557
|
|
$
|
1,219,244
|
|
19. Related party transactions
Tax receivable agreement
In connection with the IPO, the Company entered into a tax receivable agreement with Lone Star that provides for, among other things, the payment by the Company to Lone Star of
85%
of the amount of certain covered tax benefits, which may reduce the actual liability for certain taxes that the Company might otherwise be required to pay. See Note 14, Commitments and contingencies, for additional information on the tax receivable agreement.
CP&P
The Company has a
50%
ownership stake in its joint venture CP&P and sold certain goods and services to CP&P, including spare parts for repairs. For the
nine months ended September 30, 2018
, Forterra sold
$0.1 million
of product to CP&P and purchased goods and services from CP&P for an amount of
$0.1 million
.
FORTERRA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
Bricks Joint Venture
In connection with the Reorganization, Forterra entered into a transition services agreement with the joint venture formed by the affiliate of Lone Star and an unaffiliated third party pursuant to which Forterra's former bricks business was contributed (the "Bricks Joint Venture"). Pursuant to the transition services agreement, Forterra continued to provide certain administrative services, including but not limited to information technology, accounting and treasury for a limited period of time following the disposition by Forterra of its former bricks business. The Company recognized a total of
$1.8 million
in Other operating income, net pursuant to the transition services agreement related to the Bricks Joint Venture for the
nine
months ended September 30, 2017. Additionally, during the transition period, the Company collected cash from as well as settled invoices and payroll on behalf of the Bricks Joint Venture. As a result, Forterra had a net receivable from affiliates of
$4.1 million
as of December 31, 2017 and
September 30, 2018
.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements relate to matters such as our industry, business strategy, goals and expectations concerning our market position, future operations, margins, profitability, capital expenditures, liquidity, capital resources and other financial and operating information. We have used the words “approximately,” “anticipate,” “assume,” “believe,” “contemplate,” “continue,” “could,” “estimate,” “expect,” “future,” “intend,” “may,” “plan,” “potential,” “predict,” “project,” “seek,” “should,” “target,” “will” and similar terms and phrases to identify forward-looking statements. All of our forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those that we are expecting, including:
|
|
•
|
the level of construction activity, particularly in the residential construction and non-residential construction markets;
|
|
|
•
|
government funding of infrastructure and related construction activities;
|
|
|
•
|
the highly competitive nature of our industry and our ability to effectively compete;
|
|
|
•
|
the availability and price of the raw materials we use in our business;
|
|
|
•
|
the ability to implement our growth strategy;
|
|
|
•
|
our dependence on key customers and the absence of long-term agreements with these customers;
|
|
|
•
|
the level of construction activity in Texas;
|
|
|
•
|
disruption at one of our manufacturing facilities or in our supply chain;
|
|
|
•
|
construction project delays and our inventory management;
|
|
|
•
|
our ability to successfully integrate acquisitions;
|
|
|
•
|
labor disruptions and other union activity;
|
|
|
•
|
a tightening of mortgage lending or mortgage financing requirements;
|
|
|
•
|
our current dispute with HeidelbergCement related to the payment of an earnout;
|
|
|
•
|
compliance with environmental laws and regulations;
|
|
|
•
|
impacts and uncertainties regarding the Tax Cuts and Jobs Act of 2017;
|
|
|
•
|
compliance with health and safety laws and regulations and other laws and regulations to which we are subject;
|
|
|
•
|
our dependence on key executives and key management personnel;
|
|
|
•
|
our ability to retain and attract additional skilled and non-skilled technical or sales personnel;
|
|
|
•
|
credit and non-payment risks of our customers;
|
|
|
•
|
warranty and related claims;
|
|
|
•
|
legal and regulatory claims;
|
|
|
•
|
the seasonality of our business and its susceptibility to severe adverse weather;
|
|
|
•
|
our ability to maintain sufficient liquidity and ensure adequate financing or guarantees for large projects;
|
|
|
•
|
delays or outages in our information technology systems and computer networks;
|
|
|
•
|
security breaches in our information technology systems and other cybersecurity incidents; and
|
|
|
•
|
additional factors discussed in our filings with the Securities and Exchange Commission, or the SEC.
|
The forward-looking statements contained in this Quarterly Report on Form 10-Q are based on historical performance and management’s current plans, estimates and expectations in light of information currently available to us and are subject to uncertainty and changes in circumstances. There can be no assurance that future developments affecting us will be those that we have anticipated. Actual results may differ materially from these expectations due to changes in global, regional or local political, economic, business, competitive, market, regulatory and other factors, many of which are beyond our control, as well as the other factors described in Item 1A, “Risk Factors” in our 2017 10-K filed with the SEC on March 7, 2018 and Item 1A, "Risk Factors" in this Form 10-Q. Additional factors or events that could cause our actual results to differ may also emerge from time to time, and it is not possible for us to predict all of them. Should one or more of these risks or uncertainties materialize, or should any of our assumptions prove to be incorrect, our actual results may vary in material respects from what we may have expressed or implied by these forward-looking statements. We caution that you should not place undue reliance on any of our forward-looking statements. Any forward-looking statement made by us speaks only as of the date on which we make it. We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by applicable securities laws.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended December 31, 2017 filed with the SEC on March 7, 2018, or the 2017 10-K.
This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. See the section entitled “Cautionary Statement Concerning Forward-Looking Statements” for a discussion of the risks, uncertainties and assumptions associated with those statements.
Unless otherwise specified or where the context otherwise requires, references in this Report to “our,” “we,” “us,” “Forterra”, the “Company” and “our business” refer to Forterra, Inc., together with its consolidated subsidiaries
.
Overview
Our Company
We are a manufacturer of pipe and precast products in the United States and Eastern Canada for a variety of water-related infrastructure applications, including water transmission, distribution and drainage. We provide critical infrastructure components for a broad spectrum of construction projects across residential, non-residential and infrastructure markets. Our suite of products ranges from large diameter pipe that transports water to and from treatment centers and manages drainage along major transportation corridors, to smaller diameter pipe that delivers potable water to, and removes wastewater from, end users in residential and commercial settings.
Our Segments
Our operations are organized into the following reportable segments:
|
|
•
|
Drainage Pipe & Products - We are a producer of concrete drainage pipe and precast products.
|
|
|
•
|
Water Pipe & Products - We are a producer of ductile iron pipe, or DIP, and concrete pressure pipe.
|
|
|
•
|
Corporate and Other - Corporate, general and administrative expenses not allocated to our revenue-generating segments such as certain shared services, executive and other administrative functions.
|
Principal Factors Affecting Our Results of Operations
Our financial performance and results of operations are influenced by a variety of factors, including conditions in the residential, non-residential and infrastructure construction markets, general economic conditions, changes in cost of goods sold, and seasonality and weather conditions. Some of the more important factors are discussed in the 2017 10-K, to which there were no material changes during the period covered by this report.
Our results for the three and nine months ended September 30, 2018 as compared to the same periods last year, primarily reflect the benefit of improved results in Drainage Pipe & Products and lower costs in Corporate, partially offset by lower results in Water Pipe & Products. A detailed description of our results and the factors impacting them is included in the
Results of Operations
section below.
Factors Affecting our Financial Statements
Business Combinations and Divestitures
On February 2, 2017, we completed the acquisition of substantially all of the assets of Royal Enterprises America, Inc., or Royal, a drainage pipe and products manufacturer located in Minnesota for aggregate consideration of $35.5 million. Royal manufactured concrete drainage pipe, precast concrete products, and stormwater treatment technologies and erosion control products serving the greater Minneapolis market and now operates as part of our Drainage Pipe & Products segment.
On July 31, 2017, we
sold our U.S. concrete and steel pressure pipe business,
which was part of our Water Pipe & Products segment,
to an affiliate of Thompson Pipe Group, or TPG, for aggregate consideration of
$23.2 million
, as well as certain
assets relating to a U.S. Drainage Pipe & Products manufacturing facility, or the U.S. Pressure Pipe Divestiture.
The assets acquired, recognized at fair value, include $3.8 million of working capital, $1.8 million of machinery and equipment, and a customer intangible totaling $0.8 million. We
used the net proceeds from the transaction to partially pay down the balance outstanding on our $300.0 million
asset-based revolving credit facility
.
On January 31, 2018, we
divested assets relating to the operation of certain Drainage Pipe & Products facilities in Tennessee, Alabama, and Georgia to Foley Products Company, or Foley, in exchange for
$10.1 million
in cash, land in Sherman, Texas and a Drainage Pipe & Products facility located in Prentiss, Mississippi, or the Foley Transaction. The purchase price was subject to a $1.0 million net working capital adjustment pursuant to the terms of the asset purchase agreement. The cash received was used for general corporate purposes. The Prentiss facility manufactures concrete drainage pipe, precast and concrete products, and services the Mississippi and surrounding markets.
Sale-leaseback Transaction
On June 5, 2018, we entered into Exchange Agreements and Amended and Restated Master Leases with each of the U.S. buyer and the Canadian buyer under our existing sale-leaseback transaction, or collectively, the Exchange Transaction. Under the Exchange Agreement between us and the U.S. buyer, we exchanged ownership of a ductile iron pipe facility located in Bessemer, Alabama used in our Water Pipe & Products segment, or the Bessemer Facility, for
21
facilities used in our Drainage Pipe & Products segment and the U.S. concrete and steel pressure pipe facilities previously part of our Water Pipe & Products segment, including a portion of one property used in both segments, all of which were previously included in the sale-leaseback transaction. Under the Exchange Agreement between us and the Canadian buyer, we exchanged ownership of a smaller diameter ductile iron pipe facility located in Bessemer, Alabama used in our Water Pipe & Products segment, or the Mini Mill Facility, for ownership of
three
Canadian concrete pressure pipe facilities that were previously included in the sale-leaseback transaction. No cash changed hands in the Exchange Transaction.
The Amended and Restated Master Leases also extended the lease terms for all facilities, which caused the majority of the leases being classified as capital leases instead of operating leases. Consequently, we recognized capital lease obligations as well as the gross value of the capital lease assets of
$149.0 million
, calculated by discounting minimum future lease payments using our incremental borrowing rate of
12.33%
. The carrying value of the deferred gains of
$100.0 million
, the deferred rent of $3.8 million, and the deferred transaction cost of $5.7 million were reclassified to reduce the carrying value of capital lease assets.
See
Note 13,
Sale-Leaseback Transaction
, for additional information regarding the transaction.
Principal Components of Results of Operations
Net Sales
Net sales consist of the consideration which we expect to be entitled to for the sale of products in the ordinary course of business and include the billable costs of delivery of our products to customers. Revenue for certain contracts related to our structural precast and products that are designed and engineered specifically for
the customer is recognized over time using an acceptable input method which utilizes our cost incurred to date relative to total estimated costs at completion to measure progress. See Note 2, Summary of significant accounting policies, to the condensed consolidated financial statements, for a discussion of accounting guidance adopted regarding revenue recognition.
Cost of Goods Sold
Cost of goods sold includes raw materials (cement, aggregates, scrap, and steel) and supplies, labor (including contract labor), freight (including outbound freight for delivery of products to end users and other charges such as inbound freight), energy, depreciation and amortization, repairs and maintenance and other cost of goods sold.
Selling, General and Administrative Expenses
Selling, general and administrative expenses include expenses for sales, marketing, legal, accounting and finance services, human resources, customer support, treasury and other general corporate services. Selling, general and administrative expenses also include transaction costs directly related to the business combinations and other costs incurred with respect to cost savings initiatives.
Impairment and Exit Charges
Impairment and exit charges are primarily comprised of severance and other charges incurred to consolidate certain plants in an effort to optimize our portfolio, as well as asset impairment charges.
Earnings from Equity Method Investee
Earnings from equity method investee represents our share of the income of CP&P, the joint venture we entered into in July 2012 with Americast, Inc. We contributed plant assets and related inventory from nine plants as part of the agreement to form CP&P in exchange for a 50% ownership interest in the joint venture. CP&P is engaged primarily in the manufacture, marketing, sale and distribution of concrete pipe and precast products in Virginia, West Virginia, Maryland, North Carolina, and South Carolina, with sales to contiguous states. See Note 6
, Investment in equity method investee,
to the condensed consolidated financial statements, for further discussion of CP&P.
Other Operating Income
The remaining categories of operating income and expenses consist of scrap income (associated with scrap from the manufacturing process or remaining scrap after plants are closed), rental income and the gain or loss generated on the sale of assets including property, plant and equipment.
Interest Expense
Interest expense represents interest on indebtedness, including capital lease obligation, the amortization of deferred financing costs, as well as the gain and loss associated with our interest rate swaps.
Other Expense, net
Other expense, net includes miscellaneous non-operating net income or expenses.
Income Tax Expense
Income tax expense consists of federal, state, provincial, local and foreign taxes based on income in the jurisdictions in which we operate.
Results of Operations
Three Months Ended September 30, 2018
as Compared to
Three Months Ended September 30, 2017
Total Company
The following table summarizes certain financial information relating to our operating results for the three months ended
September 30, 2018
and
September 30, 2017
.
|
|
|
|
|
|
|
|
|
|
|
Statements of Income Data:
|
For the three months ended September 30, 2018
|
|
For the three months ended September 30, 2017
|
|
% Change
|
|
|
|
|
|
|
Net sales
|
$
|
434,510
|
|
|
$
|
444,257
|
|
|
(2.2)%
|
Cost of goods sold
|
357,374
|
|
|
362,150
|
|
|
(1.3)%
|
Gross profit
|
77,136
|
|
|
82,107
|
|
|
(6.1)%
|
Selling, general and administrative expenses
|
(48,492
|
)
|
|
(59,366
|
)
|
|
(18.3)%
|
Impairment and exit charges
|
(2,170
|
)
|
|
(1,193
|
)
|
|
*
|
Earnings from equity method investee
|
2,224
|
|
|
2,936
|
|
|
(24.3)%
|
Other operating income
|
1,538
|
|
|
2,008
|
|
|
(23.4)%
|
|
(46,900
|
)
|
|
(55,615
|
)
|
|
(15.7)%
|
Income from operations
|
30,236
|
|
|
26,492
|
|
|
14.1%
|
Other income (expenses)
|
|
|
|
|
|
Interest expense
|
(21,940
|
)
|
|
(15,582
|
)
|
|
40.8%
|
Other expense, net
|
—
|
|
|
(30,866
|
)
|
|
*
|
Income (loss) from before income taxes
|
8,296
|
|
|
(19,956
|
)
|
|
*
|
Income tax (expense) benefit
|
(2,793
|
)
|
|
8,454
|
|
|
*
|
Net Income (loss)
|
$
|
5,503
|
|
|
$
|
(11,502
|
)
|
|
*
|
* Represents positive or negative change in excess of 100%
Net Sales
Net sales for the three months ended
September 30, 2018
were
$434.5 million
, a decrease of
$9.8 million
or
2.2%
from
$444.3 million
in the three months ended
September 30, 2017
. The decrease is due to the U.S. Pressure Pipe Divestiture, which contributed $10.8 million in net sales in the third quarter of 2017, and the Foley Transaction, which resulted in a $10.8 million decline in net sales. Excluding the impact of these two transactions, net sales increased by $11.8 million or 2.8% due to higher shipments and higher average selling prices.
Cost of Goods Sold
Cost of goods sold were
$357.4 million
for the three months ended
September 30, 2018
, a decrease of $4.8 million or 1.3% from
$362.2 million
in the three months ended
September 30, 2017
. The decrease is due to the U.S. Pressure Pipe Divestiture, which contributed $13.0 million in cost of goods sold in the three months ended September 30, 2017, as well as the Foley Transaction, which contributed $8.4 million in cost of goods sold in the three months ended September 30, 2017. Excluding the impact of the two transactions, cost of goods sold increased by $16.7 million or 4.9% due to higher shipments and higher costs for labor, freight, and raw materials, primarily in our Water Pipe & Products segment.
Gross Profit
Gross profit decreased by
$5.0 million
, or
6.1%
, to
$77.1 million
in the three months ended
September 30, 2018
from
$82.1 million
in the three months ended
September 30, 2017
. Gross profit decreased due to the impact of higher cost of goods sold, including higher scrap steel, primarily in our Water Pipe & Products segment.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were
$48.5 million
for the three months ended
September 30, 2018
, a decrease of $10.9 million or 18.3% from
$59.4 million
in the three months ended
September 30, 2017
. The decrease was due primarily
to lower professional fees associated with various cost saving initiatives implemented in 2017 that did not recur in the three months ended
September 30, 2018
.
Impairment and Exit Charges
We recognized exit charges of
$2.2 million
for the three months ended
September 30, 2018
primarily related to certain business initiatives compared to
$1.2 million
of comparable charges in the prior period.
Interest Expense
Interest expense increased by $6.3 million, or
40.8%
, to
$21.9 million
in the three months ended
September 30, 2018
from
$15.6 million
in the three months ended
September 30, 2017
. This increase was primarily due to $4.3 million related to the change in the classification of certain leases from operating lease to capital lease due to the sale-leaseback transaction and the benefit of a $0.9 million mark-to-market gain related to the interest rate swaps in the prior year period. The remainder of the interest expense increase was primarily due to the impact of higher average interest rates.
Other Expense, net
Other expense, net was $30.9 million for
the three months ended September 30, 2017, primarily due to a $31.6 million loss generated by the U.S. Pressure Pipe Divestiture in July 2017.
Income Tax (Expense) Benefit
Income tax (expense) benefit changed by
$11.2 million
to an income tax expense of
$2.8 million
in the three months ended
September 30, 2018
as compared to an income tax benefit of
$8.5 million
in the three months ended
September 30, 2017
. The change is due to positive earnings before income taxes recorded for the three months ended
September 30, 2018
versus a loss for the prior year period, inclusion of the global intangible low-tax income, adjustment to the transition tax liability, the impact of the lower corporate tax rates enacted in December 2017 and the foreign tax rate differential as explained in Note 17 to the condensed consolidated financial statements.
Segments
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended September 30,
|
|
|
|
2018
|
|
2017
|
|
% Change
|
Net sales:
|
|
|
|
|
|
Drainage Pipe & Products
|
$
|
242,997
|
|
|
$
|
248,231
|
|
|
(2.1
|
)%
|
Water Pipe & Products
|
191,513
|
|
|
195,987
|
|
|
(2.3
|
)%
|
Corporate and Other
|
—
|
|
|
39
|
|
|
—
|
%
|
Total
|
$
|
434,510
|
|
|
$
|
444,257
|
|
|
(2.2
|
)%
|
|
|
|
|
|
|
Gross profit (loss):
|
|
|
|
|
|
Drainage Pipe & Products
|
57,441
|
|
|
51,825
|
|
|
10.8
|
%
|
Water Pipe & Products
|
19,972
|
|
|
30,920
|
|
|
(35.4
|
)%
|
Corporate and Other
|
(277
|
)
|
|
(638
|
)
|
|
(56.6
|
)%
|
Total
|
$
|
77,136
|
|
|
$
|
82,107
|
|
|
(6.1
|
)%
|
|
|
|
|
|
|
Segment EBITDA
(1)
:
|
|
|
|
|
|
Drainage Pipe & Products
|
53,271
|
|
|
47,342
|
|
|
12.5
|
%
|
Water Pipe & Products
(2)
|
17,818
|
|
|
(4,144
|
)
|
|
*
|
Corporate and Other
|
(14,931
|
)
|
|
(18,414
|
)
|
|
(18.9
|
)%
|
* Represents positive or negative change in excess of 100%
|
|
(1)
|
For the purposes of evaluating segment performance, the Company’s chief operating decision maker reviews earnings before interest, taxes, depreciation and amortization (“EBITDA”) as a basis for making the decisions to allocate resources and assess performance. Our discussion below includes the primary drivers of EBITDA. See
Note 18, Segment Reporting
, for segment EBITDA reconciliation to income (loss) before income taxes.
|
|
|
(2)
|
For the 2017 period, segment EBITDA included a $31.6 million loss as a result of the U.S. Pressure Pipe Divestiture in July 2017.
|
Drainage Pipe & Products
Net Sales
Net sales decreased by
$5.2 million
, or
2.1%
, to
$243.0 million
in the three months ended
September 30, 2018
from
$248.2 million
in the three months ended
September 30, 2017
. Excluding net sales of $10.8 million in the three months ended
September 30, 2017
associated with the Foley Transaction, net sales increased by $5.5 million or 2.4%. The increase was due primarily to higher average selling prices that offset the impact of a decline in shipments.
Gross Profit
Gross profit was
$57.4 million
in the three months ended
September 30, 2018
, an increase of
$5.6 million
or
10.8%
from $
51.8 million
in the three months ended
September 30, 2017
. The increase was primarily due to the benefit of higher average selling prices, partially offset by the impact of higher labor, freight and raw materials costs.
Water Pipe & Products
Net Sales
For
the three months ended
September 30, 2018
, net sales were
$191.5 million
,
a decrease of
$4.5 million
or
2.3%
from
$196.0 million
for the three months ended
September 30, 2017
. Excluding net sales of $10.8 million in the three months ended September 30, 2017 associated with the U.S. Pressure Pipe Divestiture, net sales increased by $6.3 million or 3.4%. The
increase was due primarily to higher shipments of ductile iron pipe.
Gross Profit
Gross profit was
$20.0 million
in the three months ended
September 30, 2018
, a decrease of
$10.9 million
or 35.4% from
$30.9 million
in the three months ended
September 30, 2017
. The decrease was due primarily to higher scrap steel, in addition to higher freight and labor costs, partially offset by higher average selling prices.
Nine Months Ended September 30, 2018
as Compared to
Nine Months Ended September 30, 2017
Total Company
The following table summarizes certain financial information relating to our operating results for the
nine
months ended
September 30, 2018
and
September 30, 2017
.
|
|
|
|
|
|
|
|
|
|
|
|
Statements of Income Data:
|
For the nine months ended September 30, 2018
|
|
For the nine months ended September 30, 2017
|
|
% Change
|
|
|
|
|
|
|
Net sales
|
$
|
1,140,557
|
|
|
$
|
1,219,244
|
|
|
(6.5
|
)%
|
Cost of goods sold
|
953,743
|
|
|
1,022,574
|
|
|
(6.7
|
)%
|
Gross profit
|
186,814
|
|
|
196,670
|
|
|
(5.0
|
)%
|
Selling, general and administrative expenses
|
(151,617
|
)
|
|
(191,964
|
)
|
|
(21.0
|
)%
|
Impairment and exit charges
|
(3,891
|
)
|
|
(13,004
|
)
|
|
(70.1
|
)%
|
Earnings from equity method investee
|
7,745
|
|
|
9,449
|
|
|
(18.0
|
)%
|
Other operating income
|
6,864
|
|
|
5,251
|
|
|
30.7
|
%
|
|
(140,899
|
)
|
|
(190,268
|
)
|
|
(25.9
|
)%
|
Income from operations
|
45,915
|
|
|
6,402
|
|
|
*
|
Other income (expenses)
|
|
|
|
|
|
Interest expense
|
(52,993
|
)
|
|
(46,202
|
)
|
|
14.7
|
%
|
Other income (expense), net
|
6,016
|
|
|
(30,866
|
)
|
|
*
|
Loss before income taxes
|
(1,062
|
)
|
|
(70,666
|
)
|
|
(98.5
|
)%
|
Income tax (expense) benefit
|
(6,351
|
)
|
|
25,448
|
|
|
*
|
Net loss
|
$
|
(7,413
|
)
|
|
$
|
(45,218
|
)
|
|
(83.6
|
)%
|
* Represents positive or negative change in excess of 100%
Net Sales
Net sales for the
nine
months ended
September 30, 2018
were
$1,140.6 million
, a decrease of
$78.6 million
or
6.5%
from
$1,219.2 million
in the
nine
months ended
September 30, 2017
. The decrease is due to the U.S. Pressure Pipe Divestiture in July 2017, which contributed $72.7 million in net sales in the first nine months of 2017, and the Foley Transaction, which resulted in a $32.7 million decline in net sales. Excluding the impact of these two transactions, net sales increased by $26.8 million or 2.4% due to higher shipments and higher average selling prices.
Cost of Goods Sold
Cost of goods sold were
$953.7 million
for the
nine
months ended
September 30, 2018
, a decrease of
$68.9 million
or
6.7%
from
$1,022.6 million
in the
nine
months ended
September 30, 2017
. The decrease is due to the U.S. Pressure Pipe Divestiture, which resulted in a $79.8 million decline in cost of goods sold, as well as the Foley Transaction,
which resulted in a $24.1 million decline in cost of goods sold. Excluding the impact of the divestitures, cost of goods sold increased by $35.0 million or 3.8%
due to higher shipments and higher labor, freight and raw materials costs.
Gross Profit
Gross profit decreased by
$9.9 million
, or
5.0%
, to
$186.8 million
in the
nine
months ended
September 30, 2018
from
$196.7 million
in the
nine
months ended
September 30, 2017
. Gross profit decreased due to lower profitability in the Water Pipe and Products segment including unabsorbed costs associated with facility downtime in the first half of 2018 and higher scrap steel, labor and freight costs not fully offset by higher average selling prices.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were
$151.6 million
for the
nine
months ended
September 30, 2018
, a decrease of
$40.4 million
or
21.0%
from
$192.0 million
in the
nine
months ended
September 30, 2017
. The period-over-period decrease is due primarily to lower professional fees associated with various cost saving initiatives implemented in 2017 that did not recur in the nine months ended September 30, 2018.
Impairment and Exit Charges
We recognized
$3.9 million
for the nine months ended
September 30, 2018
for restructuring charges that primarily related to the consolidation of certain locations for the planned optimization of our portfolio as compared to
$13.0 million
in the prior year period. For the nine months ended
September 30, 2017
, we recognized $3.0 million of goodwill impairment related to our Canadian concrete and steel pressure pipe reporting unit, $7.5 million of long-lived asset impairment related to our U.S. concrete and steel pressure pipe assets, and $2.5 million for cost savings initiatives.
Interest Expense
Interest expense increased by
$6.8 million
, or
14.7%
, to
$53.0 million
in the
nine
months ended
September 30, 2018
from
$46.2 million
in the
nine
months ended
September 30, 2017
. The nine months ended September 30, 2018 included $6.0 million in higher interest expense related to the change in the classification of certain leases from operating lease to capital lease due to the sale-leaseback transaction. The remainder of the interest expense increase was primarily due to the impact of higher average interest rates. These increases were partially offset by a $4.3 million mark-to-market gain on the interest rate swaps in the nine months ended September 30, 2018 as compared to $2.0 million in the prior year period.
Other Income (Expense), net
Other income was
$6.0 million
for the nine months ended
September 30, 2018
due primarily to the gain resulting from the Foley Transaction.
See
Note 3,
Business Combinations
.
For the nine months ended September 30, 2017, other expense of $30.9 million was primarily due to a $31.6 million loss generated by the U.S. Pressure Pipe Divestiture in July 2017.
Income Tax (Expense) Benefit
Income tax (expense) benefit changed by
$31.8 million
as a result of an income tax expense of
$6.4 million
in the
nine
months ended
September 30, 2018
as compared to an income tax benefit of
$25.4 million
in the
nine
months ended
September 30, 2017
. The change is due largely to a smaller loss before income taxes recorded for the nine months ended
September 30, 2018
compared to the same period in 2017, inclusion of the global intangible low-tax income, adjustment to the transition tax liability, the impact of the lower corporate tax rates enacted in December 2017 and the foreign tax rate differential. In addition, for the nine months ended
September 30, 2018
, the Company recorded a partial valuation allowance of $3.7 million.
Segments
|
|
|
|
|
|
|
|
|
|
|
|
|
For the nine months ended September 30,
|
|
|
|
2018
|
|
2017
|
|
% Change
|
Net sales:
|
|
|
|
|
|
Drainage Pipe & Products
|
$
|
621,523
|
|
|
$
|
630,200
|
|
|
(1.4
|
)%
|
Water Pipe & Products
|
519,031
|
|
|
588,999
|
|
|
(11.9
|
)%
|
Corporate and Other
|
3
|
|
|
45
|
|
|
—
|
%
|
Total
|
$
|
1,140,557
|
|
|
$
|
1,219,244
|
|
|
(6.5
|
)%
|
|
|
|
|
|
|
|
|
|
Gross profit (loss):
|
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
133,708
|
|
|
112,323
|
|
|
19.0
|
%
|
Water Pipe & Products
|
53,640
|
|
|
86,327
|
|
|
(37.9
|
)%
|
Corporate and Other
|
(534
|
)
|
|
(1,980
|
)
|
|
(73.0
|
)%
|
Total
|
$
|
186,814
|
|
|
$
|
196,670
|
|
|
(5.0
|
)%
|
|
|
|
|
|
|
|
|
|
Segment EBITDA
(1)
:
|
|
|
|
|
|
|
|
|
Drainage Pipe & Products
|
122,841
|
|
|
98,832
|
|
|
24.3
|
%
|
Water Pipe & Products
|
48,923
|
|
|
30,881
|
|
|
58.4
|
%
|
Corporate and Other
|
(40,463
|
)
|
|
(66,714
|
)
|
|
(39.3
|
)%
|
|
|
(1)
|
For purposes of evaluating segment performance, the Company's chief operating decision maker reviews earnings before interest, taxes, depreciation and amortization, or EBITDA, as a basis for making the decisions to allocate resources and assess performance. Our discussion below includes the primary drivers of EBITDA. See
Note 18, Segment Reporting
, for segment EBITDA reconciliation to income (loss) before income taxes.
|
Drainage Pipe & Products
Net Sales
Net sales decreased by
$8.7 million
, or
1.4%
, to
$621.5 million
in the
nine
months ended
September 30, 2018
from
$630.2 million
in the
nine
months ended
September 30, 2017
due primarily to the impact of the Foley Transaction in January 2018, which resulted in a $32.7 million decline in net sales. Adjusted for the impact of this divestiture, the Company reported sales growth of $24.0 million or 4.0%, primarily due to higher average selling prices that offset the impact of lower shipments.
Gross Profit
Gross profit was
$133.7 million
in the
nine
months ended
September 30, 2018
, an increase of
$21.4 million
or
19.1%
from
$112.3 million
in the
nine
months ended
September 30, 2017
. The increase was primarily due to higher average selling prices that more than offset the impact of higher costs of good sold including labor, freight and raw material.
Water Pipe & Products
Net Sales
For the
nine
months ended
September 30, 2018
, net sales were
$519.0 million
,
a decrease of
$70.0 million
or
11.9%
from
$589.0 million
for the
nine
months ended
September 30, 2017
. Adjusted for net sales of $72.7 million in the nine months ended September 30, 2017 associated with the U.S. Pressure Pipe Divestiture, net sales increased by $2.7 million, or 2.2%. The increase was due to primarily to higher shipments.
Gross Profit
Gross profit was
$53.7 million
in the
nine
months ended
September 30, 2018
, a decrease of
$32.7 million
or 37.9% from
$86.4 million
in the
nine
months ended
September 30, 2017
. The decrease was due primarily to downtime at the Bessemer plant
(major planned maintenance overhaul and installation of more efficient/newer equipment)
that resulted in reduced cost absorption and lower sales volumes in the first half of 2018, as well as the impact of higher scrap steel, labor and freight costs that were not fully offset by higher average selling prices.
The maintenance and installation at Bessemer are now complete and the business is beginning to experience operational efficiencies from the overhaul.
Liquidity and Capital Resources
Our primary sources of liquidity are cash on hand, cash from operations and borrowings under our credit agreements. We believe these sources will be sufficient to fund our planned operations and capital expenditures in the next 24 months.
We are currently engaged in a dispute with HeidelbergCement regarding the earnout provision in the purchase agreement entered into in connection with the original acquisition of our business. HeidelbergCement has asserted that a payment should be made in the amount of $100.0 million. Resolution will be determined by a neutral accountant pursuant to the terms of the purchase agreement. If it is determined that we are required to make a significant payment to HeidelbergCement, we may not have sufficient cash to make such payment and may be required to incur additional indebtedness. This dispute is discussed in greater detail in Note 14, Commitments and contingencies, to the condensed consolidated financial statements.
As of
September 30, 2018
and December 31, 2017, we had approximately
$30.3 million
and
$104.5 million
of cash and cash equivalents, respectively, of which
$9.9 million
and
$19.1 million
, respectively, were held by foreign subsidiaries. The decline in cash balances as of
September 30, 2018
reflects the higher cash demand of our seasonal business. All of the cash and cash equivalents as of
September 30, 2018
and December 31, 2017 were readily convertible as of such dates into currencies used in the Company’s operations, including the U.S. dollar. As a result of the December 2017 tax reform, the Company believes it can repatriate the cumulative undistributed foreign earnings back to the U.S. when needed with minimal additional taxes other than state income and foreign withholding tax.
In connection with the IPO, we entered into a tax receivable agreement with Lone Star that provides for the payment by us to Lone Star of specified amounts in respect of any cash savings as a result of the utilization of certain tax benefits. The actual utilization of the relevant tax benefits as well as the timing of any payments under the tax receivable agreement will vary depending upon a number of factors, including the amount, character and
timing of our and our subsidiaries’ taxable income in the future. However, we expect that the payments we make under the tax receivable agreement could be substantial. The tax receivable agreement also includes provisions which restrict the incurrence of debt and that require that we make an accelerated payment to Lone Star equal to the present value of all future payments due under the tax receivable agreement, in each case under certain circumstances
.
Because of the foregoing, our obligations under the tax receivable agreement could have a substantial negative impact on our liquidity and could have the effect of delaying, deferring or preventing certain mergers, asset sales, other forms of business combinations or other changes of control. See Note 14, Commitments and contingencies, to the condensed consolidated financial statements for additional information regarding the tax receivable agreement.
Total
debt related to the Company's Senior Term Loan, or the 2016 Senior Term Loan, as of
September 30, 2018
was
$1,226.0 million
. As of
September 30, 2018
, the Company had
no
borrowings outstanding under its $300.0 million asset-based revolving credit facility, or the 2016 Revolver. The 2016 Revolver had available borrowing capacity as of
September 30, 2018
of
$284.4 million
.
The 2016 Revolver provides for an aggregate principal amount of up to $300.0 million, with up to $280.0 million to be made available to the U.S. borrowers and up to $20.0 million to be made available to the Canadian borrowers. Subject to the conditions set forth in the revolving credit agreement, the 2016 Revolver may be increased by up to the greater of (i) $100.0 million and (ii) such amount as would not cause the aggregate borrowing base to be exceeded by more than $50.0 million. Borrowings under the 2016 Revolver may not exceed a borrowing base equal to the sum of (i) 100% of eligible cash, (ii) 85% of eligible accounts receivable and (iii) the lesser of (a) 75% of eligible inventory and (b) 85% of the orderly liquidation value of eligible inventory, with the U.S. and Canadian borrowings being subject to separate borrowing base limitations. The 2016 Revolver matures on October 25, 2021.
The 2016 Senior Term Loan provides for an initial
$1.05 billion
senior secured term loan that was made available to a newly formed direct subsidiary of Forterra, Inc. Subject to the conditions set forth in the term loan agreement, the 2016 Senior Term Loan may be increased by (i) up to the greater of
$285.0 million
and 1.0x consolidated EBITDA of Forterra, Inc. and its restricted subsidiaries for the four quarters most recently ended prior to such incurrence plus (ii) the aggregate amount of any voluntary prepayments, plus (iii) an additional amount, provided certain financial tests are met. The 2016 Senior Term Loan matures on October 25, 2023 and is subject to quarterly amortization equal to
0.25%
of the initial principal amount. On May 1, 2017, the Company amended the 2016 Senior Term Loan to increase the principal outstanding by an additional $200.0 million to $1.25 billion and to reduce the margin interest margins applicable to the full balance of the 2016 Senior Term Loan by 50 basis points such that applicable margin is based on LIBOR has been reduced from 3.50% to 3.00%. Interest accrues on outstanding borrowings under the 2016 Term Loan at a rate equal to LIBOR (with a floor of
1.0%
) or an alternate base rate, in each case plus a margin of 3.00% or
2.00%
, respectively.
The 2016 Revolver and the 2016 Senior Term Loan contain customary representations and warranties, and affirmative and negative covenants, that, among other things, restrict our ability to incur additional debt, incur or permit liens on assets, make investments and acquisitions, consolidate or merge with any other company, engage in asset sales and pay dividends and make distributions. The 2016 Revolver contains a financial covenant restricting Forterra from allowing its fixed charge coverage ratio to drop below 1.00:1.00 during a compliance period, which is triggered when the availability under the 2016 Revolver falls below a threshold. The fixed charge coverage ratio is the ratio of consolidated earnings before interest, depreciation, and amortization, less cash payments for capital expenditures and income taxes to consolidated fixed charges (interest expense plus scheduled payments of principal on indebtedness). The 2016 Senior Term Loan does not contain any financial covenants. Obligations under the 2016 Revolver and the 2016 Senior Term Loan may be accelerated upon certain customary events of default (subject to grace periods, as appropriate).
The following table sets forth a summary of the net cash provided by (used in) operating, investing and financing activities for the periods presented
(in thousands)
: