ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Unless the context requires otherwise, references in this report to “Solaris,” the "Company," "we," "us," and "our" refer to (i) Solaris Oilfield Infrastructure, LLC (“Solaris LLC”) and its consolidated subsidiaries prior to the completion of our initial public offering and (ii) Solaris Oilfield Infrastructure, Inc. ("Solaris Inc.") and its consolidated subsidiaries following the completion of our initial public offering. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying financial statements and related notes. The following discussion contains “forward-looking statements” that reflect our plans, estimates, beliefs and expected performance. Our actual results may differ materially from those anticipated as discussed in these forward-looking statements as a result of a variety of risks and uncertainties, including those described above in “Cautionary Statement Regarding Forward-Looking Statements” included elsewhere in this Quarterly Report on Form 10-Q and “Risk Factors” included in the Annual Report on Form 10-K for the year ended December 31, 2017 as updated by our subsequent filings with the Securities and Exchange Commission (the “SEC”), all of which are difficult to predict. In light of these risks, uncertainties and assumptions, the forward-looking events discussed may not occur. We assume no obligation to update any of these forward-looking statements except as otherwise required by law.
Our Predecessor and Solaris
Solaris LLC was formed in July 2014. Solaris Inc. was incorporated as a Delaware corporation in February 2017 for the purpose of completing an initial public offering of equity in May 2017 (the “IPO” or the “Offering”) and related transactions. On May 11, 2017, in connection with the IPO, Solaris Inc. became a holding company whose sole material asset consists of units in Solaris LLC (“Solaris LLC Units”). Solaris Inc. became the managing member of Solaris LLC and is responsible for all operational, management and administrative decisions relating to Solaris LLC’s business and consolidates the financial results of Solaris LLC and its subsidiaries.
Overview
We are an independent provider of supply chain management and logistics solutions designed to drive efficiencies and reduce costs for the oil and natural gas industry. Our solutions include high-efficiency mobile and permanent infrastructure that increases proppant throughput capacity at critical junctures in the supply chain, as well as software solutions designed to optimize how proppant is dispatched across the supply chain.
We manufacture and provide our patented mobile proppant management systems that unload, store and deliver proppant at oil and natural gas well sites. Our systems reduce our customers’ cost and time to complete wells by improving the efficiency of proppant logistics, as well as enhancing well site safety. In addition, we operate an independent, transload facility in Oklahoma (the “Kingfisher Facility”) that integrates our supply chain management and drives additional proppant logistics efficiencies for our customers. Our customers include oil and natural gas exploration and production (“E&P”) companies, such as EOG Resources, Inc., Devon Energy, Apache Corporation and WPX Energy Inc., as well as oilfield service companies, such as ProPetro Holding Corp, Schlumberger Limited, Halliburton Company, BJ Services and Keane Group, Inc. Our systems are deployed in many of the most active oil and natural gas basins in the U.S., including the Permian Basin, the Eagle Ford Shale, the SCOOP/STACK formations, the Haynesville Shale and the Marcellus and Utica Shales. Since commencing operations in April 2014, we have grown our fleet from two systems to 131 systems.
Our mobile proppant management system is designed to address the challenges associated with transferring large quantities of proppant to the well site, including the cost and management of last mile logistics, which we define as the transportation of proppant from transload terminal or regional proppant mine to the well site. Today’s horizontal well completion designs require between 400 and 1,000 truckloads of proppant delivered to the well site per well which creates bottlenecks in the storage, handling and delivery of proppant. Our patented systems typically provide 2.5 million pounds of vertical proppant storage capacity in a footprint that is considerably smaller than traditional or competing well site proppant storage equipment. Our systems have the ability to unload up to 24 pneumatic proppant trailers simultaneously. In addition, our patent pending non-pneumatic loading option provides additional proppant transportation flexibility for our customers, allowing them to use belly-dump trucks in addition to the industry standard pneumatic trucks to fill and maintain inventory in our proppant management systems. This patent pending non-
pneumatic loading option is compatible with our existing fleet with minimal modification. Importantly, the proppant storage silos in our systems can be filled from trucks while simultaneously delivering proppant on-demand directly to the blender for hydraulic fracturing operations. Accordingly, our systems can maintain high rates of proppant delivery for extended periods of time, which helps achieve a greater number of frac stages per day, driving a reduction in our customers’ costs. Our systems also reduce the amount of truck demurrage, or wait time, at the well site which can result in significant cost savings for our customers. Additionally, our systems are scalable and we have experienced increased demand for our larger capacity system, which utilizes 12 silos per location. This added buffer provides our customers with additional on-site storage, which helps further alleviate logistics bottlenecks upstream of the well site.
In July 2017, we entered into a seven-year contract with an exploration and production company to provide proppant transloading service at the Kingfisher Facility constructed and operated by Solaris in Kingfisher County, Oklahoma. The Kingfisher Facility is located central to the active SCOOP/STACK plays and we believe it is the only independent, unit-train capable, high speed transload facility in Oklahoma. The Kingfisher Facility currently provides proppant transloading services, but also has capacity to provide transloading services for other drilling and completion related consumables.
The Kingfisher Facility is located on a 300-acre parcel of land, directly on the Union Pacific Railroad with a 30-year land lease with the State of Oklahoma. The facility is designed to service multiple large volume customers with dedicated storage and unit train loop tracks, including an initial 8,000 foot unit-train loop and 18,000 feet of rail sidetrack. Initial storage includes 30,000 tons of vertical storage in six silos with individual capacity of 5,000 tons per silo. The facility also services manifest trains and provide direct rail-to-truck transloading. The Company broke ground on rail and storage construction in August 2017, which was completed in July 2018. We commenced initial transloading operations in January 2018 and we are receiving regular shipments of proppant from multiple customers. The seven-year contract term commenced in January 2018.
In December 2017, the Company completed its acquisition of substantially all of the assets of Railtronix, LLC, a leading provider of real-time inventory management solutions for proppant mining, rail shipping and transloading operations (“Railtronix”). Upon closing the acquisition, we integrated Railtronix into our business. We recently completed the first phase of data integration between the Railtronix and PropView® inventory management systems in connection with commencing transloading operations at our Kingfisher Facility. We can now provide our customers with full visibility across their supply chain – from the mine to well site.
Recent Trends and Outlook
Demand for our products and services is predominantly influenced by the level of drilling and completion by E&P companies, which, in turn, depends largely on the current and anticipated profitability of developing oil and natural gas reserves. More specifically, demand for our products and services is driven by demand for proppant, which, in turn, is primarily driven by advancements in oil and natural gas drilling and well completion technology and techniques, such as horizontal drilling and hydraulic fracturing, which have made the extraction of oil and natural gas increasingly cost-effective in formations that historically would have been uneconomic to develop.
Though the number of active rigs in North America has declined from the highs in late 2014 as a result of the downturn in hydrocarbon prices, the industry has witnessed an increase in demand for drilling and completion activity beginning in the third quarter of 2016 and continuing today as hydrocarbon prices have recovered somewhat. We expect this demand to continue to increase as E&P companies increase drilling and completion activities. According to Baker Hughes’ North American Rig Count, the number of active total rigs in the United States reached a low of 404, as reported on May 27, 2016, but has since increased by more than 159% to 1,048 active rigs as reported on July 27, 2018. If hydrocarbon prices stabilize at current levels or rise further, we expect to see further increased drilling and completion activity in the basins in which we operate. Should hydrocarbon prices decrease, the demand for our products and services may decrease due to potentially lower industry activity levels.
In addition to increased industry activity levels, we expect to benefit from increased horizontal drilling as well as other long-term macro industry trends that improve drilling economics such as (i) greater rig efficiencies that result in more wells drilled per rig in a given period, (ii) increased complexity and service intensity of well completions, including longer wellbore laterals, more and larger fracturing stages and higher proppant usage per well and (iii)
accelerating completion rates through “zipper fracs,” or the process of completing multiple adjacent wells simultaneously.
While we do not currently anticipate any shortages in the supply of the proppant used in hydraulic fracturing operations, supplies of high-quality raw frac sand, the most prevalent proppant used, are limited to select areas, predominantly in western Wisconsin and limited areas of Minnesota and Illinois. Accordingly, transportation costs often represent a significant portion of our customer’s overall product cost, and transferring large quantities of proppant to the well site presents a number of challenges, including the cost and management of last mile logistics. Additionally, increased focus on cost control and increased health, safety and environmental regulation has created numerous operational challenges that cannot be addressed with labor intensive proppant storage equipment, such as those that utilize individual containers for on-site proppant storage and handling.
During 2017 and 2018, numerous regional sand mine developments were announced and several have commenced operations with proximity to several active oil and gas basins, including the Permian Basin, the Eagle Ford Shale, the SCOOP/STACK formations and the Haynesville Shale. While these regional mines reduce the total distance between mine and destination, there are frequently increased transportation complexities as several buffers are removed from the supply chain, including rail cars and transloading facilities. As a result, we believe the demand for our solutions, including large, mobile inventory capacity at the well site and remote inventory monitoring data along the supply chain will increase as additional local mines are brought on line.
These supply and demand trends have contributed to our significant growth since our formation in 2014. We have increased our total system revenue days, defined as the combined number of days our systems earned revenues, in fifteen of the last sixteen quarters beginning in the second quarter of 2014. Since commencing operations in April 2014, we have also grown our fleet from two systems to 131 systems. The increase in total system revenue days is attributable to an increase in the number of systems available for rental and an increase in the number of systems deployed to customers. Our total system revenue days increased to 9,850 in the three months ended June 30, 2018 from 3,375 in the three months ended June 30, 2017, an increase of approximately 192%. Our total system revenue days increased to 17,523 in the six months ended June 30, 2018 from 6,002 in the six months ended June 30, 2017, an increase of approximately 192%.
The number of systems in our fleet increased to an average of 109.2 during the three months ended June 30, 2018 from an average of 38.5 during the three months ended June 30, 2017, an increase of approximately 184%. The average number of systems deployed to customers increased to 108.2 in the three months ended June 30, 2018 from 37.1 in the three months ended June 30, 2017, an increase of approximately 192%.
How We Generate Revenue
We generate the majority of our revenue primarily through the rental of our systems and related services, including transportation of our systems and field supervision and support. The system rentals and provision of related services are performed under a variety of contract structures, primarily master service agreements as supplemented by individual work orders detailing statements of work, pricing agreements and specific quotes. The master service agreements generally establish terms and conditions for the provision of our systems and service on a well site, indemnification, damages, confidentiality, intellectual property protection and payment terms and provisions. The services are generally priced based on prevailing market conditions at the time the services are provided, giving consideration to the specific requirements and activity levels of the customer. We typically charge our customers for the rental of our systems on a monthly basis.
In early 2018, we began generating revenue for transloading service at our Kingfisher Facility. We generally charge our customers a throughput fee for proppant delivered to the Kingfisher Facility. We expect that a significant portion of the transloading revenue that we generate in 2018 will be related to the seven-year contract that we entered into in July 2017 with a leading STACK exploration and production company, which requires the customer to deliver minimum quarterly volumes to the facility, as well as volumes from three new customers.
Finally, we generate revenue through our Railtronix inventory management software. We acquired the assets of Railtronix in December 2017. We generally charge our customers a throughput fee to monitor proppant that is loaded into a railcar, stored at a transload facility or loaded into a truck.
Costs of Conducting Our Business
The principal costs associated with operating our business are:
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Cost of proppant management system rental (excluding depreciation and amortization);
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Cost of proppant management system services (excluding depreciation and amortization);
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Cost of software inventory management services (excluding depreciation and amortization);
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Cost of transloading operations and services (excluding depreciation and amortization);
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Depreciation and amortization associated with the costs to build our systems and the costs to develop rail and storage assets;
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Salaries, benefits and payroll taxes;
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Selling, general and administrative expenses; and
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Other operating expenses.
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Our cost of proppant management system rental (excluding depreciation and amortization) consists primarily of the costs of maintaining our equipment, as well as insurance and property taxes related to our equipment.
Our cost of proppant management system services (excluding depreciation and amortization) consists primarily of direct labor costs, and related travel and lodging expenses, and system transportation costs. A large portion of our cost of proppant management system services (excluding depreciation and amortization) are variable based on the number of systems deployed with customers.
Our cost of software inventory management services consists primarily of direct labor and software subscriptions.
Our cost of transloading operations and services (excluding depreciation and amortization) consists primarily of direct labor costs, fuel, utilities and maintenance.
Our depreciation and amortization expense primarily consists of the depreciation expense related to our systems and related manufacturing machinery and equipment. The costs to build our systems, including any upgrades, are capitalized and we depreciated over a life ranging from 2 to 15 years. The costs to build our rail and storage assets are capitalized and we will depreciate over a life of 15 to 30 years.
Our salaries, benefits and payroll taxes are comprised of the salaries and related benefits for several functional areas of our organization, including sales and commercial, research and development, manufacturing administrative, accounting and corporate administrative.
Our selling, general and administrative expenses are comprised primarily of office rent, marketing expenses and third-party professional service providers.
How We Evaluate Our Operations
We use a variety of qualitative, operational and financial metrics to assess our performance. Among other measures, management considers revenue, revenue days, tons transloaded, EBITDA and Adjusted EBITDA.
Revenue
We analyze our revenue by comparing actual monthly revenue to our internal projections for a given period and to prior periods to assess our performance. We also assess our revenue in relation to the number of proppant management systems we have deployed to customers and the amount of proppant transloaded at our Kingfisher Facility from period to period.
Revenue Days
We view revenue days as an important indicator of our performance. We calculate revenue days as the combined number of days our systems earn revenue in a period. We assess our revenue days from period to period in relation to the number of proppant management systems we have available in our fleet.
Tons Transloaded
We view tons transloaded as an important indicator of our performance. We calculate the number of tons transloaded as the combined number of proppant tons that are transloaded at our Kingfisher Facility in a period. We assess the number of tons transloaded from period to period in relation to prior periods and contracted minimum volumes.
EBITDA and Adjusted EBITDA
We view EBITDA and Adjusted EBITDA as important indicators of performance. We define EBITDA as net income (loss), plus (i) depreciation and amortization expense, (ii) interest expense and (iii) income tax expense, including franchise taxes. We define Adjusted EBITDA as EBITDA plus (i) stock-based compensation expense and (ii) certain non-cash charges and unusual or non-recurring charges.
Note Regarding Non-GAAP Financial Measures
EBITDA and Adjusted EBITDA are not financial measures presented in accordance with accounting principles generally accepted in the United States (“GAAP”). We believe that the presentation of these non-GAAP financial measures will provide useful information to investors in assessing our financial condition and results of operations. Net income (loss) is the GAAP measure most directly comparable to EBITDA and Adjusted EBITDA. Our non-GAAP financial measures should not be considered as alternatives to the most directly comparable GAAP financial measure. Each of these non-GAAP financial measures has important limitations as analytical tools because they exclude some but not all items that affect the most directly comparable GAAP financial measures. You should not consider EBITDA or Adjusted EBITDA in isolation or as substitutes for an analysis of our results as reported under GAAP. Because EBITDA and Adjusted EBITDA may be defined differently by other companies in our industry, our definitions of these non-
GAAP financial measures may not be comparable to similarly titled measures of other companies, thereby diminishing their utility.
Factors Impacting Comparability of Our Financial Results
Our future results of operations may not be comparable to the historical results of operations of our accounting predecessor, Solaris LLC, for the periods presented, primarily for the reasons described below.
Corporate Reorganization
The historical condensed consolidated financial statements included in this report are based on the financial statements of our accounting predecessor, Solaris LLC, prior to our corporate reorganization consummated in connection with the IPO. As a result, the historical consolidated financial data may not give you an accurate indication of what our actual results would have been if the corporate reorganization had been completed at the beginning of the periods presented or of what our future results of operations are likely to be. In connection with the IPO and the transactions related thereto, Solaris Inc. became a holding company whose sole material asset consists of Solaris LLC Units. Solaris Inc. is the managing member of Solaris LLC and is responsible for all operational, management and administrative decisions relating to Solaris LLC’s business and consolidates the financial results of Solaris LLC and its subsidiaries.
In addition, in connection with the IPO, Solaris Inc. entered into a tax receivable agreement (the “Tax Receivable Agreement”) with the existing members of Solaris LLC (collectively, the “Original Investors”) (each such person and any permitted transferee a “TRA Holder,” and together, the “TRA Holders”) on May 17, 2017. This agreement generally provides for the payment by Solaris Inc. to each TRA Holder of 85% of the net cash savings, if any, in U.S. federal, state and local income tax and franchise tax that Solaris Inc. actually realizes (computed using simplifying assumptions to address the impact of state and local taxes) or is deemed to realize in certain circumstances in periods after the IPO as a result of (i) certain increases in tax basis that occur as a result of Solaris Inc. acquisition (or deemed acquisition for U.S. federal income tax purposes) of all or a portion of such TRA Holder’s Solaris LLC Units in connection with the series of reorganization transactions completed on May 17, 2017 (the “Reorganization Transactions”) or pursuant to the exercise of the Redemption Right or the Call Right (each as defined in Solaris LLC’s Amended and Restated Limited Liability Company Agreement) and (ii) imputed interest deemed to be paid by Solaris Inc. as a result of, and additional tax basis arising from, any payments Solaris Inc. makes under the Tax Receivable Agreement. Solaris will retain the benefit of the remaining 15% of these cash savings.
We anticipate that we will account for the effects of these increases in tax basis and associated payments under the Tax Receivable Agreement arising from any future redemptions of Solaris LLC Units from our Original Investors as follows:
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we will record an increase in deferred tax assets for the estimated income tax effects of the increases in tax basis based on enacted federal and state tax rates at the date of the redemption;
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to the extent we estimate that we will not realize the full benefit represented by the deferred tax asset, based on an analysis that will consider, among other things, our expectation of future earnings, we will reduce the deferred tax asset with a valuation allowance; and
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we will record 85% of the estimated realizable tax benefit as an increase to our payables associated with the future payments due under the Tax Receivable Agreement and the remaining 15% of the estimated realizable tax benefit as an increase to additional paid-in capital.
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All of the effects of changes in any of our estimates after the date of the exchange will be included in net income for the period in which those changes occur. Similarly, the effect of subsequent changes in the enacted tax rates will be included in net income for the period in which the change occurs.
Fleet Growth
We have experienced significant growth over the past four years. Since commencing operations in April 2014, we have grown our fleet from two systems to 131 systems and the number of major oil and gas basins in which our systems
are deployed has increased from two as of April 2014 to eight as of August 1, 2018. Since the second quarter of 2014, we have increased our total system revenue days, defined as the combined number of days our systems earned revenues, in fifteen of the last sixteen quarters. We have increased our system revenue days by more than 5,561% from the second quarter of 2014 to the second quarter of 2018, representing a 174% compound annual growth rate. The increase in total system revenue days is attributable to both an increase in the number of systems available for rental and an increase in the rate at which our systems are utilized.
Public Company Expenses
Following the completion of the IPO, we incurred direct, incremental general and administrative (“G&A”) expenses as a result of being a publicly traded company, including, but not limited to, costs associated with hiring new personnel, implementation of compensation programs that are competitive with our public company peer group, annual and quarterly reports to stockholders, tax return preparation, independent auditor fees, investor relations activities, registrar and transfer agent fees, incremental director and officer liability insurance costs and incremental director compensation. These direct, incremental G&A expenses are not included in our results of operations prior to the IPO.
Income Taxes
Solaris Inc. is a corporation and, as a result, is subject to U.S. federal, state and local income taxes. Although Solaris LLC is subject to franchise tax in the State of Texas (at less than 1% of modified pre-tax earnings) it passes through its taxable income to its owners, including Solaris Inc., for U.S. federal and other state and local income tax purposes and thus is not generally subject to U.S. federal income tax or other state or local income taxes. Accordingly, the financial data attributable to Solaris LLC prior to the IPO contains no provision for U.S. federal income tax or income taxes in any state or locality other than franchise tax in the State of Texas.
Results of Operations
Three Months Ended June 30, 2018 Compared to Three Months Ended June 30, 2017
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Three Months Ended
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June 30,
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2018
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2017
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Change
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(in thousands)
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Revenue
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Proppant management system rental
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$
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35,127
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$
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11,097
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$
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24,030
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Proppant management system services
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9,937
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2,292
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7,645
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Transloading services
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1,397
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—
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1,397
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Proppant inventory software services
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694
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—
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694
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Total revenue
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47,155
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13,389
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33,766
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Operating costs and expenses:
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Cost of proppant management system rental (excluding $3,359 and $1,196 of depreciation and amortization for the three months ended June 30, 2018 and 2017, respectively, shown separately)
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1,683
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597
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1,086
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Cost of proppant management system services (excluding $305 and $91 of depreciation and amortization for the three months ended June 30, 2018 and 2017, respectively, shown separately)
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11,679
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2,632
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9,047
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Cost of transloading services (excluding $10 of depreciation and amortization for the three months ended June 30, 2018, shown separately)
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535
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—
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535
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Cost of proppant inventory software services (excluding $193 of depreciation and amortization for the three months ended June 30, 2018, shown separately)
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167
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—
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167
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Depreciation and amortization
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3,984
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1,370
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2,614
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Salaries, benefits and payroll taxes
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3,169
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1,736
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1,433
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Selling, general and administrative (excluding $117 and $83 of depreciation and amortization for the three months ended June 30, 2018 and 2017, respectively, shown separately)
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1,123
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1,600
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(477)
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Other operating expenses
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19
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3,872
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(3,853)
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Total operating costs and expenses
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22,359
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11,807
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10,552
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Operating income
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24,796
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1,582
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23,214
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Interest expense, net
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(71)
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(22)
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(49)
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Total other income (expense)
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(71)
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(22)
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(49)
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Income before income tax expense
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24,725
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1,560
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23,165
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Provision for income taxes
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(3,277)
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(498)
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(2,779)
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Net income
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21,448
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1,062
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20,386
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Less: net loss related to Solaris LLC
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—
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1,117
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(1,117)
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Less: net income related to non-controlling interests
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(10,851)
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(2,022)
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(8,829)
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Net income attributable to Solaris
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$
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10,597
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$
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157
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$
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10,440
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Revenue
Proppant Management System Rental Revenue.
Our proppant management system rental revenue increased $24.0 million, or 216%, to $35.1 million for the three months ended June 30, 2018 compared to $11.1 million for the three months ended June 30, 2017. This increase was primarily due to a 192% increase in the number of revenue days, or 6,475 days, coupled with an increase in rental rates charged to customers due to increasing demand for our systems.
Proppant Management System Services Revenue.
Our proppant management system services revenue increased $7.6 million, or 330%, to $9.9 million for the three months ended June 30, 2018 compared to $2.3 million for the three months ended June 30, 2017. Proppant management system services revenue related to field technicians and transportation increased as a result of the increasing number of systems we have deployed and as a result of certain services provided to help coordinate proppant delivered to our systems, which were not provided in the three months
ended June 30, 2017. Once systems are deployed, the Company provides services to maintain such systems on-site for customers and to coordinate the transportation of systems between customer sites. Proppant management system services revenue also increased in relation to services provided to coordinate proppant delivered to systems, which have not been previously provided.
Transloading Revenue.
Our transloading revenue of $1.4 million for the three months ended June 30, 2018 is related to transloading services at our Kingfisher Facility, which commenced in January 2018. We generally charge our customers a throughput fee for proppant delivered to the Kingfisher Facility.
Proppant Inventory Software Services Revenue.
Our proppant inventory system services revenue of $0.7 million for the three months ended June 30, 2018 is related to the Railtronix assets acquired in December 2017. We generally charge our customers a throughput fee to monitor proppant that is loaded into a railcar, stored at a transload facility or loaded into a truck.
Operating Expenses
Total operating costs and expenses for the three months ended June 30, 2018 and 2017 were $22.4 million and $11.8 million, respectively, which represented 47% and 88% of total revenue, respectively. Total operating costs and expenses increased year-over-year primarily as a result of increase in cost of proppant management system services, depreciation and amortization expense and salaries, benefits and payroll taxes. Cost of proppant management system services increased as a result of an increase in the number of field technicians on staff and amount of system transportation required to support the increase in the number of systems deployed to customers. The average number of systems deployed to customers have increased to 108.2 in the three months ended June 30, 2018 from 37.1 in the three months ended June 30, 2017. In addition, the cost of proppant management system services increased as a result of certain services provided to help coordinate proppant delivered to our systems. Depreciation and amortization expense also increased, primarily due to the addition of new systems that were manufactured and added to our fleet in 2017 and 2018. Salaries, benefits and payroll taxes increased due to increases in the number of indirect personnel and deferred compensation. Selling, general and administrative expenses increased related to increases in indirect personnel and general business expenses resulting from increased manufacturing and rental operations and incremental public company expenses. Additional details regarding the changes in operating expenses are presented below.
Cost of Proppant Management System Rental (excluding depreciation and amortization).
Cost of proppant management system rental increased $1.1 million, or 183%, to $1.7 million for the three months ended June 30, 2018 compared to $0.6 million for the three months ended June 30, 2017, excluding depreciation and amortization expense. Cost of proppant management system rental as a percentage of proppant management system rental revenue was 5% for the three months ended June 30, 2018 and 2017. Cost of proppant management system rental increased due to the increase in systems that were deployed to customers.
Cost of proppant management system rental including depreciation and amortization expense increased $3.2 million, or 181%, to $5.0 million for the three months ended June 30, 2018 compared to $1.8 million for the three months ended June 30, 2017. This increase was primarily attributable to the increase in systems that were deployed to customers and an increase in depreciation expense related to the additional systems.
Cost of Proppant Management System Services (excluding depreciation and amortization).
Cost of proppant management system services increased $9.1 million, or 350%, to $11.7 million for the three months ended June 30, 2018 compared to $2.6 million for the three months ended June 30, 2017. This increase was primarily due to an increase in third-party trucking services of $4.2 million, or 589%, to transport incremental systems deployed to customers, coupled with labor and related costs of $2.8 million, or 214%, and travel and lodging costs of $1.1 million, or 329%, both of which were driven by an increase in the number of field technicians required to support the increased number of systems deployed during the three months ended June 30, 2018. In addition, the Company coordinated third-party trucking services of $0.4 million related to the transportation of proppant to systems, which were not provided in the three months ended June 30, 2017.
For the three months ended June 30, 2018, the cost of proppant management system services as a percentage of proppant management system services revenue increased to 118% compared to 115% for the three months ended June
30, 2017. Cost of proppant management system services as a percentage of proppant management system services revenue has primarily increased as a result of higher prices paid for third-party trucking services necessary to support our systems.
Cost of proppant management system services including depreciation and amortization expense increased $9.3 million, or 340%, to $12.0 million for the three months ended June 30, 2018 compared to $2.7 million for the three months ended June 30, 2017. This increase was primarily attributable to the factors mentioned above, as well as an increase in depreciation expense related to additional light-duty field trucks that we purchased to support our increased activity.
Cost of Transloading Services (excluding depreciation and amortization).
Cost of transloading services of $0.5 million for the three months ended June 30, 2018 primarily includes labor and equipment rental costs related to transloading services at our Kingfisher Facility, which commenced in January 2018.
Cost of Proppant Inventory Software Services (excluding depreciation and amortization).
Cost of proppant inventory services of $0.2 million for the three months ended June 30, 2018 primarily includes labor and software subscription costs related to the Railtronix software acquired in December 2017.
Depreciation and Amortization.
Depreciation and amortization increased $2.6 million, or 186%, to $4.0 million for the three months ended June 30, 2018 compared to $1.4 million for the three months ended June 30, 2017. This increase was primarily attributable to additional depreciation expense related to additional systems that were manufactured and added to our fleet.
Salaries, Benefits and Payroll Taxes.
Salaries, benefits and payroll taxes increased $1.5 million, or 88%, to $3.2 million for the three months ended June 30, 2018 compared to $1.7 million for the three months ended June 30, 2017. The increase was due to an increase of $0.9 million due to additions in corporate personnel in response to public company and growth needs and an increase in stock-based compensation expense of $0.6 million as a result of the issuance of restricted shares in connection with, and subsequent to, the Offering.
Selling, General and Administrative Expenses (excluding depreciation and amortization).
Selling, general and administrative expenses decreased $0.5 million, or 31%, to $1.1 million for the three months ended June 30, 2018 compared to $1.6 million for the three months ended June 30, 2017 due primarily to a decrease of $0.4 million in professional fees that were incurred in connection with the IPO in the three months ended June 30, 2017.
Other Operating Expenses.
Other operating expenses in 2017 were primarily one-time bonuses of $3.1 million paid to certain employees in connection with the IPO, loss on disposal of field equipment and vehicles of $0.4 million and certain non-recurring organizational and transaction costs of $0.3 million associated with the IPO and the Kingfisher facility.
Income Tax Expenses.
For the three months ended June 30, 2018, we recognized a combined U.S. federal and state provision for income taxes of $3.3 million.
As a pass-through entity, Solaris LLC was subject only to the Texas margin tax at a statutory rate of less than 1% of modified pre-tax earnings and was not subject to U.S. federal income tax. During the three months ended June 30, 2018, we recognized a provision for income taxes of $175,000, an increase of $152,000 as compared to $23,000 we recognized during the three months ended June 30, 2017. This increase was primarily attributable to an increase in operations between the applicable periods.
Net Income
Net income increased $20.4 million to $21.4 million for the three months ended June 30, 2018 compared to $1.1 million for the three months ended June 30, 2017, due to the changes in revenues and expenses discussed above.
Comparison of Non-GAAP Financial Measures
We view EBITDA and Adjusted EBITDA as important indicators of performance. We define EBITDA as net income (loss), plus (i) depreciation and amortization expense, (ii) interest expense and (iii) income tax expense, including franchise taxes. We define Adjusted EBITDA as EBITDA plus (i) stock-based compensation expense and (ii) certain non-cash charges and unusual or non-recurring charges.
We believe that our presentation of EBITDA and Adjusted EBITDA will provide useful information to investors in assessing our financial condition and results of operations. Net income is the GAAP measure most directly comparable to EBITDA and Adjusted EBITDA. EBITDA and Adjusted EBITDA should not be considered alternatives to net income presented in accordance with GAAP. Because EBITDA and Adjusted EBITDA may be defined differently by other companies in our industry, our definitions of EBITDA and Adjusted EBITDA may not be comparable to similarly titled measures of other companies, thereby diminishing their utility. The following table presents a reconciliation of Net income (loss) to EBITDA and Adjusted EBITDA for each of the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
|
|
|
June 30,
|
|
|
|
|
|
2018
|
|
2017
|
|
Change
|
|
|
(in thousands)
|
Net income
|
|
$
|
21,448
|
|
$
|
1,062
|
|
$
|
20,386
|
Depreciation and amortization
|
|
|
3,984
|
|
|
1,370
|
|
|
2,614
|
Interest expense, net
|
|
|
71
|
|
|
22
|
|
|
49
|
Income taxes (1)
|
|
|
3,277
|
|
|
498
|
|
|
2,779
|
EBITDA
|
|
$
|
28,780
|
|
$
|
2,952
|
|
$
|
25,828
|
IPO bonuses (2)
|
|
|
307
|
|
|
3,523
|
|
|
(3,216)
|
Stock-based compensation expense (3)
|
|
|
939
|
|
|
341
|
|
|
598
|
Loss on disposal of assets
|
|
|
23
|
|
|
384
|
|
|
(361)
|
Non-recurring organizational costs (4)
|
|
|
—
|
|
|
258
|
|
|
(258)
|
Adjusted EBITDA
|
|
$
|
30,049
|
|
$
|
7,458
|
|
$
|
22,591
|
|
(1)
|
|
Income taxes for federal and state taxes.
|
|
(2)
|
|
One-time cash bonuses of $3.1 million in the three months ended June 30, 2017 and stock-based compensation expense related to restricted stock awards with one-year vesting of $0.3 million and $0.4 million in the three months ended June 30, 2018 and 20017, respectively, that were granted to certain employees and consultants in connection with the Offering.
|
|
(3)
|
|
Represents stock-based compensation expense related to restricted stock awards with three-year vesting of $0.9 million and $0.2 million in the three months ended June 30, 2018 and 2017, respectively, and $0.1 million in the three months ended June 30, 2017 related to the options issued under the Plan.
|
|
(4)
|
|
Certain non-recurring organization and transaction costs in the three months ended June 30, 2017 associated with our IPO and the Kingfisher Facility.
|
Three Months Ended June 30, 2018 Compared to Three Months Ended June 30, 2017: EBITDA and Adjusted EBITDA
EBITDA increased $25.8 million to $28.8 million for the three months ended June 30, 2018 compared to $3.0 million for the three months ended June 30, 2017. Adjusted EBITDA increased $22.6 million to $30.0 million for the three months ended June 30, 2018 compared to $7.5 million and for the three months ended June 30, 2017. EBITDA and Adjusted EBITDA increased 875% and 303%, respectively, for the three months ended June 30, 2018 compared to the three months ended June 30, 2017. The increases were primarily due to an increase in the number of revenue days and the number of systems deployed to customers
, as well as an increase in the rental rates charged to customers due to increasing demand for our systems.
Six Months Ended June 30, 2018 Compared to Six Months Ended June 30, 2017
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
|
|
|
|
2018
|
|
2017
|
|
Change
|
|
|
|
(in thousands)
|
|
Revenue
|
|
|
|
|
|
|
|
|
|
|
Proppant management system rental
|
|
$
|
62,532
|
|
$
|
19,498
|
|
$
|
43,034
|
|
Proppant management system services
|
|
|
17,446
|
|
|
4,215
|
|
|
13,231
|
|
Transloading services
|
|
|
1,847
|
|
|
—
|
|
|
1,847
|
|
Proppant inventory software services
|
|
|
1,348
|
|
|
—
|
|
|
1,348
|
|
Total revenue
|
|
|
83,173
|
|
|
23,713
|
|
|
59,460
|
|
Operating costs and expenses:
|
|
|
|
|
|
|
|
|
|
|
Cost of proppant management system rental (excluding $5,995 and $2,225 of depreciation and amortization for the six months ended June 30, 2018 and 2017, respectively, shown separately)
|
|
|
3,101
|
|
|
947
|
|
|
2,154
|
|
Cost of proppant management system services (excluding $542 and $154 of depreciation and amortization for the six months ended June 30, 2018 and 2017, respectively, shown separately)
|
|
|
20,785
|
|
|
4,706
|
|
|
16,079
|
|
Cost of transloading services (excluding $15 of depreciation and amortization for the six months ended June 30, 2018, shown separately)
|
|
|
867
|
|
|
—
|
|
|
867
|
|
Cost of proppant inventory software services (excluding $405 of depreciation and amortization for the six months ended June 30, 2018, shown separately)
|
|
|
423
|
|
|
—
|
|
|
423
|
|
Depreciation and amortization
|
|
|
7,186
|
|
|
2,534
|
|
|
4,652
|
|
Salaries, benefits and payroll taxes
|
|
|
5,790
|
|
|
2,744
|
|
|
3,046
|
|
Selling, general and administrative (excluding $229 and $155 of depreciation and amortization for the six months ended June 30, 2018 and 2017, respectively, shown separately)
|
|
|
3,003
|
|
|
2,477
|
|
|
526
|
|
Other operating expenses
|
|
|
1,696
|
|
|
3,872
|
|
|
(2,176)
|
|
Total operating costs and expenses
|
|
|
42,851
|
|
|
17,280
|
|
|
25,571
|
|
Operating income (loss)
|
|
|
40,322
|
|
|
6,433
|
|
|
33,889
|
|
Interest expense, net
|
|
|
(155)
|
|
|
(44)
|
|
|
(111)
|
|
Other income (expense)
|
|
|
—
|
|
|
(25)
|
|
|
25
|
|
Total other income (expense)
|
|
|
(155)
|
|
|
(69)
|
|
|
(86)
|
|
Income before income tax expense
|
|
|
40,167
|
|
|
6,364
|
|
|
33,803
|
|
Provision for income taxes
|
|
|
(5,304)
|
|
|
(520)
|
|
|
(4,784)
|
|
Net income
|
|
|
34,863
|
|
|
5,844
|
|
|
29,019
|
|
Less: net income related to Solaris LLC
|
|
|
—
|
|
|
(3,665)
|
|
|
3,665
|
|
Less: net income related to non-controlling interests
|
|
|
(18,336)
|
|
|
(2,022)
|
|
|
(16,314)
|
|
Net income attributable to Solaris
|
|
$
|
16,527
|
|
$
|
157
|
|
$
|
16,370
|
|
Revenue
Proppant Management System Rental Revenue.
Our proppant management system rental revenue increased $43.0 million, or 221%, to $62.5 million for the six months ended June 30, 2018 compared to $19.5 million for the six months ended June 30, 2017. This increase was primarily due to a 192% increase in the number of revenue days, or 11,521 days, coupled with an increase in rental rates charged to customers due to increasing demand for our systems.
Proppant Management System Services Revenue.
Our proppant management system services revenue increased $13.2 million, or 314%, to $17.4 million for the six months ended June 30, 2018 compared to $4.2 million for the six months ended June 30, 2017. Proppant management system services revenue related to field technicians and transportation increased as a result of the increasing number of systems we have deployed and as a result of certain services provided to help coordinate proppant delivered to our systems, which were not provided in the six months ended June 30, 2017. Once systems are deployed, the Company provides services to maintain such systems on-site for
customers and to coordinate the transportation of systems between customer sites. Proppant management system services revenue also increased in relation to services provided to coordinate proppant delivered to systems, which have not been previously provided.
Transloading Revenue.
Our transloading revenue of $1.8 million for the six months ended June 30, 2018 is related to transloading services at our Kingfisher Facility, which commenced in January 2018. We generally charge our customers a throughput fee for proppant delivered to the Kingfisher Facility.
Proppant Inventory Software Services Revenue.
Our proppant inventory system services revenue of $1.3 million for the six months ended June 30, 2018 is related to the Railtronix assets acquired in December 2017. We generally charge our customers a throughput fee to monitor proppant that is loaded into a railcar, stored at a transload facility or loaded into a truck.
Operating Expenses
Total operating costs and expenses for the six months ended June 30, 2018 and 2017 were $42.9 million and $17.3 million, respectively, which represented 52% and 73% of total revenue, respectively. Total operating costs and expenses increased year-over-year primarily as a result of increase in cost of proppant management system services, depreciation and amortization expense and salaries, benefits and payroll taxes. Cost of proppant management system services increased as a result of an increase in the number of field technicians on staff and amount of system transportation required to support the increase in the number of systems deployed to customers. The average number of systems deployed to customers have increased to 96.7 in the six months ended June 30, 2018 from 33.2 in the six months ended June 30, 2017. In addition, the cost of proppant management system services increased as a result of certain services provided to help coordinate proppant delivered to our systems. Depreciation and amortization expense also increased, primarily due to the addition of new systems that were manufactured and added to our fleet in 2017 and 2018. Salaries, benefits and payroll taxes increased due to increases in the number of indirect personnel and deferred compensation. Selling, general and administrative expenses increased related to increases in indirect personnel and general business expenses resulting from increased manufacturing and rental operations and incremental public company expenses. Additional details regarding the changes in operating expenses are presented below.
Cost of Proppant Management System Rental (excluding depreciation and amortization).
Cost of proppant management system rental increased $2.2 million, or 244%, to $3.1 million for the six months ended June 30, 2018 compared to $0.9 million for the six months ended June 30, 2017, excluding depreciation and amortization expense. Cost of proppant management system rental as a percentage of proppant management system rental revenue was 5% for the six months ended June 30, 2018 and 2017. Cost of proppant management system rental increased due to the increase in systems that were deployed to customers.
Cost of proppant management system rental including depreciation and amortization expense increased $5.9 million, or 184%, to $9.1 million for the six months ended June 30, 2018 compared to $3.2 million for the six months ended June 30, 2017. This increase was primarily attributable to the increase in systems that were deployed to customers and an increase in depreciation expense related to the additional systems.
Cost of Proppant Management System Services (excluding depreciation and amortization).
Cost of proppant management system services increased $16.1 million, or 343%, to $20.8 million for the six months ended June 30, 2018 compared to $4.7 million for the six months ended June 30, 2017. This increase was primarily due to an increase in third-party trucking services of $6.3 million, or 453%, to transport incremental systems deployed to customers, coupled with an increase in labor and related costs of $5.5 million, or 240%, and travel and lodging costs of $2.0 million, or 355%, both of which were driven by an increase in the number of field technicians required to support the increased number of systems deployed during the six months ended June 30, 2018. In addition, the Company coordinated third-party trucking services of $1.1 million related to the transportation of proppant to systems, which were not provided in the six months ended June 30, 2017.
For the six months ended June 30, 2018, the cost of proppant management system services as a percentage of proppant management system services revenue increased to 119% compared to 112% for the six months ended June 30, 2017. Cost of proppant management system services as a percentage of proppant management system services revenue
has primarily increased as a result of higher prices paid for third-party trucking services necessary to support our systems, in addition to coordinating delivery of proppant to our systems deployed to customers due to increasing demand for such services corresponding to increased industry activity levels.
Cost of proppant management system services including depreciation and amortization expense increased $16.4 million, or 335%, to $21.3 million for the six months ended June 30, 2018 compared to $4.9 million for the six months ended June 30, 2017. This increase was primarily attributable to the factors mentioned above, as well as an increase in depreciation expense related to additional light-duty field trucks that we purchased to support our increased activity.
Cost of Transloading Services (excluding depreciation and amortization).
Cost of transloading services of $0.9 million for the six months ended June 30, 2018 primarily includes labor and equipment rental costs related to transloading services at our Kingfisher Facility, which commenced in January 2018.
Cost of Proppant Inventory Software Services (excluding depreciation and amortization).
Cost of proppant inventory services of $0.4 million for the six months ended June 30, 2018 primarily includes labor and software subscription costs related to the Railtronix software acquired in December 2017.
Depreciation and Amortization.
Depreciation and amortization increased $4.7 million, or 188%, to $7.2 million for the six months ended June 30, 2018 compared to $2.5 million for the six months ended June 30, 2017. This increase was primarily attributable to additional depreciation expense related to additional systems that were manufactured and added to our fleet.
Salaries, Benefits and Payroll Taxes.
Salaries, benefits and payroll taxes increased $3.1 million, or 115%, to $5.8 million for the six months ended June 30, 2018 compared to $2.7 million for the six months ended June 30, 2017. The increase was due to an increase in stock-based compensation expense of $2.1 million as a result of the issuance of restricted shares in connection with, and subsequent to, the Offering and an increase of $1.0 million was due to additions in corporate personnel in response to public company and growth needs.
Selling, General and Administrative Expenses (excluding depreciation and amortization).
Selling, general and administrative expenses increased $0.5 million, or 20%, to $3.0 million for the six months ended June 30, 2018 compared to $2.5 million for the six months ended June 30, 2017 due primarily to increases of $0.4 million in public company expenses and $0.2 million in office rent, partially offset by a decrease of $0.2 million in research and development costs.
Other Operating Expenses.
Other operating expenses in the six months ended June 30, 2018 are primarily related to certain performance-based cash awards totaling $1.7 million in connection with the purchase of Railtronix upon the achievement of certain financial milestones. Other operating expenses in the six months ended June 30, 2017 are primarily one-time bonuses of $3.1 million paid to certain employees in connection with the IPO, loss on disposal of field equipment and vehicles of $0.4 million and certain non recurring organizational and transaction costs of $0.3 million associated with the IPO and the Kingfisher facility.
Income Tax Expenses.
For the six months ended June 30, 2018, we recognized a combined U.S. federal and state provision for income taxes of $5.3 million.
As a pass-through entity, Solaris LLC was subject only to the Texas margin tax at a statutory rate of less than 1% of modified pre-tax earnings and was not subject to U.S. federal income tax. During the six months ended June 30, 2018, we recognized a provision for income taxes of $296,000, an increase of $251,000 as compared to $45,000 we recognized during the six months ended June 30, 2017. This increase was primarily attributable to an increase in operations between the applicable periods.
Net Income
Net income increased $29.0 million to $34.9 million for the six months ended June 30, 2018 compared to $5.8 million for the six months ended June 30, 2017, due to the changes in revenues and expenses discussed above.
Comparison of Non-GAAP Financial Measures
We view EBITDA and Adjusted EBITDA as important indicators of performance. We define EBITDA as net income (loss), plus (i) depreciation and amortization expense, (ii) interest expense and (iii) income tax expense, including franchise taxes. We define Adjusted EBITDA as EBITDA plus (i) stock-based compensation expense and (ii) certain non-cash charges and unusual or non-recurring charges.
We believe that our presentation of EBITDA and Adjusted EBITDA will provide useful information to investors in assessing our financial condition and results of operations. Net income is the GAAP measure most directly comparable to EBITDA and Adjusted EBITDA. EBITDA and Adjusted EBITDA should not be considered alternatives to net income presented in accordance with GAAP. Because EBITDA and Adjusted EBITDA may be defined differently by other companies in our industry, our definitions of EBITDA and Adjusted EBITDA may not be comparable to similarly titled measures of other companies, thereby diminishing their utility. The following table presents a reconciliation of Net income (loss) to EBITDA and Adjusted EBITDA for each of the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended
|
|
|
|
|
|
June 30,
|
|
|
|
|
|
2018
|
|
2017
|
|
Change
|
|
|
(in thousands)
|
Net income (loss)
|
|
$
|
34,863
|
|
$
|
5,844
|
|
$
|
29,019
|
Depreciation and amortization
|
|
|
7,186
|
|
|
2,534
|
|
|
4,652
|
Interest expense, net
|
|
|
155
|
|
|
44
|
|
|
111
|
Income taxes (1)
|
|
|
5,304
|
|
|
520
|
|
|
4,784
|
EBITDA
|
|
$
|
47,508
|
|
$
|
8,942
|
|
$
|
38,566
|
IPO bonuses (2)
|
|
|
896
|
|
|
3,523
|
|
|
(2,627)
|
Stock-based compensation expense (3)
|
|
|
1,861
|
|
|
373
|
|
|
1,488
|
Non-recurring cash bonuses (4)
|
|
|
1,679
|
|
|
—
|
|
|
1,679
|
Loss on disposal of assets
|
|
|
26
|
|
|
409
|
|
|
(383)
|
Non-recurring organizational costs (5)
|
|
|
—
|
|
|
348
|
|
|
(348)
|
Adjusted EBITDA
|
|
$
|
51,970
|
|
$
|
13,595
|
|
$
|
38,375
|
|
(1)
|
|
Income taxes for federal and state taxes.
|
|
(2)
|
|
One-time cash bonuses of $3.1 million in 2017 and stock-based compensation expense related to restricted stock awards with one-year vesting of $0.9 million and $0.4 million in the six months ended June 30, 2018 and 2017, respectively, that were granted to certain employees and consultants in connection with the Offering.
|
|
(3)
|
|
Represents stock-based compensation expense related to restricted stock awards with three-year vesting of $1.9 million and $0.2 million in the six months ended June 30, 2018 and 2017, respectively, and $0.2 million in 2017 related to the options issued under the Plan.
|
|
(4)
|
|
Certain performance-based cash awards paid in connection with the purchase of Railtronix upon the achievement of certain financial milestones.
|
|
(5)
|
|
Certain non-recurring organization and transaction costs in 2017 associated with our IPO and the Kingfisher Facility.
|
Six Months Ended June 30, 2018 Compared to Six Months Ended June 30, 2017: EBITDA and Adjusted EBITDA
EBITDA increased $38.6 million to $47.5 million for the six months ended June 30, 2018 compared to $8.9 million for the six months ended June 30, 2017. Adjusted EBITDA increased $38.4 million to $52.0 million for the six months ended June 30, 2018 compared to $13.6 million and for the six months ended June 30, 2017. EBITDA and Adjusted EBITDA increased 431% and 282%, respectively, for the six months ended June 30, 2018 compared to the six months ended June 30, 2017. The increases were primarily due to an increase in the number of revenue days and the number of
systems deployed to customers, as well as an increase in the rental rates charged to customers due to increasing demand for our systems.
Liquidity and Capital Resources
Overview
Our primary sources of liquidity to date have been capital contributions from our founding investors, cash flows from operations, borrowings under our credit agreements and proceeds from the IPO and the November Offering (as defined below). Our primary uses of capital have been capital expenditures to expand our proppant management fleet, construction of the Kingfisher Facility, the acquisition of our manufacturing facility and certain intellectual property and the acquisition of the assets of Railtronix. We strive to maintain financial flexibility and proactively monitor potential capital sources, including equity and debt financing, to meet our investment and target liquidity requirements and to permit us to manage the cyclicality associated with our industry.
During 2017 Solaris Inc. completed two public offerings, the IPO, in which Solaris Inc. sold 10,100,000 shares of its Class A common stock par value $0.01 per share, to the public, and a follow-on offering on November 14, 2017 of 7,000,000 shares of its Class A common stock, including 3,000,000 shares issued and sold by the Company and an aggregate of 4,000,000 shares sold by certain stockholders of the Company (the “November Offering”). On November 13, 2017 the underwriters for the November Offering exercised in full their option to purchase an aggregate of 1,050,000 additional shares of Class A common stock from the selling stockholders. After deducting underwriting discounts and commissions and offering expenses payable by Solaris Inc., Solaris Inc. received net proceeds of approximately $113.9 million and $44.5 million from the IPO and November Offering, respectively. Solaris Inc. contributed all of the net proceeds of the IPO and November Offering to Solaris LLC in exchange for Solaris LLC Units. Solaris LLC used the net proceeds from the IPO (i) to fully repay our existing balance of approximately $5.5 million under its credit facility, (ii) to pay $3.1 million in cash bonuses to certain employees and consultants and (iii) to distribute approximately $25.8 million to the Original Investors as partial consideration for the recapitalization of their membership interests in Solaris LLC in connection with the IPO. Solaris LLC has used a portion of the proceeds from the IPO and all of the proceeds from the November Offering for general corporate purposes, including funding our 2018 capital program.
We intend to finance most of our capital expenditures, contractual obligations and working capital needs with our current cash balance, cash generated from future operations and borrowings under our 2018 Credit Agreement (as defined in “—Debt Agreements”). We continuously evaluate our capital expenditures and the amount we ultimately spend will depend on a number of factors, including expected industry activity levels and company initiatives. We believe that our operating cash flow and available borrowings under our 2018 Credit Agreement will be sufficient to fund our operations for at least the next twelve months.
As of June 30, 2018, cash totaled $5.4 million.
Cash Flows
The following table summarizes our cash flows for the periods indicated:
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Six Months Ended
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June 30,
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Change
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2018
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2017
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2018 vs. 2017
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(in thousands)
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Net cash provided by operating activities
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$
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28,598
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$
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1,545
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$
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27,053
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Net cash used in investing activities
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(86,102)
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(21,510)
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(64,592)
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Net cash (used in) provided by financing activities
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(475)
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86,485
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(86,960)
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Net change in cash
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$
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(57,979)
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$
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66,520
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$
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(124,499)
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Analysis of Cash Flow Changes for Six Months Ended June 30, 2018 Compared to Six Months Ended June 30, 2017
Operating Activities.
Net cash provided by operating activities was $28.6 million for the six months ended June 30, 2018, compared to net cash provided by operating activities of $1.5 million for the six months ended June 30, 2017. The
increase of $27.1 million in operating cash flow was primarily attributable to an increase in net income of $29.0 million primarily due to an increase in operating activity, offset by an increase of $11.5 million in the change in accounts receivable between the two periods as a result of an increase in revenue.
Investing Activities
. Net cash used in investing activities was $86.1 million for the six months ended June 30, 2018, compared to $21.5 million for the six months ended June 30, 2017. The increase in investing activities of $64.6 million is primarily due to an increase in the manufacturing rate of new systems and construction of the Kingfisher Facility. For the six months ended June 30, 2018, $75.5 million of investing activities were capital expenditures related to manufacturing new systems, $12.5 million related to the construction of our Kingfisher Facility and $2.3 million related to the purchase of light duty vehicles to support the service of our systems. For the six months ended June 30, 2017, $20.1 million of investing activities were capital expenditures related to manufacturing new proppant systems and $1.2 million of investing activities were capital expenditures related to the purchase of light duty vehicles to support the service of our systems.
Financing Activities.
Net cash used in financing activities of $0.5 million for the six months ended June 30, 2018 was primarily related to $1.0 million in debt issuance costs in connection with the 2018 Credit Agreement (as defined in “—Debt Agreements”) and $0.4 million repayments under insurance premium financing, partially offset by $0.8 million proceeds received from the exercise of stock options. Net cash provided by financing activities of $86.5 million for the six months ended June 2017 was primarily related to $113.9 million in net proceeds received in the Offering and $4.2 million in proceeds received from the payment of promissory notes from employees, less $5.5 million used to fully repay borrowings under the Credit Facility, $3.1 million in cash bonuses to certain employees and consultants and $25.8 million of distributions to the Original Investors as part of the reorganization transaction undertaken in connection with the IPO.
Debt Agreements
Senior Secured Credit Facility
On January 19, 2018, we entered into a credit agreement (the “2018 Credit Agreement”) by and among the Company, as borrower, each of the lenders party thereto and Woodforest National Bank, as administrative agent (the “Administrative Agent”). The 2018 Credit Agreement replaced, in its entirety, the Company’s prior credit facility. The 2018 Credit Agreement consists of a $50.0 million advancing term loan (the “Advance Loan”) and a $20.0 million revolving loan, with a $10.0 million uncommitted accordion option to increase the total revolving loans (the “Revolving Loan”, and together with the Advance Loan, the “Loans”). No lender has any obligation to increase its own revolving credit commitment. The Advance Loan amortizes beginning in April 2019 and each of the Loans matures on January 19, 2022. Our obligations under the Loans are generally secured by a pledge of substantially all of the assets of the Company and its subsidiaries, and such obligations are guaranteed by our domestic subsidiaries other than Immaterial Subsidiaries (as defined in the 2018 Credit Agreement). We have the option to prepay the loans at any time without penalty.
The 2018 Credit Agreement permits extensions of credit under the Advance Loan through the end of April 2019 and under the Revolving Loan until January 19, 2022. Borrowings under the Revolving Loan are limited by both commitments and a borrowing base determined monthly by calculating percentages of the eligible accounts and the eligible inventory, provided that the portion of the borrowing base attributable to eligible inventory cannot exceed 35% of the entire borrowing base. Borrowings under the Advance Loan are not to exceed 80% of the then current net orderly liquidation value of the applicable equipment or facility build out or the applicable equipment constructed or acquired which is then subject to the liens securing the Loans. As of June 30, 2018, the Company had availability to borrow approximately $20.0 million under the Revolving Loan and $50.0 million under the Advance Loan.
Borrowings under the 2018 Credit Agreement bear interest at one-month LIBOR plus an applicable margin and interest is payable monthly. The applicable margin ranges from 3.00% to 3.50% depending on our senior leverage ratio. The 2018 Credit Agreement requires that we pay a monthly commitment fee on undrawn amounts of the Revolving Loan, ranging from 0.25% to 0.50% depending upon the average outstanding balance of the obligations relative to the Revolving Loan commitments.
The 2018 Credit Agreement requires that we maintain ratios of (a) indebtedness to consolidated EBITDA of not more than 3.50 to 1.00, which steps down to 3.25 to 1.00 beginning April 1, 2018 and 3.00 to 1.00 beginning October 1, 2018, and (b) senior indebtedness to consolidated EBITDA of not more than 2.50 to 1.00, which steps down to 2.25 to 1.00 beginning April 1, 2018 and 2.00 to 1.00 beginning October 1, 2018. For the purpose of these tests, there is subtracted from indebtedness and senior indebtedness, respectively, an amount equal to the lesser of $10.0 million or 50% of unrestricted cash and cash equivalents of the Company and its subsidiaries. EBITDA, as defined in the 2018 Credit Agreement, excludes noncash items and any extraordinary, unusual or non-recurring gains, losses or expenses.
The 2018 Credit Agreement also requires that we maintain a ratio of consolidated EBITDA to fixed charges of not less than 1.25 to 1.00. Capital Expenditures are permitted up to $225.0 million for the fiscal year ending December 31, 2018, and $75.0 million for fiscal year ending December 31, 2019 and each fiscal year thereafter. In addition, for fiscal years beginning on January 1, 2020, any unused availability for capital expenditures from the immediately preceding fiscal year may be carried forward to the subsequent year; provided, however that we are permitted to make any capital expenditures in an amount equal to the proceeds of equity contributions made to the Company used to fund such capital expenditures.
As of June 30, 2018, we were in compliance will all covenants in accordance with our 2018 Credit Agreement.
As of June 30, 2018, we had no borrowings under the 2018 Credit Agreement outstanding
Income Taxes
Solaris Inc. is a corporation and, as a result, is subject to U.S. federal, state and local income taxes. For the three and six months ended June 30, 2018, we recognized a combined U.S. federal and state provision for income taxes of $3.3 million and $5.3 million, respectively.
On December 22, 2017, the U.S. government enacted the Tax Act. The change in tax law required us to remeasure existing net deferred tax assets using the now lower U.S. federal corporate income tax rate in the period of enactment resulting in an income tax expense of approximately $22.6 million to reflect these changes in the year ended December 31, 2017. In conjunction with the Tax Act, the SEC staff issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (SAB 118), which allows us to record provisional amounts during a measurement period not to extend beyond one year of the enactment date. We have reported provisional amounts for the income tax effects of the Tax Act for which the accounting is incomplete but a reasonable estimate could be determined. As of June 30, 2018, we have not changed the provisional amounts recorded in 2017. Based on a continued analysis of the estimates, it is anticipated that additional revisions may occur during the allowable measurement period.
Solaris LLC is treated as a partnership for U.S. federal income tax purposes and therefore does not pay federal income tax on its taxable income. Instead, the Solaris LLC members are liable for federal income tax on their respective shares of the Company’s taxable income reported on the members’ federal income tax returns.
Our revenues are derived through transactions in several states, which may be subject to state and local taxes. Accordingly, we have recorded a liability for state and local taxes that management believes is adequate for activities as of June 30, 2018 and December 31, 2017.
We are subject to a franchise tax imposed by the State of Texas. The franchise tax rate is 1%, calculated on taxable margin. Taxable margin is defined as total revenue less deductions for cost of goods sold or compensation and benefits in which the total calculated taxable margin cannot exceed 70% of total revenue. Total expenses related to Texas franchise tax were approximately $175,000 and $23,000 for the three months ended June 30, 2018 and 2017, respectively. Total expenses related to Texas franchise tax were approximately $296,000 and $45,000 for the six months ended June 30, 2018 and 2017, respectively.
We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events included in the consolidated financial statements. Under this method, we determine deferred tax assets and liabilities on the basis of the differences between the book value and tax bases of assets and liabilities by using enacted tax rates in effect for the year in which the differences are
expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period in which the enactment date occurs.
We recognize deferred tax assets to the extent we believe these assets are more-likely-than-not to be realized. In making such a determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent results of operations.
We record uncertain tax positions on the basis of a two-step process in which (1) we determine whether it is more-likely-than-not the tax positions will be sustained on the basis of the technical merits of the position and (2) for those tax positions meeting the more-likely-than-not recognition threshold, we recognize the largest amount of tax benefit that is more than 50% likely to be realized upon ultimate settlement with the related tax authority. For the six months ended June 30, 2018, the Company has recorded an uncertain tax benefit for the treatment of certain costs incurred in connection with its initial and secondary public offerings in 2017.
Interest and penalties related to income taxes are included in the benefit (provision) for income taxes in our consolidated statement of operations. We have not incurred any significant interest or penalties related to income taxes in any of the periods presented.
See Note 10 to our condensed consolidated financial statements for additional information regarding income taxes.
Payables Related to the Tax Receivable Agreement
In connection with the IPO, Solaris Inc. entered into the Tax Receivable Agreement with the TRA Holders on May 17, 2017. This agreement generally provides for the payment by Solaris Inc. to each TRA Holder of 85% of the net cash savings, if any, in U.S. federal, state and local income tax or franchise tax that Solaris Inc. actually realizes (computed using simplifying assumptions to address the impact of state and local taxes) or is deemed to realize in certain circumstances in periods after the IPO as a result of (i) certain increases in tax basis that occur as a result of Solaris Inc.’s acquisition (or deemed acquisition for U.S. federal income tax purposes) of all or a portion of such TRA Holder's Solaris LLC Units in connection with the Reorganization Transactions or pursuant to the exercise of the Redemption Right or the Call Right (each as defined in Solaris LLC's Amended and Restated Limited Liability Company Agreement) and (ii) imputed interest deemed to be paid by Solaris Inc. as a result of, and additional tax basis arising from, any payments Solaris Inc. makes under the Tax Receivable Agreement. Solaris Inc. will retain the benefit of the remaining 15% of these cash savings.
See Note 10 to our condensed consolidated financial statements for additional information regarding income taxes.
Critical Accounting Policies and Estimates
The preparation of financial statements requires the use of judgments and estimates. Our critical accounting policies are described below to provide a better understanding of how we develop our assumptions and judgments about future events and related estimates and how they can impact our financial statements. A critical accounting estimate is one that requires our most difficult, subjective or complex estimates and assessments and is fundamental to our results of operations.
We base our estimates on historical experience and on various other assumptions we believe to be reasonable according to the current facts and circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We believe the following are the critical accounting policies used in the preparation of our combined financial statements, as well as the significant estimates and judgments affecting the application of these policies. This discussion and analysis should be read in conjunction with our condensed consolidated financial statements and related notes included in this report.
Revenue Recognition
The Company accounts for revenue in accordance with ASC Topic 606, Revenue from Contracts with Customers, which the Company adopted effective January 1, 2018. The Company applied ASC Topic 606 to all contracts with
customers and did not elect practical expedients upon adoption of the standard. No cumulative adjustment to accumulated earnings was required as a result of this adoption, and the adoption did not have a material impact on our consolidated financial statements as no material arrangements prior to the adoption were impacted under the new pronouncement.
In determining the appropriate amount of revenue to be recognized as we fulfill our obligations under the agreement, the following steps must be performed at contract inception: (i) identification of the promised goods or services in the contract; (ii) determination of whether the promised goods or services are performance obligations, including whether they are distinct in the context of the contract; (iii) measurement of the transaction price, including the constraint on variable consideration; (iv) allocation of the transaction price to the performance obligations; and (v) recognition of revenue when (or as) we satisfy each performance obligation.
Revenues from proppant management system rental consist primarily of fixed monthly fees charged to customers for the use of our patented mobile proppant management systems that unload, store and deliver proppant at oil and natural gas well sites as well as the use of our proprietary inventory management system, PropView, which enables our customers to track inventory levels in, and delivery rates from, each silo in a system on a remote and digital basis, which are considered to be our performance obligations. Contracts with customers are typically on thirty- to sixty-day payment terms. Revenues are recognized over time as the performance obligations are satisfied under the terms of the customer contract. We determined that the performance obligation is satisfied over time as the customer simultaneously receives and consumes the benefits provided by the entity’s performance of services, typically as our systems are used by the customer. We measure progress using an input method based on resources consumed or expended relative to the total resources expected to be consumed or expended. We typically charge our customers for the rental of our systems on a monthly basis under agreements requiring the rental of a minimum number of systems for a period of twelve months. The Company is entitled to short fall payments if such minimum contractual obligations are not maintained by our customers. Minimum contractual obligations have been maintained and thus the Company has not recognized revenues related to shortfalls on such take or pay contractual obligations to date.
Revenues from proppant management system services consist primarily of the fees charged to customers for services including transportation of our systems, field supervision and support and services coordinating proppant delivery to systems, which are considered to be our performance obligations. Contracts with customers are typically on thirty- to sixty-day payment terms. Revenues are recognized over time as the performance obligations are satisfied under the terms of the customer contract. We determined that the performance obligation is satisfied over time as the customer simultaneously receives and consumes the benefits provided by the entity’s performance of the services, typically based on fixed weekly or monthly contractual rates for field supervision and support and when the Company provides services coordinating proppant delivery. We measure progress using an input method based on resources consumed or expended relative to the total resources expected to be consumed or expended. When the Company provides mobilization and transportation of our systems on behalf of our customers, we determined that the performance obligation is satisfied at a point in time when the system has reached its intended destination.
Revenues from transloading services consist primarily of the fees charged to customers for transloading proppant at our transloading facility which commenced transloading operations in January 2018. We currently provide rail-to-truck transloading and we will provide high-efficiency sand silo storage and transloading services after completion of phase one construction at the facility which is expected to be completed by August 2018. Contracts with customers are typically on thirty- to sixty-day payment terms. Revenues are typically recognized over time as the customer simultaneously receives and consumes the benefits provided by the entity’s performance of the transloading service based on a throughput fee per ton rate for proppant delivered to and transloaded at the facility, which is considered to be our performance obligation. We measure progress based on the proppant delivered and transloaded at the facility. Under certain agreements quarterly minimum throughput volumes are required. The Company is entitled to short fall payments if such minimum contractual obligations are not maintained by our customers. The Company has not recognized revenues related to shortfalls on such take or pay contractual obligations to date.
Revenues from proppant inventory software services consist primarily of the fees charged to customers for the use of our Railtronix inventory management software acquired in December 2017. Revenues are recognized over time as the customer simultaneously receives and consumes the benefits provided by the entity’s performance based on a throughput
fee to monitor proppant that is loaded into a railcar, stored at a transload facility or loaded into a truck, which is considered to be our performance obligation.
Property, Plant and Equipment
Property, plant and equipment are stated at cost, or fair value for assets acquired, less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful service lives of the assets. Systems that are in the process of being manufactured and the cost of construction in process at our Kingfisher Facility are considered property, plant and equipment. However, the systems in process and construction do not depreciate until they are fully completed. Systems and construction in process are a culmination of material, labor and overhead.
The costs of ordinary repairs and maintenance are charged to expense as incurred, while significant enhancements, including upgrades or overhauls, are capitalized. These enhancements include upgrades to various components of the system and to equipment at our manufacturing facility that will either extend the life or improve the utility and efficiency of the systems, plant and equipment. These enhancements include:
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The PropView inventory management system enables our customers to track inventory levels in, and delivery rates from, each silo in a system. This upgrade improves our customers’ operational efficiencies and reduces operating and supply chain costs by allowing the customer to better manage proppant inventory levels both onsite and remotely. This upgrade is added to and depreciated over the remaining life of the system.
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Our patent pending non-pneumatic loading option provides additional proppant transportation flexibility for our customers, allowing them to use belly-dump trucks in addition to the industry standard pneumatic trucks to fill and maintain inventory in our proppant management systems. This patent pending non-pneumatic loading option is compatible with our existing fleet with minimal modification.
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Manufacturing plant improvements include upgrades to overhead cranes and the addition of new column bays and trunnions that improve the manufacturing flow, as well as improvements in the paint booths. These improvements increase productivity by reducing labor hours, while improving safety. These upgrades are depreciated over their useful lives (range of 2‑10 years).
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The determination of whether an expenditure should be capitalized or expensed requires management judgment in the application of how the costs benefit future periods, relative to our capitalization policy. Costs that increase the value or materially extend the life of the asset are capitalized and depreciated over the remaining useful life of the asset. When property and equipment are sold or retired, the cost and related accumulated depreciation are removed from the accounts and any gain or loss is reflected in the consolidated statements of operations.
Allocation of Purchase Price in Business Combinations
As part of our business strategy, we regularly pursue acquisition and business development opportunities. The purchase price in an acquisition is allocated to the assets acquired and liabilities assumed based on their fair values as of the closing date, which may occur many months after the announcement date. The excess of the purchase price over the amount allocated to the assets and liabilities, if any, is recorded as goodwill. We use all available information to estimate fair values including quoted market prices, the carrying value of acquired assets, and widely accepted valuation techniques such as discounted cash flows. Our most significant estimates in our allocation typically relate to the value assigned to property, plant and equipment, intangible assets and goodwill. The judgments made in determining the estimated fair value assigned to each class of assets acquired and liabilities assumed, as well as asset lives, could materially impact our results of operations.
Impairment of Long-Lived and Other Intangible Assets
Long-lived assets, which include property, plant and equipment and identified intangible assets, comprise a significant amount of our total assets. We make judgments and estimates in conjunction with the carrying value of these assets, including amounts to be capitalized, depreciation and amortization methods, estimated useful lives and impairment.
The carrying values of these assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. An impairment loss is recorded in the period in which it is determined that the carrying amount is not recoverable based on estimated future undiscounted cash flows. We estimate the fair value of these intangible and fixed assets using an income approach. This requires us to make long-term forecasts of its future revenues and costs related to the assets subject to review. These forecasts require assumptions about demand for the Company’s products and services, future market conditions and technological developments. The financial and credit market volatility directly impacts our fair value measurement through our income forecast. Although we have made our best estimates of these factors based on current conditions, it is reasonably possible that changes could occur in the near term, including, but not limited to: sustained declines in worldwide rig counts below current analysts’ forecasts, collapse of spot and futures prices for oil and gas, significant deterioration of external financing for our customers, higher risk premiums or higher cost of equity, or any other significant adverse economic news, which could adversely affect our estimates requiring a provision for impairment.
There was no impairment for the three and six months ended June 30, 2018 and 2017.
Goodwill
Goodwill represents the excess of the purchase price of acquisitions, or fair value of contributed assets, over the fair value of the net assets acquired and consists of synergies in combining operations and other intangible assets which do not qualify for separate recognition. We evaluate goodwill for impairment annually, as of October 31, or more often as facts and circumstances warrant. The recoverability of the carrying value is assessed based on expected future profitability and undiscounted future cash flows of the acquisitions and their contribution to our overall operations. These types of analyses contain uncertainties because they require us to make judgments and assumptions regarding future profitability, industry factors, planned strategic initiatives, discount rates and other factors. Events or circumstances which could indicate a potential impairment include (but are not limited to) a significant sustained reduction in worldwide oil and gas prices or drilling; a significant sustained reduction in profitability or cash flow of oil and gas companies or drilling contractors; a sustained reduction in the market capitalization of the Company; a significant sustained reduction in capital investment by drilling companies and oil and gas companies; or a significant sustained increase in worldwide inventories of oil or gas. There was no impairment for the three and six months ended June 30, 2018 and 2017.
Stock-Based Awards
We follow the fair value recognition provisions in accordance with GAAP. Under the fair value recognition provisions, stock-based compensation cost is measured at the grant date based on the fair value of the award and is amortized to compensation expense on a straight-line basis over the awards’ vesting period, which is generally the requisite service period. We have historically and consistently calculated fair value using the Black-Scholes option-pricing model. This valuation approach involves significant judgments and estimates, including estimates regarding our future operations, price variation and the appropriate risk-free rate of return. Our estimates of these variables are made for the purpose of using the valuation model to determine an expense for each reporting period and are not subsequently adjusted. We recognize expense related to the estimated vesting of our performance share units granted.
Recent Accounting Pronouncements
See Note 2, “Summary of Significant Accounting Policies —Recent Accounting Pronouncements” to our condensed consolidated financial statements as of June 30, 2018, for a discussion of recent accounting pronouncements.
Under the JOBS Act, we meet the definition of an “emerging growth company,” which allows us to have an extended transition period for complying with new or revised accounting standards pursuant to Section 107(b) of the JOBS Act, however we elected to opt out of such exemption (this election is irrevocable).
Off Balance Sheet Arrangements
We have no material off balance sheet arrangements, except for operating leases. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such financing arrangements.