UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10 - QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED AUGUST 31, 2001
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
Commission File Number 1-13270
FLOTEK INDUSTRIES INC.
(Exact name of registrant as specified in its charter)
Alberta 77-0709256
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation) Number)
7030 Empire Central Drive 77040
(Address of Principal Executive (Zip Code)
Offices)
Registrant's telephone number, including area code: (713) 849-9911
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15 (d) of the
Securities and Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days:
Yes [_] No [x]
As of August 31, 2001, the number of shares of common stock
outstanding was 73,720,842.
Transitional Small Business Disclosure Format (check one):
Yes [_] No [x]
Part I - Financial Information
FLOTEK INDUSTRIES INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
August 31, February 28,
ASSETS 2001 2001
---------- ----------
(unaudited)
CURRENT ASSETS:
Cash and cash equivalents $ 57,292 $ 51,442
Accounts receivable, less allowance for doubtful
accounts of $15,000 1,030,281 563,010
Inventory 999,404 1,079,665
---------- ----------
Total current assets 2,086,977 1,694,117
PROPERTY AND EQUIPMENT, NET 214,531 233,881
OTHER ASSETS 517,903 535,642
---------- ----------
$2,819,411 $2,463,640
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Notes payable to Bank $ 109,409 $ 175,966
Other notes payable 90,000 31,000
Current portion of long-term debt 11,000 57,270
Accounts payable and accrued liabilities 603,137 632,157
Due to related party 140,839 190,839
---------- ----------
Total current liabilities 954,385 1,087,232
ACCRUED DIVIDENDS 294,216 203,136
LONG-TERM DEBT 177,502 149,828
SHAREHOLDERS' EQUITY:
Common stock - no par value; 100,000,000 shares
authorized; 73,720,842 and 53,555,655 issued
and outstanding at August 31, 2001 and
February 28, 2001, respectively 19,279,495 18,674,290
Convertible preferred stock - no par value; 2,089.072
shares issued and outstanding at August 31, 2001
(2,365.77 shares at February 28, 2001); liquidation
value of $2,383,288 at August 31, 2001 2,089,072 2,365,770
Additional paid-in capital 160,879 160,879
Accumulated deficit (19,841,397) (19,886,792)
Accumulated other comprehensive loss (294,741) (290,703)
---------- ----------
1,393,308 1,023,444
---------- ----------
$2,819,411 $2,463,640
========== ==========
The accompanying notes are an integral part of these statements and should be
read in conjunction herewith.
2
FLOTEK INDUSTRIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Six Months
Ended August 31, Ended August 31,
2001 2000 2001 2000
------------ ------------ ------------ ------------
Sales $ 1,162,954 $ 826,654 $ 2,056,899 $ 1,483,088
Costs and expenses:
Cost of goods sold 464,411 395,563 866,158 692,200
Selling 199,514 175,542 411,144 352,296
General and administrative 314,891 168,358 489,873 323,412
Depreciation and amortization 21,339 18,349 42,684 38,150
Research and development 27,920 9,514 52,244 17,254
------------ ------------ ------------ ------------
1,028,075 767,326 1,862,103 1,423,312
------------ ------------ ------------ ------------
Income from operations 134,879 59,328 194,796 59,776
Other income (expense), net:
Interest (15,669) (4,996) (33,872) (63,558)
Other -- (2,740) -- 46,564
------------ ------------ ------------ ------------
(15,669) (7,736) (33,872) (16,994)
Net income $ 119,210 $ 51,592 $ 160,924 $ 42,782
============ ============ ============ ============
Basic and diluted net
income per common
share (See note 3) $ .001 $ .000 $ .001 $ .000
Weighted average number
of shares outstanding 68,814,376 50,243,295 67,689,187 50,243,295
The accompanying notes are an integral part of these financial statements and
should be read in conjunction herewith.
3
FLOTEK INDUSTRIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months
Ended August 31,
2001 2000
---------- ----------
(unaudited) (unaudited)
Cash flows from operating activities:
Net income $ 160,924 $ 42,782
Adjustments to reconcile net income to cash
used in operating activities:
Depreciation and amortization 42,684 38,150
Change in operating assets and liabilities:
Accounts receivable (467,271) (268,095)
Inventory 80,261 (46,057)
Accounts payable and accrued liabilities (29,020) (288,940)
---------- ----------
(212,422) (522,160)
Cash flows from investing activities:
Capital expenditures (12,117) (18,945)
Proceeds from dispositions of property and equipment 6,522 --
---------- ----------
Net cash used in investing activities (5,595) (18,945)
Cash flows from financing activities:
Proceeds from exercise of common stock warrants 304,058 --
Proceeds from long-term debt and notes payable 210,000 495,000
Repayments of long-term debt and notes payable (236,153) (66,640)
Repayments of debt to related parties (50,000) --
Other -- (2,934)
---------- ----------
Net cash provided by financing activities 227,905 425,426
Effect of exchange rates on cash (4,038) 29,664
---------- ----------
Net increase (decrease) in cash 5,850 (86,015)
Cash and cash equivalents - beginning of period 51,442 128,184
---------- ----------
Cash and cash equivalents - end of period $ 57,292 $ 42,169
========== ==========
Supplementary information:
Non-cash investing and financing activities:
Patent acquired for common stock -- $ 175,000
Preferred stock exchanged for indebtedness -- $2,365,770
Preferred stock and accrued dividends
converted to common stock $ 301,147 --
Accrued dividends $ 115,529 $ 59,144
The accompanying notes are an integral part of these financial statements and
should be read in conjunction herewith.
4
FLOTEK INDUSTRIES INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - General
----------------
The unaudited consolidated condensed financial statements included herein have
been prepared by Flotek Industries Inc. (the "Company") pursuant to the rules
and regulations of the Securities and Exchange Commission. These financial
statements reflect all adjustments which the Company considers necessary for the
fair presentation of such financial statements for the interim periods
presented. Although the Company believes that the disclosures in these financial
statements are adequate to make the interim information presented not
misleading, certain information relating to the Company's organization and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles has been condensed or
omitted in this Form 10-QSB pursuant to such rules and regulations. These
financial statements should be read in conjunction with the audited consolidated
financial statements and notes thereto included in the Company's Annual Report
on Form 10-KSB for the year ended February 28, 2001. The results of operations
for interim periods are not necessarily indicative of the results expected for
the full year.
Note 2 - Comprehensive Income
-----------------------------
In September 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, Reporting Comprehensive Income ("SFAS
No. 130"). SFAS No. 130 establishes standards for reporting and presentation of
comprehensive income and its components. Comprehensive income is defined as the
change in equity of a business enterprise during a period from transactions and
other events and circumstances from non-owner sources and includes all changes
in equity during a period except those resulting from investments by owners and
distributions to owners.
Six Months Ended
August 31,
2001 2000
-------- --------
Comprehensive income:
Net income $160,924 42,782
Cumulative foreign currency
translation adjustment (4,038) 29,664
-------- --------
Total comprehensive income $156,886 $ 72,446
======== ========
5
Note 3 - Net Income Per Common Share
------------------------------------
Net income per common share has been computed as follows:
Three Months Six Months
Ended August 31, Ended August 31,
----------------------- -----------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
Net income $ 119,210 $ 51,592 $ 160,924 $ 42,782
Accrued preferred stock dividends (58,128) (59,144) (115,529) (59,144)
---------- ---------- ---------- ----------
Income (loss) to common shareholders $ 61,082 $ (7,552) 45,395 $ (16,362)
========== ========== ========== ==========
Weighted average shares outstanding 68,814,376 50,243,295 67,689,187 50,243,295
Basic and diluted net income (loss)
per common share $.001 $.000 $.001 $.000
Both the assumed conversion of preferred stock and assumed exercise of stock
options or warrants to purchase common shares would be antidilutive or
immaterial to net income or loss per common share.
Note 4 - Common Stock Options
-----------------------------
On April 11, 2001 the Board granted 1,000,000 fully vested options to one member
of the Board of Directors and 250,000 fully vested options to each of the
remaining four Directors. In addition, options to purchase 5,000,000 shares of
common stock were granted to the Chief Executive Officer (3,000,000 options to
vest immediately and the balance to be vested in three equal six-month
installments over the succeeding eighteen months). All options were issued at
the market price on the grant date and expire five-years from the date of grant.
Note 5 - New Accounting Pronouncements
--------------------------------------
In June 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No.
142, Goodwill and Other Intangible Assets. SFAS No. 141 requires business
combinations initiated after June 30, 2001 to be accounted for using the
purchase method of accounting, and broadens the criteria for recording
specifically identifiable intangible assets separate from goodwill. Previously
recorded goodwill and intangible assets will be evaluated using these new
criteria and may result in certain intangible assets being transferred to
goodwill, or alternatively, amounts initially recorded as goodwill may be
separately identified and recognized apart from goodwill. Under SFAS No. 142,
goodwill and certain intangibles with indefinite lives will not be amortized
into results of operations, but instead will be reviewed periodically for
impairment and written down and charged to results of operations in the periods
in which the recorded value of goodwill and certain intangibles with indefinite
lives exceed fair value. The provisions of each statement which apply to
goodwill and intangible assets acquired prior to June 30, 2001 will be adopted
by the Company effective January 1, 2002. We have not determined the potential
effect of the adoption of SFAS No. 141 and SFAS No. 142 on our consolidated
financial statements.
6
Note 6 - Pending Merger Transaction and Subsequent Events
---------------------------------------------------------
The Company has entered into an Agreement and Plan of Reorganization
("Agreement") with Chemical & Equipment Specialties, Inc. ("CESI"), dated August
15, 2001, pursuant to which shares of the common stock of the Company will be
issued to the shareholders of CESI in connection with the merger of CESI with a
newly formed subsidiary of the Company (the "Merger").
CESI, headquartered in Duncan, Okla., is a proprietary chemical development and
blending, equipment manufacturing, and engineering, design and construction
company marketing products and services to the oil field service industry
worldwide. The chemical company develops and blends state-of-the-art chemicals
for cementing and stimulation; the equipment company manufactures specialized
equipment, such as nitrogen pumpers, fracturing pumpers and blenders, and cement
mixing units for pumping treatments into wells. The engineering company designs
and constructs bulk material handling and loading facilities for the major oil
service companies. For the year ended December 31, 2000, CESI had consolidated
pro-forma revenues of approximately $10 million.
The Agreement requires that, prior to the closing of the Merger, (i) at least
1,903 shares of the Preferred Stock of the Company be converted into shares of
the Common Stock of the Company at a conversion price of $.027 (rather than
$.03, the price provided for in the terms of the preferred stock), and (ii) at
least 63,419,738 of the outstanding warrants to acquire common stock of the
Company be either (a) exercised, or (b) replaced with new warrants ("New
Warrants"). The New Warrants will provide for (1) an exercise price of $.12 per
share (rather than the current $.03), (2) a revised expiration date five years
from the date of replacement, and (3) an option on the part of the Company to
accelerate the expiration date of the New Warrants in the event that the trading
price of the common stock of the Company exceeds 150% of the warrant exercise
price for a specified period to time. In addition, the Agreement requires that
at least 59,896,419 of the outstanding warrants must be exercised for cash.
As of October 4, 2001, (i) warrants to purchase 62,174,555 shares of the common
stock of the Company, on a cumulative basis since May 31, 2001, have been
exercised for cash, which resulted in total cash proceeds to the Company of
$1,865,236, (ii) warrants to purchase at least 63,419,738 shares of common stock
of the Company have either been exercised for cash or replaced with New
Warrants, and (iii) all of the outstanding shares of Preferred Stock of the
Company are subject to agreements pursuant to which such shares will be
converted into shares of the common stock of the Company at an exercise price of
US $.027 per share, effective with, and contingent upon, the closing of the
Merger. Thus, the conditions in the Agreement concerning the exercise or
replacement of the warrants of the Company and the conversion of the Preferred
Stock have been satisfied.
7
Pursuant to the Agreement, the number of shares of common stock issuable to the
CESI shareholders in the Merger will result in the CESI shareholders as a group
owning a minimum of 61.5% of the fully-diluted shares of the combined company
(excluding stock options). The final number of shares issuable to the CESI
shareholders is subject to certain adjustments at closing which could result in
the CESI shareholders owning as much as 61.8% of the combined company. The
shareholders of Flotek Industries Inc. as a group immediately prior to the
Merger, after taking into account the shares issued from the exercise of
warrants and the conversion of Preferred Stock discussed above, will own between
38.2% and 38.5% of the combined company upon closing of the Merger.
The closing of the Merger is subject to certain other material conditions set
forth in the Agreement. The Company currently expects that these conditions will
be satisfied and the Merger will close on or about October 31, 2001.
For accounting purposes, the Merger will be treated under the purchase method of
accounting as an acquisition of Flotek Industries Inc. by CESI, since the CESI
shareholders will receive a majority of the shares of the combined company. This
will result in the combined company reporting the historical results of CESI and
incorporating the results of Flotek Industries Inc. only for periods subsequent
to closing of the Merger. Upon consummation of the Merger, the combined company
intends to adopt the fiscal year of CESI, which is based on a calendar year
ending December 31.
8
ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This Form 10-QSB includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended and Section 21E of the
Securities Exchange Act of 1934, as amended. The words "anticipate," "believe,"
"expect," "plan," "intend," "project," "forecast," "could" and similar
expressions are intended to identify forward-looking statements. All statements
other than statements of historical facts included in this Form 10-QSB regarding
the Company's financial position, business strategy, budgets and plans and
objectives of management for future operations are forward-looking statements.
Although the Company believes that the expectations reflected in such
forward-looking statements are reasonable, no assurance can be given that actual
results may not differ materially from those in the forward-looking statements
herein for reasons including the effect of competition, the level of petroleum
industry exploration and production expenditures, world economic conditions,
prices of, and the demand for crude oil and natural gas, drilling activity,
weather, the legislative environment in the United States and other countries,
adverse changes in the capital and equity markets, and other risk factors
identified herein. In addition to the general risk factors listed above, the
Company also faces certain business risks specific to its product mix, size and
position in the industry. The following risk factors, among others, may cause
the Company's operating results and/or financial position to be adversely
affected:
o The Company's ability to successfully compete against companies with
substantially greater financial and operational resources.
o The Company's ability to control its level of operating expenses and
sustain its recent return to profitability, while also achieving its
growth targets.
o The Company's ability to adapt to periodic adverse industry conditions
and reduced activity levels and conserve its financial resources
in those circumstances.
o The Company's ability to accurately forecast customer demand and insure
adequate inventory levels to fill customer orders without maintaining
excess inventory levels.
The following discussion and analysis of financial condition and results of
operations should be read in conjunction with the Company's Consolidated
Financial Statements and the related notes thereto.
9
Business
--------
Flotek Industries Inc. (hereafter the "Company" or "Flotek") was originally
incorporated under the laws of the Province of British Columbia on May 17, 1985.
Effective September 7, 1995, the Company transferred its corporate status by
continuing under the laws of the Province of Alberta. Flotek is headquartered in
Houston, Texas and its common shares are listed and traded in the United States
on the OTC Bulletin Board market under the symbol FOTDF.
The Company's product lines are divided into two separate segments in the
industry: drilling products and production equipment. The production equipment
division develops, manufactures and markets the Petrovalve + Plus Pump Valve
series which includes the Petrovalve Gas Breaker, the Standing Valve for use
with electric downhole pumps and the Petrovalve Injector Valve, for use in oil
wells with downhole sucker-rod pumps. The drilling products division
manufactures and distributes casing centralizers, which are vaned cementing
sleeves and integral joint stand off tools that improve mud and cementation
displacement in drilled oil wells.
The Company operates primarily in the U.S. Gulf Coast region, Canada, and Latin
America and has recently expanded its marketing efforts in Southeast Asia and
the Middle East.
Production Equipment
--------------------
The Company's competition in the production equipment market is comprised of rod
pump manufactures and pump maintenance and service shops using the industry
standard API ball and seat product as well as other proprietary valve products.
Competitors range from Weatherford, Smith International and Harbison Fisher to
small individually owned pump shops scattered throughout the various oil
producing regions. Competition is high and expected to remain that way into the
future.
The Company presently uses a variety of material, machining and coating vendors
to manufacture product components to our specifications. Petrovalve assembles
and tests the valve components in its Houston, Texas and Edmonton, Canada
facility. There is substantial competition among these vendors, which has
resulted in low prices and prompt deliveries. There are many vendor choices
available to Petrovalve and vendor competition is expected to remain high
insuring adequate supplies and good prices into the foreseeable future.
The Company has focused on the development of its proprietary and patented
technologies: the Petrovalve +Plus Pump Valve and the Petrovalve Gas Breaker
Valve. Both patented products are valves used in down-hole sucker-rod pumps. The
Petrovalve Gas Breaker Valve provides a solution to gas lock problems. Both
Valves offer producers operating advantages by performing more efficiently and
lasting longer than the traditional ball and seat valves. We have now expanded
the use of the valve as a standing valve for other types of artificial lift
applications in the oil industry, such as the Hydraulic Pump, Electro
Submersible Pump (ESP) Gas Lift and Plunger Lift.
10
Drilling Products
-----------------
Flotek's drilling products division manufactures, distributes and services
several products that enhance oil and gas well cementing programs and the safety
and effectiveness of the drilling process. Its primary products include the
Cementing Turbulator, which the Company began distributing in March of 1994,
when it acquired Turbeco Inc. The Turbulator is a steel sleeve, which is placed
over pipe before the process of cementing pipe or casing in the well bore. This
pipe or casing is commonly cemented in the open hole section of a recently
drilled oil well. The main purpose of this tool is to assure the pipe is
properly centered in the well bore and to improve displacement to obtain the
best cement bond. The Company was one of the first companies to distribute
spiral vaned cementing turbulators. The Turbulator has gained widespread
acceptance through its ability to improve oil and gas well cementing programs
and is effective in deep, directional and horizontal well applications. New
products that have been successfully introduced are the Integral Pup
Centralizer, the Eccentric Turbulator (jointly patented with Marathon Oil), and
the Turbolock Centralizer. Recently we completed design and testing of the
proprietary Pressure-Actuated Casing ("T-PAC") centralizer. This
pressure-actuated tool is designed to accommodate "slim-hole" deviated well
completion programs. The T-PAC centralizer is an integral part of the casing and
does not activate until it is its final position in the drilled well, thus
reducing drag during insertion of the casing in the well bore. It can also be
used in smaller hole diameters which would prevent the use of traditional fixed
centralizers. Once in place, the vanes are pressure-activated to expand and
centralize the casing to maximize the integrity of the cementing process. Patent
applications are pending and marketing efforts are currently in progress.
The Company's Drilling Products customers are made up of North American oil
producers, including major oil companies that are involved in exploration and
the drilling and cementing of oil wells. The Company's active customer base is
well distributed between major oil companies and smaller independent operators.
The Company's marketing area is focused in the Gulf of Mexico region. The
Company's primary competitors with respect to its drilling products include both
large diversified oilfield service companies as well as smaller independent
competitors.
Product Demand
--------------
The demand for our Drilling Products and associated services is related to the
level, type, depth and complexity of oil and gas drilling. The most widely
accepted measure of activity is the Baker Hughes Rig Count, and in the case of
our drilling products and services, the most relevant indicator is the rig count
in North America. During the fourth quarter of 1997, the North American rig
count averaged 1,448 active rigs, at that time its highest level since 1990.
However a decline began shortly thereafter which continued through the second
quarter of 1999, when it fell by 57% to 628, the lowest level recorded in the
previous 50 years. Since that time, the rig count in our principal market began
to increase and has continued to increase into 2001. During our fiscal second
quarter ended August 31, 2001, the North American rig count averaged 1,582
active rigs, however, the rig count slipped approximately 5% in September and
the Company noticed a softening in demand for its products in September 2001.
Technical advances such as 3-D seismic data and computer-enhanced interpretation
of that data and other technological advances have reduced the risk of drilling
deeper wells, which has resulted in an increase in deep-water offshore
exploration. Deeper and higher-pressure wells, particularly in environmentally
sensitive areas, demand the highest level of cement bond integrity. Our
Turbulator product line is designed to meet that demand. The demand for cement
bond integrity in highly-deviated and slim-hole well bores should serve to
stimulate interest in new designs such as the T-PAC centralizer.
Our Production Equipment division is less affected by fluctuations in the rig
count, as these products are used in producing oil wells. However, spending
levels in the industry typically fluctuate with the price of oil and gas, so
this product line can also be adversely affected by lower price levels for oil
and gas.
Patents
-------
The Company has followed a policy of seeking patent protection both within and
outside the United States for products and methods that appear to have
commercial significance and qualify for patent protection. The Company believes
that its patents and trademarks, together with its trade secrets and proprietary
design, manufacturing and operational expertise, are reasonably adequate to
protect its intellectual property and provide for the continued operation of its
business. However, there can be no assurance that the Company's competitors will
not attempt to circumvent these patent protections or develop new technologies
which compete with the Company's products.
International Operations
------------------------
The Company's operations are subject to the risks inherent in doing business in
multiple countries with various legal and political policies. These risks
include war, boycotts, political changes, and fluctuations in currency exchange
rates. Although it is impossible to predict the probability of such occurrences
or their effect on the Company, management believes that these risks are
outweighed by the commercial opportunities of developing sales markets outside
the United States. Even though the majority of the Company's operations are
currently located in the United States, there can be no assurance that the
occurrence of any of these risks to our international operations would not have
a material adverse effect on its operations.
11
Operating Risks and Insurance
-----------------------------
The Company's products are used for the exploration and production of oil and
natural gas. Such operations are subject to hazards inherent in the oil and gas
industry, such as fires, explosions, blowouts and oil spills, which can cause
personal injury or loss of life, damage to or destruction of property,
equipment, the environment and marine life, and suspension of operations.
Litigation arising from an occurrence at a location where the Company's products
or services are used or provided could in the future result in the Company being
named as a defendant in lawsuits asserting potentially significant claims. The
Company maintains insurance coverage that it believes to be reasonable and
customary in the industry against these hazards. To date, the Company does not
have any significant legal actions pending or to its knowledge, threatened
against it, nor have there been any significant losses of this nature in the
past. However, there can be no assurance that such a claim might not be asserted
against the Company in the future and in that event, the consequences of such a
claim could be material to the operating results or financial position of the
Company.
12
RESULTS OF OPERATIONS
Three months ended Six months ended
August 31, August 31,
2001 2000 2001 2000
---------- ---------- ---------- ----------
Drilling products $ 423,674 $ 628,912 $ 958,587 $1,045,988
Production equipment 739,280 197,742 1,098,312 437,100
---------- ---------- ---------- ----------
$1,162,954 $ 826,654 $2,056,899 $1,483,088
========== ========== ========== ==========
Consolidated revenues were up 41% and 39% for the three-month and six-month
periods ended August 31, 2001 as compared to the same periods in 2000. Revenues
from the production equipment segment increased by 273% and 151% for the three
and six-month periods ended August 31, 2001 as compared to the same periods in
2000, reflecting increased acceptance of our production valve products and the
effects of increasing international sales.
Costs and Expenses
------------------
Consolidated gross margins increased from 53% for the six months ending August
31, 2000 to 58% in 2001, and also increased from 52% for the three months ending
August 31, 2000 to 60% for 2001, reflecting the greater proportion of revenues
in the production equipment segment, which has a higher gross margin percentage
than the drilling products segment.
Selling expenses, which consist primarily of the salaries, wages, benefits and
associated direct costs of the Company's salesmen, were reduced from 21% and 24%
of sales for the three-month and six-month periods ending August 31, 2000 to 17%
and 20% for the comparable periods in 2001. This decrease was primarily
attributable to more effective utilization of the workforce and increased sales.
The company also increased in-house sales which have a lower selling cost.
General and administrative expense increased by approximately $147,000 and
$166,000 for the three and six-month periods ended August 31, 2001 as compared
to the same periods in 2000 reflecting approximately $75,000 of legal and
professional fees incurred in the second fiscal quarter of 2001 relating to a
proposed acquisition and additional personnel costs beginning May 1, 2001.
Research and development cost increased by $18,406 and $34,990 for the three and
six-months periods ending August 31, 2001 compared to the same periods in fiscal
2000, reflecting the continued development efforts of our T-PAC
Pressure-Activated Casing Centralizer. This product has met our design and test
requirements and is now being actively marketed to the industry.
Interest expense for the six months ending August 31, 2001 was approximately
$30,000 less than comparable period in 2000, as a result of the exchange of $2.2
million of indebtedness into convertible preferred stock effective May 1, 2000.
13
Included in other income for the six months ending August 31, 2000 were amounts
totaling approximately $49,000 representing negotiated reductions in accounts
payable and accrued liabilities in exchange for cash payments.
Certain reclassifications of prior year balances have been made to conform such
amounts to corresponding 2001 classifications. These reclassifications had no
impact on net loss or shareholders' equity.
Capital Resources and Liquidity
-------------------------------
The Company has financed its operations to date from stock offerings, borrowings
and internally generated funds. The principal use of its cash has been to fund
the working capital needs of the Company.
Substantially all of the Company's customers are engaged in the energy industry.
This concentration of customers may impact the Company's overall exposure to
credit risk, either positively or negatively, as our customers may be similarly
affected by changes in economic and industry conditions. The Company performs
ongoing credit evaluations of its customers and does not generally require
collateral in support of its trade receivables. The Company maintains reserves
for potential credit losses, and actual losses have historically been within the
Company's expectations.
The Company's cash and cash equivalents increased to $57,292 at August 31, 2001
from $51,442 at February 28, 2001. Overall cash flows used in operating
activities decreased from $522,160 for the six months ending August 31, 2000 to
$212,422 for the six months ending August 31, 2001. Accounts receivable
increased from $563,010 at February 28, 2001 to $1,030,281 at August 31, 2001,
reflecting the higher level of sales in 2001.
The Company expects to fund liquidity needs from a combination of available cash
balances, internally generated funds and future financing activities.
Repayments of debt during the six months ending August 31, 2001 were $286,153.
At August 31, 2001 the Company had working capital of $1,132,592 and cash and
cash equivalents of $57,292 compared to working capital of $606,885 and cash and
cash equivalents of $51,442 at February 28, 2001. The overall increase in
working capital is primarily attributable to the proceeds from the exercise of
warrants to acquire common stock and improved operating results.
Prior to 2001, the Company incurred substantial operating losses and had used
substantial amounts of working capital in its operations. In view of these
matters, realization of a major portion of the assets in the accompanying
balance sheets is dependent upon continued operations of the Company, which in
turn is dependent upon the Company's ability to meet its financing requirements,
and the success and profitability of its future operations. Management believes
that actions taken over the last two years to address the Company's operating
and financial requirements provide reasonable assurance that the Company will
continue as a going concern. Management has taken the following steps to improve
its operating performance and reduce its financial requirements, which it
believes are sufficient to provide the Company with adequate working capital.
14
During the fiscal quarter ended May 31, 2000, in exchange for the cancellation
of principal indebtedness of $2,200,000 in secured promissory notes plus accrued
interest of $165,770, the Company issued (i) 2,365.77 shares of Series A
Convertible Preferred Stock (no par) and (ii) warrants to purchase an aggregate
of 78,859,012 shares of the Common Stock of the Company at $.03 per share. This
transaction resulted in the exchange and cancellation of certain warrants and
conversion rights previously issued by the Company. The preferred stock accrues
cumulative dividends at 10% per annum compounding quarterly. No cash dividend
payments have been declared.
Flotek has an arrangement with a bank to factor domestic accounts receivable.
The advancement of funds requires an assignment of first security interests in
factored receivables. Advances of $109,409 were outstanding at August 31, 2001.
Management continues to add complementary product lines to expand and diversify
the Company's product mix. Such new product lines can be sold through the
Company's existing sales structure. Management also continues to actively seek
potential acquisition or merger candidates to either decrease the costs of
manufacturing products, such as the Trinity Tool Acquisition, or add new
products and customers to diversify the Company's market.
As more fully discussed in Note 6 to the Consolidated Financial Statements, the
Company has entered into an agreement dated August 15, 2001 to merge with
Chemical & Equipment Specialties, Inc. in exchange for the issuance of common
stock totaling between 61.5% and 61.8% of the fully diluted shares of the
combined company, excluding stock options. The transaction is contingent on the
performance of several material conditions, the most significant of which have
been satisfied as of October 4, 2001. As of that date, the Company had received,
on a cumulative basis since May 31, 2001, total cash proceeds of $1,865,236 from
the exercise of warrants to purchase common stock. These cash proceeds greatly
improve the capital resources of the Company. The closing of the transaction
remains subject to certain other material conditions set forth in the agreement.
The Company currently expects that these conditions will be satisfied and the
merger will close on or about October 31, 2001.
15
PART II - OTHER INFORMATION
Item 6 - Exhibits and Reports on Form 8-K
-----------------------------------------
(a) Exhibits
None.
(b) Reports on Form 8-K
During the fiscal quarter ended August 31, 2001, the Company filed no reports on
Form 8-K.
SIGNATURE
---------
In accordance with the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FLOTEK INDUSTRIES INC.
(Registrant)
Date: October 15, 2001 /s/ Jerry D. Dumas, Sr.
----------------------------
Jerry D. Dumas, Sr.
President, Chairman and Chief
Executive Officer