Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2024
or
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 001-33666
Archrock, Inc.
(Exact name of registrant as specified in its charter)
Delaware
74-3204509
(State or other jurisdiction of incorporation or organization)
or organization)
(I.R.S. Employer Identification No.)
9807 Katy Freeway, Suite 100, Houston, Texas 77024
(Address of principal executive offices, zip code)
(281) 836-8000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol
Name of exchange on which registered
Common stock, $0.01 par value per share
AROC
New York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
☒
Accelerated filer
☐
Non-accelerated filer
Smaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
Number of shares of the common stock of the registrant outstanding as of July 24, 2024: 168,939,131 shares.
TABLE OF CONTENTS
Page
Glossary
3
Forward-Looking Statements
4
Part I. Financial Information
Item 1. Financial Statements (unaudited)
5
Condensed Consolidated Balance Sheets
Condensed Consolidated Statements of Operations
6
Condensed Consolidated Statements of Equity
7
Condensed Consolidated Statements of Cash Flows
9
Notes to Unaudited Condensed Consolidated Financial Statements
10
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
25
Item 3. Quantitative and Qualitative Disclosures About Market Risk
33
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
35
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
37
Item 3. Defaults Upon Senior Securities
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
38
Signatures
39
2
GLOSSARY
The following terms and abbreviations appearing in the text of this report have the meanings indicated below.
2013 Plan
2013 Stock Incentive Plan
2020 Plan
2020 Stock Incentive Plan
2023 Form 10-K
Annual Report on Form 10-K for the year ended December 31, 2023
2027 Notes
$500.0 million of 6.875% senior notes due April 2027, issued in March 2019
2028 Notes
$800.0 million of 6.25% senior notes due April 2028, $500.0 million of which was issued in December 2019, $300.0 million of which was issued in December 2020
Amended and Restated Credit Agreement
Amended and Restated Credit Agreement, dated May 16, 2023, which amended and restated that Credit Agreement, dated as of March 30, 2017, which governs the Credit Facility
Archrock, our, we, us
Archrock, Inc., individually and together with its wholly-owned subsidiaries
Archrock ELT
Archrock ELT LLC, an indirect, wholly owned subsidiary of Archrock
ASU
Accounting Standards Update
Credit Facility
$750.0 million asset-based revolving credit facility due May 2028, as governed by the Amended and Restated Credit Agreement, dated May 16, 2023, which amended and restated that Credit Agreement, dated as of March 30, 2017
ECOTEC
Ecotec International Holdings, LLC
ESPP
Employee Stock Purchase Plan
Exchange Act
Securities Exchange Act of 1934, as amended
FASB
Financial Accounting Standards Board
Financial Statements
Condensed consolidated financial statements included in Part I Item 1 of this Quarterly Report on Form 10-Q
GAAP
U.S. generally accepted accounting principles
GHG
Greenhouse gases (carbon dioxide, methane and water vapor for example)
Hilcorp
Hilcorp Energy Company
Ionada
Ionada PLC
LIBOR
London Interbank Offered Rate
OTC
Over-the-counter, as related to aftermarket services parts and components
SEC
U.S. Securities and Exchange Commission
SG&A
Selling, general and administrative
Share Repurchase Program
Share repurchase program approved by our Board of Directors on April 27, 2023 that allowed us to repurchase up to $50.0 million of outstanding common stock for a period of twelve months, which prior to its expiration was extended on April 25, 2024 for an additional 24-month period and a replenishment of the authorized share repurchase amount to $50.0 million
TOPS
Total Operations and Production Services, LLC, a portfolio company managed by certain affiliates of Apollo Global Management, Inc.
TOPS Acquisition
Transaction announced on July 22, 2024 pursuant to the asset purchase agreement entered into on July 22, 2024 whereby Archrock will acquire all of the issued and outstanding equity interests in TOPS
SOFR
Secured Overnight Financing Rate
U.S.
United States of America
WACC
Weighted average cost of capital
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q (this “Form 10-Q”) contains “forward-looking statements” intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact contained in this Form 10-Q are forward-looking statements within the meaning of the Exchange Act, including, without limitation, our business growth strategy and projected costs; future financial position; the sufficiency of available cash flows to fund continuing operations and pay dividends; the expected amount of our capital expenditures; anticipated cost savings; future revenue, adjusted gross margin and other financial or operational measures related to our business; the future value of our equipment; and plans and objectives of our management for our future operations. You can identify many of these statements by words such as “believe,” “expect,” “intend,” “project,” “anticipate,” “estimate,” “will continue” or similar words or the negative thereof.
Such forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those anticipated as of the date of this Form 10-Q. Although we believe that the expectations reflected in these forward-looking statements are based on reasonable assumptions, no assurance can be given that these expectations will prove to be correct. Known material factors that could cause our actual results to differ materially from the expectations reflected in these forward-looking statements include the risk factors described in our 2023 Form 10-K and those set forth from time to time in our filings with the SEC, which are available through our website at www.archrock.com and through the SEC’s website at www.sec.gov. These risk factors include, but are not limited to, inability to consummate the TOPS Acquisition; inability to achieve the expected benefits of the TOPS Acquisition and difficulties in integrating TOPS; risks of the acquisitions, including the TOPS Acquisition, to reduce our ability to make distributions to our common stockholders; risks related to pandemics and other public health crises; an increase in inflation; ongoing international conflicts and tensions; risks related to our operations; competitive pressures; inability to make acquisitions on economically acceptable terms; uncertainty to pay dividends in the future; risks related to a substantial amount of debt and our debt agreements; inability to access the capital and credit markets or borrow on affordable terms to obtain additional capital; inability to fund purchases of additional compression equipment; vulnerability to interest rate increases; uncertainty relating to the phasing out of LIBOR; erosion of the financial condition of our customers; risks related to the loss of our most significant customers; uncertainty of the renewals for our contract operations service agreements; risks related to losing management or operational personnel; dependence on particular suppliers and vulnerability to product shortages and price increases; information technology and cybersecurity risks; tax-related risks; legal and regulatory risks, including climate-related and environmental, social and governance risks.
All forward-looking statements included in this Form 10-Q are based on information available to us on the date of this Form 10-Q. Except as required by law, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements contained throughout this Form 10-Q.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
(in thousands, except par value and share amounts)
(unaudited)
June 30, 2024
December 31, 2023
Assets
Current assets:
Cash and cash equivalents
$
919
1,338
Accounts receivable, net of allowance of $556 and $587, respectively
115,351
124,069
Inventory
79,233
81,761
Other current assets
8,671
5,989
Total current assets
204,174
213,157
Property, plant and equipment, net
2,372,069
2,301,982
Operating lease right-of-use assets
14,481
14,097
Intangible assets, net
27,293
30,182
Contract costs, net
35,674
37,739
Deferred tax assets
2,445
3,192
Other assets
46,643
47,733
Non-current assets of discontinued operations
7,868
Total assets
2,710,647
2,655,950
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable, trade
43,976
61,026
Accrued liabilities
83,555
85,381
Deferred revenue
5,661
5,736
Total current liabilities
133,192
152,143
Long-term debt
1,608,956
1,584,869
Operating lease liabilities
12,391
12,271
Deferred tax liabilities
27,310
4,921
Other liabilities
26,434
22,857
Non-current liabilities of discontinued operations
Total liabilities
1,816,151
1,784,929
Commitments and contingencies (Note 7)
Equity:
Preferred stock: $0.01 par value per share, 50,000,000 shares authorized, zero issued
—
Common stock: $0.01 par value per share, 250,000,000 shares authorized, 165,793,798 and 164,984,401 shares issued, respectively
1,658
1,650
Additional paid-in capital
3,478,597
3,470,576
Accumulated deficit
(2,476,793)
(2,499,931)
Treasury stock: 9,493,262 and 9,020,454 common shares, at cost, respectively
(108,966)
(101,274)
Total equity
894,496
871,021
Total liabilities and equity
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
(in thousands, except per share amounts)
Three Months Ended
Six Months Ended
June 30,
2024
2023
Revenue:
Contract operations
225,468
201,120
448,519
388,865
Aftermarket services
45,058
46,423
90,495
88,512
Total revenue
270,526
247,543
539,014
477,377
Cost of sales, exclusive of depreciation and amortization
79,278
76,033
157,021
155,515
35,158
35,343
70,158
69,251
Total cost of sales, exclusive of depreciation and amortization
114,436
111,376
227,179
224,766
31,163
28,649
62,828
55,074
Depreciation and amortization
43,853
41,210
86,688
81,391
Long-lived and other asset impairment
4,401
2,892
6,969
5,461
Restructuring charges
(85)
962
Interest expense
27,859
28,630
55,193
55,211
Transaction-related costs
1,782
Gain on sale of assets, net
(576)
(1,176)
(2,957)
(4,781)
Other expense, net
128
1,463
267
2,066
Income before income taxes
47,480
34,584
101,065
57,227
Provision for income taxes
13,055
9,931
26,108
16,089
Net income
34,425
24,653
74,957
41,138
Basic and diluted earnings per common share
0.22
0.16
0.48
0.26
Weighted average common shares outstanding:
Basic
154,496
154,358
154,342
154,234
Diluted
154,785
154,412
154,648
154,326
(in thousands, except shares and per share amounts)
Additional
Common Stock
Paid-in
Accumulated
Treasury Stock
Amount
Shares
Capital
Deficit
Total
Balance at March 31, 2023
1,649
164,903,900
3,460,259
(2,516,500)
(92,358)
(8,207,390)
853,050
Shares repurchased
(2,073)
(222,250)
Shares withheld related to net settlement of equity awards
(2)
(201)
Cash dividends ($0.150 per common share)
(23,504)
Shares issued under ESPP
21,749
212
Stock-based compensation, net of forfeitures
14,600
3,197
(10,832)
Balance at June 30, 2023
164,940,249
3,463,668
(2,515,351)
(94,433)
(8,440,673)
855,533
Balance at March 31, 2024
1,657
165,775,863
3,474,777
(2,485,399)
(108,955)
(9,489,406)
882,080
(11)
(597)
Cash dividends ($0.165 per common share)
(25,819)
17,317
308
1
618
3,512
(3,259)
3,513
Net proceeds from issuance of common stock
Balance at June 30, 2024
165,793,798
(9,493,262)
Balance at December 31, 2022
1,634
163,439,013
3,456,777
(2,509,133)
(88,585)
(7,810,548)
860,693
(3,775)
(383,967)
Cash dividends ($0.300 per common share)
(47,356)
42,000
381
382
14
1,459,236
6,510
(23,908)
6,524
Balance at December 31, 2023
164,984,401
(9,020,454)
(1,230)
(82,972)
(6,462)
(386,577)
Cash dividends ($0.330 per common share)
(51,819)
35,117
552
8
774,280
7,469
7,477
(in thousands)
Cash flows from operating activities:
Adjustments to reconcile net income to net cash provided by operating activities:
Unrealized change in fair value of investment in unconsolidated affiliate
1,996
Inventory write-downs
517
359
Amortization of operating lease right-of-use assets
1,827
Amortization of deferred financing costs
2,323
3,468
Amortization of debt premium
(1,003)
Amortization of capitalized implementation costs
1,562
1,202
Stock-based compensation expense
Provision for (benefit from) credit losses
(140)
Deferred income tax provision
24,900
15,417
Amortization of contract costs
11,725
10,250
Deferred revenue recognized in earnings
(5,606)
(8,754)
Changes in operating assets and liabilities:
Accounts receivable, net
8,836
(5,462)
2,073
(6,642)
(4,004)
(2,109)
Contract costs
(9,660)
(12,398)
Accounts payable and other liabilities
(4,661)
(16,102)
6,315
7,106
Other
70
(172)
Net cash provided by operating activities
208,353
118,398
Cash flows from investing activities:
Capital expenditures
(191,026)
(187,476)
Proceeds from sale of property, equipment and other assets
17,550
38,093
Proceeds from insurance and other settlements
45
437
Investments in unconsolidated entities
(57)
(2,000)
Net cash used in investing activities
(173,488)
(150,946)
Cash flows from financing activities:
Borrowings of long-term debt
485,825
417,825
Repayments of long-term debt
(462,150)
(327,300)
Payments of debt issuance costs
(5,528)
Dividends paid to stockholders
Repurchases of common stock
Taxes paid related to net share settlement of equity awards
Proceeds from stock issued under ESPP
Net cash provided by (used in) financing activities
(35,284)
32,175
Net decrease in cash and cash equivalents
(419)
(373)
Cash and cash equivalents, beginning of period
1,566
Cash and cash equivalents, end of period
1,193
Notes to Condensed Consolidated Financial Statements
1. Description of Business and Basis of Presentation
We are an energy infrastructure company with a primary focus on midstream natural gas compression. We are a premier provider of natural gas compression services, in terms of total compression fleet horsepower, to customers in the energy industry throughout the U.S., and a leading supplier of aftermarket services to customers that own compression equipment in the U.S. We operate in two business segments: contract operations and aftermarket services. Our predominant segment, contract operations, primarily includes designing, sourcing, owning, installing, operating, servicing, repairing and maintaining our owned fleet of natural gas compression equipment to provide natural gas compression services to our customers. In our aftermarket services business, we sell parts and components and provide operations, maintenance, overhaul and reconfiguration services to customers who own compression equipment.
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and do not include all information and disclosures required by GAAP. Therefore, this information should be read in conjunction with our consolidated financial statements and notes contained in our 2023 Form 10-K. The information furnished herein reflects all adjustments that are, in the opinion of management, of a normal recurring nature and considered necessary for a fair statement of the results of the interim periods reported. All intercompany balances and transactions have been eliminated in consolidation. Operating results for the six months ended June 30, 2024 are not necessarily indicative of the results that may be expected for the year ending December 31, 2024.
2. Recent Accounting Developments
Accounting Standards Updates Not Yet Implemented
Income Tax Disclosures
In December 2023, the FASB issued ASU 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures, which will require significant additional disclosures, primarily focused on the disclosure of income taxes paid and the rate reconciliation table. ASU 2023-09 is effective for fiscal years beginning after December 15, 2024 and interim periods within fiscal years beginning after December 15, 2025, and should be applied on a prospective basis, with a retrospective option. Early adoption is permitted. We are evaluating the impact that the adoption of ASU 2023-09 will have on our consolidated financial statements and related disclosures.
Segment Reporting
In November 2023, the FASB issued ASU 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures, which will require disclosures of significant expenses for each reportable segment, as well as certain other disclosures to help investors understand how the chief operating decision maker evaluates segment expenses and operating results. ASU 2023-07 will also allow disclosure of multiple measures of segment profitability if those measures are used to allocate resources and assess performance. ASU 2023-07 is effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024, and should be applied on a retrospective basis, unless impracticable. Early adoption is permitted. We are evaluating the impact that the adoption of ASU 2023-07 will have on our segment disclosures. We expect that the adoption of ASU 2023-07 will not have a material impact on our consolidated financial statements.
Notes to Condensed Consolidated Financial Statements (continued)
Business Combinations – Joint Venture Formations
In August 2023, the FASB issued ASU 2023-05, to reduce diversity in practice and provide decision-useful information to a joint venture’s investors by requiring that a joint venture apply a new basis of accounting upon formation. By applying a new basis of accounting, a joint venture will recognize and initially measure its assets and liabilities at fair value, with exceptions to fair value measurement that are consistent with the business combinations guidance, on the date of formation. ASU 2023-05 is effective prospectively for all joint venture formations with a formation date on or after January 1, 2025. Additionally, a joint venture that was formed before January 1, 2025, may elect to apply the amendments retrospectively if it has sufficient information to do so. Early adoption is permitted in any interim or annual period in which financial statements have not been issued or been made available for issuance, either prospectively or retrospectively. We expect that the adoption of ASU 2023-05 will have no impact on our consolidated financial statements.
3. Inventory
Inventory was comprised of the following as of June 30, 2024 and December 31, 2023:
December 31,
Parts and supplies
66,932
70,759
Work in progress
12,301
11,002
4. Property, Plant and Equipment, Net
Property, plant and equipment, net was comprised of the following as of June 30, 2024 and December 31, 2023:
Compression equipment, facilities and other fleet assets
3,431,348
3,326,919
Land and buildings
31,570
30,169
Transportation and shop equipment
101,887
100,474
Computer hardware and software
77,711
77,532
6,079
5,678
Property, plant and equipment
3,648,595
3,540,772
Accumulated depreciation
(1,276,526)
(1,238,790)
5. Investments in Unconsolidated Affiliates
Investments in which we are deemed to exert significant influence, but not control, are accounted for using the equity method of accounting, except in cases where the fair value option is elected. For such investments where we have elected the fair value option, the election is irrevocable and is applied on an investment-by-investment basis at initial recognition.
In April 2022, we agreed to acquire for cash a 25% equity interest in ECOTEC, a company specializing in methane emissions detection, monitoring and management. We have elected the fair value option to account for this investment, and during the three and six months ended June 30, 2023, we recognized unrealized losses of $1.7 million and $2.0 million, respectively, related to the change in fair value of our investment (see Note 14 (“Fair Value Measurements”)). Changes in the fair value of this investment are recognized in other expense, net in our condensed consolidated statements of operations. As of June 30, 2024, our ownership interest in ECOTEC was 25%, which is included in other assets in our condensed consolidated balance sheets.
11
For ownership interests that are not accounted for under the equity method and that do not have readily determinable fair values, we have elected the fair value measurement alternative to record these investments at cost minus impairment, if any, including adjustments for observable price changes in orderly transactions for an identical or similar investment of the same issuer. Investments in equity securities measured using the fair value measurement alternative are reviewed for impairment or observable price changes in orderly transactions each reporting period.
In November 2023, we agreed to serve as the lead investor in a series A preferred financing round for Ionada, a global carbon capture technology company committed to reducing GHG emissions and creating a sustainable future. Ionada has developed a post-combustion carbon capture solution to reduce carbon dioxide emissions from various small to mid-sized industrial emitters in the energy, marine and e-fuels industries, among others. We have elected the fair value measurement alternative to account for this investment (see Note 14 (“Fair Value Measurements”)). Adjustments to the carrying value are recognized in other expense, net in our condensed consolidated statements of operations. As of June 30, 2024, the carrying value of our investment in Ionada was $4.3 million which includes our initial investment of $3.8 million; and our fully diluted ownership interest in Ionada was 10%, which is included in other assets in our condensed consolidated balance sheets. Subject to certain conditions, our ownership interest will increase to 24% over the next two years.
6. Long-Term Debt
Long-term debt was comprised of the following as of June 30, 2024, and December 31, 2023:
310,700
287,025
6.25% senior notes due April 2028:
Principal outstanding
800,000
Unamortized debt premium
7,521
8,524
Unamortized debt issuance costs
(6,231)
(7,081)
801,290
801,443
6.875% senior notes due April 2027:
500,000
(3,034)
(3,599)
496,966
496,401
As of June 30, 2024, there were $4.1 million letters of credit outstanding under the Credit Facility and the applicable margin on borrowings outstanding was 2.1%. The weighted average annual interest rate on the outstanding balance under the Credit Facility was 7.6% and 7.7% at June 30, 2024 and December 31, 2023, respectively. We incurred $0.4 million of commitment fees on the daily unused amount of the Credit Facility during each of the three months ended June 30, 2024 and 2023, and $0.9 million during each of the six months ended June 30, 2024 and 2023.
As of June 30, 2024, we were in compliance with all covenants under our Amended and Restated Credit Agreement. Additionally, all undrawn capacity on our Credit Facility was available for borrowings as of June 30, 2024.
12
On May 16, 2023, we amended and restated our Credit Facility to, among other things:
During the second quarter of 2023, we incurred $6.0 million in transaction costs related to the Amended and Restated Credit Agreement, which were included in other assets in our condensed consolidated balance sheets and are being amortized over the remaining term of the Credit Facility. In addition, during the second quarter of 2023, we wrote off $1.0 million of unamortized deferred financing costs as a result of the Amended and Restated Credit Agreement, which was recorded to interest expense in our condensed consolidated statements of operations during the three and six months ended June 30, 2023.
7. Commitments and Contingencies
Insurance Matters
Our business can be hazardous, involving unforeseen circumstances such as uncontrollable flows of natural gas or well fluids and fires or explosions. As is customary in our industry, we review our safety equipment and procedures and carry insurance against some, but not all, risks of our business. Our insurance coverage includes property damage, general liability and commercial automobile liability and other coverage we believe is appropriate. We believe that our insurance coverage is customary for the industry and adequate for our business, however, losses and liabilities not covered by insurance would increase our costs.
Additionally, we are substantially self-insured for workers’ compensation and employee group health claims in view of the relatively high per-incident deductibles we absorb under our insurance arrangements for these risks. Losses up to the deductible amounts are estimated and accrued based upon known facts, historical trends and industry averages. We are also self-insured for property damage to our offshore assets.
Tax Matters
We are subject to a number of state and local taxes that are not income-based. As many of these taxes are subject to audit by the taxing authorities, it is possible that an audit could result in additional taxes due. We accrue for such additional taxes when we determine that it is probable that we have incurred a liability and we can reasonably estimate the amount of the liability. As of June 30, 2024 and December 31, 2023, we had $4.3 million and $3.9 million, respectively, accrued for the outcomes of non-income-based tax audits. We do not expect that the ultimate resolutions of these audits will result in a material variance from the amounts accrued. We do not accrue for unasserted claims for tax audits unless we believe the assertion of a claim is probable, it is probable that it will be determined that the claim is owed and we can reasonably estimate the claim or range of the claim. We believe the likelihood is remote that the impact of potential unasserted claims from non-income-based tax audits could be material to our consolidated financial position, but it is possible that the resolution of future audits could be material to our consolidated results of operations or cash flows.
During the years ended December 31, 2022, and 2021, certain of our sales and use tax audits advanced from the audit review phase to the contested hearing phase. As of each of June 30, 2024 and December 31, 2023, we accrued $0.6 million for these audits.
13
Litigation and Claims
In the ordinary course of business, we are involved in various pending or threatened legal actions. While we are unable to predict the ultimate outcome of these actions, we believe that any ultimate liability arising from any of these actions will not have a material adverse effect on our consolidated financial position, results of operations or cash flows, including our ability to pay dividends. However, because of the inherent uncertainty of litigation and arbitration proceedings, we cannot provide assurance that the resolution of any particular claim or proceeding to which we are a party will not have a material adverse effect on our consolidated financial position, results of operations or cash flows, including our ability to pay dividends.
8. Stockholders’ Equity
Share Repurchases
On April 27, 2023, our Board of Directors authorized a share repurchase program that allowed us to repurchase up to $50.0 million of outstanding common stock. Under the Share Repurchase Program, shares of our common stock may be repurchased periodically, including in the open market, privately negotiated transactions, or otherwise in accordance with applicable federal securities laws, at any time. On April 25, 2024, our Board of Directors approved an extension of the Share Repurchase Program upon expiry of the current authorization on April 27, 2024, for an additional 24-month period. Through June 30, 2024, the Company had repurchased 833,346 common shares at an average price of $12.11 per share for an aggregate of $10.1 million. In connection with the extension, the Board of Directors replenished the amount of shares authorized for repurchase under the Share Repurchase Program, resulting in available capacity of $50.0 million. The actual timing, manner, number, and value of shares repurchased under the program will be determined by us at our discretion.
Shares Withheld to Cover
The 2020 Plan and 2013 Plan allow us to withhold shares upon vesting of restricted stock at the then-current market price to cover taxes required to be withheld on the vesting date.
The following table summarizes shares repurchased:
(dollars in thousands, except per share amounts)
Total Number of Shares Repurchased
Average Price per Share
Total Cost of Shares Repurchased
Shares repurchased under the Share Repurchase Program
82,972
14.83
1,230
597
17.72
386,577
16.72
6,462
469,549
16.38
7,692
June 30, 2023
222,250
9.33
201
9.36
383,967
9.83
3,775
222,451
2,075
606,217
9.65
5,848
Cash Dividends
The following table summarizes our dividends declared and paid in each of the quarterly periods of 2024 and 2023:
Dividends per
Common Share
Dividends Paid
Q2
0.165
25,819
Q1
26,000
Q4
0.155
24,190
Q3
24,250
0.150
23,504
23,852
On July 25, 2024, our Board of Directors declared a quarterly dividend of $0.165 per share of common stock to be paid on August 13, 2024 to stockholders of record at the close of business on August 6, 2024.
15
9. Revenue from Contracts with Customers
The following table presents our revenue from contracts with customers by segment and disaggregated by revenue source:
Contract operations:
0 ― 1,000 horsepower per unit
45,334
43,176
90,661
83,130
1,001 ― 1,500 horsepower per unit
94,687
88,008
190,357
169,814
Over 1,500 horsepower per unit
85,290
69,672
167,155
135,386
Other (1)
157
264
346
535
Total contract operations revenue (2)
Aftermarket services:
Services
25,675
24,567
51,113
45,816
OTC parts and components sales
19,383
21,856
39,382
42,696
Total aftermarket services revenue (3)
See Note 16 (“Segment Information”) for further information on segments.
Performance Obligations
As of June 30, 2024, we had $631.8 million of remaining performance obligations related to our contract operations segment, which will be recognized through 2029 as follows:
2025
2026
2027
2028
2029
Remaining performance obligations
218,909
244,411
131,685
25,523
10,017
1,226
631,771
We do not disclose the aggregate transaction price for the remaining performance obligations for aftermarket services as there are no contracts with customers with an original contract term that is greater than one year.
Contract Assets and Liabilities
Contract Assets
As June 30, 2024 and December 31, 2023, our receivables from contracts with customers, net of allowance for credit losses, were $108.3 million and $119.7 million, respectively.
16
Allowance for Credit Losses
Our allowance for credit losses balance changed as follows during the six months ended June 30, 2024:
Balance at beginning of period
587
Provision for credit losses
Write-offs charged against allowance
(36)
Balance at end of period
556
Contract Liabilities
Freight billings to customers for the transport of compression assets, customer-specified modifications of compression assets and milestone billings on aftermarket services often result in a contract liability. As of June 30, 2024 and December 31, 2023, our contract liabilities were $7.7 million and $7.0 million, respectively.
During the six months ended June 30, 2024, we deferred revenue of $6.3 million and recognized $5.6 million as revenue. The revenue recognized during the period primarily related to freight billings and milestone billings on aftermarket services.
10. Long-Lived and Other Asset Impairment
We review long-lived assets, including property, plant and equipment and identifiable intangibles that are being amortized, for impairment whenever events or changes in circumstances, including the removal of compressors from our active fleet, indicate that the carrying amount of an asset may not be recoverable.
Compression Fleet
We periodically review the future deployment of our idle compression assets for units that are not of the type, configuration, condition, make or model that are cost efficient to maintain and operate. Based on these reviews, we determine that certain idle compressors should be retired from the active fleet. The retirement of these units from the active fleet triggers a review of these assets for impairment and as a result of our review, we may record an asset impairment to reduce the book value of each unit to its estimated fair value. The fair value of each unit is estimated based on the expected net sale proceeds compared to other fleet units we recently sold, a review of other units recently offered for sale by third parties or the estimated component value of the equipment we plan to use.
In connection with our review of our idle compression assets, we evaluate for impairment idle units that were culled from our fleet in prior years and are available for sale. Based on that review, we may reduce the expected proceeds from disposition and record additional impairment to reduce the book value of each unit to its estimated fair value.
The following table presents the results of our compression fleet impairment review as recorded in our contract operations segment:
(dollars in thousands)
Idle compressors retired from the active fleet
40
65
Horsepower of idle compressors retired from the active fleet
32,000
9,000
46,000
23,000
Impairment recorded on idle compressors retired from the active fleet
See Note 14 (“Fair Value Measurements”) for further details on fair value accounting.
17
11. Restructuring Charges
During the first quarter of 2023, a plan to further streamline our organization and more fully align our teams to improve our customer service and profitability was approved by management. While we did not incur restructuring charges during the six months ended June 30, 2024, we expect to incur additional restructuring charges of $0.1 million related to these restructuring activities.
The following table presents restructuring charges incurred by segment:
Contract
Aftermarket
Operations
Other(1)
Three months ended June 30, 2023
Organizational restructuring
(101)
Total restructuring charges
Six months ended June 30, 2023
101
861
The following table presents restructuring charges incurred by cost type:
Organizational Restructuring
Severance costs
705
Consulting costs
257
Total restructuring costs
12. Income Taxes
Valuation Allowance
The amount of our deferred tax assets considered realizable could be adjusted if projections of future taxable income are reduced or objective negative evidence in the form of a three-year cumulative loss is present or both. Should we no longer have a level of sustained profitability, excluding nonrecurring charges, we will have to rely more on our future projections of taxable income to determine if we have an adequate source of taxable income for the realization of our deferred tax assets, namely net operating loss, interest expense limitation and tax credit carryforwards. This may result in the need to record a valuation allowance against all or a portion of our deferred tax assets.
Effective Tax Rate
The year-to-date effective tax rate for the six months ended June 30, 2024 differed significantly from our statutory rate primarily due to state taxes, unrecognized tax benefits and the limitation on executive compensation offset by the benefit from equity-settled long term incentive compensation.
18
Unrecognized Tax Benefits
As of June 30, 2024, we believe it is reasonably possible that $3.4 million of our unrecognized tax benefits, including penalties, interest and discontinued operations, will be reduced prior to June 30, 2025 due to the settlement of audits or the expiration of statutes of limitations or both. However, due to the uncertain and complex application of the tax regulations, it is possible that the ultimate resolution of these matters may result in liabilities that could materially differ from this estimate.
13. Earnings Per Common Share
Basic earnings per common share is computed using the two-class method, which is an earnings allocation formula that determines earnings per share for each class of common stock and participating security according to dividends declared and participation rights in undistributed earnings. Under the two-class method, basic earnings per common share is determined by dividing net income, after deducting amounts allocated to participating securities, by the weighted average number of common shares outstanding for the period. Participating securities include unvested restricted stock and stock-settled restricted stock units that have nonforfeitable rights to receive dividends or dividend equivalents, whether paid or unpaid. During periods of net loss, only distributed earnings (dividends) are allocated to participating securities, as participating securities do not have a contractual obligation to participate in our undistributed losses.
Diluted earnings per common share is computed using the weighted average number of common shares outstanding adjusted for the incremental common stock equivalents attributed to outstanding performance-based restricted stock units and stock to be issued pursuant to our ESPP unless their effect would have been anti-dilutive.
The following table shows the calculation of net income attributable to common stockholders, which is used in the calculation of basic and diluted earnings per common share, potential shares of common stock that were included in computing diluted earnings per common share and the potential shares of common stock issuable that were excluded from computing diluted earnings per common share as their inclusion would have been anti-dilutive:
Less: Allocation of earnings to participating securities
(435)
(354)
(1,180)
(1,072)
Net income attributable to common stockholders
33,990
24,299
73,777
40,066
Less: Allocation of earnings to cash or share settled restricted stock units
(138)
(223)
Diluted net income attributable to common stockholders
33,852
73,554
Weighted average common shares outstanding used in basic earnings per common share
Effect of dilutive securities:
Performance-based restricted stock units
287
54
301
89
ESPP shares
Weighted average common shares outstanding used in diluted earnings per common share
19
14. Fair Value Measurements
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Investment in ECOTEC
As of June 30, 2024, we owned a 25% equity interest in ECOTEC (see Note 5 (“Investments in Unconsolidated Affiliates”)). We have elected the fair value option to account for this investment. As of June 30, 2024, the fair value of our investment in ECOTEC was $14.9 million and is classified as Level 3.
The fair value determination of this investment primarily consisted of unobservable inputs, which creates uncertainty in the measurement of fair value as of the reporting date. The significant unobservable inputs used in the fair value measurement, which was valued through an average of an income approach (discounted cash flow method) and a market approach (guideline public company method), are the WACC and the revenue multiples. Significant increases (decreases) in these inputs in isolation would result in a significantly higher (lower) fair value measurement.
Additional quantitative information related to the significant unobservable inputs are as follows:
Significant
Unobservable
Inputs
Range
Median
Valuation technique:
Discounted cash flow
0.4% - 20.0%
13.5%
0.0% - 17.4%
10.0%
Guideline public company
Revenue multiple
1.5x - 7.2x
3.8x
1.6x - 10.0x
4.0x
The reconciliation of changes in the fair value of our investment in ECOTEC is as follows:
14,905
14,549
12,803
Purchases of equity interests
2,000
Unrealized loss (1)
(1,742)
(1,996)
12,807
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Investment in Ionada
As of June 30, 2024, we had a fully diluted ownership equity interest in Ionada of 10% (see Note 5 (“Investments in Unconsolidated Affiliates”)). We have elected the fair value measurement alternative to account for this investment. As of June 30, 2024, the carrying value of our investment in Ionada was $4.3 million, which includes our initial investment of $3.8 million and cumulative transaction costs of $0.5 million. There have been no upward adjustments, impairments or downward adjustments to the carrying value of the investment. Subject to certain contractual conditions, we will invest, on the same terms and conditions as the initial investment, $1.2 million on November 1, 2024, $1.3 million on November 1, 2025, and $4.8 million prior to July 1, 2026, for a fully diluted ownership interest of 12%, 15% and 24%, respectively.
20
Compressors
During the six months ended June 30, 2024, we recorded nonrecurring fair value measurements related to our idle compressors. Our estimate of the compressors’ fair value was primarily based on the expected net sale proceeds compared with other fleet units we recently sold and/or a review of other units recently offered for sale by third parties, or the estimated component value of the equipment we plan to use. We discounted the expected proceeds, net of selling and other carrying costs, using a weighted average disposal period of four years. These fair value measurements are classified as Level 3. The fair value of our compressors impaired as of June 30, 2024 and December 31, 2023 was as follows:
Impaired compressors
594
1,423
The significant unobservable inputs used to develop the above fair value measurements were weighted by the relative fair value of the compressors being measured. Additional quantitative information related to our significant unobservable inputs follows:
Weighted Average (1)
Estimated net sale proceeds:
As of June 30, 2024
$0 - $211 per horsepower
$51 per horsepower
As of December 31, 2023
$0 - $294 per horsepower
$50 per horsepower
See Note 10 (“Long-Lived and Other Asset Impairments”) for further details.
Other Financial Instruments
The carrying amounts of our cash, accounts receivable and accounts payable approximate fair value due to the short-term nature of these instruments.
The carrying amount of borrowings outstanding under our Credit Facility approximates fair value due to the variable interest rate. The measurement of the fair value of these outstanding borrowings is a Level 3 measurement.
The fair value of our fixed rate debt is estimated using yields observable in active markets, which are Level 2 inputs, and was as follows:
Carrying amount of fixed rate debt (1)
1,298,256
1,297,844
Fair value of fixed rate debt
1,295,000
1,289,000
15. Related Party Transactions
From August 2019 to present, our Board of Directors has included a member affiliated with our customer Hilcorp or its subsidiaries or affiliates. Revenue from Hilcorp was $9.9 million and $8.7 million during the three months ended June 30, 2024 and 2023, respectively, and $20.4 million and $17.8 million during the six months ended June 30, 2024 and 2023, respectively. Accounts receivable, net due from Hilcorp was $3.4 million and $3.8 million as of June 30, 2024 and December 31, 2023, respectively.
21
16. Segment Information
We manage our business segments primarily based on the type of product or service provided. We have two segments that we operate within the U.S.: contract operations and aftermarket services. Our contract operations segment primarily provides natural gas compression services to meet specific customer requirements. Our aftermarket services segment provides a full range of services to support the compression needs of customers, from parts sales and normal maintenance services to full operation of a customer’s owned assets.
We evaluate the performance of our segments based on adjusted gross margin, defined as revenue less cost of sales, exclusive of depreciation and amortization, for each segment. Segment revenue includes only sales to external customers.
Summarized financial information for our reporting segments is shown below:
Three months ended June 30, 2024
Revenue
Adjusted gross margin
146,190
9,900
156,090
125,087
11,080
136,167
Six months ended June 30, 2024
291,498
20,337
311,835
233,350
19,261
252,611
The following table reconciles total adjusted gross margin to income before income taxes:
Total adjusted gross margin
Less:
22
17. Subsequent Events
On July 22, 2024, Archrock and Archrock ELT entered into a Purchase and Sale Agreement (the “Purchase and Sale Agreement”) with TOPS Pledge1, LLC (“Pledge1”) and TOPS Pledge2, LLC (together with Pledge1, “Sellers”), pursuant to which, among other things, Archrock ELT will acquire all of the issued and outstanding equity interests in TOPS, a portfolio company managed by certain affiliates of Apollo Global Management, Inc., and, solely with respect to Section 6.25 of the Purchase and Sale Agreement, TOPS Holdings, LLC, a Delaware limited liability company, in exchange for total consideration consisting of: (i) cash equal to $820 million, (ii) 6.87 million newly issued shares of Archrock’s common stock, par value $0.01 per share, subject to adjustment as described below (“Archrock Common Stock” and such shares of Archrock Common Stock issued in connection with the Transaction is referred to herein as the “Stock Consideration”), and (iii) up to approximately $6 million in deferred cash payments (the “Deferred Cash Payments”) payable pursuant and subject to the terms of certain Transaction Payment Agreements entered into and to be entered into between Archrock ELT and certain indirect equity holders of the Sellers who are current employees of TOPS (the “Transaction”). On July 22, 2024, the Board of Directors of Archrock unanimously approved the Purchase and Sale Agreement.
The Transaction is expected to close by the end of 2024, subject to customary closing conditions, including (i) the absence of specified legal impediments to the consummation of the Transaction; (ii) the expiration or termination of any applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the “HSR Act”), with respect to the Transaction; (iii) the parties’ performance, in all material respects, of their respective obligations under the Purchase and Sale Agreement; (iv) subject to specified materiality standards, the accuracy of the parties’ respective representations and warranties as of the closing of the Transaction (the “Closing”); (v) the absence of a Buyer Material Adverse Effect; and (vi) the authorization for listing of the Stock Consideration on the New York Stock Exchange, subject to official notice of issuance.
The Purchase and Sale Agreement contains customary representations, warranties and covenants by the parties. The Purchase and Sale Agreement also contains customary covenants and agreements, including covenants and agreements relating to, among other things, (i) the conduct of the business of TOPS between the date of the signing of the Purchase and Sale Agreement and the Closing and (ii) the efforts of the parties to cause the Transaction to be completed, including actions which may be necessary to cause the expiration or termination of the waiting period under the HSR Act, if applicable. Pursuant to the terms of the Purchase and Sale Agreement, the parties have agreed to take all actions reasonably necessary and appropriate to obtain antitrust clearance in order to facilitate the Closing. However, none of Archrock, Archrock ELT or their respective Affiliates will be required to sell, divest or dispose any assets, properties or businesses in connection with the transactions contemplated by the Purchase and Sale Agreement.
The Purchase and Sale Agreement may be terminated, subject to certain exceptions, (i) upon the mutual written consent of Archrock ELT and Sellers, (ii) if the Closing has not occurred by December 31, 2024, (subject to extension pursuant to the terms of the Purchase and Sale Agreement), (iii) for certain material breaches of representations and warranties or covenants that remain uncured or (iv) upon the occurrence of certain other events specified in the Purchase and Sale Agreement. The Purchase and Sale Agreement further provides that, in certain circumstances upon a valid termination of the Purchase and Sale Agreement pursuant to its terms, Archrock ELT may be required to pay Sellers a termination fee equal to $30.0 million. Further, Sellers may be required to pay Archrock ELT a termination fee equal to $20.0 million.
In connection with the transactions contemplated by the Purchase and Sale Agreement, and as a condition precedent to the Closing, Archrock and Sellers have agreed to enter into a registration rights and lock-up agreement (the “Registration Rights Agreement”) pursuant to which, among other things, Archrock will agree to provide Sellers with customary registration rights with respect to the Stock Consideration. In addition, on the terms and subject to the conditions set forth in the Registration Rights Agreement, Sellers will agree not to sell, transfer or dispose of (i) 50% of the Stock Consideration during a holding period that expires 90 days after the Closing Date and (ii) the remaining 50% of the Stock Consideration during a holding period that expires 180 days after the Closing Date.
23
In connection with the Transaction, certain indirect equity holders of the Sellers who are current employees of TOPS (the “Participants”) have each entered into a Transaction Payment Agreement with Archrock ELT, pursuant to which the Participants have agreed that a portion of the Transaction proceeds distributions they will receive in respect of their indirect equity interests in the Sellers will be in the form of the Deferred Cash Payments. The Deferred Cash Payments are generally payable for most participants 50% on the one-year anniversary of the closing of the Transaction and 50% on the two-year anniversary of the closing of the Transaction and are subject to the Participant’s continued employment with Archrock through the payment date, except in the event the Participant’s employment is terminated by Archrock without cause or due to the Participant’s death or disability.
The Offering
On July 22, 2024, Archrock entered into an Underwriting Agreement (the “Underwriting Agreement”) with J.P. Morgan Securities LLC, Evercore Group L.L.C., Wells Fargo Securities, LLC and Citigroup Global Markets Inc. as representatives of the several underwriters (the “Underwriters”), relating to an underwritten offering of 11,000,000 shares of common stock, par value $0.01 per share, of the Company (such offering, the “Offering”). Under the terms of the Underwriting Agreement, the Company granted the Underwriters a 30-day option to purchase up to 1,650,000 additional shares of Common Stock. On July 23, 2024, the Underwriters exercised this option in full.
The Underwriting Agreement contains customary representations and warranties, agreements and obligations, closing conditions and termination provisions. The Company has agreed to indemnify the Underwriter against certain liabilities, including liabilities under the Securities Act of 1933, as amended (the “Securities Act”), and to contribute to any payment that the Underwriter may be required to make because of any of those liabilities.
The Offering was made pursuant to a shelf registration statement on Form S-3 (File No. 333-267523) (the “Registration Statement”) that was filed with the SEC and became effective on September 20, 2022, including the prospectus forming a part of the Registration Statement, a preliminary prospectus supplement, which was filed with the SEC on July 22, 2024, and a final prospectus supplement, which was filed with the SEC on July 23, 2024, pursuant to Rule 424(b) under the Securities Act.
The Offering closed on July 24, 2024. The Company intends to use the approximately $256.4 million of net proceeds from the Offering to fund the Transaction, along with cash on hand, borrowings under the Company’s revolving credit facility and, opportunistically to the extent market conditions warrant, other debt financings. In the event that the Transaction is not completed, the proceeds from the Offering will be used for general corporate purposes.
24
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and the notes thereto included in this Form 10-Q and in conjunction with our 2023 Form 10-K.
OVERVIEW
We are an energy infrastructure company with a pure-play focus on midstream natural gas compression. We are a premier provider of natural gas compression services, in terms of total compression fleet horsepower, to customers in the energy industry throughout the U.S., and a leading supplier of aftermarket services to customers that own compression equipment in the U.S. We operate in two business segments: contract operations and aftermarket services. Our contract operations services primarily include designing, sourcing, owning, installing, operating, servicing, repairing and maintaining our owned fleet of natural gas compression equipment to provide natural gas compression services to our customers. In our aftermarket services business, we sell parts and components and provide operations, maintenance, overhaul and reconfiguration services to customers who own compression equipment.
Operating Highlights
(horsepower in thousands)
Total available horsepower (at period end)(1)
3,806
3,770
Total operating horsepower (at period end)(2)
3,601
3,578
Average operating horsepower
3,605
3,549
3,607
Horsepower utilization:
Spot (at period end)
95
%
Average
94
Non-GAAP Financial Measures
Management uses a variety of financial and operating metrics to analyze our performance. These metrics are significant factors in assessing our operating results and profitability and include the non-GAAP financial measure of adjusted gross margin.
We define adjusted gross margin as total revenue less cost of sales, exclusive of depreciation and amortization. Adjusted gross margin is included as a supplemental disclosure because it is a primary measure used by our management to evaluate the results of revenue and cost of sales, exclusive of depreciation and amortization, which are key components of our operations. We believe adjusted gross margin is important because it focuses on the current operating performance of our operations and excludes the impact of the prior historical costs of the assets acquired or constructed that are utilized in those operations, the indirect costs associated with our SG&A activities, our financing methods and income taxes. In addition, depreciation and amortization may not accurately reflect the costs required to maintain and replenish the operational usage of our assets and therefore may not portray the costs of current operating activity. As an indicator of our operating performance, adjusted gross margin should not be considered an alternative to, or more meaningful than, gross margin, net income (loss) or any other measure presented in accordance with GAAP. Our adjusted gross margin may not be comparable to a similarly-titled measure of other entities because other entities may not calculate adjusted gross margin in the same manner.
Adjusted gross margin has certain material limitations associated with its use as compared to net income. These limitations are primarily due to the exclusion of SG&A, depreciation and amortization, impairments, restructuring charges, interest expense, gain on sale of assets, net, other expense (income), net and provision for income taxes. Because we intend to finance a portion of our operations through borrowings, interest expense is a necessary element of our costs and our ability to generate revenue. Additionally, because we use capital assets, depreciation expense is a necessary element of our costs and our ability to generate revenue and SG&A is necessary to support our operations and required corporate activities. To compensate for these limitations, management uses this non-GAAP measure as a supplemental measure to other GAAP results to provide a more complete understanding of our performance.
The following table reconciles net income to adjusted gross margin:
The following table reconciles adjusted gross margin to gross margin, its most directly comparable GAAP measure:
Total revenues
(114,436)
(111,376)
(227,179)
(224,766)
(43,853)
(41,210)
(86,688)
(81,391)
Gross margin
112,237
94,957
225,147
171,220
RESULTS OF OPERATIONS
Summary of Results
Revenue was $270.5 million and $247.5 million during the three months ended June 30, 2024, and 2023, respectively, and $539.0 million and $477.4 million during the six months ended June 30, 2024 and 2023, respectively. The increase in revenue was primarily due to increased revenue from our contract operations business during the three months ended June 30, 2024 and both our contract operations business and aftermarket services business during the six months ended June 30, 2024. See “Contract Operations” and “Aftermarket Services” below for further details.
Net income was $34.4 million and $24.7 million during the three months ended June 30, 2024, and 2023, respectively. The increase was primarily driven by higher adjusted gross margin from both our contract operations business and aftermarket services business. These changes were partially offset by increases in SG&A, depreciation and amortization expense, transaction-related costs and long-lived and other asset impairment, and a decrease in the unrealized change in the fair value of our investment in an unconsolidated affiliate.
26
Net income was $75.0 million and $41.1 million during the six months ended June 30, 2024, and 2023, respectively. The increase was primarily driven by higher adjusted gross margin from both our contract operations business and aftermarket services business. These changes were partially offset by increases in SG&A, depreciation and amortization expense, transaction-related costs, long-lived and other asset impairment, and decreases in the gain on sale of assets and in the unrealized change in the fair value of our investment in an unconsolidated affiliate.
Three Months Ended June 30, 2024 Compared to Three Months Ended June 30, 2023
Contract Operations
Increase
(Decrease)
Adjusted gross margin percentage (1)
62
Revenue in our contract operations business increased primarily due to higher rates and an increase in average operating horsepower for contract compression in response to higher utilization at Archrock and across our industry.
The increase in cost of sales, exclusive of depreciation and amortization, was primarily due to a $3.7 million increase in total employee compensation expense and a $1.1 million increase in parts expense. This increase was partially offset by a decrease of $1.9 million in startup expenses resulting from average horsepower utilization for the fleet at record levels as well as fewer unit stops.
Aftermarket Services
(3)
(1)
Revenue in our aftermarket services business decreased primarily due to a decrease in part sales, partially offset by higher levels of service activities driven by an increase in customer demand.
Adjusted gross margin decreased in our aftermarket services business as a result of decreased revenue which exceeded the decrease in cost of sales, exclusive of depreciation and amortization, due to a mix of product sales.
27
Costs and Expenses
Selling, general and administrative. The increase in SG&A included a $1.9 million increase in long-term incentive compensation expense, a $0.2 million increase in employee compensation expense and a $0.2 million increase in amortization of capitalized implementation costs, partially offset by a decrease of $0.3 million in legal and other professional fees.
Depreciation and amortization. The increase in depreciation and amortization expense was primarily due to fixed assets additions and accelerated depreciation associated with certain assets. The increase was partially offset by a decrease in depreciation expense associated with assets reaching the end of their depreciable lives, the impact of compression and other asset sales, and long-lived asset impairments.
Long-lived and other asset impairment. We periodically review the future deployment of our idle compressors for units that are not of the type, configuration, condition, make or model that are cost efficient to maintain and operate. We also evaluate for impairment our idle units that have been culled from our compression fleet in prior years and are available for sale. During the three months ended June 30, 2024 and 2023, we recognized $4.4 million and $2.9 million, respectively, of impairment charges to write down these compressors to their fair value. See Note 10 (“Long-Lived Asset and Other Impairments”) for further details on these impairment charges. The following table presents the results of our compression fleet impairment review, as recorded in our contract operations segment:
Interest expense. The decrease in interest expense was primarily due to the write-off of $1.0 million of unamortized deferred financing costs as a result of the Amended and Restated Credit Agreement during the three months ended June 30, 2023, and a lower average outstanding balance of long-term debt, partially offset by a decrease in capitalized interest and an increase in interest rates.
Transaction-related costs. We incurred $1.8 million of legal and other professional fees during the three months ended June 30, 2024 related to the TOPS Acquisition.
Gain on sale of assets, net. The decrease in gain on sale of assets was primarily due to gains of $0.3 million on compression asset sales and $0.3 million on transportation asset sales during the three months ended June 30, 2024, compared to gains of $0.6 million on compression asset sales and $0.4 million on other asset sales during the three months ended June 30, 2023.
Other expense, net. The increase in other expense, net was primarily due to a $1.7 million unrealized change in the fair value of our investment in an unconsolidated affiliate recognized during the three months ended June 30, 2023.
28
Provision for Income Taxes
The increase in provision for income taxes was primarily due to the tax effect of the increase in book income, offset by the reduction in valuation allowance during the three months ended June 30, 2024 compared with the three months ended June 30, 2023.
31
Effective tax rate
Six Months Ended June 30, 2024 Compared to Six Months Ended June 30, 2023
60
The increase in cost of sales, exclusive of depreciation and amortization, was primarily due to a $5.2 million increase in total employee compensation expense, a $1.8 million increase in parts expense and a $1.4 million increase in local and miscellaneous taxes. This increase was partially offset by a decrease of $6.9 million in startup expenses resulting from average horsepower utilization for the fleet at record levels as well as fewer unit stops.
0
Revenue in our aftermarket services business increased primarily due to higher levels of service activities driven by an increase in customer demand, partially offset by a decrease in part sales.
Adjusted gross margin increased in our aftermarket services business as a result of increased revenue which exceeded the increase in cost of sales, exclusive of depreciation and amortization, due to differences in the scope, timing and type of services performed.
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Selling, general and administrative. The increase in SG&A included primarily a $5.7 million increase in long-term incentive compensation expense, a $0.6 million increase in short-term incentive compensation expense, a $0.5 million increase in network and computer related costs, a $0.4 million increase in amortization of capitalized implementation costs, a $0.3 million increase in insurance expense and a $0.2 million increase in sales commissions expense, partially offset by a decrease of $0.7 million in professional fees.
Long-lived and other asset impairment. We periodically review the future deployment of our idle compressors for units that are not of the type, configuration, condition, make or model that are cost efficient to maintain and operate. We also evaluate for impairment our idle units that have been culled from our compression fleet in prior years and are available for sale. During the six months ended June 30, 2024 and 2023, we recognized $7.0 million and $5.5 million, respectively, of impairment charges to write down these compressors to their fair value. See Note 10 (“Long-Lived Asset and Other Impairments”) for further details on these impairment charges. The following table presents the results of our compression fleet impairment review, as recorded in our contract operations segment:
Restructuring charges. Restructuring charges of $1.0 million during the six months ended June 30, 2023 consisted of severance and consulting costs related to our restructuring activities. See Note 11 (“Restructuring Charges”) for further details on these restructuring charges.
Interest expense. The decrease in interest expense was primarily due to the write-off of $1.0 million of unamortized deferred financing costs as a result of the Amended and Restated Credit Agreement during the six months ended June 30, 2023, partially offset by a decrease in capitalized interest and an increase in interest rates.
Transaction-related costs. We incurred $1.8 million of legal and other professional fees during the six months ended June 30, 2024 related to the TOPS Acquisition.
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Gain on sale of assets, net. The decrease in gain on sale of assets was primarily due to gains of $2.5 million on compression asset sales and $0.4 million on transportation asset sales during the six months ended June 30, 2024 compared to gains of $3.9 million on compression asset sales and $0.8 million on transportation and other asset sales during the six months ended June 30, 2023.
Other expense, net. The increase in other expense, net was primarily due to a $2.0 million unrealized change in the fair value of our investment in an unconsolidated affiliate recognized during the six months ended June 30, 2023.
The increase in provision for income taxes was primarily due to the tax effect of the increase in book income and the limitation on executive compensation offset by the benefit from equity-settled long term incentive compensation and reduction in valuation allowance during the six months ended June 30, 2024 compared with the six months ended June 30, 2023.
LIQUIDITY AND CAPITAL RESOURCES
Overview
Our ability to fund operations, finance capital expenditures and pay dividends depends on the levels of our operating cash flows and access to the capital and credit markets. Our primary sources of liquidity are cash flows generated from our operations and our borrowing availability under our Credit Facility. Our cash flow is affected by numerous factors including prices and demand for our services, oil and natural gas exploration and production spending, conditions in the financial markets and other factors. We have no near-term maturities and believe that our operating cash flows and borrowings under the Credit Facility will be sufficient to meet our future liquidity needs.
We may from time to time seek to retire or purchase our outstanding debt through cash purchases and/or exchanges for equity or debt securities in open market purchases, privately negotiated transactions or otherwise. Such repurchases or exchanges, if any, may be material, will be upon terms and prices as we may determine and will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors.
Cash Requirements
Our contract operations business is capital intensive, requiring significant investment to maintain and upgrade existing operations. Our capital spending is primarily dependent on the demand for our contract operations services and the availability of the type of compression equipment required for us to provide those contract operations services to our customers. Our capital requirements have consisted primarily of, and we anticipate will continue to consist of, the following:
Capital Expenditures
Growth Capital Expenditures. The majority of our growth capital expenditures are related to the acquisition cost of new compressors when our idle equipment cannot be reconfigured to economically fulfill a project’s requirements and the new compressor is expected to generate economic returns that exceed our cost of capital over the compressor’s expected useful life. In addition to newly-acquired compressors, growth capital expenditures include the upgrading of major components on an existing compression package where the current configuration of the compression package is no longer in demand and the compressor is not likely to return to an operating status without the capital expenditures. These expenditures substantially modify the operating parameters of the compression package such that it can be used in applications for which it previously was not suited.
Maintenance Capital Expenditures. Maintenance capital expenditures are related to major overhauls of significant components of a compression package, such as the engine, compressor and cooler, which return the components to a like-new condition, but do not modify the application for which the compression package was designed.
Projected Capital Expenditures. While market activity continues to be strong, we currently anticipate reduced capital expenditures in 2024 compared to 2023, which supports free cash flow generation after dividends, and plan to spend approximately $290 million to $300 million in capital expenditures during 2024, primarily consisting of approximately $190 million for growth capital expenditures and approximately $80 million to $85 million for maintenance capital expenditures.
Dividends
On July 25, 2024, our Board of Directors declared a quarterly dividend of $0.165 per share of common stock to be paid on August 13, 2024 to stockholders of record at the close of business on August 6, 2024. Any future determinations to pay cash dividends to our stockholders will be at the discretion of our Board of Directors and will be dependent upon our financial condition, results of operations and credit and loan agreements in effect at that time and other factors deemed relevant by our Board of Directors.
Sources of Cash
During the six months ended June 30, 2024 and 2023, our Credit Facility had an average debt balance of $287.0 million and $282.5 million, respectively. The weighted average annual interest rate on the outstanding balance under the Credit Facility was 7.6% and 7.7% at June 30, 2024 and December 31, 2023, respectively. As of June 30, 2024, there were $4.1 million letters of credit outstanding under the Credit Facility and the applicable margin on borrowings outstanding was 2.1%.
As of June 30, 2024, we were in compliance with all covenants under our Credit Facility. Additionally, all undrawn capacity on our Credit Facility was available for borrowings as of June 30, 2024.
Cash Flows
Our cash flows, as reflected in our unaudited condensed consolidated statements of cash flows, are summarized below:
Net cash provided by (used in):
Operating activities
Investing activities
Financing activities
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Operating Activities
The increase in net cash provided by operating activities was primarily due to increased cash inflows of $65.9 million from adjusted gross margin, excluding deferred revenue recognized in earnings and amortization of freight and mobilization charges, changes of $14.3 million in accounts receivable due to increased cash receipts from customers, $11.4 million in accounts payable and accrued liabilities due to a reduction in overall spend and timing of vendor invoice payments and $8.7 million of inventory as a result of improvement in the lead time for parts.
Investing Activities
The increase in net cash used in investing activities was primarily due to a $20.5 million decrease in proceeds from the sale of property, plant and equipment and a $3.6 million increase in capital expenditures, partially offset by a $1.9 million decrease in investments in non-consolidated affiliates.
Financing Activities
The change from net cash provided by financing activities to net cash used in financing activities was primarily due to a $66.9 million decrease in net borrowings of long-term debt, a $4.5 million increase in dividends paid to stockholders and a $2.7 million increase in taxes paid related to net share settlement of equity awards, partially offset by a $5.5 million decrease in payments of debt issuance costs and a $1.2 million increase in common stock purchased under the Share Repurchase Program.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks associated with changes in the variable interest rate of our Credit Facility. A 1% increase in the effective interest rate on our Credit Facility’s outstanding balance at June 30, 2024 would have resulted in an annual increase in our interest expense of $3.1 million.
ITEM 4. CONTROLS AND PROCEDURES
This Item 4 includes information concerning the controls and controls evaluation referred to in the certifications of our Chief Executive Officer and Chief Financial Officer required by Rule 13a-14 of the Exchange Act included in this Form 10-Q as Exhibits 31.1 and 31.2.
Management’s Evaluation of Disclosure Controls and Procedures
Disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) are designed to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that such information is accumulated and communicated to management to allow timely decisions regarding required disclosures.
As of the end of the period covered by this Quarterly Report on Form 10-Q, our principal executive officer and principal financial officer evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act), which are designed to provide reasonable assurance that we are able to record, process, summarize and report the information required to be disclosed in our reports under the Exchange Act within the time periods specified in the rules and forms of the SEC. Based on the evaluation, as of June 30, 2024, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective to provide reasonable assurance that the information required to be disclosed in reports that we file or submit under the Exchange Act is accumulated and communicated to management, and made known to our principal executive officer and principal financial officer, on a timely basis to ensure that it is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) during the last fiscal quarter that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
ITEM 1A. RISK FACTORS
Other than the following items, there have been no material changes or updates to the risk factors previously disclosed in our 2023 Form 10-K.
Risks Related to the TOPS Acquisition
We may not consummate the TOPS Acquisition.
The TOPS Acquisition is subject to the satisfaction or waiver of customary closing conditions, and we cannot assure you that the TOPS Acquisition will be consummated in the anticipated time frame or at all. If one or more of the closing conditions are not satisfied, the TOPS Acquisition may not be completed. Some of these conditions are beyond our control, and we may elect not to take actions necessary to satisfy these conditions or to ensure that the TOPS Acquisition is not otherwise terminated. In addition, the purchase and sale agreement contains certain termination rights for both parties which, if exercised, will also result in the TOPS Acquisition not being consummated.
If the TOPS Acquisition is delayed, terminated or consummated on terms different than those described in the purchase and sale agreement, the market price of our common stock may decline to the extent that the price of our common stock reflects a market assumption that the TOPS Acquisition will be consummated on the terms described in the purchase and sale agreement or at all. Further, a failed transaction may result in negative publicity or a negative impression of us in the investment community and may affect our relationships with our business partners and the value of our common stock.
Under certain specified circumstances in which the purchase and sale agreement is terminated pursuant to its terms, Archrock ELT may be required to pay sellers a termination fee equal to $30.0 million or, in certain circumstances, sellers may be required to pay Archrock ELT a termination fee equal to $20.0 million. If the purchase and sale agreement is terminated under such circumstances, the termination fee Archrock ELT may be required to pay under the purchase and sale agreement may require us to use available cash that would have otherwise been available for general corporate purposes and other uses.
We may not be able to achieve the expected benefits of the TOPS Acquisition. We may also encounter significant
difficulties in integrating TOPS.
Even if we consummate the TOPS Acquisition, we may not be able to achieve the expected benefits of the TOPS Acquisition. There can be no assurance that the TOPS Acquisition will be beneficial to us. We may not be able to integrate the assets acquired in the TOPS Acquisition without increases in costs or other difficulties. The integration of a business is a complex, costly and time-consuming process. As a result, we will be required to devote significant management attention and resources to integrating our business practices and operations with the business practices and operations of TOPS. The integration process may disrupt our business and, if implemented ineffectively, would restrict the full realization of the anticipated benefits from the TOPS Acquisition. The failure to meet the challenges involved in integrating TOPS and to realize the anticipated benefits of the TOPS Acquisition could have an adverse effect on our business, results of operations, financial condition and prospects, as well as the market price of our common stock. The challenges of integrating the operations of acquired businesses include, among others:
Many of these factors are outside of our control, and any one of them could result in increased costs and liabilities, decreases in the amount of expected revenue and earnings, and diversion of management’s time and energy, which could have a material adverse effect on our business, financial condition and results of operations. Further, additional unanticipated costs may be incurred in the integration of the acquired business.
The market price of our common stock may decline as a result of the TOPS Acquisition if, among other things, the integration of the properties to be acquired in the TOPS Acquisition is unsuccessful or transaction costs related to the TOPS Acquisition are greater than expected. The market price of our common stock may decline if we do not achieve the perceived benefits of the TOPS Acquisition as rapidly or to the extent anticipated by us or by securities market participants or if the effect of TOPS Acquisition on our business, results of operations or financial condition or prospects is not consistent with our expectations or those of securities market participants.
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Any acquisitions we complete, including the TOPS Acquisition, are subject to substantial risks that could reduce our ability to make distributions to our common stockholders.
Even if we do make acquisitions that we believe will increase the amount of cash available for distribution to our common stockholders, these acquisitions, including the TOPS Acquisition, may nevertheless result in a decrease in the amount of cash available for distribution to our common stockholders. Any acquisition, including the TOPS Acquisition, involves potential risks, including, among other things:
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES BY ISSUER AND USE OF PROCEEDS
Sales of Unregistered Securities
None
Purchase of Equity Securities by the Issuer and Affiliated Purchasers
The following table summarizes our share repurchase activity for the three months ended June 30, 2024:
Approximate Dollar
Value of Shares
Total Number of
That May Yet be
Shares Purchased
Purchased Under
Total Number
Price
as Part of Publicly
the Publicly
of Shares
Paid per
Announced Plans
Purchased (1)
Share(2)
or Programs
April 1, 2024 — April 30, 2024
39,910
May 1, 2024 — May 31, 2024
50,000
June 1, 2024 — June 30, 2024
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5. OTHER INFORMATION
During the three months ended June 30, 2024, none of our directors or officers adopted or terminated a “Rule 10b5-1 trading arrangement” or a “non-Rule 10b5-1 trading arrangement,” as each term is defined in Item 408(a) of Regulation S-K.
ITEM 6. EXHIBITS
The exhibits listed below are filed or furnished as part of this report:
3.1
Composite Certificate of Incorporation of Archrock, Inc., as amended as of November 3, 2015, (incorporated by reference to Exhibit 3.3 to Archrock Inc.’s Annual Report on Form 10-K for the year ended December 31, 2015)
3.2
Fourth Amended and Restated Bylaws of Exterran Holdings, Inc., now Archrock, Inc. (incorporated by reference to Exhibit 3.1 of Archrock Inc.’s Current Report on Form 8-K filed on July 27, 2023)
31.1*
Certification of the Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*
Certification of the Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1**
Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2**
Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.1*
Interactive data files (formatted in Inline XBRL) pursuant to Rule 405 of Regulation S-T
104.1*
Cover page interactive data file (formatted in Inline XBRL) pursuant to Rule 406 of Regulation S-T
* Filed herewith
** Furnished, not filed
SIGNATURES
Pursuant to 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.
By:
/s/ Douglas S. Aron
Douglas S. Aron
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
/s/ Donna A. Henderson
Donna A. Henderson
Vice President and Chief Accounting Officer
(Principal Accounting Officer)
July 31, 2024