DXP Enterprises(DXPE) - 2020 Q4 - Annual Report

PART I Business DXP Enterprises distributes MRO products and services through its Service Centers, Supply Chain Services, and Innovative Pumping Solutions segments Company and Industry Overview DXP's sales grew to $1.0 billion in 2020 by capitalizing on industry trends like consolidation and demand for integrated services - DXP's total sales increased from $125 million in 1996 to $1.0 billion in 2020, operating from 168 locations across the U.S., Canada, and Dubai as of December 31, 2020[17] - The company identifies three primary trends in the industrial supply industry: industry consolidation, customized integrated service, and single-source distribution[19][20][21] Business Segments The company operates through three segments, with Service Centers contributing the majority of sales in 2020 2020 Sales and Operations by Business Segment | Segment | 2020 Sales (millions) | % of Sales | Key End-Markets | Locations | | :--- | :--- | :--- | :--- | :--- | | SC | $662.6 | 65.9% | Oil & Gas, Food & Beverage, General Industrial, Chemical, Transportation, Aerospace | 154 service centers | | IPS | $188.0 | 18.7% | Oil & Gas, Mining, Petrochemical, & Utilities | 10 fabrication facilities | | SCS | $154.7 | 15.4% | Food & Beverage, Transportation, Oil & Gas, General Industrial & Chemical | 79 customer facilities' sites | - The Service Centers (SC) segment provides MRO products and services from 154 service centers and 4 distribution centers, serving industries like oil and gas, food and beverage, and petrochemicals[27][28] - The Innovative Pumping Solutions (IPS) segment provides integrated, custom pump skid packages and its backlog was $46.6 million at December 31, 2020, a significant decrease from $101.1 million at the end of 2019[32][38] - The Supply Chain Services (SCS) segment manages customer procurement and inventory through long-term contracts, operating at 79 customer facilities as of year-end 2020[40][44] Products and Recent Acquisitions DXP offers a broad product range and pursues a growth strategy centered on acquisitions, completing six in 2020 - DXP's five key product categories are: rotating equipment, bearings & power transmission, industrial supplies, metal working, and safety products & services[46] - On December 31, 2020, DXP completed four acquisitions: TEC for ~$64.7M, APO for ~$38.3M, Pumping Solutions for ~$21.0M, and CEC for ~$4.5M, all paid in cash and stock[54][55][56][57] - Earlier in 2020, DXP acquired Turbo Machinery Repair for ~$3.2M in cash and Pumping Systems, Inc. for ~$13.0M in cash and stock[59] Human Capital and Executive Officers The company employed 2,550 people as of year-end 2020 and focused on safety and talent development while operating as an essential business Employee Headcount by Segment (as of Dec 31, 2020) | Business Segment | Employees | | :--- | :--- | | Service Centers | 1,605 | | Innovative Pumping Solutions | 327 | | Supply Chain Services | 347 | | Corporate | 271 | | Total Employees | 2,550 | - DXP's human capital strategy emphasizes talent development, employee safety (with a goal of zero accidents), a decentralized entrepreneurial culture, and competitive benefits[69][70][72][73] - During the COVID-19 pandemic, DXP operated as an "essential" business, implementing work-from-home policies for office staff and safety measures for warehouse and distribution center employees[78] Risk Factors The company faces significant risks related to business operations, market conditions, credit access, and legal compliance - Business and Operations Risks: Competition, potential cancellation of distribution authorizations by manufacturers, reliance on key personnel and suppliers, challenges in executing acquisition strategy, and cybersecurity breaches[92] - Market and Economy Risks: The COVID-19 pandemic has caused supply chain disruptions, decreased customer demand, and lower oil prices, while the business is also sensitive to economic slowdowns and energy industry downturns[93][118][124] - Credit and Capital Risks: Inability to refinance debt on favorable terms, failure to comply with financial covenants in credit facilities, and potential difficulties in accessing acquisition financing[94] - Legal and Regulatory Risks: Potential for significant product liability and warranty claims, shareholder litigation due to stock price volatility, and risks associated with foreign operations and environmental regulations[95][141][145] Properties DXP operated from 168 facilities as of year-end 2020, the majority of which are leased - The company operates 168 facilities, including 154 service centers, 4 distribution centers, and 10 fabrication facilities[151] - The majority of facilities are leased, with only seven being owned by the company, and leased facilities range in size from approximately 570 to 105,000 square feet[151][153] Legal Proceedings The company is involved in ordinary course legal proceedings not expected to have a material adverse effect - DXP is party to various legal proceedings from the ordinary course of business but does not expect them to have a material adverse effect on its financials[154] PART II Market for the Registrant's Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities The company's common stock trades on NASDAQ under 'DXPE', and it does not anticipate paying dividends - The company's common stock trades on the NASDAQ under the ticker DXPE[158] - DXP does not anticipate paying cash dividends on its common stock in the foreseeable future[159] - Unregistered shares were issued as part of the consideration for the acquisitions of TEC, APO, Pumping Solutions, CEC, and PSI in 2020[164][165] Selected Financial Data A five-year financial summary shows a significant decline in 2020, with sales of $1.005 billion and a net loss of $29.1 million Five-Year Selected Financial Data (in thousands, except per share amounts) | Metric | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Sales | $1,005,266 | $1,267,189 | $1,216,197 | $1,006,782 | $962,092 | | Gross Profit | $279,269 | $347,224 | $332,208 | $271,581 | $264,802 | | Operating Income (Loss) | $(26,870) | $66,122 | $68,451 | $33,490 | $19,332 | | Net Income (Loss) | $(29,074) | $35,775 | $35,521 | $16,529 | $7,151 | | Diluted EPS (Loss) | $(1.62) | $1.96 | $1.94 | $0.93 | $0.49 | | Total Assets | $851,861 | $788,220 | $699,962 | $639,083 | $602,052 | | Total Debt | $330,000 | $244,375 | $245,309 | $248,716 | $174,323 | Management's Discussion and Analysis of Financial Condition and Results of Operations Management attributes the 20.7% sales decline and net loss in 2020 to the pandemic and energy sector downturn Current Market Conditions and Outlook The COVID-19 pandemic drove a sharp drop in demand, prompting cost reductions and an increased ABL facility - The COVID-19 pandemic and a related oil price collapse drove a sharp erosion in demand, and in response, the company took mitigation steps including cost cuts and increasing its ABL revolver from $85 million to $135 million[178][179] - DXP was exempted as an "essential" business under various government orders, allowing warehouses and distribution centers to remain open with enhanced safety protocols[182] Key Economic Indicators (2020 vs. 2019) | Indicator | 2020 Average | 2019 Average | | :--- | :--- | :--- | | U.S. Active Drilling Rigs | 436 | 944 | | West Texas Intermediate (WTI) Oil Price | $39.16 | $56.98 | | Purchasing Managers Index (PMI) | 52.5 | 51.3 | Consolidated Results of Operations (2020 vs. 2019) Sales decreased 20.7% to $1.0 billion in 2020, resulting in a net loss of $28.9 million driven by impairment charges Sales by Business Segment (2020 vs. 2019, in thousands) | Segment | 2020 | 2019 | Change | Change % | | :--- | :--- | :--- | :--- | :--- | | Service Centers | $662,617 | $762,256 | $(99,639) | (13.1)% | | Innovative Pumping Solutions | $187,991 | $303,655 | $(115,664) | (38.1)% | | Supply Chain Services | $154,658 | $201,278 | $(46,620) | (23.2)% | | Total DXP Sales | $1,005,266 | $1,267,189 | $(261,923) | (20.7)% | - Gross profit margin increased by 38 basis points to 27.8%, primarily due to improved margins in the IPS and SCS segments[199] - The company recorded $59.9 million in impairment and other charges in 2020, with none in 2019, including goodwill and asset write-downs for the Canadian SC and IPS segments[204][205] - Selling, General & Administrative (SG&A) expenses decreased by 12.4% to $246.3 million, reflecting cost reduction actions[203] Liquidity and Capital Resources Cash from operations increased to $107.7 million, and the company refinanced its debt with a new $330 million term loan Summary of Cash Flows (in thousands) | Activity | 2020 | 2019 | | :--- | :--- | :--- | | Net cash provided by operating activities | $107,675 | $41,306 | | Net cash used in investing activities | $(121,796) | $(22,085) | | Net cash provided by (used in) financing activities | $77,406 | $(6,092) | - Free Cash Flow (a non-GAAP measure) was $101.1 million in 2020, a substantial increase from $19.2 million in 2019[238][240] - In December 2020, DXP entered into a new seven-year, $330 million Senior Secured Term Loan B, replacing its previous term loan[235][245] - The company increased its asset-based loan (ABL) facility from $85 million to $135 million and had $131.9 million available at year-end[237][253] Critical Accounting Policies Key accounting policies requiring significant judgment include goodwill impairment, revenue recognition, and acquisition accounting - Receivables and Credit Risk: The allowance for doubtful accounts is based on aging, customer-specific situations, and economic factors, with a notable concentration of customers in the energy industry[263][265] - Impairment of Goodwill and Long-Lived Assets: Annual impairment tests require significant management judgment, and triggering events in 2020 led to a $36.4 million goodwill impairment[267][269][274] - Revenue Recognition: For the IPS segment, revenue on long-term contracts is recognized over time using the percentage-of-completion (cost-to-cost) method, which requires extensive estimation[281] - Purchase Accounting: Fair value of assets and liabilities from acquisitions is estimated using valuation techniques, including for contingent consideration, which involves significant judgment about future performance[285][286] Quantitative and Qualitative Disclosures about Market Risk The company's primary market risks are interest rate volatility on its variable-rate debt and foreign currency fluctuations - A hypothetical 100 basis point increase in average short-term interest rates would increase annual interest expense by an estimated $3.3 million before tax[293] - The company is exposed to foreign currency risk from its Canadian operations; an average 10% devaluation of the Canadian dollar in 2020 would have resulted in an estimated $0.4 million net loss on the translation of local currency earnings[294] Financial Statements and Supplementary Data This section contains the audited consolidated financial statements and the independent auditor's unqualified opinion Report of Independent Registered Public Accounting Firm The independent auditor issued an unqualified opinion on the financial statements and internal controls - The auditor issued an unqualified opinion on both the financial statements and the effectiveness of internal control over financial reporting[303] - Critical Audit Matters identified were: 1. Goodwill and Other Intangibles Impairment Assessment, due to significant judgments in estimating fair value 2. Valuation of Acquired Intangible Assets from the TEC and APO acquisitions 3. Accounting for Uncertain Tax Positions, specifically related to Federal Research & Development Credits[311][318][323] Consolidated Financial Statements The financial statements reflect a net loss of $29.1 million in 2020, with increased assets and debt due to acquisitions and refinancing Consolidated Statement of Operations Highlights (in thousands) | Metric | 2020 | 2019 | | :--- | :--- | :--- | | Sales | $1,005,266 | $1,267,189 | | Gross Profit | $279,269 | $347,224 | | Impairment and other charges | $59,883 | $0 | | Operating Income (Loss) | $(26,870) | $66,122 | | Net Income (Loss) | $(29,074) | $35,775 | Consolidated Balance Sheet Highlights (in thousands) | Metric | Dec 31, 2020 | Dec 31, 2019 | | :--- | :--- | :--- | | Cash | $117,353 | $54,203 | | Total Current Assets | $406,583 | $408,481 | | Goodwill | $248,339 | $194,052 | | Total Assets | $851,861 | $788,220 | | Total Debt (Current & Long-term) | $320,439 | $237,919 | | Total Liabilities | $503,995 | $443,272 | | Total Equity | $347,866 | $344,948 | Consolidated Statement of Cash Flows Highlights (in thousands) | Metric | 2020 | 2019 | | :--- | :--- | :--- | | Cash from Operating Activities | $107,675 | $41,306 | | Cash used in Investing Activities | $(121,796) | $(22,085) | | Cash from Financing Activities | $77,406 | $(6,092) | | Net Change in Cash | $63,117 | $13,808 | Notes to Consolidated Financial Statements Key disclosures include a $59.9 million impairment charge, details of six acquisitions, and a major debt refinancing - Note 4 - Impairments: The company recorded $59.9 million in impairment and other charges in 2020, consisting of $36.4 million for goodwill, $4.8 million for long-lived assets, and $18.7 million for inventory, primarily due to the oil price collapse and COVID-19 impact[382][389] - Note 11 - Long-Term Debt: In December 2020, DXP entered into a new seven-year, $330 million Senior Secured Term Loan B, replacing its previous facility, with an interest rate of 5.75% at year-end[427][429][433] - Note 17 - Business Acquisitions: DXP completed six acquisitions in 2020 for total consideration of $144.6 million ($115.2 million in cash and $29.4 million in stock), adding $90.7 million in goodwill[462][463][464][472][477] 2020 Segment Performance (in thousands) | Segment | Revenue | Operating Income* | | :--- | :--- | :--- | | Service Centers | $662,617 | $70,385 | | Innovative Pumping Solutions | $187,991 | $18,715 | | Supply Chain Services | $154,658 | $13,218 | | Total | $1,005,266 | $102,318 | Operating income for reportable segments, before corporate expenses and other adjustments. Controls and Procedures Management and the independent auditor concluded that the company's disclosure controls and internal controls were effective - The CEO and CFO concluded that the company's disclosure controls and procedures were effective as of December 31, 2020[509] - Management concluded that the company's internal control over financial reporting was effective as of December 31, 2020, a conclusion audited and affirmed by Moss Adams LLP[512][513] PART III Directors, Executive Officers, Corporate Governance, Executive Compensation, and Other Matters Required information for Items 10-14 is incorporated by reference from the company's 2021 proxy statement - Information for Items 10, 11, 12, 13, and 14 is incorporated by reference from the forthcoming 2021 Proxy Statement[519][520][521][522][524] PART IV Exhibits, Financial Statement Schedules This section lists all financial statements, schedules, and exhibits filed as part of the Form 10-K report - This item lists all financial statements, schedules, and exhibits filed with the Form 10-K[526][527] - Exhibits filed include the CEO and CFO certifications pursuant to Sarbanes-Oxley Sections 302 and 906, and Inline XBRL data files[533][534][535]