ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Forward-Looking Statements and Associated Risks.
This section and other parts of this Form 10-Q contain forward-looking statements Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. Forward-looking statements also can be identified by words such as “future,” “anticipates,” “believes,” “estimates,” “expects,” “intends,” “will,” “would,” “could,” “can,” “may,” and similar terms. Forward-looking statements are not guarantees of future performance and the Company’s actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such differences include, but are not limited to, those discussed in our Annual Report on Form 10-K for the year ended December 31, 2013 filed with the Securities and Exchange Commission on March 28, 2014 (the “2013 Form 10-K”) under the heading “Risk Factors”.
The following discussion should be read in conjunction with the 2013 Form 10-K and the condensed consolidated financial statements and notes thereto included elsewhere in this Form 10-Q. All information presented herein is based on the Company’s fiscal calendar. Unless otherwise stated, references in this report to particular years, quarters, months or periods refer to the Company’s fiscal years ended in December and the associated quarters, months, or periods of those fiscal years. Each of the terms the “Company” “we”, “us” or “our” as used herein refers collectively to CES Synergies, Inc. and its wholly-owned subsidiaries, unless otherwise stated. The Company assumes no obligation to revise or update any forward-looking statements for any reason, except as required by law.
Overview and Highlights
CES Synergies, Inc. is a Nevada corporation formed on April 26, 2010. The Company is the parent company of Cross Environmental Services, Inc. (“CES”), which was incorporated in 1988 in the state of Florida. The Company acquired CES in a reverse merger transaction that closed on November 1, 2013, and CES is deemed the accounting acquirer under accounting rules.
The Company is an asbestos and lead abatement contracting firm specializing in the removal of asbestos and lead from buildings and other structures, and demolition of structures. The Company’s services include removal of asbestos and lead, construction, installation, and repair of ceilings and insulation systems and demolition. Most jobs are located within the state of Florida, but the Company accepts and perform jobs throughout the southeastern United States.
The Company provides asbestos abatement and removal, demolition, and mold remediation services primarily in the USA. The services we provide include the removal of asbestos, lead and other hazardous materials from structures ranging from residences to commercial and industrial applications, including secure defense contractor facilities, colleges, hospitals, and mid-rise and high-rise buildings and residential structures. The Company provides demolition and wrecking services, including the removal of storage tanks; mechanical insulation; duct/mold and indoor air quality services; land clearing; and on-site crushing and recycling. In the public sector, our customers include city, state, and federal agencies. Our private-sector customers include general contractors, developers, project owners, and industrial and commercial clients.
We report results under ASC 280, Segment Reporting, for three segments: remediation, demolition and insulation. Remediation derives its income from mold remediation and abatement services for a broad range of environments. Demolition offers full scale commercial demolition and wrecking down to interior and selective demolition and strip down services. Insulation derives its revenue from re-insulation and insulation of new and remodeling projects. After careful analysis of our operations following the business slowdown in 2011, management made the decision to scale down the less profitable demolition division and refocus efforts on more profitable businesses in asbestos, mold, and lead remediation, and interior demolition. We will continue to provide demolition services where they are a natural spinoff of our other work. The decision created an excess of machinery and heavy equipment that was not being used, which we sold in 2012.
Service Contracts
For our asbestos abatement, demolition, and mold remediation contracts, we typically agree to provide all labor, supervision, material and equipment required to perform hazardous material abatement and disposal work as required. Our interior demolition and certain exterior demolition contracts do not contain “hazardous material abatement” provisions. Our demolition contracts generally require us to provide all labor, supervision, material and equipment required for demolition and clearance on specified properties.
We operate primarily through a bid submission and award process to various public and government entities. Bids specify terms and conditions of contracting. We do not write our contracts. Our customers dictate contract language, payment terms, and in most cases the timing of and forms used for billing. When we bid on a project we agree to these terms which are included in the bid specifications. Since our inception in 1988, we have not been required to make any penalty payments to our customers or incurred post-contractual costs under contractual commitments. Many of our equipment supply, local design, and installation subcontracts contain provisions that enable us to seek recourse against our vendors or subcontractors if there is a deficiency in their commitments.
Payments to us by the federal government are based on the services provided and the products installed, calculated in accordance with federal regulatory guidelines and the specific contract’s terms.
To mitigate contractual performance risks, we have created and invested in processes and systems to ensure that our project managers bid in compliance with project specifications, perform site inspections, and participate in pre-bid meetings. Our bidding process takes into account a specified list of variables, which we have developed and fine-tuned over 25 years of doing business, to ensure that we achieve our performance and financial goals for each contract. Project managers are trained in our bidding process, and bids greater than $200,000 are reviewed and approved by a senior management team before submission.
Tracking of job costs to manage financial risk is paramount at the Company. Through a company-developed cost accounting system, jobs are tracked not only by phase (i.e. type of work) but also according to fifteen separate job cost codes that the Company has identified as essential for effective project management. These cost codes are mapped to our bidding system, thereby allowing us to track the financial performance of all contract phases and to ensure that potential cost overruns can be identified and mitigated.
Job costing is fully integrated between all modules of our accounting system, which include accounts payable, accounts receivable, payroll, and inventory. Direct job costs include: labor (not drivers), driver labor, materials, subcontractors, labor service, job site costs (i.e. permits, rental equipment), dump fees (landfill), travel expenses, temporary lodgings, jobsite fuel, bonding costs, inspection fees (DEP, etc.), testing/lab fees, workers compensation (by worker comp classification), and indirect costs (which include costs indirectly incurred such as vehicle insurance, repairs and maintenance, fuel and oil).
We review job costs twice each month while contracts are in progress, and calculate and review final job cost at the completion of each job. Problems are reviewed at weekly meetings. Project managers regularly check on their jobs to monitor progress and man-hours.
To maintain control of contract bids and implementation, senior management holds weekly reviews with project managers, covering job bidding, job awards, upcoming bids and contracts, etc. Regular accounts receivable and collections reviews are also held as part of the management process.
Effects of Seasonality and Economic Uncertainty
We may be subject to seasonal fluctuations and construction cycles, at educational institutions, where large projects are typically carried out during summer months when their facilities are unoccupied. Government customers, many of which have fiscal years that do not coincide with ours, typically follow annual procurement cycles and appropriate funds on a fiscal-year basis even though contract performance may take more than one year. Further, government contracting cycles can be affected by the timing of, and delays in, the legislative process related to government programs and incentives that help drive demand for energy efficiency and renewable energy projects. As a result, our revenue and operating income in the third quarter are typically higher, and our revenue and operating income in the first quarter are typically lower, than in other quarters of the year. As a result of such fluctuations, we may occasionally experience declines in revenue or earnings as compared to the immediately preceding quarter, and comparisons of our operating results on a period-to-period basis may not be meaningful.
To manage uncertainties created by business seasonality, we have implemented business processes to give us flexibility to manage overhead and job costs. Those processes allow us to determine when it is most cost effective to use company-owned assets or to contract out aspects of a project. For example, when the Company was awarded a sizeable post-Hurricane Katrina demolition contract in Louisiana, the processes led it to develop relationships with local subcontractors under Company management and supervision to perform the demolition work rather than moving Company heavy equipment and personnel to Louisiana, thereby preserving margins on the contract.
During the recession that started in 2008, the number of projects available to the Company in Florida fell. To allow the Company to maintain cash reserves necessary to execute the Louisiana contract, management agreed to a 10% reduction in salaries, and did so for a full year, until finances righted themselves in late 2009. No field supervisors or workers were laid off during this period. CES retained its skilled workforce, allowing the contracts in Louisiana to return a 41% gross profit.
Backlog and Awarded Projects
Our sales cycle begins with the initial contact with the customer and ends, when successful, with a signed contract, also referred to as fully-contracted backlog. Historically, our sales cycle typically has averaged 30 days. Awarded backlog is created when a potential customer awards a project to us following a request for proposal. Once a project is awarded but not yet contracted, we typically conduct a detailed review to determine the scope of the project. At this point, we also determine the sub-contractor, and what equipment will be used. Historically, awarded projects typically have taken 45 days to result in a signed contract and thus convert to fully-contracted backlog. This process may take longer, however, depending upon the size and complexity of the project. Further, at times in the past we have experienced periods during which the portion of the sales cycle for converting awarded project to signed contracts has lengthened. Recently, we have been experiencing an unusually sustained lengthening of conversion times. Continued U.S. federal fiscal uncertainty not only has contributed to a lengthening of our sales cycle for U.S. federal projects, but also has adversely affected both municipal and commercial customers across most geographic regions. We have observed among our existing and prospective customer base increased scrutiny of decisions about spending and about incurring debt to finance projects. For example, we have observed increased use of outside consultants and advisors, as well as adoption of additional approval steps, by many of our customers, which has resulted in a lengthening of the sales cycle. We expect this trend to continue in 2014. After the customer agrees to the terms of the contract and the contract is executed, the project moves to fully-contracted backlog. The contracts reflected in our fully-contracted backlog typically have a construction period of 30-45days and we typically expect to recognize revenue for such contracts over the same period. Fully-contracted backlog begins converting into revenue generated from backlog on a percentage-of-completion basis once construction has commenced.
Financial Operations Overview
Revenue
We derive revenue from the provision of asbestos abatement, demolition, and mold remediation services to city, state, and federal agencies. We also sell services to general contractors, developers, project owners, and industrial and commercial clients. Much of our work has been founded on the removal of hazardous materials from structures ranging from residences to commercial and industrial applications.
For the quarter ended June 30, 2014, Hunt Construction, the general contractor for the Company’s Southeastern University project, accounted for 11% of revenues. For the quarter ended June 30, 2013, the Florida Department of Transportation and the Louisiana Land Trust both accounted for 10% or more of revenue.
Direct Expenses and Gross Margin
Direct expenses include the cost of labor, materials, equipment, subcontracting and outside engineering that are required for the execution our contracts, as well as preconstruction costs, sales incentives, associated travel, inventory obsolescence charges, and amortization of intangible assets related to customer contracts. A majority of our contracts have fixed price terms; however, in some cases we negotiate protections, such as a cost-plus structure, to mitigate the risk of rising prices for materials, services and equipment.
Gross margin, which is gross profit as a percent of revenue, is affected by a number of factors, including the type of services performed and the geographic region in which the sale is made. Geographic location impacts the cost of disposal, lodging, and fuel. We sometimes find ourselves bidding against local contractors. In these instances, we may be willing to accept a lower profit margin in order to establish ourselves with a new client, or in a new geographic location.
Rising fuel costs affect us in several ways. Fuel in our trucks and equipment has an immediate cost impact. Increases in petroleum prices increase the costs for remediation due because petroleum products are used to make all poly, bags, etc. that we use for contaminated materials containment.
In addition, gross margin frequently varies across the period of a project. Our expected gross margin on, and expected revenue for, a project are based on budgeted costs. From time to time, a portion of the contingencies reflected in budgeted costs are not incurred due to strong execution performance. In that case, and generally at project completion, we recognize revenue for which there is no further corresponding direct expense. As a result, gross margin tends to be back-loaded for projects with strong execution performance; this explains the gross margin improvement that occurs from time to time at project closeout. We refer to this gross margin improvement at the time of project completion as a project closeout.
Operating Expenses
Operating expenses consist of salaries and benefits, project development costs, and general, administrative and other expenses.
Salaries and benefits
. Salaries and benefits consist primarily of expenses for personnel not directly engaged in specific revenue generating activity. These expenses include the time of executive management, legal, finance, accounting, human resources, information technology and other staff not utilized in a particular project. We employ a comprehensive time card system which creates a contemporaneous record of the actual time by employees on project activity.
Project development costs
. Project development costs consist primarily of sales, engineering, legal, finance and third-party expenses directly related to the development of a specific customer opportunity. This also includes associated travel and marketing expenses.
General, administrative and other expenses
. These expenses consist primarily of rents and occupancy, professional services, insurance, unallocated travel expenses, telecommunications, and office expenses. Professional services consist principally of recruiting costs, external legal, audit, tax and other consulting services.
Other Expenses, Net
Other expenses, net consists primarily of interest income on cash balances, interest expense on borrowings, and gains and losses on the disposal of surplus assets. Interest expense will vary periodically depending on prevailing short-term interest rates.
Critical Accounting Policies
The preparation of financial statements and related disclosures in conformity with U.S. generally accepted accounting principles (“GAAP”) and the Company’s discussion and analysis of its financial condition and operating results require the Company’s management to make judgments, assumptions, and estimates that affect the amounts reported in its consolidated financial statements and accompanying notes. Note 2, “Summary of Significant Accounting Policies” of the Notes to Consolidated Financial Statements in Part I, Item I of this Form 10-Q describes the significant accounting policies and methods used in the preparation of the Company’s consolidated financial statements. Management bases its estimates on historical experience and on various other assumptions it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities.
We have identified the policies below as critical to our business operations and the understanding of our results of operations. The Company’s senior management has reviewed these critical accounting policies and related disclosures with the Company’s Board of Directors. The impact and any associated risks related to these policies on our business operations are discussed throughout this section where such policies affect our reported and expected financial results. Our preparation of financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of our financial statements, and the reported amounts of revenues and expenses during the reporting period. There can be no assurance that actual results will not differ from those estimates and such differences may be material.
Cash and Cash Equivalents
We consider all highly liquid debt instruments and other short-term investments with maturity of three months or less to be cash equivalents.
Contracts Receivable
Contracts receivable are stated at the amounts management expects to collect from outstanding balances. Management provides for probable uncollectible amounts through a charge to earnings and a credit to a valuation allowance based on its assessment of the current status of individual accounts. Balances outstanding after management has used reasonable collection efforts are written off through a charge to the valuation allowance and a credit to trade contracts receivable. Management has determined that an allowance of $201,000 for doubtful accounts at June 30, 2014 and June 30, 2013 is required.
Contracts receivable will generally be due within 30 to 45 days and collateral is not required.
Cost and estimated earnings in excess of billings on uncompleted contracts
The asset, "Costs and estimated earnings in excess of billings on uncompleted contracts," represents revenues recognized in excess of amounts billed.
The liability, "Billings in excess of costs and estimated earnings on uncompleted contracts," represents billings in excess of revenues recognized.
Recoverability of Long-Lived Assets
We review the recoverability of long-lived assets on a periodic basis whenever events and changes in circumstances have occurred which may indicate a possible impairment. The assessment for potential impairment is based primarily on our ability to recover the carrying value of our long-lived assets from expected future cash flows from our operations on an undiscounted basis. If such assets are determined to be impaired, the impairment recognized is the amount by which the carrying value of the assets exceeds the fair value of the assets. Fixed assets to be disposed of by sale are carried at the lower of the then current carrying value or fair value less estimated costs to sell.
Fair Value of Financial Instruments
The carrying amount reported in the balance sheets for cash and cash equivalents, contracts receivable, accounts payable, and accrued expenses approximate fair value because of the immediate or short-term maturity of these financial instruments. We do not utilize derivative instruments.
Revenue and Cost Recognition
The Company recognizes revenues from fixed-price and modified fixed-price construction contracts on the percentage-of-completion method, measured by the percentage of cost incurred to date to estimated total cost for each contract. This method is used because management considers total cost to be the best available measure of progress on the contracts.
Contract costs include all direct material and labor costs and those indirect costs related to contract performance, such as indirect labor, supplies, tools, repairs, and depreciation. Selling, general, and administrative costs are charged to expenses as incurred.
Provisions for estimated losses on uncompleted contracts, if any, are made in the period in which such losses are determined. Changes in job performance, job conditions, and estimated profitability may result in revisions to costs and income, which are recognized in the period in which the revisions are determined.
The asset, "Costs and estimated earnings in excess of billings on uncompleted contracts," represents revenues recognized in excess of amounts billed.
The liability, "Billings in excess of costs and estimated earnings on uncompleted contracts," represents billings in excess of revenues recognized.
Contract retentions are included in contract receivables.
Net Earnings (Loss) Per Share of Common Stock
The basic net loss per common share is computed by dividing the net loss by the weighted average number of common shares outstanding. Diluted net loss per share gives effect to all dilutive potential common shares outstanding during the period using the “as if converted” basis.
Uncertainty in Income Taxes
Management considers the likelihood of changes by taxing authorities in its filed income tax returns and recognizes a liability for or discloses potential changes that management believes are more likely than not to occur upon examination by tax authorities. Management has not identified any uncertain tax positions in filed income tax returns or this merger that require recognition or disclosure. The Company’s income tax returns for the past three years are subject to examination by tax authorities, and may change upon examination.
We follow ASC 740-10, Accounting for Uncertainty in Income Taxes (“ASC 740-10”). This interpretation requires recognition and measurement of uncertain income tax positions using a “more-likely-than-not” approach. ASC 740-10 is effective for fiscal years beginning after December 15, 2006. Management has adopted ASC 740-10 and they evaluate their tax positions on an annual basis.
Prior to November 1, 2013 CES had elected by unanimous consent of its shareholders to be taxed under the provisions of subchapter S of the Internal Revenue Code. Under those provisions, CES did not pay federal or state corporate income taxes on its taxable income. Instead, the stockholders were liable for individual federal income taxes on their respective shares of the Company's taxable income. Since November 1, 2013, the Company is responsible for paying corporate income tax. The Company did not make a profit in the six months ended June 30, 2014, and therefore, no provision or liability for Federal income taxes is included on these financial statements.
Advertising
(in thousands, except percentages)
Advertising costs are expensed when incurred. Advertising costs for the quarters ending June 30, 2014 and 2013 were $1.6 and $0.6, respectively. Historically, the Company has not relied on advertising and marketing to generate business. In the fourth quarter of 2013, the Company hired a marketing/sales manager to expand its marketing activities.
Results of Operations
(in thousands, except percentages)
Quarter Ended June 30, 2014 Compared to Quarter Ended June 30, 2013
Net sales grew 39% or $1,312 during the quarter ended June 30, 2014 compared to June 30, 2013. Revenues in the Demolition segment increased by $1,450 or 95%. The Remediation and Insulation segments both experienced declines in sales in the quarter ($103 and $35 respectively). The increase in Demolition, the largest Company segment, was primarily attributable to revenues from the Company’s contract for Southeastern University in Lakeland, FL. Remediation division sales typically fluctuate from year to year. The decline in the Insulation segment was due primarily to lower maintenance spending by a large supermarket chain in the southeastern United States.
Management believes that the Company can continue to grow revenues by expanding into new geographic areas in the south and eastern USA. During the quarter ended June 30, 2014, the Company hired three new sales staff to support its growth plans. Those persons are located in Florida and Louisiana. In the second quarter all of the salesmen brought in new business that is either underway or awarded in the quarter.
In the second quarter of 2014, approximately $1,000 of revenues were derived from contracts in Louisiana ($350 in 2013). Revenues were more heavily concentrated in Florida in the second quarter of 2014 as a result of new contract wins in the state, including demolition contracts in Silver Springs (valued at $431) and with the Florida Department of Transportation ($379), and remediation contracts at the Daytona Speedway ($1,100), the Federal Courthouse in Jacksonville ($376), and Hill Middle School ($367). The Daytona contract will also have a significant scrap revenue stream that will cover a portion of our funding of startup costs for the contract.
New contract awards in the second quarter of 2014 included remediation contracts for the Rivarde Juvenile Detention Center in Louisiana and Daytona International Speedway in Florida, and demolition contracts for Louisiana Land Trust and Jackson Barracks in Louisiana.
Sales Data
The following table shows net sales by operating segment and net sales by service during the quarters ended June 30, 2014 and 2013 (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net Sales by Operating Segment:
|
|
|
|
|
|
|
|
|
|
|
Remediation
|
|
$
|
1,559
|
|
|
|
-6
|
%
|
|
$
|
1,662
|
|
|
Demolition
|
|
|
2,974
|
|
|
|
95
|
%
|
|
|
1,524
|
|
|
Insulation
|
|
|
148
|
|
|
|
-19
|
%
|
|
|
183
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net sales
|
|
$
|
4,681
|
|
|
|
39
|
%
|
|
$
|
3,369
|
|
Segment Operating Performance (
in thousands, except percentages)
The Company manages its business on a functional basis. Accordingly, the Company determined its reportable operating segments, which are generally based on the types of services it provides, to be Remediation, Demolition and Insulation. Remediation derives its income from mold remediation and abatement services for a broad range of environments. Demolition offers full scale commercial demolition and wrecking. Insulation derives its revenue from re-insulation and insulation of new and remodeling projects.
Further information regarding the Company’s operating segments may be found in Note 16, “Segment Information.”
Remediation
Remediation services comprise asbestos abatement, lead removal, mold remediation, indoor air quality/duct cleaning, and removal of: contaminated soil, animal waste removal, manual selective and complete interior demolition including removal of floor covering, and adhesive removal. These services are primarily performed for commercial, retail, governmental, industrial, military, public and private schools.
The following table presents Remediation net sales information for the quarters ended June 30, 2014 and 2013 (dollars in thousands):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net sales
|
|
$
|
1,559
|
|
|
$
|
(103)
|
|
|
$
|
1,662
|
|
|
Percentage of total net sales
|
|
|
33
|
%
|
|
|
(16%)
|
|
|
|
49
|
%
|
The decrease in the Remediation segment net sales during the quarter ended June 30, 2014 was caused by typical business fluctuations. Volatility in revenues arises because contracts are of a short duration (typically a month or less). Remediation is usually the first activity performed in a contract and therefore the first part to be completed. In larger projects it is not unusual to perform work in stages over the course of several months. The average size and number of projects in the segment in the first quarter of 2013 were greater than in the corresponding quarter of 2014. The Company has no control over the amount of work available to bid from year to year. It is the nature of the Remediation business to have these highs and lows.
Demolition
Demolition services comprise partial, phased and complete demolition of commercial, retail, private, governmental, industrial, military, public and private schools. Demolition activities include, building separations, concrete breaking and saw-cutting, using the Company’s own man-lifts, bobcats, roll-off containers and roll-off trucks for hauling and disposal of construction debris. The Company focuses on asbestos, mold and lead remediation, and interior demolition. The Company also provides full-scale commercial demolition and wrecking, as well as underground and above ground storage tank removal, and full-scale site clearing including underground pipe removal and installation.
Hurricanes and natural disasters are the biggest factor in the creation of large scale demolition opportunities for the Company. As a result, the work is unpredictable. Demolition contracts range widely in price from $30 to $20,000. Demolition contracts last anywhere from two weeks (to demolish a one-story masonry commercial building such as a home improvement store) to two years or more to demolish concrete slabs left by a hurricane such as Katrina.
The following table presents Demolition net sales information for the quarters ended June 30, 2014 and 2013 (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net sales
|
|
$
|
2,974
|
|
|
$
|
1,450
|
|
|
$
|
1,524
|
|
|
Percentage of total net sales
|
|
|
64
|
%
|
|
|
19%
|
|
|
|
45
|
%
|
The increase in net sales for the Demolition segment during the quarter ended June 30, 2014 was caused by the additional revenue from two major contracts: the Southeastern University project, and a contract with the City of Mulberry in Florida for improvements to its water system. Second quarter 2014 revenue from these two projects was $161.
Insulation
Our Insulation segment derives its revenue from re-insulation and insulation of new and remodeling projects. The segment typically does not experience large changes in revenues year over year. The amount of sales is typically driven by the amount of remodeling or maintenance work required by a large supermarket chain, with which the Company has a three-year contract that typically renews upon review at the end of each term.
The following table presents Insulation net sales information for the quarters ended June 30, 2014 and 2013 (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net sales
|
|
$
|
148
|
|
|
$
|
35
|
|
|
$
|
183
|
|
|
Percentage of total net sales
|
|
|
3
|
%
|
|
|
(2%)
|
|
|
|
5
|
%
|
The decrease in the Insulation segment net sales between the quarters ended June 30, 2014 and 2013 was caused primarily by a reduction in work provided to the aforementioned supermarket chain.
Gross Margin
Gross margin for the quarters ended June 30, 2014 and 2013 are as follows (in thousands, except gross margin percentages):
|
|
|
2014
|
|
|
2013
|
|
|
Net sales
|
|
$
|
4,681
|
|
|
$
|
3,369
|
|
|
Cost of sales
|
|
|
3,384
|
|
|
|
2,823
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross margin
|
|
$
|
1,297
|
|
|
$
|
546
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross margin percentage
|
|
|
28
|
%
|
|
|
16
|
%
|
The gross margin percentage in the quarter ended June 30, 2014 was 28% compared to 16% in the quarter ended June 30, 2013. The improvement in year-over-year gross margins was caused by decreased use of subcontractors, lower job site and other indirect costs, and decreases in dump fees and fuel costs. We believe our profit margin will continue to increase as we continue to be able to bid these larger projects with an increased margin due to fewer bidders being qualified to bid these types of jobs.
The Company anticipates that gross margin during the balance of 2014 will be between 23% and 26%. In general, gross margins and margins on services will remain under pressure due to a variety of factors, including continued industry-wide pricing pressures and increased competition. In response to competitive pressures, the Company may have to take service pricing actions, which could adversely affect gross margins. Gross margins could also be affected by the Company’s ability to manage costs effectively and to stimulate demand for certain of its products. To counteract the pressure on margins, the Company is working to improve its budget management processes for contracts, in particular to improve its ability to track and charge for change orders as they occur. The Company may also decline to bid on contracts where gross margins fall below acceptable levels.
Operating Expenses
Operating expenses for the quarters ended June 30, 2014 and 2013 are as follows (in thousands, except for percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
General and administrative
|
|
$
|
1,265
|
|
|
$
|
358
|
|
|
$
|
907
|
|
|
Percentage of total net sales
|
|
|
27
|
%
|
|
|
|
|
|
|
27
|
%
|
General and Administrative (“G&A”) Expense
The growth in G&A during the quarter ended June 30, 2014 was caused by a number of factors, including increases in compensation costs (increased by $186), higher rents associated with the leases of the Company’s headquarter building in Crystal Springs FL, a building in Zephyrhills FL and an office in Miami FL (increased by $80), and higher loan costs associated with an increase in borrowings ($55).
Compensation cost increases occurred as a result of the hire of new sales staff, recruited in anticipation of expansion of sales efforts into new states (increased by $64), an increase in office salaries ($47) resulting from the hire of an internal IT Manager and in-house legal counsel, and an increase in officers’ salaries ($62; since the Company restructured itself as a public company, the CEO no longer receives compensation through regular dividends).
Rent expenses increased as the Company paid rent on its headquarter building in Crystal Springs FL, which is owned by the CEO. Prior to becoming a public company, the Company received use of the building at no cost from the CEO. The Company also leased new premises in Zephyrhills, FL in anticipation of needing more space for its plans to expand its marketing and bidding activities.
Having in-house counsel allows the Company to improve the efficiency of contract reviews and negotiations With a stronger legal presence, we also are able to successfully collect or litigate receivables in a more timely manner when needed.
Our IT department has installed our new servers and all offices are now connected remotely. We now routinely have video conferencing, which eliminates travel to the home office- saving time and gas. Additionally, project managers now have tablets for their work in the field, which has improved the effectiveness of walk-through and preconstruction visits. Pictures and plans can be downloaded from the field to our servers for instant access by anyone who needs to review them, prepare bids, etc.
Other Income and Expense
Other income and expense for the quarters ended June 30, 2014 and 2013 are as follows (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Other Income(Expenses)
|
|
$
|
143
|
|
|
$
|
169
|
|
|
$
|
(26)
|
|
|
Interest expense
|
|
|
(66
|
)
|
|
|
24
|
|
|
|
(42
|
)
|
|
Total other income/(expense), net
|
|
$
|
77
|
|
|
|
145
|
|
|
$
|
(68
|
)
|
The year-over-year increase in other income during the quarter ended June 30, 2014 was due primarily to a state mandated excess profit insurance refund ($142), offset by increased interest expense resulting from the Company’s higher debt balance.
Provision for Income Taxes
Prior to November 1 2013, CES elected to be taxed under the provisions of subchapter S of the Internal Revenue Code. Under those provisions, during and prior to 2013, CES did not pay federal or state corporate income taxes on its taxable income. Instead, the stockholders were liable for individual federal income taxes on their respective shares of the Company's taxable income. Therefore, no provision or liability for Federal income taxes was included in 2013 financial reports.
Provision for income taxes and effective tax rates for the quarters ended June 30, 2014 and 2013 was as follows (dollars in thousands):
|
|
|
Three Months Ended
|
|
|
|
|
June 30,
2014
|
|
|
June 30,
2013
|
|
|
Provision for income taxes
|
|
$
|
-
|
|
|
$
|
-
|
|
|
Effective tax rate
|
|
|
0%
|
|
|
|
-
|
|
The Company’s effective tax rates for the quarter ended June 30, 2014 was nil because of the losses carried forward from prior periods, which offset the profit recorded by the Company in the quarter.
Six Months Ended June 30, 2014 Compared to Six Months Ended June 30, 2013(in thousands, except percentages)
Net sales grew 26% or $1,725 during the six months ended June 30, 2014 compared to June 30, 2013. Revenues in the Demolition segment increased by $2,182 or 67%. The Remediation and Insulation segments both experienced decreased net sales in the six months ($392 and $65 respectively). The increase in Demolition, the largest Company segment, was primarily attributable to revenues from the Company’s contract for Southeastern University in Lakeland, FL. Remediation division sales typically fluctuate from year to year. The decline in the Insulation segment was due primarily to lower maintenance spending by a large supermarket chain in the southeastern United States.
Management believes that the Company can continue to grow revenues by expanding into new geographic areas in the south and eastern USA. During the six months ended June 30, 2014, the Company hired three new sales staff to support its growth plans. Those persons are located in Florida and Louisiana. As mentioned above, they have been successful in winning new business in the first half of 2014 in both states. The Company is also looking at new opportunities in other states.
Sales Data
The following table shows net sales by operating segment and net sales by service during the six months ended June 30, 2014 and 2013 (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net Sales by Operating Segment:
|
|
|
|
|
|
|
|
|
|
|
Remediation
|
|
$
|
2,745
|
|
|
|
-13
|
%
|
|
$
|
3,137
|
|
|
Demolition
|
|
|
5,450
|
|
|
|
67
|
%
|
|
|
3,268
|
|
|
Insulation
|
|
|
298
|
|
|
|
-18
|
%
|
|
|
364
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net sales
|
|
$
|
3,818
|
|
|
|
7
|
%
|
|
$
|
3,398
|
|
Segment Operating Performance (
in thousands, except percentages)
The Company’s reportable operating segments are Remediation, Demolition and Insulation. Remediation derives its income from mold remediation and abatement services for a broad range of environments. Demolition offers full scale commercial demolition and wrecking. Insulation derives its revenue from re-insulation and insulation of new and remodeling projects.
Further information regarding the Company’s operating segments may be found in Note 16, “Segment Information.”
Remediation
The following table presents Remediation net sales information for the six months ended June 30, 2014 and 2013 (dollars in thousands):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net sales
|
|
$
|
2,745
|
|
|
$
|
(392
|
)
|
|
$
|
3,317
|
|
|
Percentage of total net sales
|
|
|
32
|
%
|
|
|
(14%)
|
|
|
|
46
|
%
|
The decrease in the Remediation segment net sales during the six months ended June 30, 2014 was caused by typical business fluctuations. Volatility in revenues arises because contracts are of a short duration (typically a month or less). The Company has no control over the amount of work available to bid from year to year. The average size and number of projects in the segment in the first six months of 2013 were greater than in the corresponding six months of 2014.
Demolition
The following table presents Demolition net sales information for the six months ended June 30, 2014 and 2013 (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net sales
|
|
$
|
5,450
|
|
|
$
|
2,182
|
|
|
$
|
3,268
|
|
|
Percentage of total net sales
|
|
|
64
|
%
|
|
|
16%
|
|
|
|
48
|
%
|
The increase in net sales for the Demolition segment during the six months ended June 30, 2014 was caused by the additional revenue from two major contracts: the Southeastern University project, and a contract with the City of Mulberry in Florida for improvements to its water system. Revenues during the first six months of 2014 from these two projects was $922.
Insulation
The following table presents Insulation net sales information for the six months ended June 30, 2014 and 2013 (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Net sales
|
|
$
|
298
|
|
|
$
|
(65)
|
|
|
$
|
363
|
|
|
Percentage of total net sales
|
|
|
4
|
%
|
|
|
1%
|
|
|
|
5
|
%
|
The decrease in the Insulation segment net sales between the six months ended June 30, 2014 and 2013 was caused primarily by a reduction in remodeling or maintenance work provided to a large supermarket chain, with which the Company has a new contract for one year, with automatic renewals.
Gross Margin
Gross margin for the six months ended June 30, 2014 and 2013 are as follows (in thousands, except gross margin percentages):
|
|
|
2014
|
|
|
2013
|
|
|
Net sales
|
|
$
|
8,493
|
|
|
$
|
6,768
|
|
|
Cost of sales
|
|
|
6,514
|
|
|
|
5,326
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross margin
|
|
$
|
1,980
|
|
|
$
|
1,442
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross margin percentage
|
|
|
23
|
%
|
|
|
21
|
%
|
The improvement in year-over-year gross margins was caused by lower use of subcontractors, lower job site and other indirect costs, decreases in dump fees and fuel costs.
Operating Expenses
Operating expenses for the six months ended June 30, 2014 and 2013 are as follows (in thousands, except for percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
General and administrative
|
|
$
|
2,441
|
|
|
$
|
739
|
|
|
$
|
1,702
|
|
|
Percentage of total net sales
|
|
|
29
|
%
|
|
|
3%
|
|
|
|
25
|
%
|
General and Administrative (“G&A”) Expense
The growth in G&A during the six months ended June 30, 2014 was caused by a number of factors, including increases in compensation costs (increased by $353), higher rents associated with the leases of the Company’s headquarter building in Crystal Springs, FL, a building in Zephyrhills, FL and an office in Miami, FL (increased by $153), higher group health care insurance costs (increased by $70), higher loan costs (increased by $55), and professional fees associated and stock compensation costs (increased by $102).
Compensation cost increases occurred as a result of the hire of new sales staff, recruited in anticipation of expansion of sales efforts into new states (increased by $132), higher office salaries (increased by $85 for a new IT Manager and in-house counsel), and an increase in officers’ salaries ($123; since the Company restructured itself as a public company, the CEO no longer receives compensation through regular dividends).
Rent expenses increased as the Company paid rent on its headquarter building in Crystal Springs FL, which is owned by the CEO. Prior to becoming a public company, the Company received use of the building a no cost from the CEO. The Company also leased new premises in Zephyrhills FL in anticipation of needing more space for its plans to expand its marketing and bidding activities.
Other Income and Expense
Other income and expense for the six months ended June 30, 2014 and 2013 are as follows (in thousands, except percentages):
|
|
|
2014
|
|
|
Change
|
|
|
2013
|
|
|
Other Income(Expenses)
|
|
$
|
(2
|
)
|
|
$
|
3
|
|
|
$
|
1
|
|
|
Interest expense
|
|
|
(50
|
)
|
|
|
14
|
|
|
|
(36
|
)
|
|
Total other income/(expense), net
|
|
$
|
(52
|
)
|
|
|
17
|
|
|
$
|
(35
|
)
|
The year-over-year increase in other income during the quarter ended June 30, 2014 was due primarily to a state-mandated insurance refund, offset by increased interest expense resulting from the Company’s higher debt balance.
Provision for Income Taxes
Prior to November 1 2013, CES elected to be taxed under the provisions of subchapter S of the Internal Revenue Code. Under those provisions, during and prior to 2013, CES did not pay federal or state corporate income taxes on its taxable income. Instead, the stockholders were liable for individual federal income taxes on their respective shares of the Company's taxable income. Therefore, no provision or liability for Federal income taxes was included in 2013 financial reports.
Provision for income taxes and effective tax rates for the six months ended June 30, 2014 and 2013 was as follows (dollars in thousands):
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
2014
|
|
|
June 30,
2013
|
|
|
Provision for income taxes
|
|
$
|
-
|
|
|
$
|
-
|
|
|
Effective tax rate
|
|
|
0%
|
|
|
|
-
|
|
The Company’s effective tax rates for the six months ended June 30, 2014 was nil because of the losses carried forward from prior periods, which offset the profit recorded by the Company in the first half of 2014.
Liquidity and Capital Resources (
in thousands, except percentages)
The Company believes its existing balances of cash, cash equivalents and marketable securities will be sufficient to satisfy its working capital needs, capital asset purchases, outstanding commitments, and other liquidity requirements associated with its existing operations over the next 12 months. The Company will seek, however, to raise up to $5,000 in additional capital in 2014 to support its expansion plans.
The Company’s cash, cash equivalents and marketable securities were generally held in held in bank accounts.
The following table presents selected financial information and statistics as of June 30, 2014 and December 31, 2013 (in $ thousands):
|
|
|
June 30
|
|
|
December 31,
|
|
|
|
|
2014
|
|
|
2013
|
|
|
Cash, cash equivalents and marketable securities
|
|
$
|
73
|
|
|
$
|
250
|
|
|
Property, plant and equipment, net
|
|
$
|
2,102
|
|
|
$
|
2,161
|
|
|
Long-term debt
|
|
$
|
4,532
|
|
|
$
|
4,731
|
|
|
Working capital
|
|
$
|
2,163
|
|
|
$
|
2,825
|
|
The following table presents selected financial information and statistics about the Company’s sources and uses of cash during the first six months of 2014 and 2013 (in $ thousands):
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
|
2014
|
|
|
2013
|
|
|
Cash generated by/ (used in) operating activities
|
|
$
|
(341
|
)
|
|
$
|
735
|
|
|
Cash used in investing activities
|
|
$
|
(362
|
)
|
|
$
|
(302
|
)
|
|
Cash generated by/ (used in) financing activities
|
|
$
|
767
|
|
|
$
|
35
|
|
During the six months ended June 30, 2014, the cash used in operating activities of $(341) was a result of $(437) of net loss, non-cash adjustments to net income of $276 and a net change in operating assets and liabilities of $(180). The Company used $(362) of cash for investing activities during the six months, to purchase property and equipment. There were no disposals of equipment in the six months. Cash generated by financing activities during the six months ($767) came from the issuance of new debt ($5,206) and common stock ($282), some of which was used to repay debt ($4,721). No distributions were paid in the first six months of 2014.
During the six months ended June 30, 2013, cash provided by operating activities of $735 was a result of a net loss of $(364), non-cash adjustments to net income of $294 and an increase in net change in operating assets and liabilities of $805. The Company used $(302) of cash for investing activities during the six months, to purchase property and equipment. There were no proceeds from disposals of equipment in 2013. Cash provided by financing activities during 2013 arose from the issuance of new debt ($692), some of which was used to repay debt ($223) and for distributions to shareholders ($435).
Capital Assets
The Company’s capital expenditures were $362 during the six months ended June 30, 2014, consisting of primarily of purchases of transportation and earth moving equipment, and computer and communications equipment.
The transportation and earth moving equipment is being used to replace ageing vans used in the remediation division, and to purchase mini excavators being utilized both in Silver Springs (Demolition) and Daytona Speedway (Remediation).
The computer and communications equipment was acquired to improve inter-office communications, thereby reducing travel costs, and to improve contract bidding and marketing capabilities.
The Company plans to raise up to $5,000 in new capital for capital expenditures in 2014, a portion of which will be used to renovate office space in Zephyrhills, and to open another satellite office in the south.
Long-Term Debt
(
in thousands, except percentages)
To date the Company has financed its operations through internally generated revenue from operations, the sale of common stock, the issuance of notes, and loans from shareholders. The following debt was outstanding at June 30, 2014:
(i) Installment loan from shareholder, Clyde Biston, with a monthly payment of $24, bearing annual interest at 6.15%. At June 30, 2014, $2,781 was outstanding under the loan. In the six months ended June 30, 2014, the Company repaid $19 of principal under the loan.
(ii) A line of credit from Florida Traditions Bank, Dade City, FL, bearing variable interest of 1.25% over prime, secured by land, improvements, and accounts receivable. The line of credit matures on April 30, 2015. At June 30, 2014, $1,750 was outstanding under the line. In the six months ended June 30, 2014, the Company made no repayments of principal under the line, and borrowed no additional principal.
(iii) Various installment loans payable in payments, with interest rates ranging from 0% to 9.5%, secured by various equipment, and property. At June 30, 2014, $1,158 was outstanding under the loans. In the six months ended June 30, 2014, the Company repaid $121 of principal under the loans.
At June 30, 2014, a total of $5,689 was outstanding under all loans and the line of credit. $2,417 of that amount is due and payable in the 12 months following that date.
Dividend Program
As a privately-owned company prior to November 1, 2013, CES was owned by Clyde Biston. Mr. Biston elected to receive part of his compensation in the form of distributions paid to himself as the sole shareholder. The distributions made to Mr. Biston are summarized in the following table (in thousands):
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
2014
|
|
|
June 30,
2013
|
|
|
Cash dividends paid (sub S distribution in 2013)
|
|
$
|
-
|
|
|
$
|
435
|
|
The Company does not expect to pay any dividends or make any distributions to shareholders in 2014.
Off-Balance Sheet Arrangements
The Company does not have any off balance sheet arrangements.
Indemnification
The Company generally does not indemnify its customers against legal claims arising from services it provides. The Company has not been required to make any significant payments resulting from such services.
The Company has entered into indemnification agreements with its directors and executive officers. Under these agreements, the Company has agreed to indemnify such individuals to the fullest extent permitted by law against liabilities that arise by reason of their status as directors or officers and to advance expenses incurred by such individuals in connection with related legal proceedings. It is not possible to determine the maximum potential amount of payments the Company could be required to make under these agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each claim. However, the Company maintains directors and officers liability insurance coverage to reduce its exposure to such obligations, and payments made under these agreements historically have not been material.