UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2013

 

Commission File Number: 000-54417

 

Integrated Drilling Equipment Holdings Corp.

(Exact name of registrant as specified in its charter)

____________________

 

Delaware
(State or other jurisdiction of
incorporation or organization) 		27-5079295
(I.R.S. Employer
Identification Number)
   
25311 I-45 North
Woodpark Business Center, Bldg 6
Spring, Texas 77380
(Address of principal executive offices) 		77380
(Zip Code)

 

 

Registrant’s telephone number, including area code:  ( 281) 465-9393

Not Applicable
(Former name or former address, if changed since last report)

____________________

 

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  S   No  £

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Date File required to be submitted and posted 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 and post such files).   S

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer £ Accelerated filer £

 

Non-accelerated filer £ (Do not check if a smaller reporting company) Smaller reporting company S

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  £   No  S

 

As of August 14, 2013, there were 8,685,700 shares of Company’s common stock issued and outstanding.

 

 
 

 

TABLE OF CONTENTS

 

PAGE

 

PART I.    
     
  CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS 1
     
ITEM 1. FINANCIAL STATEMENTS 3
     
  Condensed Consolidated Balance Sheets 3
     
  Condensed Consolidated Statements of Operations 4
     
  Condensed Consolidated Statements of Changes in Stockholders’ Deficit 5
     
  Condensed Consolidated Statements of Cash Flows 6
     
  Notes to Condensed Consolidated Financial Statements 7
     
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 14
     
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 21
     
ITEM 4. CONTROLS AND PROCEDURES 21
     
PART II.    
     
ITEM 1. LEGAL PROCEEDINGS 21
     
ITEM 1A. RISK FACTORS 21
     
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS 21
     
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 22
     
ITEM 4. MINE SAFETY AND DISCLOSURES 22
     
ITEM 5. OTHER INFORMATION 22
     
ITEM 6. EXHIBITS 22

 

i
 

 

PART I.

 

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

This Quarterly Report on Form 10-Q (the “report”) includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements can be identified by the use of forward-looking language, including the words “believes,” “estimates,” “anticipates,” “expects,” “intends,” “plans,” “may,” “will,” “potential,” “projects,” “predicts,” “forecasts,” “continue,” or “should,” or, in each case, their negative or other variations or comparable terminology. There can be no assurance that actual results will not materially differ from expectations. These forward-looking statements include any statements that are not statements of historical facts. These forward-looking statements are based on management’s current expectations, but actual results may differ materially due to various factors, including:

 

· Our limited operating history and ability to generate consistent cash flows.

 

· Our ability to maintain existing customers and timely deliver our backlog.

 

· Our ability to manage anticipated growth, develop new products and services and integrate future acquisitions and joint ventures.

 

· Trends in the oil and gas industry, including changes in oil and natural gas prices and consolidation in this industry.

 

· Intense competition and availability and cost of materials, equipment and supplies.

 

· Our ability to retain and compete for the services of management and highly-trained technical or trade personnel.

 

· Instability in international economic and political conditions and severe weather.

 

· Complying with U.S. laws and regulations while competing with foreign companies not subject to these laws and regulations.

 

· Losses on fixed-price contracts or loss of any of our major customers.

 

· Our ability to service our debt and pay dividends.

 

· That the complexity of percentage-of-completion accounting and the fact that we may be required to recognize a charge against current earnings under these accounting rules.

 

· Our officers, directors and principal stockholders, who hold a significant percentage of our stock, may have interests that are different or adverse to other stockholders.

 

· Our ability to obtain additional financing and comply with restrictive covenants under our existing and future debt agreements.

 

· That we may issue additional debt securities or otherwise incur substantial indebtedness.

 

· Impact of litigation and the availability and cost of insurance.

 

· Compliance with environmental laws and regulations.

 

· Increased burdens of being a public company, including complying with the Sarbanes Oxley Act and the Dodd-Frank Act.

 

1
 

 

· Lack of an active, liquid market for our common stock, which may impact our stock price, or we may issue additional equity securities.

 

· Fluctuations in our quarterly operating reports.

 

· Impact of qualifying as a controlled company and smaller reporting company.

 

· Effect of anti-takeover provisions in our charter documents and Delaware law.

 

· Our warrants may be amended or redeemed at a time that disadvantages warrant holders or our warrants may expire without any value.

 

· Dilutive impact of registration rights granted to Empeiria Investors LLC, our sponsor, our officers and directors and other parties.

 

· Other risks and uncertainties described from time to time in our filings with the Securities and Exchange Commission.

 

By their nature, forward-looking statements involve risks and uncertainties because they relate to events and depend on circumstances that may or may not occur in the future. We caution that forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity, and developments in the industry in which we operate may differ materially from those made in or suggested by the forward-looking statements contained in this report. In addition, even if our results of operations, financial condition and liquidity, and developments in the industry in which we operate are consistent with the forward-looking statements contained in this report, those results or developments may not be indicative of results or developments in subsequent periods.

 

These forward-looking statements are subject to numerous risks, uncertainties and assumptions. Except as required by applicable law, we undertake no obligation and disclaim any obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

Unless otherwise provided in this report, references to the “Company,” “we,” “us” and “our” refer to Integrated Drilling Equipment Holdings Corp. and its subsidiaries.

 

2
 

 

ITEM 1. FINANCIAL STATEMENTS

 

Integrated Drilling Equipment Holdings Corp.

Condensed Consolidated Balance Sheets

(unaudited)

 

(in thousands, except share and par value)   June 30,
2013 		    December 31,
2012 		 
             
Assets            
Current assets            
Cash and cash equivalents   $ 1,212     $ 1,602  
Restricted cash     138       503  
Accounts receivable, net     14,233       27,393  
Inventories, net     7,643       12,339  
Deferred financing costs, net     2,732       -  
Deferred tax assets     946       1,036  
Prepaid expenses and other current assets     559       1,041  
Total current assets     27,463       43,914  
                 
Intangibles, net     3,805       4,429  
Property, equipment and improvements, net     3,054       3,349  
Deferred financing costs, net     -       3,012  
Deferred tax assets     3,176       2,837  
Deposits     91       91  
Total assets   $ 37,589     $ 57,632  
                 
Liabilities and Stockholders’ Deficit                
Current liabilities                
Current maturities of long-term debt   $ 33,006     $ 600  
Current portion of capital lease obligations     29       40  
Trade accounts and other payables     21,412       23,712  
Accrued liabilities     10,297       11,555  
Customer advanced billings and payments, and other     2,284       13,320  
Total current liabilities     67,028       49,227  
                 
Long-term debt, less current maturities     -       36,810  
Capital lease obligations, net of current     21       33  
Total liabilities     67,049       86,070  
                 
Commitments and contingencies (Note 13)                
Stockholders’ deficit                
Common stock $0.0001 par value per share:                
Authorized shares 100,000,000;                
Issued shares 8,685,700 and 8,646,700, respectively     1       1  
Accumulated deficit     (29,461 )     (28,439 )
Total stockholders’ deficit     (29,460 )     (28,438 )
Total liabilities and stockholders’ deficit   $ 37,589     $ 57,632  

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

3
 

 

Integrated Drilling Equipment Holdings Corp.

Condensed Consolidated Statements of Operations

(unaudited)

 

    Three Months Ended
June 30, 		    Six Months Ended
June 30, 		 
(in thousands, except share and per share amounts)   2013     2012     2013     2012  
                         
Revenue                        
Products   $ 14,124     $ 69,319     $ 41,552     $ 126,996  
Services     9,555       16,824       22,018       34,699  
Total revenue     23,679       86,143       63,570       161,695  
                                 
Cost of goods sold and services                                
Products     9,876       62,994       31,925       126,863  
Services     7,468       12,359       15,583       24,982  
Total cost of goods sold and services     17,344       75,353       47,508       151,845  
                                 
Selling, general and administrative expense     6,670       7,610       14,180       13,621  
Depreciation and amortization expense     523       474       1,128       845  
Income (loss) from operations     (858 )     2,706       754       (4,616 )
                                 
Other (income) expense                                
Interest expense     1,143       229       2,292       433  
Other income     (199 )     (103 )     (459 )     (129 )
Income (loss) before income taxes     (1,802 )     2,580       (1,079 )     (4,920 )
                                 
Income taxes (benefit)                                
Current     106       (21 )     192       -  
Deferred     (528 )     819       (249 )     (1,708 )
Total income taxes (benefit)     (422 )     798       (57 )     (1,708 )
Net income (loss)   $ (1,380 )   $ 1,782   $ (1,022 )   $ (3,212 )
 
Weighted average shares outstanding: 		                               
Basic     8,685,700       5,575,671       8,673,849       5,575,671  
Diluted     8,827,994       5,575,671       8,816,159       5,575,671  
                                 
Earnings (loss) per share:                                
Basic   $ (0.16 )   $ 0.32     $ (0.12 )   $ (0.58 )
Diluted   $ (0.16 )   $ 0.32     $ (0.12 )   $ (0.58 )

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

4
 

 

Integrated Drilling Equipment Holdings Corp.

Condensed Consolidated Statements of Changes in Stockholders’ Deficit

(unaudited)

 

    Shares Issued     Stock     Accumulated     Total
Stockholders’ 		 
(in thousands, except share data)   Common     Preferred     Common     Preferred     Deficit     Deficit  
Balances at December 31, 2011     5,575,671       -     $ -     $ -       (5,948 )     (5,948 )
                                                 
Net Loss     -       -       -       -       (3,212 )     (3,212 )
                                                 
Balances at June 30, 2012     5,575,671       -     $ -     $ -     $ (9,160 )   $ (9,160 )
                                                 
Balances at December 31, 2012     8,646,700       -       1       -       (28,439 )     (28,438 )
                                                 
Net Loss     -       -       -       -       (1,022 )     (1,022 )
                                                 
Issuance of common shares in
exchange for warrants 		    39,000       -       -       -       -       -  
                                                 
Balances at June 30, 2013     8,685,700       -     $ 1     $ -     $ (29,461 )   $ (29,460 )

  

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

5
 

 

Integrated Drilling Equipment Holdings Corp.

Condensed Consolidated Statements of Cash Flows

(unaudited)

 

    Six Months Ended
June 30, 		 
(in thousands)   2013     2012  
             
Operating activities            
Net loss   $ (1,022 )   $ (3,212 )
Adjustments to reconcile net loss to cash provided (used in) operating activities                
Depreciation and amortization expense     1,128       845  
Deferred income tax     (249 )     (1,708 )
Provision for bad debts     68       -  
Amortization of deferred financing costs     280       83  
Unrealized gain on warrant valuation     (401 )     -  
Paid-in-kind interest expense     201       -  
Changes in operating assets and liabilities                
Trade accounts receivable     13,092       (16,277 )
Inventories     4,696       7,374  
Other current assets     482       184  
Trade accounts and other payables     (2,300 )     8,589  
Accrued liabilities     (855 )     1,280  
Customer advanced billings and payments     (11,037 )     (5,921 )
Net cash provided by (used in) operating activities     4,083       (8,763 )
                 
Investing activities                
Capital expenditures for intangibles     -       (230 )
Capital expenditures for property, plant and equipment     (209 )     (852 )
Decrease in restricted cash     365       -  
Increase in deposits     -     (11 )
Net cash provided by (used in) investing activities     156       (1,093 )
                 
Financing activities                
Issuance of long-term debt     62,625       15,000  
Repayments of long-term debt     (67,231 )     (833 )
Payment of capital lease     (23 )     (18 )
Net cash provided by (used in) financing activities     (4,629 )     14,149  
Increase (decrease) in cash and cash equivalents     (390 )     4,293  
Cash and cash equivalents                
Beginning of period     1,602       4,129  
End of period   $ 1,212     $ 8,422  
                 
Noncash activity                
Property and equipment acquired through capital leases   $ -     $ 43  
Interest paid-in-kind     201       -  

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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Integrated Drilling Equipment Holdings Corp.

Notes to Condensed Consolidated Financial Statements

(unaudited)

 

1. Nature of Business and Summary of Significant Accounting Policies

 

Integrated Drilling Equipment Holdings Corp. (the “Company”) provides products and services to customers in the oil and gas industry both domestically and internationally. The majority of the Company’s business is conducted through two operating segments: (1) Electrical Products and Services and (2) Drilling Products and Services.

 

The Company’s electrical segment designs, manufactures, installs and services rig electrical and control systems including SCR (silicon controlled rectifier) units and VFD (variable frequency drive) units, as well as electrical cabling, lighting systems, closed circuit video systems, gas and fire detection systems, and communication systems.

 

The Company’s drilling segment is a full service provider of drilling rigs and their components. The Company designs, manufactures, and services complete land-based drilling rigs, as well as rig subsystems and parts. The Company also provides drilling rig services including: mechanical services, assembly testing (rig- up/final construction and commission), rig refurbishment and inspection, new rig fabrication and completion of land rig packages. Additionally, the Company fabricates mud tanks, masts and substructures, dog houses and other products.

 

The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim periods. In the opinion of management of the Company, these unaudited condensed consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the Company’s financial position and operating results for the periods disclosed. All intercompany balances and transactions have been eliminated in consolidation. The accounting policies followed by the Company are set forth in Note 3 of the audited consolidated financial statements for the year ended December 31, 2012 included in the Company’s Annual Report on Form 10-K, and are supplemented by the notes to these unaudited consolidated financial statements. There have been no significant changes to these policies and it is suggested that these unaudited condensed consolidated financial statements be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2012.

 

These interim financial statements are unaudited and have been prepared pursuant to the rules and regulations of the Securities and Exchanges Commission (“SEC”) regarding interim financial reporting. Accordingly, they do not include all of the information and notes required by GAAP for complete consolidated financial statements and should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2012 included in the Company’s Annual Report on Form 10-K. While the year-end balance sheet data was derived from audited financial statements, this interim report does not include all disclosures required by GAAP for annual periods. These unaudited interim condensed consolidated financial statements reflect all of the adjustments that are, in the opinion of management, necessary for a fair statement of the results for the periods presented. Interim results are not necessarily indicative of the results that may be expected for a full year.

 

The Company’s Condensed Consolidated Financial Statements are expressed in U.S. dollars and have been prepared by the Company in accordance with GAAP. In preparing financial statements, we make informed judgments and estimates that affect the reported amounts of assets and liabilities as of the date of the financial statements and affect the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we review our estimates, including those related to percentage of completion and related revenue recognition, deferred revenues, costs, estimated earnings and billings, allowance for doubtful accounts, intangible assets and inventory valuation and reserves. Changes in facts and circumstances may result in revised estimates and actual results may differ from these estimates.

 

On December 14, 2012, Integrated Drilling Equipment Holdings Inc. completed the merger (the “Merger”) with Empeiria Acquisition Corp. (“EAC”). The Merger was accounted for under the purchase method of accounting as a reverse acquisition. Under this method of accounting, for accounting and financial purposes, EAC was treated as the acquired company, and IDE was treated as the acquiring company. Accordingly, historical financial information for periods and dates prior to December 14, 2012, include information for IDE only.

 

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  2. Company Financing

 

As of June 30, 2013, we were not in compliance with the minimum liquidity, minimum EBITDA and total leverage ratio covenants in our Revolving Facility and Term Facility. We are currently in discussions with the lenders under these facilities to amend the loan agreements to address these covenants. Accordingly, the Company has reclassified its debt and related debt issuance costs from non-current to current as of June 30, 2013.

 

We are in discussions with the lender of our Revolving Facility to amend our credit agreement to cure the existing default. While not final, initial discussions indicate that the lender may reduce our availability under the Revolving Facility to $15 million (from $20 million), reduce certain components of our borrowing base subcomponents, increase the interest rate 2% from the current rate, reset the covenants so that we are in compliance with the loan agreement and change the maturity of the Revolving Facility to March 31, 2014.

 

We are in discussions with the lender of our Term Facility to amend the financial covenants so that we are in compliance with this loan agreement, defer the principal payment due on September 30, 2013 and change the maturity of the loan to September 30, 2014. Additionally, the lender is requiring that we deliver a satisfactory cost reduction plan and invest an additional $1.0 million of equity capital in the Company by August 31, 2013.

 

The Company believes it will be able to negotiate with the lenders to amend the Revolving Facility and the Term Facility. However, if the Company is unable to negotiate amendments, there can be no assurance that the Company would be able to find other lenders to refinance these agreements.

 

In the event of an acceleration of amounts due under its debt facilities as a result of an event of default, the Company may not have sufficient funds or may be unable to arrange for additional financing to repay its indebtedness or to make any accelerated payments, and the lenders could seek to enforce their security interests in the collateral securing such indebtedness. The Company’s failure to obtain additional external financing to fund its cash requirements would further cause noncompliance with its existing debt covenants which would have a material adverse effect on its business, prospects and financial condition and raises substantial doubt about the Company’s ability to continue as a going concern.

 

  3. PEMEX Contract Termination

 

On August 9, 2013, the Company received notices from PEMEX Procurement International, Inc. (“PII”) (formerly Integrated Trade Systems, Inc.), an agent for PEMEX-Exploración y Producción (“PEMEX”) terminating the four purchase agreements for modular drilling units. The collective value of the four agreements was approximately $354.0 million. The Company, through its subsidiaries Integrated Drilling Equipment LLC and IDE Perforación Mexico, S. de R.L. de C.V., entered into these four purchase agreements with PII, an agent for PEMEX, on March 22, 2013.

 

Pursuant to each purchase agreement, the Company was required to deliver to PII within 20 business days of signing the purchase agreement: (1) a stand-by letter of credit for 12% of the purchase price; and (2) a bond for 20% of the purchase price (together with the letter of credit, the “guarantees”).

 

The Company was unable to secure the necessary guarantees within the time period contemplated by the purchase agreements. Due to the inability to obtain the guarantees, PII terminated the purchase agreements pursuant to the terms of the purchase agreements. The Company is in discussions with PEMEX seeking to reinstate the purchase agreements. However, should the Company be unable to successfully reinstate the purchase agreements, PEMEX may seek liquidated damages in the amount of 12% of the purchase price of each of the modular drilling units, under the terms of the agreements.

    

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4. Accounts Receivable

 

Accounts Receivable consists of the following (in thousands):

 

    June 30,
2013 		    December 31, 2012  
             
Trade Accounts Receivable   $ 10,968     $ 15,694  
Unbilled revenue and other     3,948       12,318  
Less:  Allowance for doubtful accounts     (683 )     (619 )
    $ 14,233     $ 27,393  

 

5. Uncompleted Contracts

 

Costs, estimated earnings and billings on uncompleted contracts are summarized below (in thousands):

 

    June 30,
2013 		    December 31, 2012  
             
Costs incurred on uncompleted contracts   $ 51,630     $ 133,010  
Earned margin     12,709       23,497  
Earned revenue     64,339       156,507  
Less:  Billings to date     63,026       156,120  
    $ 1,313     $ 387  
Included in the accompanying balance sheets under the following captions:                
Accounts receivable   $ 3,575     $ 11,871  
Customer advanced billings and payments     (2,262 )     (11,484 )
    $ 1,313     $ 387  
                 
6. Inventories

 

Inventories consist of the following (in thousands):

 

    June 30,
2013 		    December 31, 2012  
             
Raw materials and finished goods   $ 7,125     $ 7,127  
Work in process     718       5,412  
Reserve     (200 )     (200 )
    $ 7,643     $ 12,339  

 

7. Intangibles

 

Intangibles consist of the following (in thousands):

 

    June 30,
2013 		    December 31, 2012  
             
Rig technology and product design   $ 5,786     $ 5,786  
Less:  Accumulated amortization     (1,981 )     (1,357 )
    $ 3,805     $ 4,429  
                 

Amortization expense for the six months ended June 30, 2013 and 2012 amounted to $624 thousand and $350 thousand, respectively.

 

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8. Property, Equipment and Improvements

 

Property, Equipment and Improvements, including capital leases, consists of the following (in thousands):

 

    June 30,
2013 		    December 31, 2012  
             
Machinery and equipment   $ 3,277     $ 3,067  
Leasehold improvements     4,544       4,544  
Assets under capital leases     146       146  
Less:  Accumulated depreciation     (4,913 )     (4,408 )
    $ 3,054     $ 3,349  
                 

Depreciation expense relating to machinery and equipment and leasehold improvements for the six months ended June 30, 2013 and 2012 amounted to $484 thousand and $476 thousand, respectively.

 

Depreciation expense relating to capital leases for the six months ended June 30, 2013 and 2012 amounted to $21 thousand and $19 thousand, respectively.

 

9. Debt and Redeemable Preferred Stock

 

Debt and redeemable preferred stock consisted of the following (in thousands):

 

    June 30, 2013     December 31, 2012  
    Short-Term     Long-Term     Short-Term     Long-Term  
$2.5 million redeemable preferred stock (1)   $ 2,500     $ -     $ -     $ 2,500  
$20.0 million revolving credit facility (2)     10,435       -       -       14,890  
$20.0 million credit agreement (3)     20,071       -       600       19,420  
Total debt and redeemable preferred stock   $ 33,006     $ -     $ 600     $ 36,810  
                                 
(1) $2.5 million of redeemable preferred stock (25,000 shares of preferred stock at $100 per share) is redeemable at our option at any time on 15 days' notice, at any time after the first anniversary of the date on which all indebtedness for borrowed money is repaid in full. The optional redemption price is equal to the purchase price, plus all accrued and unpaid dividends to the date of redemption, subject to compliance with any restrictions in our then-outstanding indebtedness. The preferred stock will be subject to mandatory redemption on the date which is 181 days following the latest maturity date of our indebtedness outstanding on December 14, 2012. The preferred stock is not convertible into common stock and accrues cumulative dividends at a rate of 16% per year. The dividends are payable in additional shares of preferred stock.

 

(2) $20.0 million revolving credit facility which expires on June 30, 2016. Borrowings under this revolving credit facility bear interest at a rate determined by the lending institution, with a minimum rate of 1.5%. The interest rate at June 30, 2013 and 2012 was 4.75%. Additionally, the lender assesses a “Lenders fee” of 0.375% on the unused portion of the Revolving Facility. The Company is jointly and severally liable for the obligations owing under the Revolving Facility and any future subsidiaries of the Company shall be required to guarantee the payment and performance of the obligations of the Company under the Revolving Facility. The Revolving Facility is secured, subject to certain permitted liens, on a first priority basis by a security interest in substantially all of the Company’s tangible and intangible assets.

 

(3) $20.0 million credit agreement matures on December 14, 2016. Loans under this credit agreement bear interest, at the Borrowers' option, at a rate equal to the adjusted LIBOR rate or an alternate base rate, in each case, subject to a floor and a spread. This cash interest rate is 12%. In addition to the cash interest rate, all loans bear an additional paid-in-kind (PIK) interest at a rate of 2.0% per annum. The Company is jointly and severally liable for the obligations under the Term Facility and any future subsidiaries of the Company will be required to guarantee the payment and performance of the obligations of the Company under the Term Facility. The Term Facility is secured, subject to certain permitted liens, on a second priority basis by a security interest in substantially all of the Company's tangible and intangible assets.

 

  

10
 

 

  

10. Defined Contribution Plans

 

The company has a 401k plan for eligible employees; however during the six months ended June 30, 2013 and 2012 we did not make any contributions to the plan.

 

11. Income Taxes

 

The effective tax rate for the six months ended June 30, 2013 and 2012 was 5.3% and 34.7%, respectively. The difference in effective tax rates was primarily due to certain permanent differences incurred in 2013 versus 2012. For the six months ended June 30, 2013, the annual effective tax rate for the Company for the year ending December 31, 2013 could not be reasonably estimated because the Company expects its pretax income for this period to be near breakeven. As a result, in the interim financial statements, taxes have been provided for based on the actual results for the six months ended June 30, 2013 rather than an estimated effective tax rate for the year. During the six months ended June 30, 2013, the Company incurred $0.5 million of non-deductible interest expense. In 2012, all interest expense was deductible.

 

12. Segment Information

 

We have two reportable operating segments: (1) Electrical Products and Services and (2) Drilling Products and Services. The Company’s Electrical Products and Services segment designs, manufactures, installs and services rig electrical and control systems including SCR’s and VFD’s, as well as electrical cabling, lighting systems, closed circuit video systems, gas and fire detection systems, and communication systems. The Company’s Drilling Products and Services segment designs, manufactures, and services complete land-based drilling rigs, as well as rig subsystems and parts.

 

The accounting policies of our reporting segments are the same as those used to prepare our consolidated financial statements as of December 31, 2012 and 2011 (in thousands):

 

    Three Months Ended
June 30, 		    Six Months Ended
June 30, 		 
    2013     2012     2013     2012  
Revenues                        
Electrical (1)   $ 13,121     $ 27,953     $ 31,898     $ 49,453  
Drilling (2)     11,596       68,224       36,311       132,490  
Other/eliminations     (1,038 )     (10,034 )     (4,639 )     (20,248 )
Total revenues     23,679       86,143       63,570       161,695  
                                 
Segment profit                                
Electrical     2,426       5,474       6,200       8,419  
Drilling     (100 )     884       917       (5,714 )
Other/eliminations     (2,661 )     (3,178 )     (5,235 )     (6,476 )
Total segment profit     (335 )     3,180       1,882       (3,771 )
                                 
Depreciation and amortization expense     523       474       1,128       845  
Interest expense     1,143       229       2,292       433  
Other     (199 )     (103 )     (459 )     (129 )
Income (loss) before income taxes   $ (1,802 )   $ 2,580     $ (1,079 )   $ (4,920 )

 

11
 

 

    June 30,
2013 		    December 31, 2012  
Assets            
Electrical   $ 79,946     $ 47,998  
Drilling     65,048       39,464  
Other/eliminations     (107,405 )     (29,830 )
Total assets   $ 37,589     $ 57,632  
                 
Capital expenditures                
Electrical   $ 197     $ 765  
Drilling     -       806  
Other     12       269  
Total capital expenditures   $ 209     $ 1,840  
                 
(1) Includes $0.9 million and $10.0 million of intersegment transactions for the three months ended June 30, 2013 and 2012, respectively, and $4.5 million and $20.2 million of intersegment transactions for the six months ended June 30, 2013 and 2012, respectively.
     
  (2) Includes $0.1 million of intersegment transactions for the three and six months ended June 30, 2013. There were no intersegment transactions in 2012.

 

13. Commitments and Contingencies

 

Self-Insured Health Program

 

The Company maintains a self-insured health benefits plan, which provides medical benefits to employees selecting coverage under the plan. The Company maintains a reserve for incurred but not reported medical claims. The reserve is an estimate based on historical experience, as well as the number of participants and other assumptions, some of which are subjective. As any of these factors change, the Company will adjust its self insurance medical benefits reserve accordingly. Effective May 1, 2012, we had stop loss insurance for claims in excess of $75 thousand per individual and claims in excess of $2.4 million aggregate group loss. Effective May 1, 2013, we have stop loss coverage for claims in excess of $65 thousand per individual and claims in excess of $2.6 million aggregate group loss. The Company believes its insurance reserves are adequate.

 

Restricted Cash

 

The Company has voluntarily set aside funds to be used for claims relating to its self-insured health benefit program. As of June 30, 2013, the company has restricted $138 thousand of cash to be used for this purpose.

 

Legal Proceedings

 

On May 6, 2013, Drillmec, Inc. filed a lawsuit in the 281 st Judicial District Court in Harris County, Texas ( Drillmec, Inc. v. Integrated Drilling Equipment Company, et. al. ) against Integrated Drilling Equipment Company Holdings, Inc., Integrated Drilling Equipment Company Holdings, LLC, Integrated Drilling Equipment, LLC, Integrated Drilling Equipment Company, Stephen D. Cope and SDC Management Services, LLC. Drillmec alleges that the defendants acquired Drillmec’s drawings and technical specifications through an unrelated bidding process for offshore drilling rigs. In the pleadings, Drillmec claims that the defendants used this proprietary information in connection with its successful bid for the PEMEX contracts and asserts causes of action for misappropriation of trade secrets, conversion, interference with prospective relations, conspiracy, unjust enrichment and unfair competition. Drillmec is seeking damages in the form of IDE’s actual profits from the PEMEX contracts and the development costs that Drillmec incurred in developing the proprietary information in question. The Company intends to defend this litigation vigorously. This case is in the preliminary stages and too early to predict an outcome and therefore no provision has been recorded as of June 30, 2013, for any potential liability arising from this litigation.

 

12
 

 

14. Earnings (loss) Per Share

 

The following tables (in thousands, except share and per share amounts) set forth the computation of basic and diluted earnings per share:

 

    Three Months Ended
June 30, 		    Six Months Ended
June 30, 		 
    2013     2012     2013     2012  
Basic:                        
Net income (loss)   $ (1,380 )   $ 1,782     $ (1,022 )   $ (3,212 )
Weighted average common shares     8,685,700       5,575,671       8,673,849       5,575,671  
Basic income (loss) per share   $ (0.16 )   $ 0.32     $ (0.12 )   $ (0.58 )
Diluted:                                
Net income (loss)   $ (1,380 )   $ 1,782     $ (1,022 )   $ (3,212 )
Basic weighted average common shares     8,685,700       5,575,671       8,673,849       5,575,671  
Potential common shares     142,294       -       142,309       -  
Diluted weighted average common shares     8,827,994       5,575,671       8,816,159       5,575,671  
                                 
Diluted income (loss) per share   $ (0.16 )   $ 0.32     $ (0.12 )   $ (0.58 )

 

15. Subsequent Events

 

On August 9, 2013, the Company received notices from PEMEX Procurement International, Inc. (“PII”) (formerly Integrated Trade Systems, Inc.), an agent for PEMEX-Exploración y Producción (“PEMEX”) terminating the four purchase agreements for modular drilling units (see Note 3, “PEMEX Contract”).

  

13
 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

You should read the following discussion of our financial condition and results of operations in conjunction with the financial statements and the notes to those statements included elsewhere in this report. This discussion may contain forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements, see Risk Factors in “Item 1A” in our Annual Report on Form 10-K for the year ended December 31, 2012.

 

Overview

 

Empeiria Acquisition Corp. (“EAC”) was incorporated in Delaware in January 2011, for the purpose of acquiring one or more operating businesses or assets (“initial business transaction”). On June 21, 2011, EAC completed its initial public offering. On October 19, 2012, EAC entered into a merger agreement (the “Merger Agreement”) with Integrated Drilling Equipment Company Holdings Inc., a Delaware corporation (the “Acquired Company”), and Stephen Cope, in his capacity as representative of IDE’s stockholders (the “Representative”). On December 14, 2012, EAC consummated its initial business transaction with the Acquired Company (the “Merger”).

 

The Merger was accounted for under the purchase method of accounting as a reverse acquisition. Under this method of accounting, for accounting and financial purposes, EAC was treated as the acquired company, and Acquired Company was treated as the acquiring company. Accordingly, historical information, including historical financial information and the historical description of our business, for periods and dates prior to December 14, 2012, include information for the Acquired Company only.

 

On April 11, 2013, EAC changed its name to Integrated Drilling Equipment Holdings Corp.

 

Our Business

 

We provide products and services to customers in the oil and gas industry both domestically and internationally. The majority of our business is conducted through two operating segments: Electrical Products and Services and Drilling Products and Services.

 

Our Electrical Products and Services segment designs, manufactures, installs and services electrical and control systems for drilling rigs including SCR (silicon-controlled rectifier) units and VFD (variable frequency drive) units, as well as electrical cabling, lighting systems, closed circuit video systems, gas and fire detection systems, and communication systems.

 

Our Drilling Products and Services segment is a full service provider of drilling rigs and their components. We design, manufacture, and service complete land-based drilling rigs, as well as rig subsystems and parts. We also provide drilling rig services including mechanical services, assembly testing (rig-up/final construction and commission), rig refurbishment and inspection, new rig fabrication and completion of land rig packages. Additionally, we fabricate mud tanks, masts and substructures, dog houses and other products.

 

The increased use of horizontal drilling and hydraulic fracturing, or fracking, has increased the demand for drilling rigs capable of drilling under these conditions. Since fracking has become more widespread, we believe more than 1,000 rigs have been manufactured or refurbished for that purpose. By 2009, our rig electrical and control systems were gaining market acceptance and we had started installing our proprietary electrical systems in customer’s existing drilling rigs. Because these electrical systems are the key component that enable the rig to operate with greater efficiency in horizontal shale drilling situations versus other competitive electrical systems, management decided to offer customers a complete rig package, including our unique electrical and control systems. Later in 2009, we sold our first complete rig package.

 

Management is currently focused on improving the production process for complete rig packages and continuing to implement lean manufacturing processes. We also plan to leverage our IEC division’s established customer base to expand the products and services we offer to our customers and are evaluating strategies to further serve offshore and international markets.

 

Recent Developments

 

On March 22, 2013, the Company entered into four substantially identical purchase agreements for modular drilling units with Integrated Trade Systems, Inc., an agent for PEMEX. The collective value of the four agreements is approximately $354 million and each agreement is for the design, construction, delivery, and installation of one modular drilling unit on existing PEMEX shallow offshore platforms. While the Company has performed extensive subcontract work on offshore platforms, the agreements represent the Company’s first offshore lead contractor engagement.

 

On June 14, 2013, PEMEX notified IDE that they were in default of its obligations under the contracts signed on March 22, 2013 because IDE had failed to provide the required letters of credit and performance bonds as required under Articles 21.1 and 21.2, respectively, under the contract. Subsequently, on August 9, 2013, PEMEX notified the Company that it terminated these contracts due to the Company’s default.

 

14
 

 

Consolidated Results of Operations

 

(Dollars in thousands)   Three Months
Ended June 30, 		    Six Months
Ended June 30, 		 
    2013     2012     2013     2012  
Statement of Operations Data:                                                
Revenue:                                                
Products   $ 14,124       59.6 %   $ 69,319       80.5 %   $ 41,552       65.4 %     126,996       78.5 %
Services     9,555       40.4 %     16,824       19.5 %     22,018       34.6 %     34,699       21.5 %
Total revenue     23,679       100.0 %     86,143       100.0 %     63,570       100.0 %     161,695       100.0 %
                                                                 
Cost of goods sold and services:                                                                
Products     9,876       69.9 %     62,994       90.9 %     31,925       76.8 %     126,863       99.9 %
Services     7,468       78.2 %     12,359       73.5 %     15,583       70.8 %     24,982       72.0 %
Total cost of goods sold and services     17,344       73.2 %     75,353       87.5 %     47,508       74.7 %     151,845       93.9 %
                                                                 
Selling, general and administrative expense     6,670       28.2 %     7,610       8.8 %     14,180       22.3 %     13,621       8.4 %
Depreciation and amortization expense     523       2.2 %     474       0.6 %     1,128       1.8 %     845       0.5 %
Income from operations     (858 )     (3.6 )%     2,706       3.1 %     754       1.2 %     (4,616 )     (2.9 )%
                                                                 
Other (income) expense:                                                                
Interest expense     1,143       4.8 %     229       0.3 %     2,292       3.6 %     433       0.3 %
Other income     (199 )     (0.8 )%     (103 )     (0.1 )%     (459 )     (0.7 )%     (129 )     (0.1 )%
Income (loss) before income taxes     (1,802 )     (7.6 )%     2,580       3.0 %     (1,079 )     (1.7 )%     (4,920 )     (3.0 )%
Income taxes (benefit):                                                                
Current     106       0.4 %     (21 )     (0.0 )%     192       0.3 %     -       0.0 %
Deferred     (528 )     (2.2 )%     819       1.0 %     (249 )     (0.4 )%     (1,708 )     (1.1 )%
Total income taxes (benefit)     (422 )     (1.8 )%     798       0.9 %     (57 )     (0.1 )%     (1,708 )     (1.1 )%
Net income (loss)   $ (1,380 )     (5.8 )%   $ 1,782       2.1 %   $ (1,022 )     (1.6 )%   $ (3,212 )     (2.0 )%

 

Except for the components of cost of goods sold and services, the percentages above represent line item values expressed as a percentage of total revenue. For the components of cost of goods sold and services, the percentages represent cost of goods sold and services related to products and services expressed as a percentage of revenue for products and services, respectively.

 

15
 

 

Quarter Ended June 30, 2013 Compared to Quarter Ended June 30, 2012

 

Revenues

 

Revenues were $23.7 million and $86.1 million for the second quarter of 2013 and 2012, respectively, a decrease of $62.5 million or 73%. This decrease was driven by a $55.2 million decrease in products revenue and a $7.3 million decrease in services revenue. This significant decrease in products revenue was primarily driven by a $58.0 million decrease in complete rig product revenues, due to fewer contracts entered into in the second quarter of 2013 versus the comparable 2012 quarter, partially offset by a $2.1 million increase in fabrication revenue.

 

Cost of Sales

 

Cost of Sales were $17.3 million and $75.4 million for the second quarter of 2013 and 2012, respectively, a decrease of $58.1 million or 77%. This decrease was primarily driven by the $62.5 million decrease in revenues as noted above. As a percent of revenue, cost of sales were 73.2% of revenue in the second quarter of 2013 versus 87.5% of revenue in the comparable 2012 quarter. The decrease in cost of sales as a percentage of revenue was due to improved margins in both revenue segments. For the quarter ended June 30, 2013, Products margins improved to 30.1% of revenue versus 9.1% of revenue in the comparable 2012 quarter. This improvement was due to the company’s efforts at implementing lean manufacturing in the production of complete rigs. For the quarter ended June 30, 2013, Services margins declined to 21.8% of revenue versus 26.5% of revenue in the comparable 2012 quarter. The reduction in margin was due principally to reduced revenues and related absorption of overheads.

 

Selling, General and Administration Expenses

 

Selling, general and administration expenses were $6.7 million and $7.6 million for the second quarter of 2013 and 2012 respectively, a decrease of $0.9 million. This decrease was primarily due to $1.4 million of reduction in salary and burden expenses, partially offset by $0.7 million of higher professional fees.

 

Depreciation and Amortization Expense

 

Depreciation and amortization expense was $0.5 million in the second quarter of 2013 and in the comparable 2012 quarter.

 

Income (Loss) from Operations

 

Loss from operations was $0.9 million in the second quarter of 2013, compared to operating income of $2.7 million in the second quarter of 2012. The $3.6 million decrease primarily resulted from $4.6 million loss of gross margin in the 2013 second quarter versus the comparable 2012 quarter, partially offset by $0.9 million of reduced selling, general and administrative expenses as noted above. The decrease in gross margin was primarily due to reduced revenues.

 

Other (Income) Expense and Income Taxes

 

Total other expense was $0.9 million and $0.1 million in the second quarters of 2013 and 2012, respectively. Interest expense was $1.1 million and $0.2 million in the second quarter of 2013 and 2012 respectively, an increase of $0.9 million. This increase in interest expense was principally due to substantially higher debt levels in the second quarter of 2013. Other income was $0.2 million in the 2013 second quarter versus other income of $0.1 million in comparable 2012 quarter.

 

Income tax expense (credits) was $(0.4) million and $0.8 million in the second quarter of 2013 and 2012, respectively. After adjusting for temporary and permanent income tax items, the income tax expense represented effective tax rates on income before income taxes of 23.4% in 2013 and 30.9% in 2012.

 

16
 

 

Six Months Ended June 30, 2013 Compared to Six Months Ended June 30, 2012

 

Revenues

 

Revenues were $63.6 million and $161.7 million for the first six months of 2013 and 2012, respectively, a decrease of $98.1 million or 61%. This decrease was driven by a $85.4 million decrease in products revenue and a $12.7 million decrease in services revenue. This significant decrease in products revenue was driven by a $91.4 million decrease in complete rig product revenues due to fewer contracts entered into in the first six months of 2013 versus in the comparable 2012 period, partially offset by increases in electrical work ($3.3 million) and fabrication ($3.0 million).

 

Cost of Sales

 

Cost of Sales were $47.5 million and $151.8 million for the first six months of 2013 and 2012, respectively, a decrease of $104.3 million or 69%. This decrease was primarily driven by the $98.1 million decrease in revenues as noted above. As a percent of revenue, cost of sales were 74.7% of revenue in the first six months of 2013 versus 93.9% of revenue in the comparable period in 2012. The decrease in cost of sales as a percentage of revenue was due to improved margins in both revenue segments. For the six months ended June 30, 2013, Products margins improved to 23.2% of revenue versus 0.1% of revenue in the comparable 2012 six month period. This improvement was due to the company’s efforts at implementing lean manufacturing in the production of complete rigs. For the six months ended June 30, 2013, Services margins improved slightly to 29.2% of revenue versus 28.0% of revenue in the comparable 2012 six month period.

 

Selling, General and Administration Expenses

 

Selling, general and administration expenses were $14.2 million and $13.6 million for the first six months of 2013 and 2012, respectively, an increase of $0.6 million due to higher professional fees.

 

Depreciation and Amortization Expense

 

Depreciation and amortization expense was $1.1 million in the first six months of 2013 and $0.8 million in the comparable 2012 period.

 

Income from Operations

 

Income from operations was $0.8 million in the first six months of 2013, compared to operating loss of $4.6 million in the first six months of 2012. The $5.4 million increase primarily resulted from $6.2 million increase of gross margin, partially offset by $0.6 million increase in selling, general and administrative expenses and $0.3 million increase in depreciation expense. The increase in gross margin was primarily due to the company’s efforts at implementing lean manufacturing in the production of complete rigs.

 

Other (Income) Expense and Income Taxes

 

Total other expense was $1.8 million and $0.3 million in the first six months of 2013 and 2012, respectively. Interest expense was $2.3 million and $0.4 million in the first six months of 2013 and 2012, respectively, an increase of $1.9 million. This increase in interest expense was principally due to substantially higher debt levels in the first six months of 2013. Other income was $0.5 million in the first six months of 2013 versus other income of $0.1 million in comparable period in 2012.

 

Income tax expense (credits) was $(0.06) million and $(1.7) million in the first six months of 2013 and 2012, respectively. After adjusting for temporary and permanent income tax items, the income tax expense represented effective tax rates on income before income taxes of 5.3% in 2013 and 34.7% in 2012.

 

Segment Results of Operations

 

Quarter Ended June 30, 2013 Compared to Quarter Ended June 30, 2012

 

Electrical Products and Services segment

 

Electrical Products and Services segment revenues were $13.1 million and $28.0 million for second quarters of 2013 and 2012, respectively, a decrease of $14.8 million or 53%. This decrease was primarily driven by $9.1 million of lower intersegment sales and $4.7 million of decreased electrical revenues as a result of decreased customer demand. Electrical Products and Services segment profit was $2.4 million and $5.5 million for the 2013 second quarter and the comparable 2012 quarter, respectively, a decrease of $3.0 million or 55.7%. Segment profits were 18.5% of 2013 and 19.6% of 2012 second quarter respective segment revenues. The $3.0 million decrease in segment profits was primarily driven by significantly reduced revenue in the second quarter of 2013 versus the comparable period of 2012 as noted above.

 

17
 

 

Drilling Products and Services segment.

 

Drilling Products and Services segment revenue was $11.6 million and $68.2 million for the second quarters of 2013 and 2012, respectively, a decrease of $56.6 million, or 83%. Drilling Products and Services segment loss was $0.1 million in the second quarter of 2013 versus a segment profit of $0.9 million for the second quarter of 2012, a decrease of $1.0 million in the comparable quarters. Segment losses were 0.9% of segment revenues in the second quarter of 2013 versus a segment profit of 1.3% of segment revenues in the comparable 2012 second quarter. The decline in Drilling Products and Services segment profits was due to significantly lower revenues in the second quarter of 2013 versus the comparable 2012 quarter.

 

Six Months Ended June 30, 2013 versus Six Months Ended June 30, 2012

 

Electrical Products and Services segment.

 

Electrical Products and Services segment revenues were $31.9 million and $49.5 million for the first six months of 2013 and 2012, respectively, a decrease of $17.6 million or 35.5%. This decrease was primarily driven by $15.6 million of lower intersegment sales for the first six months of 2013. Electrical Products and Services segment profit was $6.2 million and $8.4 million for the 2013 first six months and the comparable period in 2012, respectively, a decrease of $2.2 million or 26.4%. Segment profits were 19.4% of 2013 and 17.0% of the 2012 first six months respective segment revenues. The $2.2 million decrease in segment profits was primarily driven by lower revenues.

 

Drilling Products and Services segment.

 

Drilling Products and Services segment revenue was $36.3 million and $132.5 million for the first six months of 2013 and 2012, respectively, a decrease of $96.2 million, or 72.6%. Drilling Products and Services segment profit was $1.0 million in the first six months of 2013 versus a segment loss of $5.7 million for the first six months of 2012, an increase of $6.6 million in the comparable periods. The 2013 first six months profit in Drilling Products and Services segment revenues was driven by improved margins on complete rigs.

 

Liquidity and Capital Resources

 

Our primary source of liquidity is cash generated from the sales of our products and services. Most of the Company’s fixed-price contracts for new land-based drilling rigs provide for progress payments throughout the manufacturing process. Most of the Company’s other revenue producing contracts are billed monthly to customers for actual costs plus an agreed margin. Assuming consistent volumes, these contracts typically do not require extensive working capital resources. Our primary use of cash is cost of sales, operating expenses, interest expense, working capital needs, purchases of intangibles, capital expenditures, and repayment of our debt obligations.

 

On December 14, 2012, in connection with the closing of the Merger, we entered into a $20 million term loan and security agreement, amended and restated a $20 million revolving credit and security agreement and issued 25,000 shares of Preferred Stock for $2.5 million.

 

Company Financing

 

As of June 30, 2013, we were not in compliance with the minimum liquidity, minimum EBITDA, and total leverage ratio covenants in our Revolving Facility and Term Facility. We are currently in discussions with both lenders of these facilities to amend our current credit agreements to address these covenants.

 

The Company believes it will be able to negotiate with the lenders to amend the Revolving Facility and the Term Facility. However, if the Company is unable to negotiate amendments, there can be no assurance that the Company would be able to find other lenders to refinance these agreements by their proposed 2014 maturity dates.

   

18
 

 

Cash Flows for the Second Quarter Ended June 30, 2013 and 2012

 

Net cash provided by operating activities was $7.6 million in the second quarter of 2013 as compared to net cash provided by operating activities of $0.7 million in the second quarter of 2012. The $6.9 million increase in cash provided by operating activities was primarily due to a $11.3 million increase in sources from working capital components offset by $3.2 million in lower net income and a $1.3 million decrease in deferred income taxes. The $11.3 million sources from working capital was primarily due to sources of $8.5 million of lower accounts receivable and higher customer advanced billings of 15.0 million. These two sources of working capital were offset by $13.4 million of higher inventory.

 

Capital expenditures were approximately $0.02 million and $0.3 million in the second quarter of 2013 and 2012, respectively.

 

The net cash used in financing activities, in the second quarter of 2013, was $8.8 million as compared to net cash provided by investing activities of $6.6 million in the second quarter of 2012.

 

As a result of the foregoing activities, in the second quarter of 2013, the Company’s cash decreased by $0.9 million as compared to an increase of cash of $6.9 million in the second quarter of 2012.

  

Cash Flows for the Six Months Ended June 30, 2013 and 2012

 

Net cash provided by operating activities was $4.1 million in the first six months of 2013 as compared to net cash used in operating activities of $8.8 million in the first six months of 2012. The $12.8 million increase in cash provided by operating activities was primarily due to a $8.8 million increase in sources from working capital components, $2.2 million in higher net income, and a $1.5 million increase in deferred income taxes. The $8.8 million reduction in working capital was primarily due to sources of $29.4 million of lower accounts receivable offset by $2.7 million of higher inventory and lower working capital liabilities of $18.1 million.

 

Capital expenditures were approximately $0.2 million and $0.9 million in the first six months of 2013 and 2012, respectively.

 

The net cash used in financing activities, in the first six months of 2013, was $4.6 million as compared to net cash provided by financing activities of $14.1 million in the first six months of 2012.

 

As a result of the foregoing activities, in the first six months of 2013, the Company’s cash decreased by $0.4 million as compared to a increase of cash of $4.3 million in the first six months of 2012.

 

Future Cash Requirements

 

As of June 30, 2013, we had current maturities of long-term debt of $33.0 million, cash and cash equivalents of $1.2 million, and $5.3 million available under our amended and restated $20.0 million revolving credit and security agreement.

 

Additionally, the Company is in a net working capital deficit position as of June 30, 2013.

 

Provided that we are successful in amending our existing credit agreements with our lenders, and based on our cash on hand and cash flow from operations, we believe that we will have the working capital resources necessary to meet our projected operational needs for fiscal year 2013 exclusive of the PEMEX liabilities, if any.

 

19
 

 

Critical Accounting Policies and Management Estimates

 

The Commission defines critical accounting policies as those that are, in management’s view, important to the portrayal of our financial condition and results of operations and demanding of management’s judgment. Our discussion and analysis of financial condition and results of operation are based on our consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires us to make estimates on experience and on various assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from those estimates.

 

Revenue Recognition

 

We report earnings from firm-price and modified firm-price long-term contracts on the percentage-of-completion method. Earnings are recorded based on the ratio of costs incurred to-date to total estimated costs. Costs include direct material, direct labor, and job related overhead. Losses expected to be incurred on contracts are charged to operations in the period such losses are determined. A contract is considered complete when its manufacturing process is complete, the customer has been provided with all proper inspection and other required documentation, title and risk of loss has passed to the customer, collectability is reasonably assured and the product has been delivered.

 

The percentage-of-completion method requires us to make estimates regarding the total costs of the project, progress against the project schedule and the estimated completion date, all of which impact the amount of revenue and gross margin we recognize in each reporting period. Significant projects and their related costs and profit margins are updated and reviewed at least quarterly by our senior management. Factors that may affect future project costs and margins include weather, production inefficiencies, availability and cost of labor, materials and subcomponents and other factors. These factors can impact the accuracy of our estimates and materially impact our future reported earnings. The cumulative impact of any revisions to estimates and the full impact of anticipated losses on contracts accounted for under ASC 605-35, Construction-Type and Production-Type Contracts are recognized in the period in which they become known. Losses expected to be incurred on jobs in progress, are charged to income as soon as such losses are known.

 

Allowance for Doubtful Accounts

 

We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. We review our allowance for doubtful accounts on a quarterly basis. Reserves for potential losses are based on our estimate of the probability of collection for certain accounts, our historical experience of bad debt expense and the aging of its accounts receivable balances. Accounts are written-off when an account is determined to no longer be collectable, based on our past collection history, or after we have exhausted all possible means of collection.

 

We have typically not experienced unanticipated bad debt losses as a result of our business practices of securing advance payments for a large percentage of our projects during the construction process, and securing final payments from customers that may present collectability issues prior to shipment.

 

Inventories

 

Inventories consist of raw materials and finished goods and work-in-process (see Revenue Recognition). Inventories of raw materials and finished goods are stated at the lower of cost or market using the average method. Allowances for excess and obsolete inventories are determined based on our historical usage of inventory on-hand as well as our future expectations related to our manufacture of product.

 

Recent Accounting Pronouncements

 

In July 2013, the FASB issued guidance related to the financial statement presentation of an unrecognized tax benefit, a similar tax loss, or a tax credit carryforward exists. The new standard requires that an unrecognized tax benefit, or a portion of an unrecognized tax benefit, be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward unless certain circumstances exist. The standard is effective for us as of January 1, 2014, with early adoption permitted. The adoption of this guidance is not expected to have a significant impact on our consolidated financial position, results of operations or cash flows.

 

20
 

 

Off-Balance Sheet Arrangements

 

We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on its financial condition, changes in financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources.

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Not applicable.

 

ITEM 4. CONTROLS AND PROCEDURES

 

Disclosure Controls and Procedures

 

As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) adopted by the Commission under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). Our disclosure controls and procedures were developed through a process in which our management applied its judgment in assessing the costs and benefits of such controls and procedures, which, by their nature, can provide only reasonable assurance regarding the control objectives. The design of any system of disclosure controls and procedures is based in part upon various assumptions about the likelihood of future events, and we cannot provide assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

 

Based on the evaluation referred to above, our Chief Executive Officer and Chief Financial Officer concluded that the design and operation of our disclosure controls and procedures are effective as of June 30, 2013 to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Commission and such information is accumulated and communicated to management, including its principal executives and principal financial officers or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

 

Changes in Internal Control Over Financial Reporting

 

Except as described below, there have been no changes in our internal control over financial reporting during the quarter ended June 30, 2013 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. We are still in the process of integrating the Acquired Company, which we acquired on December 14, 2012, and which was previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2012, into our overall internal control over financial reporting process.

 

part ii.

 

ITEM 1. LEGAL PROCEEDINGS

 

On May 6, 2013, Drillmec, Inc. filed a lawsuit in the 281 st Judicial District Court in Harris County, Texas ( Drillmec, Inc. v. Integrated Drilling Equipment Company, et. al. ) against Integrated Drilling Equipment Company Holdings, Inc., Integrated Drilling Equipment Company Holdings, LLC, Integrated Drilling Equipment, LLC, Integrated Drilling Equipment Company, Stephen D. Cope and SDC Management Services, LLC. Drillmec alleges that the defendants acquired Drillmec’s drawings and technical specifications through an unrelated bidding process for offshore drilling rigs. In the pleadings, Drillmec claims that the defendants used this proprietary information in connection with its successful bid for the PEMEX contracts and asserts causes of action for misappropriation of trade secrets, conversion, interference with prospective relations, conspiracy, unjust enrichment and unfair competition. Drillmec is seeking damages in the form of IDE’s actual profits from the PEMEX contracts and the development costs that Drillmec incurred in developing the proprietary information in question. This case is in the preliminary stages and the Company intends to defend this litigation vigorously.

  

ITEM 1A. RISK FACTORS

 

The Company is in default under its credit agreements and may not be able to renegotiate the terms of these agreements.

 

As of June 30, 2013, we were not in compliance with the minimum liquidity, minimum EBITDA, and total leverage ratio covenants in our Revolving Facility (as defined below) and Term Facility (as defined below). We are currently in discussions with both lenders of these facilities to amend the agreements to address these covenants. Accordingly, the Company has reclassified its debt and related debt issuance costs from non-current to current as of June 30, 2013.

 

The Company believes it will be able to negotiate with the lenders to amend the Revolving Facility and the Term Facility. However, if the Company is unable to negotiate amendments, there can be no assurance that the Company would be able to find other lenders to refinance these agreements.

 

The Company has received notices from PEMEX terminating its four purchase agreements for modular drilling units and may be liable for liquidated damages.

 

On August 9, 2013, the Company received notices from PEMEX Procurement International, Inc. (“PII”) (formerly Integrated Trade Systems, Inc.), an agent for PEMEX-Exploración y Producción (“PEMEX”) terminating its four purchase agreements for modular drilling units. The collective value of the four agreements was approximately $354.0 million. The Company is in discussions with PEMEX seeking to reinstate the purchase agreements. However, should the Company be unable to successfully reinstate the purchase agreements, PEMEX may seek liquidated damages in the amount of 12% of the purchase price of each of the modular drilling units, under the terms of the agreements.

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

None.

 

21
 

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

On December 14, 2012, the Company and its subsidiaries (the “Borrowers”) entered into a term loan and security agreement with Elm Park Credit Opportunities Fund, L.P. and Elm Park Credit Opportunities Fund (Canada), L.P., as lenders, and Elm Park Capital Management, LLC, as administrative agent (the “Term Loan Agreement”). The Term Loan Agreement provided for a $20.0 million four year senior secured second-lien term loan facility (the “Term Facility”).

 

On December 14, 2012, the Borrowers also entered into an amended and restated revolving credit and security agreement with PNC Bank, National Association, as administrative agent and the initial lender (the “Revolving Credit Agreement”). The Revolving Credit Agreement provides for a $20 million committed asset-based revolving credit facility, with a sublimit for letters of credit (the “Revolving Facility”).

 

On April 9, 2013, we amended the Term Facility and Revolving Facility to provide among other things, that the minimum liquidity covenants shall not be tested again until May 31, 2013.

 

As of June 30, 2013, we were not in compliance with the minimum liquidity, minimum EBITDA, and total leverage ratio covenants in our Revolving Facility and Term Facility. We are currently in discussions with both lenders of these facilities to amend the agreements to address these compliance issues.

 

ITEM 4. MINE SAFETY AND DISCLOSURES

 

Not applicable.

 

ITEM 5. OTHER INFORMATION

 

On August 9, 2013, the Company received notices from PEMEX Procurement International, Inc. (“PII”) (formerly Integrated Trade Systems, Inc.), an agent for PEMEX-Exploración y Producción (“PEMEX”) terminating the four purchase agreements for modular drilling units. The Company, through its subsidiaries Integrated Drilling Equipment LLC and IDE Perforación Mexico, S. de R.L. de C.V., entered into these four purchase agreements with PII, an agent for PEMEX, on March 22, 2013.

 

Pursuant to each purchase agreement, the Company was required to deliver to PII within 20 business days of signing the purchase agreement: (1) a stand-by letter of credit for 12% of the purchase price; and (2) a bond for 20% of the purchase price (together with the letter of credit, the “guarantees”).

 

The Company was unable to secure the necessary guarantees within the time period contemplated by the purchase agreements. Due to the inability to obtain the guarantees, PII terminated the purchase agreements pursuant to the terms of the purchase agreements.

 

The purchase agreements provide for liquidated damages in the amount of 12% of the purchase price of each of the modular drilling units.

 

The Company is in discussions with PEMEX seeking to reinstate the purchase agreements.

  

ITEM 6. EXHIBITS

 

The following exhibits are filed as part of, or incorporated by reference into, this report.

 

Exhibit Number

Description

31.1* Certification of the Chief Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a)
31.2* Certification of the Chief Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a)
32.1* Certification of the Chief Executive Officer required by Rule 13a-14(b) or Rule 15d-14(b) and 18 U.S.C. 1350
32.2* Certification of the Chief Financial Officer required by Rule 13a-14(b) or Rule 15d-14(b) and 18 U.S.C. 1350
101.INS** XBRL Instance Document
101.SCH** XBRL Taxonomy Extension Schema Document
101.CAL** XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF** XBRL Taxonomy Extension Definition Linkbase Document
101.LAB** XBRL Taxonomy Extension Label Linkbase Document
101.PRE** XBRL Taxonomy Extension Presentation Linkbase Document

 

* Filed herewith.

 

** XBRL (Extensible Business Reporting Language) information is furnished and not filed or a part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.

 

22
 

 

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.

 

 

 

    INTEGRATED DRILLING EQUIPMENT HOLDINGS CORP.
     
Dated: August 14, 2013   /s/ Stephen Cope
 

Stephen Cope

Chief Executive Officer

(Principal executive officer)  

 

Dated: August 14, 2013   /s/ N. Michael Dion
 

N. Michael Dion

Chief Financial Officer and Executive Vice President

(Principal financial and accounting officer)  

 

23

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