VICTORY OILFIELD TECH, INC. INTRODUCTION
The following Management's Discussion and Analysis of Financial Condition and
Results of Operations ("MD&A") is intended to help the reader understand Victory
Oilfield Tech, Inc. MD&A is presented in the following seven sections:
? Cautionary Information about Forward-Looking Statements;
? Business Overview; ? Results of Operations;
? Liquidity and Capital Resources;
? Critical Accounting Policies and Estimates;
? Recently Adopted Accounting Standards; and
? Recently Issued Accounting Standards.
MD&A is provided as a supplement to, and should be read in conjunction with, our audited consolidated balance sheets as ofDecember 31, 2020 and 2019 and our audited consolidated statements of operations, stockholders' equity and cash flows for the years then ended and the related notes thereto. In MD&A, we use "we," "our," "us," "Victory" and "the Company" to refer toVictory Oilfield Tech. and its wholly-owned subsidiary, unless the context requires otherwise. Amounts and percentages in tables may not total due to rounding. This discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, expectations and intentions. We caution readers that important facts and factors described in MD&A and elsewhere in this document sometimes have affected, and in the future could affect our actual results, and could cause our actual results during 2021 and beyond to differ materially from those expressed in any forward-looking statements made by, or on behalf of, us.
As reported in the Report of Independent Registered Public Accounting Firm on
our
CAUTIONARY INFORMATION ABOUT FORWARD-LOOKING STATEMENTS
Many statements made in the following discussion and analysis of our financial condition and results of operations and elsewhere in this Annual Report on Form 10-K that are not statements of historical fact, including statements about our beliefs and expectations, are "forward-looking statements" within the meaning of federal securities laws and should be evaluated as such. Forward-looking statements include information concerning possible or assumed future results of operations, including descriptions of our business plan, strategies and capital structure. In particular, the words "anticipate," "expect," "suggests," "plan," "believe," "intend," "estimates," "targets," "projects," "should," "could," "would," "may," "will," "forecast," variations of such words, and other similar expressions identify forward-looking statements, but are not the exclusive means of identifying such statements and their absence does not mean that the statement is not forward-looking. We base these forward-looking statements or projections on our current expectations, plans and assumptions that we have made in light of our experience in the industry, as well as our perceptions of historical trends, current conditions, expected future developments and other factors we believe are appropriate under the circumstances and at such time. As you read and consider this Annual Report on Form 10-K, you should understand that these statements are not guarantees of performance or results. The forward-looking statements and projections are subject to and involve risks, uncertainties and assumptions, including, but not limited to, the risks and uncertainties described in Item 1A "Risk Factors" and you should not place undue reliance on these forward-looking statements or projections. Although we believe that these forward-looking statements and projections are based on reasonable assumptions at the time they are made, you should be aware that many factors could affect our actual financial results or results of operations and could cause actual results to differ materially from those expressed in the forward-looking statements and projections. Factors that may materially affect such forward-looking statements and projections include:
? continued operating losses;
? adverse developments in economic conditions and, particularly, in conditions in
the oil and gas industries;
? volatility in the capital, credit and commodities markets;
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? our inability to successfully execute on our growth strategy;
? the competitive nature of our industry;
? credit risk exposure from our customers;
? price increases or business interruptions in our supply of raw materials;
? failure to develop and market new products and manage product life cycles;
? business disruptions, security threats and security breaches, including
security risks to our information technology systems;
? terrorist acts, conflicts, wars, natural disasters, pandemics and other health
crises that may materially adversely affect our business, financial condition
and results of operations;
? failure to comply with anti-terrorism laws and regulations and applicable
trade embargoes;
? risks associated with protecting data privacy;
? significant environmental liabilities and costs as a result of our current and
past operations or products, including operations or products related to our
licensed coating materials;
? transporting certain materials that are inherently hazardous due to their
toxic nature;
? litigation and other commitments and contingencies;
? ability to recruit and retain the experienced and skilled personnel we need to
compete;
? work stoppages, labor disputes and other matters associated with our labor
force;
? delays in obtaining permits by our future customers or acquisition targets for
their operations;
? our ability to protect and enforce intellectual property rights;
? intellectual property infringement suits against us by third parties;
? our ability to realize the anticipated benefits of any acquisitions and
divestitures;
? risk that the insurance we maintain may not fully cover all potential
exposures;
? risks associated with changes in tax rates or regulations, including
unexpected impacts of the new
further regulatory guidance and changes in our current interpretations and
assumptions;
? our substantial indebtedness;
? the results of pending litigation;
? our ability to obtain additional capital on commercially reasonable terms
may be limited;
? any statements of belief and any statements of assumptions underlying any
of the foregoing;
? other factors disclosed in this Annual Report on Form 10-K and our other
filings with the Securities and Exchange Commission ; and
? other factors beyond our control.
These cautionary statements should not be construed by you to be exhaustive and
are made only as of the date of this Annual Report on Form 10-K. Except as
expressly required by the federal securities laws, there is no undertaking to
publicly update or revise any forward-looking statements, whether as a result of
new information, future events, changed circumstances or any other reason.
Potential investors should not make an investment decision based solely on our
projections, estimates or expectations.
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BUSINESS OVERVIEW
General
We are an Austin, Texas based publicly held oilfield energy technology products
company focused on improving well performance and extending the lifespan of the
industry's most sophisticated and expensive equipment. America's resurgence in
oil and gas production is largely driven by new innovative technologies and
processes as most dramatically and recently demonstrated by fracking. One such
process is hardbanding, in which a wear-resistant alloy is applied to the tool
joints of drillpipe or drill collars to prolong the life of oilfield tubulars.
We utilize wear-resistant alloys which are mechanically stronger, harder and
more corrosion resistant than typical alloys found in the market today. This
combination of characteristics creates opportunities for drillers to
dramatically improve lateral drilling lengths, well completion time and total
well costs.
Growth Strategy
We plan to continue our U.S. oilfield services company acquisition initiative,
aimed at companies which are already recognized as a high-quality services
provider to strategic customers in the major North American oil and gas basins.
When completed, we expect that each of these oilfield services company
acquisitions will provide immediate revenue from their current regional customer
base, while also providing us with a foundation for channel distribution and
product development of our existing products and services. We intend to grow
each of these established oilfield services companies by providing better access
to capital, more disciplined sales and marketing development, integrated supply
chain logistics and infrastructure build out that emphasizes outstanding
customer service and customer collaboration, future product development and
planning.
We believe that a well-capitalized technology-enabled oilfield services business
will provide the basis for more accessible financing to grow the Company and
execute our oilfield services company acquisitions strategy.
Recent Developments
Impact of Coronavirus Pandemic
InDecember 2019 , a novel strain of coronavirus was reported to have surfaced inWuhan, China . The virus has since spread to over 150 countries and every state inthe United States . OnMarch 11, 2020 , theWorld Health Organization declared the outbreak a pandemic, and onMarch 13, 2020 ,the United States declared a national emergency. Most states and cities have reacted by instituting quarantines, restrictions on travel, "stay-at-home" rules and restrictions on the types of businesses that may continue to operate, as well as guidance in response to the pandemic and the need to contain it. Although stay at home orders and lock downs on businesses in the areas where we operate have caused our staff to conduct business operations from their homes, this change has not resulted in a significant impact to our ability to operate. However, the spread of the coronavirus outbreak across the world has driven sharp demand destruction for crude oil as whole economies ordered curtailed activity. As a result, companies across the industry have responded with severe capital spending budget cuts, personnel layoffs, facility closures and bankruptcy filings. We expect industry activity levels and spending by customers to remain depressed throughout the remainder of 2021 as destruction of demand for oil and gas continues. As the coronavirus continues to spread throughout areas in which we operate, we believe the outbreak has the potential to have a material negative impact on our operating results and financial condition. The extent of the impact of the coronavirus on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak, impact on our operators, employees and vendors, all of which are uncertain and cannot be predicted. The extent of the pandemic's continued effect on our operational and financial performance will depend on future developments, including the duration, spread and intensity of the outbreak, the pace at which jurisdictions across the country re-open and restrictions begin to lift, the availability of government financial support to our business and our customers, and whether a resurgence of the outbreak occurs. Given these uncertainties, we cannot reasonably estimate the related impact to our business, operating results and financial condition, but it could be material. VPEG Note
During the period of
On
On
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PPP Note
As of August 6, 2021 we have received notice from Arvest Bank and the SBA that
the full amount of the first PPP Note for $168,800 has been forgiven. See Note
7, Notes Payable, to the consolidated financial statements for more information.
The amount forgiven will be recorded as income in our financial statementsas of the date of forgiveness. OnFebruary 1, 2021 , we received loan proceeds in the amount of$98,622 pursuant to a second draw loan under the PPP. The unsecured loan (the "Second PPP Loan") is evidenced by a promissory note (the "Second PPP Note") issued by us, datedJanuary 28, 2021 , in the principal amount of$98,622 withArvest Bank . Under the terms of the Second PPP Note and the PPP, interest accrues on the outstanding principal at the rate of 1.0% per annum with a deferral of payments for the first 10 months. The term of the Second PPP Note is five years, though it may be payable sooner in connection with an event of default under the Second PPP Note. To the extent the amount of the Second PPP Loan is not forgiven under the PPP, we will be obligated to make equal monthly payments of principal and interest beginning after a 10-month deferral period provided in the Second PPP Note and throughJanuary 28, 2026 . The CARES Act and the PPP provide a mechanism for forgiveness of up to the full amount borrowed. Under the PPP, we may apply for forgiveness for all or a part of the Second PPP Loan. The amount of Second PPP Loan proceeds eligible for forgiveness is based on a formula established by the SBA. Subject to the other requirements and limitations on Second PPP Loan forgiveness, only that portion of the Second PPP Loan proceeds spent on payroll and other eligible costs during the covered twenty-four -week period will qualify for forgiveness. Although we have used the entire amount of the Second PPP Loan for qualifying expenses, no assurance is provided that we will obtain forgiveness of the Second PPP Loan in whole or in part.
The Second PPP Note may be prepaid in part or in full, at any time, without penalty. The Second PPP Note provide for certain customary events of default, including our: (i) failure to make a payment when due; (ii) breach of the note terms; (iii) default on any other loan with the Lender; (iv) filing of a bankruptcy petition by or against us; (v) reorganization merger, consolidation or other change in ownership or business structure without the Lender's prior written consent; (vi) adverse change in financial condition or business operation that the Lender believes may affect our ability to pay the Second PPP Note; and (vii) default on any loan or agreement with another creditor, if the Lender believes the default may materially affect our ability to pay the Second PPP Note. Upon the occurrence of an event of default, the Lender has customary remedies and may, among other things, require immediate payment of all amounts owed under the Second PPP Note, collect all amounts owing from us and file suit and obtain judgment against us. The foregoing description of the Second PPP Note does not purport to be complete is qualified in its entirety by reference to the full text of the Second PPP Note, a copy of which is filed as Exhibit 10.7 to our Quarterly Report on Form 10-Q for the periods endedJune 30, 2020 . Filings with theSEC OnSeptember 16, 2020 , theSecurities and Exchange Commission ("SEC") adopted extensive amendments to Rule 15c2-11 ("Rule") under the Securities Exchange Act of 1934 ("Exchange Act"). The Rule governs the publication of quotations for securities in the over-the-counter ("OTC") market, including the OTC Pink Market where our common stock is quoted. Rule 15c2-11 makes it unlawful for a broker-dealer to initiate a quotation for a security unless the broker dealer has in its records prescribed information about the issuer that is current and publicly available. The lack of full time accounting personnel and financial constraints resulting in delayed payments to our external professional services providers have restricted our ability to gather, analyze and properly review information related to financial reporting in a timely manner. For these reasons, we were unable to timely file our quarterly and annual reports during 2019 and 2020 and our quarterly reports for the first and second quarters of 2021. We continue to actively seek additional sources of capital which we believe will allow the resumption of timely current public reporting practices no later than the third quarter of 2021. 21
Factors Affecting our Operating Results
The following discussion sets forth certain components of our statements of operations as well as factors that impact those items.
Total revenue
We generate revenue from hardbanding solutions to oilfield operators for drill pipe, weight pipe, tubing and drill collars and grinding services.
Our revenues are generally impacted by the following factors:
? our ability to successfully develop and launch new solutions and services
? changes in buying habits of our customers ? changes in the level of competition faced by our products
? domestic drilling activity and spending by the oil and natural gas industry in
the United States Total cost of revenue
The costs associated with generating our revenue fluctuate as a result of changes in sales volumes, average selling prices, product mix, and changes in the price of raw materials and consist primarily of the following:
? hardbanding production materials purchases ? hardbanding supplies ? labor ? depreciation expense for hardbanding equipment ? field expenses
Selling, general and administrative expenses ("SG&A")
Our selling, general and administrative expense consists of all expenditures
incurred in connection with the sales and marketing of our products, as well as
administrative overhead costs, including:
? compensation and benefit costs for management, sales personnel and
administrative staff, which includes share-based compensation expense
? rent expense, communications expense, and maintenance and repair costs
? legal fees, accounting fees, consulting fees and insurance expenses.
These expenses are not expected to materially increase or decrease directly with changes in total revenue.
Depreciation and amortization
Depreciation and amortization expenses consist of amortization of intangible assets, depreciation of property, plant and equipment, net of depreciation of hardbanding equipment which is reported in Total cost of revenue Interest expense
Interest expense, net consists primary of interest expense and loan fees on borrowings as well as amortization of debt issuance costs and debt discounts associated with our indebtedness.
Other (income) expense, net
Other (income) expense, net represents costs incurred, net of income, from
various non-operating items including costs incurred in conjunction with our
debt refinancing and extinguishment transactions, interest income, gain or loss
on disposal of fixed assets, as well as non-operational gains and losses
unrelated to our core business.
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Income tax benefit (provision)
We are subject to income tax in the various jurisdictions in which we operate. While the extent of our future tax liability is uncertain, our operating results, the availability of any net operating loss carryforwards, any future business combinations, and changes to tax laws and regulations are key factors that will determine our future book and taxable income.
Income from discontinued operations
Income from discontinued operations consist of revenues, related expenses and loss on disposal of Aurora. See Note 3, Discontinued Operations, to the consolidated financial statements for further information.
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the information
contained in the accompanying financial statements and related notes included
elsewhere in this Annual Report on Form 10-K. Our historical results of
operations summarized and analyzed below may not necessarily reflect what will
occur in the future.
For the Years Ended
December 31, Percentage
($ in thousands) 2020 2019 Change Change
Total revenue $ 851.4 $ 2,204.1 $ (1,352.7 ) -61 %
Total cost of revenue 537.4 1,015.9 (478.5 ) -47 %
Gross profit 314.0 1,188.2 (874.2 ) -74 %
Operating expenses
Selling, general and administrative 1,165.0 1,705.7 (540.7 ) -32 %
Depreciation and amortization 19.6 265.3 (245.7 ) -93 %
Impairment loss - 2,616.7 (2,616.7 ) -100 %
Total operating expenses 1,184.6 4,587.7 (3,403.1 ) -74 %
Loss from operations (870.6 ) (3,399.5 ) 2,528.9 -74 %
Other income/(expense)
Interest expense (87.7 ) (197.9 ) 110.2 -56 %
Other income/(expense) 7.0 - 7.0 100.0 %
Total other income/(expense) (80.7 ) (197.9 ) 117.2 -59 %
Loss from continuing operations before
tax benefit (951.3 ) (3,597.4 ) 2,646.1 -74 %
Tax expense (2.5 ) - (2.5 ) 0 %
Loss from continuing operations (953.8 ) (3,597.4 ) 2,643.6 -73 %
Income/(loss) from discontinued
operations - 66.5 (66.5 ) -100 %
Loss applicable to common stockholders
-73 %
Total Revenue
Total revenue decreased by 61%, from$2,204,104 in the year endedDecember 31, 2019 to$851,393 in the year endedDecember 31, 2020 due to a decrease in hardbanding revenue generated by Pro-Tech as a result of as a result of less drilling due to the low price of a barrel of oil and the effect of the COVID-19 pandemic on overall demand for oil and gas. Total Cost of Revenue Total cost of revenue decreased by 47%, from$1,015,855 in the year endedDecember 31, 2019 to$537,427 in the year endedDecember 31, 2020 due primarily to decreases in materials, direct labor, other direct costs resulting from decreases in Pro-Tech's revenue generating activities as compared to the year endedDecember 31, 2019 , and to a lesser extent, other reductions in expenses such as depreciation on equipment. 23
Selling, general and administrative
Selling, general and administrative expenses decreased by 32%, from$1,705,704 in the year endedDecember 31, 2019 to$1,165,009 in the year endedDecember 31, 2020 due to the following:
? Consulting fees were reduced by eliminating the number of consultants and
moving others to payroll
? Payroll related expenses were reduced due to employee downsizing
? Premiums for Directors and Officers liability insurance were reduced
These decreases were partially offset by increases in accounting fees.
Depreciation and amortization
Depreciation and amortization decreased by 93%, from$265,318 during the year endedDecember 31, 2019 to$19,609 during the year endedDecember 31, 2020 due to the reduction of amortization of Intangible Assets, which were impaired at the end of 2019. In addition, please refer to Note 5,Goodwill and Other Intangible Assets,to the consolidated financial statements for further discussion of our intangible assets. Impairment loss
For the twelve months ended
In addition, please refer to Note 5,Goodwill and Other Intangible Assets, to the consolidated financial statements for further discussion of our intangible assets. Interest expense Interest expense decreased by 56%, from$197,851 during the year endedDecember 31, 2019 to$87,677 in the year endedDecember 31, 2020 primarily due to the restructuring of our notes payable to VPEG as well as the Rogers Note, the Kodak Note, and the Matheson Note. See Note 7, Notes Payable, to the condensed consolidated financial statements for more information. Tax benefit There is no material provision for income tax expenses recorded for the twelve months endedDecember 31, 2020 and 2019 due to the net operating losses, ("NOL") in each of the respective years. The realization of future tax benefits is dependent on our ability to generate taxable income within the NOL carry forward period. Given our history of net operating losses, management has determined that it is more-likely-than-not we will not be able to realize the tax benefit of our NOL carry forwards. Current standards require that a valuation allowance thus be established when it is more likely than not that all or a portion of deferred tax assets will not be realized.
Loss from Continuing Operations, Income from Discontinued Operations, and Loss Applicable to Common Stockholders
We reported an operating loss for 2020 of
Income from discontinued operations consist of revenues and related expenses resulting from the trailing activity of Aurora and loss on disposal of Aurora. See Note 3, Discontinued Operations, to the consolidated financial statements for further information. As a result of the foregoing, loss applicable to common stockholders for the year endedDecember 31, 2020 was$(953,858) , or$(0.03) per share, compared to a loss applicable to common stockholders of$(3,530,835) , or$(0.13) per share, for 2019 on weighted average shares of 28,037,713 in each of the respective
periods.
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LIQUIDITY AND CAPITAL RESOURCES
Going Concern Historically we have experienced, and we continue to experience, net losses, net losses from operations, negative cash flow from operating activities, and working capital deficits. These conditions raise substantial doubt about our ability to continue as a going concern within one year after the date of issuance of the accompanying consolidated financial statements. The accompanying consolidated financial statements do not reflect any adjustments that might result if we are unable to continue as a going concern. Management anticipates that operating losses will continue in the near term as we continue efforts to leverage our intellectual property through the platform provided by the acquisition of Pro-Tech and, potentially, other acquisitions. In the near term, we are relying on financing obtained from VPEG through the New VPEG Note to fund operations as we seek to generate positive cash flows from operations. See Note 8 "Notes Payable," and Note 13 "Related Party Transactions," to the accompanying consolidated financial statements for additional information regarding the New VPEG Note. In addition to increasing cash flow from operations, we will be required to obtain other liquidity resources in order to support ongoing operations. We are addressing this need by developing additional capital sources which we believe will enable us to execute our recapitalization and growth plan. This plan includes the expansion of Pro-Tech's core hardbanding business through additional drilling services and the development of additional products and services including wholesale materials, RFID enclosures and mid-pipe coating solutions. Based upon capital formation activities as well as the ongoing near-term funding provided through the New VPEG Note, we believe we will have enough capital to cover expenses through at least the next twelve months. We will continue to monitor liquidity carefully, and in the event we do not have enough capital to cover expenses, we will make the necessary and appropriate reductions in spending to remain cash flow positive. Capital Resources During the twelve months endedDecember 31, 2020 , we obtained$1,102,776 from VPEG through the New VPEG Note. As ofAugust 20, 2021 and for the foreseeable future, we expect to cover operating shortfalls with funding through the New VPEG Note while we enact our strategy to become a technology-focused oilfield services company and seek additional sources of capital. As ofAugust 20, 2021 the remaining amount available to us for additional borrowings on the New VPEG Note, as amended, was approximately$640,224 .
Paycheck Protection Program Loan
OnApril 15, 2020 , we received loan proceeds in the amount of$168,800 under the Paycheck Protection Program (the "PPP"). The PPP, established as part of the Coronavirus Aid, Relief and Economic Security Act of 2020 (the "CARES Act") and administered by theU.S. Small Business Administration (the "SBA"), provides for loans to qualifying businesses for amounts up to 2.5 times of the average monthly payroll expenses of the qualifying business. The unsecured loan (the "First PPP Loan") is evidenced by a promissory note (the "First PPP Note") issued by us, datedApril 14, 2020 , in the principal amount of$168,800 withArvest Bank
Under the terms of the First PPP Note and the PPP, interest accrues on the outstanding principal at the rate of 1.0% per annum with a deferral of payments for the first seven months. The term of the First PPP Note is two years, though it may be payable sooner in connection with an event of default under the First PPP Note. To the extent the amount of the First PPP Loan is not forgiven under the PPP, we will be obligated to make equal monthly payments of principal and interest beginning after a seven-month deferral period provided in the First PPP Note and throughApril 14, 2022 . The CARES Act and the PPP provide a mechanism for forgiveness of up to the full amount borrowed. Under the PPP, we may apply for forgiveness for all or a part of the First PPP Loan. The amount of First PPP Loan proceeds eligible for forgiveness is based on a formula that takes into account a number of factors, including: (i) the amount of First PPP Loan proceeds that are used by the Company during the 24-week period after the First PPP Loan origination date for certain specified purposes including payroll costs, interest on certain mortgage obligations, rent payments on certain leases, and certain qualified utility payments, provided that at least 75% of the First PPP Loan amount is used for eligible payroll costs; (ii) our maintaining or rehiring employees, and maintaining salaries at certain levels; and (iii) other factors established by the SBA. Subject to the other requirements and limitations on First PPP Loan forgiveness, only that portion of the First PPP Loan proceeds spent on payroll and other eligible costs during the covered twenty four -week period will qualify for forgiveness. As ofAugust 6, 2021 , the Company received notice fromArvest Bank and SBA that the full amount of the First PPP Loan in the amount of$168,800 has been forgiven. See Note 16, Subsequent Events, to the consolidated financial statements for additional information. The foregoing description of the First PPP Note does not purport to be complete and is qualified in its entirety by reference to the full text of the First PPP Note, a copy of which is filed as Exhibit 10.5 to our Quarterly Report on Form 10-Q for the periods endedJune 30, 2020 . 25 Economic Injury Disaster Loan Additionally, onJune 15, 2020 , we received$150,000 in loan funding from the SBA under the Economic Injury Disaster Loan ("EIDL") program administered by the SBA, which program was expanded pursuant to the CARES Act. The EIDL is evidenced by a promissory note, datedJune 11, 2020 (the "EIDL Note") in the original principal amount of$150,000 with the SBA, the lender. Under the terms of the EIDL Note, interest accrues on the outstanding principal at the rate of 3.75% per annum. The term of the EIDL Note is 30 years, though it may be payable sooner upon an event of default under the EIDL Note. Under the EIDL Note, we will be obligated to make equal monthly payments of principal and interest beginning onJuly 11, 2021 through the maturity date ofJune 11, 2050 . The EIDL Note may be prepaid in part or in full, at any time, without penalty. The EIDL Note provides for certain customary events of default, including: (i) a failure to comply with any provision of the EIDL Note, the related Loan Authorization and Agreement, or other EIDL loan documents; (ii) a default on any other SBA loan; (iii) a sale or transfer of, or failure to preserve or account to SBA's satisfaction for, any of the collateral or its proceeds; (iv) a failure of us or anyone acting on its behalf to disclose any material fact to SBA; (v) the making of a materially false or misleading representation to SBA by us or anyone acting on our behalf; (vi) a default on any loan or agreement with another creditor, if SBA believes the default may materially affect our ability to pay the EIDL Note; (vii) a failure to pay any taxes when due; (viii) if we become the subject of a proceeding under any bankruptcy or insolvency law; (ix) if a receiver or liquidator is appointed for any part of our business or property; (x) the making of an assignment for the benefit of creditors; (xi) has any adverse change in financial condition or business operation that SBA believes may materially affect our ability to pay the EIDL Note; (xii) effects any reorganization, merger, consolidation, or other transaction changing ownership or business structure without SBA's prior written consent; or (xiii) becomes the subject of a civil or criminal action that SBA believes may materially affect our ability to pay the EIDL Note. The foregoing description of the EIDL Note does not purport to be complete and is qualified in its entirety by reference to the full text of the EIDL Note, a copy of which is filed as Exhibit 10.6 to our Quarterly Report on Form 10-Q for the periods endedJune 30, 2020 .
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements that have or are reasonably likely to have a current of future effect on our financial condition.
Cash Flow
The following table provides detailed information about our net cash flows for
the years ended
Years Ended December 31,
($ in thousands) 2020 2019Net cash used in operating activities$ (508.2 ) $ (372.1 ) Net cash provided by (used in) investing activities (9.8 )
-
Net cash provided by financing activities 693.2
312.5
Net decrease in cash and cash equivalents 175.2 (59.6 ) Cash and cash equivalents at beginning of period 17.1
76.7
Cash and cash equivalent at end of period$ 192.3 $
17.1
Net cash used in operating activities for the year endedDecember 31, 2020 was$508,162 . Net loss adjusted for non-cash items (impairment of intangible assets, depreciation, amortization, and share based compensation expense) used cash of$711,385 . Changes in operating assets and liabilities provided cash of$203,223 . The most significant drivers were decreases in accounts receivable (due to timing of collections) and other receivables, inventory, and prepaid and other current assets. These decreases, which provided net cash, were partially offset by decreases in accrued liabilities and accounts payable, which used net cash. This compares to net cash used in operating activities for the year endedDecember 31, 2019 was$372,139 . Net loss adjusted for non-cash items (impairment of intangible assets, depreciation, amortization, and share based compensation expense) used cash of$282,518 . In addition, changes in operating assets and liabilities used cash of$89,621 . The most significant drivers were decreases in accounts receivable (due to timing of collections) and other receivables which were partially offset by increases in accrued liabilities and accounts payable. Net cash provided by/used in investing activities for the year endedDecember 31, 2020 was$9,758 due to equipment maintenance. This compares to$0 of cash used by investing activities for the year endedDecember 31, 2019 . Net cash provided by financing activities for the year endedDecember 31, 2020 was$693,181 compared to$312,469 in net cash provided by financing activities during the year endedDecember 31, 2019 . In each of 2020 and 2019 net cash provided by financing activities was primarily due to debt financing proceeds from affiliates, net of repayments. See Note 7, Notes Payable, to the condensed consolidated financial statements, and Note 12, Related Party Transactions, to the condensed consolidated financial statements for more information regarding our financing activities.
We believe it will be necessary to obtain additional liquidity resources in order to support our operations. We are addressing our liquidity needs by seeking to generate positive cash flows from operations and developing additional backup capital sources.
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CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity withU.S. generally accepted accounting principles, or GAAP, requires our management to make assumptions, estimates and judgments that affect the amounts reported, including the notes thereto, and related disclosures of commitments and contingencies, if any. We have identified certain accounting policies that are significant to the preparation of our financial statements. These accounting policies are important for an understanding of our financial condition and results of operation. Critical accounting policies are those that are most important to the portrayal of our financial condition and results of operations and require management's difficult, subjective, or complex judgment, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. Certain accounting estimates are particularly sensitive because of their significance to financial statements and because of the possibility that future events affecting the estimate may differ significantly from management's current judgments. We believe the following critical accounting policies involve the most significant estimates and judgments used in the preparation of our financial statements. While there are a number of accounting policies, methods and estimates affecting our consolidated financial statements, areas that are particularly significant include: ? Cash and cash equivalents; ? Property, plant, and equipment; ? Other property and equipment; ? Fair value;
? Concentration of Credit Risk, Accounts Receivable and Allowance for Doubtful
Accounts;
? Inventory
? Goodwill and other intangible assets
? Revenue recognition
? Business combinations
? Share-based compensation,
? Income taxes and
? Earnings per share
In addition, please refer to Note 1, Organization and Summary of Significant Accounting Policies, to the consolidated financial statements for further discussion of our significant accounting policies.
Cash and Cash Equivalents:
We consider all liquid investments with original maturities of three months or less from the date of purchase that are readily convertible into cash to be cash equivalents. We had no cash equivalents atDecember 31, 2020 and 2019.
Property, plant and equipment
Property, plant and equipment is stated at cost. Maintenance and repairs are charged to expense as incurred and the costs of additions and betterments that increase the useful lives of the assets are capitalized. When property, plant and equipment is disposed of, the cost and related accumulated depreciation are removed from the consolidated balance sheets and any gain or loss is included in Other income/(expense) in the consolidated statement of operations.
Depreciation is computed using the straight-line method over the estimated useful lives of the related assets, as follows:
Asset category Useful Life
Welding equipment, Trucks, Machinery and equipment 5 years Office equipment
5 - 7 years
Computer hardware and software 7 years
See Note 4, Property, plant and equipment, to the consolidated financial statements for further information.
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Other Property and Equipment:
Our office equipment in
Fair Value: Financial Accounting Standard Board, or FASB, Accounting Standards Codification, or ASC, Topic 820, Fair Value Measurements and Disclosures, established a hierarchical disclosure framework associated with the level of pricing observability utilized in measuring fair value. This framework defined three levels of inputs to the fair value measurement process and requires that each fair value measurement be assigned to a level corresponding to the lowest level input that is significant to the fair value measurement in its entirety. The three broad levels of inputs defined by FASB ASC Topic 820 hierarchy are as follows:
Level 1 - quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date;
Leve1 2 - inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Leve1 2 input must be observable for substantially the full term of the asset or liability; and Leve1 3 - unobservable inputs for the asset or liability. These unobservable inputs reflect the entity's own assumptions about the assumptions that market participants would use in pricing the asset or liability and are developed based on the best information available in the circumstances (which might include
the reporting entity's own data).
Receivables are carried at amounts that approximate fair value. Receivables are recognized net of an allowance for doubtful accounts receivable. The allowance for doubtful accounts reflects the current estimate of credit losses expected to be incurred over the life of the financial asset, based on historical experience current conditions and reasonable forecasts of future economic conditions. Accounts receivable are written down or off when a portion or all of such account receivable is determined to be uncollectible.
Inventories are valued at the lower of cost or net realizable value with cost being determined on the weighted average cost method. Elements of cost in inventories include:
? raw materials, ? direct labor, and
? manufacturing and indirect overhead.
Supplies are valued at the lower of cost or net realizable value; cost is generally determined by the weighted average cost method. Inventories deemed to have costs greater than their respective market values are reduced to net realizable value with a loss recorded in income in the period recognized.
AtDecember 31, 2020 and 2019, the carrying value of our financial instruments such as accounts receivable and payables approximated their fair values based on the short-term nature of these instruments. The carrying value of short-term notes and advances approximated their fair values because the underlying interest rates approximated market rates at the balance sheet dates.
Concentration of Credit Risk, Accounts Receivable and Allowance for Doubtful Accounts
Financial instruments that potentially subject us to concentrations of credit risk primarily consist of cash and cash equivalents placed with high credit quality institutions and accounts receivable due from Pro-Tech's customers. Management evaluates the collectability of accounts receivable based on a combination of factors. If management becomes aware of a customer's inability to meet its financial obligations after a sale has occurred, we record an allowance to reduce the net receivable to the amount that it reasonably believes to be collectable from the customer. Accounts receivable are written off at the point they are considered uncollectible. Due to historically very low uncollectible balances and no specific indications of current uncollectibility, we have not recorded an allowance for doubtful accounts atDecember 31, 2020 . If the financial conditions of Pro-Tech's customers were to deteriorate or if general economic conditions were to worsen, additional allowances may be required in the future.
As of
Inventory Our inventory balances are stated at the lower of cost or net realizable value on a first-in, first-out basis. Inventory consists of products purchased by Pro-Tech for use in the process of providing hardbanding services. No impairment losses on inventory were recorded for the twelve months endedDecember 31 ,
2020
or 2019.
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Finite-lived intangible assets are recorded at cost, net of accumulated amortization and, if applicable, impairment charges. Amortization of finite-lived intangible assets is provided over their estimated useful lives on a straight-line basis or the pattern in which economic benefits are consumed, if reliably determinable. We review our finite-lived intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We perform an impairment test of goodwill annually and whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. A goodwill impairment loss is recognized for the amount that the carrying amount of a reporting unit, including goodwill, exceeds its fair value, limited to the total amount of goodwill allocated to that reporting unit. We have determined that the Company is comprised of one reporting unit atDecember 31, 2020 and 2019, and the goodwill balances of$145,149 at December of each year are included in the single reporting unit. To date, an impairment of goodwill has not been recorded. For the year endedDecember 31, 2020 , we bypassed the qualitative assessment, and proceeded directly to the quantitative test for goodwill impairment. OurGoodwill balance consists of the amount recognized in connection with the acquisition of Pro-Tech. Our other intangible assets are comprised of contract-based and marketing-related intangible assets, as well as acquisition-related intangibles. Acquisition-related intangibles include the value of Pro-Tech's trademark and customer relationships, both of which are being amortized over their expected useful lives of 10 years beginningAugust 2018 . Our contract-based intangible assets include an agreement to sublicense certain patents belonging to AVV (the "AVV Sublicense"), a license (the "Trademark License") to the trademark ofLiquidmetal Coatings Enterprises LLC ("Liquidmetal"), and several non-compete agreements made in connection with the acquisition of the AVV Sublicense and the Trademark License (the "Non-Compete Agreements"). The contract-based intangible assets have useful lives of approximately 11 years for the AVV Sublicense and 15 years for the Trademark License. With the initiation of a multi-year strategy plan involving synergies between the acquisition of Pro-Tech and our existing intellectual property, we have begun to use the economic benefits of its intangible assets, and therefore began amortization of its intangible assets on a straight-line basis over the useful lives indicated above beginningJuly 31, 2018 , the effective date of
the Pro-Tech acquisition.
During the year endedDecember 31, 2019 , we recorded impairment of the AVV Sublicense, the Trademark License and the Non-Compete Agreements totaling$2,616,705 . EffectiveSeptember 1, 2020 , we and AVV have mutually agreed to terminate the AVV Sublicense Agreement and Trademark License. Since the date of the Transaction Agreement, we have not realized any revenue from products or services related to the AVV Sublicense Agreement or Trademark License. Also effectiveSeptember 1, 2020 , we and LMCE have agreed to terminate the supply and services agreement datedSeptember 6, 2019 although we continue to purchase and utilize the products of LMCE. We are evaluating our business strategy in light of the current conditions of the national and global oil and gas markets. Revenue Recognition
We recognize revenue as it satisfies contractual performance obligations by transferring promised goods or services to the customers. The amount of revenue recognized reflects the consideration we expect to be entitled to in exchange for those promised goods or services. A good or service is transferred to a customer when, or as, the customer obtains control of that good or service. We have one revenue stream, which relates to the provision of hardbanding services by its subsidiary Pro-Tech. All performance obligations of our contracts with customers are satisfied over the duration of the contract as customer-owned equipment is serviced and then made available for immediate use as completed during the service period. We have reviewed our contracts with Pro-Tech customers and determined that due to their short-term nature, with durations of several days of service at the customer's location, it is only those contracts that occur near the end of a financial reporting period that will potentially require allocation to ensure revenue is recognized in the proper period. We have reviewed all such transactions and recorded revenue accordingly.
For the years ended
Because our contracts have an expected duration of one year or less, we have elected the practical expedient in ASC 606-10-50-14(a) to not disclose information about its remaining performance obligations.
Business combinations Business combinations are accounted for using the acquisition method of accounting. Under the acquisition method, assets acquired and liabilities assumed are recorded at their respective fair values as of the acquisition date in the Company's consolidated financial statements. The excess of the fair value of consideration transferred over the fair value of the net assets acquired
is
recorded as goodwill.
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Share-Based Compensation
From time to time we may issue stock options, warrants and restricted stock as compensation to employees, directors, officers and affiliates, as well as to acquire goods or services from third parties. In all cases, we calculate share-based compensation using the Black-Scholes option pricing model and expenses awards based on fair value at the grant date on a straight-line basis over the requisite service period, which in the case of third party suppliers is the shorter of the period over which services are to be received or the vesting period, and for employees, directors, officers and affiliates is typically the vesting period. Share-based compensation is included in general and administrative expenses in the consolidated statements of operations. See Note 9, Warrants, and Note 10, Stock Options to the consolidated financial statements, for further information. Income Taxes:
We account for income taxes in accordance with FASB ASC 740, Income Taxes, which requires an asset and liability approach for financial accounting and reporting of income taxes. Deferred income taxes reflect the impact of temporary differences between the amount of assets and liabilities for financial reporting purposes and such amounts as measured by tax laws and regulations. Deferred tax assets include tax loss and credit carry forwards and are reduced by a valuation allowance if, based on available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Earnings per Share:
Basic earnings per share are computed using the weighted average number of common shares outstanding atDecember 31, 2020 and 2019, respectively. The weighted average number of common shares outstanding was 28,037,713 at each ofDecember 31, 2020 and 2019. Diluted earnings per share reflect the potential dilutive effects of common stock equivalents such as options, warrants and convertible securities. The following table outlines outstanding common stock shares and common stock equivalents. Years EndedDecember 31, 2020 2019
Common Stock Shares Outstanding 28,037,713 28,037,713 Common Stock Equivalents Outstanding Warrants 2,706,847 2,783,626 Stock Options 211,186 211,186 Total Common Stock Equivalents Outstanding 2,918,033 2,994,812
RECENTLY ADOPTED ACCOUNTING STANDARDS
OnOctober 1, 2019 , we adopted ASU 2017-04, "Intangibles -Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment" ("ASU 2017-04"), which simplifies how an entity is required to test goodwill for impairment. The amendments in ASU 2017-04 require goodwill impairment to be measured using the difference between the carrying amount and the fair value of the reporting unit and require the loss recognized to not exceed that total amount of goodwill allocated to that reporting unit. ASU 2017-04 has been applied on a prospective basis, effective for our annual goodwill impairment test beginning in the fourth quarter of 2019. OnJanuary 1, 2019 , we adopted ASU 2018-07, Improvements to Nonemployee Share-Based Payment Accounting ("ASU 2018-07"), which expands the scope of ASC 718 to include all share-based payments arrangements related to the acquisition of goods and services from both employees and nonemployees. Under this ASU, an entity should apply the requirements of Topic 718 to nonemployee awards except for specific guidance on inputs to an option pricing model and the attribution of cost (that is, the period of time over which share-based payment awards vest and the pattern of cost recognition over that period). The amendments specify that Topic 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor's own operations by issuing share-based payment awards. The amendments also clarify that Topic 718 does not apply to share-based payments used to effectively provide (1) financing to the issuer or (2) awards granted in conjunction with selling goods or services to customers as part of a contract accounted for under Topic 606, Revenue from Contracts with Customers. The amendments in this ASU are effective for public entities for fiscal years beginning afterDecember 15, 2018 , including interim periods within that fiscal year. For all other entities, the amendments are effective for fiscal years beginning afterDecember 15, 2019 , and interim periods within fiscal years beginning afterDecember 15, 2020 . Early adoption is permitted, but no earlier than an entity's adoption date of Topic 606. The adoption of this ASU did not have a material impact on our consolidated financial statements or financial statement disclosures. 30
OnJanuary 1, 2019 , we adopted ASU 2016-02, "Leases," which, together with amendments comprising ASC 842, requires lessees to identify arrangements that should be accounted for as leases and generally recognized, for operating and finance leases with terms exceeding twelve months, a right-of-use asset (or "ROU") and lease liability on the balance sheet. In addition to this main provision, this standard included a number of additional changes to lease accounting. This standard is effective for fiscal years beginning afterDecember 15, 2018 , including interim periods within those fiscal years. A modified retrospective transition approach is required, applying the new standard to all leases existing at the date of initial application. An entity may choose to use either the adoption date or the beginning of the earliest comparative period presented in the financial statements as its date of initial application. We used the adoption date as our date of initial application. As a result, historical financial information was not updated, and the disclosures required under the new standard are not provided as of and for periods beforeJanuary 1, 2019 . The new standard provides a number of optional practical expedients in transition. We elected the package of practical expedients, which permits us not to reassess under the new standard our prior conclusions about lease identification, lease classification and initial direct costs. The new standard also provides practical expedients for an entity's ongoing accounting. We elected the short term lease recognition exemption and we will not recognize ROU assets or lease liabilities for qualifying leases (leases with a term of less than 12 months from lease commencement). We also elected the accounting policy election to not separate lease and non-lease components for all asset classes.
We have determined that adoption of this standard will not have a material impact on its consolidated financial statements because it does not currently have any arrangements that must be accounted for as leases.
RECENTLY ISSUED ACCOUNTING STANDARDS
InDecember 2019 , the FASB issued ASU 2019-12, "Simplifying the Accounting for Income Taxes" as part of its initiative to reduce complexity in accounting standards. The ASU simplifies the accounting for income taxes by removing certain exceptions to the general principles in Topic 740. The new standard is effective for fiscal years beginning afterDecember 15, 2020 , and interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the impact of ASU 2019-12 on our financial statements.
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