UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 2008
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 001-14217
ENGlobal Corporation
--------------------
(Exact name of registrant as specified in its charter)
Nevada
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(State or other jurisdiction of
incorporation or organization)
88-0322261
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(I.R.S Employer Identification No.)
654 N. Sam Houston Parkway E., Suite 400, Houston, TX 77073-6033
----------------------------------------------------------------
(Address of principal executive offices) (Zip code)
(281) 878-1000
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(Registrant's telephone number, including area code)
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 shortened 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 [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions 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 [X]
Non-Accelerated Filer [ ] Smaller Reporting Company [ ]
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the close of business of April 30, 2008.
$0.001 Par Value Common Stock 27,063,541 shares
QUARTERLY REPORT ON FORM 10-Q
FOR THE PERIOD ENDED MARCH 31, 2008
TABLE OF CONTENTS
Page
Number
------
Part I. Financial Information
Item 1. Financial Statements
Condensed Consolidated Statements of Income for the Three Months Ended
March 31, 2008 and March 31, 2007 3
Condensed Consolidated Balance Sheets at March 31, 2008 and December 31, 2007 4
Condensed Consolidated Statements of Cash Flows for the Three Months
Ended March 31, 2008 and March 31, 2007 5
Notes to Condensed Consolidated Financial Statements 6-10
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11-22
Engineering Segment Results 18
Construction Segment Results 20
Automation Segment Results 21
Land Segment Results 22
Item 3. Quantitative and Qualitative Disclosures About Market Risk 23
Item 4. Controls and Procedures 23-24
Part II. Other Information
Item 1. Legal Proceedings 25
Item 1A. Risk Factors 25
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 25
Item 3. Defaults Upon Senior Securities 25
Item 4. Submission of Matters to a Vote of Security Holders 25
Item 5. Other Information 25
Item 6. Exhibits 25
Signatures 26
2
PART I. - FINANCIAL INFORMATION
-------------------------------
ITEM 1. FINANCIAL STATEMENTS
ENGlobal Corporation
Condensed Consolidated Statements Of Income
(Unaudited)
(Dollars in Thousands)
For the Three Months
Ended March 31,
--------------------
2008 2007
-------- --------
Revenues $ 98,166 $ 81,659
Direct costs 83,820 68,382
-------- --------
Gross Profit 14,346 13,277
Selling, general and administrative 7,226 7,744
-------- --------
Operating income 7,120 5,533
Other Income (Expense):
Other income (expense) 26 --
Interest income (expense), net (483) (560)
-------- --------
Income before Income Taxes 6,663 4,973
Provision for Federal and State Income Taxes 2,660 1,818
-------- --------
Net Income $ 4,003 $ 3,155
======== ========
Net Income Per Common Share:
Basic $ 0.15 $ 0.12
Diluted $ 0.15 $ 0.12
Weighted Average Shares Used in Computing Net Income Per Share:
Basic 27,060 26,809
Diluted 27,527 27,260
See accompanying notes to interim condensed consolidated financial statements.
3
ENGlobal Corporation
Condensed Consolidated Balance Sheets
(Dollars in Thousands)
ASSETS
------
March 31, December 31,
2008 2007
Current Assets: (unaudited) (audited)
--------- ---------
Cash $ 2,019 $ 908
Trade receivables, net 67,186 64,141
Prepaid expenses and other current assets 1,794 2,125
Current portion of notes receivable 155 154
Costs and estimated earnings in excess of billings on uncompleted contracts 6,751 6,981
Deferred tax asset 3,081 3,081
--------- ---------
Total Current Assets 80,986 77,390
Property and Equipment, net 6,220 6,472
Goodwill 20,048 19,926
Other Intangible Assets, net 3,718 4,112
Long term notes receivable, net of current portion 10,546 10,593
Deferred tax asset, non-current 90 77
Other Assets 1,107 1,020
--------- ---------
Total Assets $ 122,715 $ 119,590
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current Liabilities:
Accounts payable $ 7,630 $ 10,482
Accrued compensation and benefits 15,270 16,182
Notes payable 569 931
Current portion of long-term debt 1,442 1,508
Deferred rent 527 558
Billings and estimated earnings in excess of costs on uncompleted contracts 922 963
Other liabilities and taxes payable 5,309 3,851
--------- ---------
Total Current Liabilities 31,669 34,475
Long-Term Debt, net of current portion 30,884 29,318
--------- ---------
Total Liabilities 62,553 63,793
--------- ---------
Commitments and Contingencies (Note 9)
Stockholders' Equity:
Common stock - $0.001 par value; 75,000,000 shares authorized; 27,063,541
and 27,051,766 shares issued and outstanding at March 31, 2008 and
December 31, 2007, respectively 28 28
Additional paid-in capital 34,003 33,593
Retained earnings 26,184 22,181
Accumulated other comprehensive income (loss) (53) (5)
--------- ---------
Total Stockholders' Equity 60,162 55,797
--------- ---------
Total Liabilities and Stockholders' Equity $ 122,715 $ 119,590
========= =========
See accompanying notes to interim condensed consolidated financial statements.
4
ENGlobal Corporation
Condensed Consolidated Statements Of Cash Flows
(Unaudited)
(Dollars in Thousands)
For the Three Months Ended
March 31,
--------------------
2008 2007
-------- --------
Cash Flows from Operating Activities:
Net income $ 4,003 $ 3,155
Adjustments to reconcile net income to net cash provided (used)
by operating activities:
Depreciation and amortization 1,111 1,069
Share based compensation expense 387 233
Gain on disposal of property, plant and equipment (1) (14)
Deferred income taxes (90) (39)
Changes in current assets and liabilities, net of acquisitions:
Trade receivables (3,044) (3,866)
Billings and estimated earnings in excess of costs 230 (2,679)
Prepaid expenses and other assets 298 (462)
Accounts payable (2,851) (4,036)
Accrued compensation and benefits (913) 593
Billings in excess of costs and estimated earnings (41) 1,157
Other liabilities (903) (1,775)
Income taxes receivable/payable 2,210 1,732
-------- --------
Net cash provided (used) by operating activities 396 (4,932)
-------- --------
Cash Flows from Investing Activities:
Property and equipment acquired (445) (574)
Proceeds from sale of equipment -- 48
Proceeds from note receivable 46 8
Proceeds from sale of other assets 1 90
-------- --------
Net cash used in investing activities (398) (428)
-------- --------
Cash Flows from Financing Activities:
Borrowings on line of credit 64,078 39,412
Payments on line of credit (62,235) (33,759)
Proceeds from issuance of common stock 23 42
Long-term debt repayments (705) (817)
-------- --------
Net cash provided by financing activities 1,161 4,878
-------- --------
Effect of Exchange Rate Changes on Cash (48) 29
-------- --------
Net change in cash 1,111 (453)
Cash, at beginning of period 908 1,403
-------- --------
Cash, at end of period $ 2,019 $ 950
======== ========
Supplemental Disclosures:
Interest paid $ 393 $ 354
-------- --------
Income taxes paid $ 575 $ (135)
-------- --------
See accompanying notes to interim condensed consolidated financial statements.
5
Notes to Condensed Consolidated Financial Statements
----------------------------------------------------
NOTE 1 - BASIS OF PRESENTATION
The condensed consolidated financial statements of ENGlobal Corporation
(which may be referred to as "ENGlobal," the "Company," "we," "us," or
"our") included herein, are unaudited for the three-month periods ended
March 31, 2008 and 2007. These financial statements reflect all adjustments
(consisting of normal recurring adjustments), which are, in the opinion of
management, necessary to fairly present the results for the periods
presented. Certain information and note disclosures, normally included in
financial statements prepared in accordance with accounting principles
generally accepted in the United States of America, have been condensed or
omitted pursuant to rules and regulations of the Securities and Exchange
Commission. It is suggested that these condensed financial statements be
read in conjunction with the Company's audited financial statements for the
year ended December 31, 2007, included in the Company's Annual Report on
Form 10-K filed with the Securities and Exchange Commission on March 28,
2008. The Company believes that the disclosures made herein are adequate to
make the information presented not misleading.
NOTE 2 - CRITICAL ACCOUNTING POLICIES
A summary of critical accounting policies is disclosed in Note 2 to the
Consolidated Financial Statements included in our 2007 Annual Report on
Form 10-K. Our critical accounting policies are further described under the
caption "Critical Accounting Policies" in Management's Discussion and
Analysis of Financial Condition and Results of Operation in our 2007 Annual
Report on Form 10-K.
NOTE 3 - STOCK BASED COMPENSATION
The Company currently sponsors a stock-based compensation plan as described
below. Effective January 1, 2006, the Company adopted the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 123 (Revised),
"Share-Based Payment" ("SFAS No. 123(R)"). Under the fair value recognition
provisions of SFAS No. 123(R), stock-based compensation is measured at the
grant date based on the value of the awards and is recognized as expense
over the requisite service period (usually a vesting period). The Company
selected the modified prospective method of adoption described in SFAS No.
123(R). The fair values of the stock awards recognized under SFAS No.
123(R) are determined based on the vested portion of the awards; however,
the total compensation expense is recognized on a straight-line basis over
the vesting period.
In accordance with the provisions of SFAS No. 123(R), total stock-based
compensation expense in the amount of $387,000 and $233,000 was recorded in
the three months ended March 31, 2008, and March 31, 2007, respectively.
The total stock-based compensation expense was recorded in selling, general
and administrative expense. The total income tax benefit recognized in the
condensed consolidated statements of income for the stock-based
arrangements was $90,000 and $39,000 for the three months ended March 31,
2008, and March 31, 2007, respectively.
The total fair value of vested options outstanding as of March 31, 2008 and
2007 was $4.6 million and $6.5 million, respectively. The average closing
price per share of our common stock for the three months ended March 31,
2008 and 2007 was $9.26 per share and $6.00 per share, respectively. Our
common stock was quoted on the NASDAQ Global Select market during the three
months ended March 31, 2008 and on the American Stock Exchange during the
three months ended March 31, 2007.
Stock Option and Incentive Plans
The Company maintains a stock option plan (the "Option Plan") under which
the Company may issue incentive stock options to employees and non-employee
directors. Under the Option Plan, a maximum of 3,250,000 shares of our
common stock was approved to be issued or transferred to certain
non-employee directors, officers and employees pursuant to stock based
awards granted. As of March 31, 2008, 482,494 shares remain available for
grant under the Option Plan.
The Company's policy regarding share issuance upon option exercise takes
into consideration the optionee's eligibility and vesting status. Upon
receipt of an optionee's exercise notice and payment, and the Company's
subsequent determination of eligibility, the Company's Chief Governance
Officer or the Chairman of the Compensation Committee instructs our
transfer agent to issue shares of our Common Stock to the optionee.
6
Notes to Condensed Consolidated Financial Statements
----------------------------------------------------
Stock options have been granted with exercise prices at or above the market
price on the date of grant. The granted options have vested generally over
one year for non-employee directors and ratably over four years for
officers and employees. The granted options generally have ten year
contractual terms.
Compensation expense of $1.6 million related to previously granted stock
option awards which are non-vested had not yet been recognized at March 31,
2008. This compensation expense is expected to be recognized over a
weighted-average period of approximately 30 months.
The following summarizes stock option activity for the first quarter of
2008:
Weighted Weighted Average
Average Remaining Aggregate
Number of Exercise Contractual Intrinsic *
Options Price Term (Years) Value (000's)
---------- ---------- ------------ -------------
Balance at December 31, 2007 1,306,500 $ 6.26 7.4 $ 3,920
Granted 140,000 9.44 10.0 --
Exercised (11,775) 1.98 -- (86)
Canceled or expired -- -- -- --
---------- ---------- -------- ----------
Balance at March 31, 2008 1,434,725 $ 6.61 7.2 $ 3,802
========== ========== ======== ==========
Exercisable at March 31, 2008 1,115,525 $ 5.79 7.0 $ 3,871
========== ========== ======== ==========
*Based on average stock price for the first quarter 2008 of $9.26 per
share. The average stock price for the same period in 2007 was $6.00 per
share.
The total intrinsic value of options exercised was $86,000 and $77,000 for
the three months ended March 31, 2008 and 2007, respectively.
NOTE 4 - FIXED FEE CONTRACTS
Costs, estimated earnings and billings on uncompleted contracts consisted
of the following at March 31, 2008 and December 31, 2007:
March 31, December 31,
2008 2007
----------------------
(Dollars in Thousands)
----------------------
Costs incurred on uncompleted contracts $ 74,374 $ 74,599
Estimated earnings (losses) on uncompleted contracts (1,390) (1,686)
-------- --------
Earned revenues 72,984 72,913
Less: Billings to date 67,155 66,895
-------- --------
Net costs and estimated earnings in excess of billings
on uncompleted contracts $ 5,829 $ 6,018
======== ========
Costs and estimated earnings in excess of billings on uncompleted contracts $ 6,751 $ 6,981
Billings and estimated earnings in excess of cost on uncompleted contracts (922) (963)
-------- --------
Net costs and estimated earnings in excess of billings
on uncompleted contracts $ 5,829 $ 6,018
======== ========
Estimated losses on uncompleted contracts are related to a large EPC
contract, discussed in our 2007 Annual Report on Form 10-K and 2006 Annual
Report on Form 10-K/A and are pending final resolution.
7
Notes to Condensed Consolidated Financial Statements
----------------------------------------------------
NOTE 5 - LINE OF CREDIT AND DEBT
March 31, December 31,
2008 2007
----------------------
(Dollars in Thousands)
----------------------
Schedule of Long-Term Debt:
Comerica Credit Facility - Line of credit, variable interest at 5.0% at March 31,
2008, maturing in July 2010 $ 29,678 $ 27,835
Sterling Planet and EDGI - Notes payable, interest at 5%, principal payments in
installments of $15,000 plus interest due quarterly, maturing in December 2008 45 60
Cleveland Inspection Services, Inc., CIS Technical Services and F.D. Curtis - Notes
payable, discounted at 5% interest, principal in installments of $100,000 due
quarterly, maturing in October 2009 575 667
A.T.I. Inc. - Note payable, interest at 6%, principal payments in installments of
$30,422 including interest due monthly, maturing in January 2009 296 382
Michael Lee - Note payable, interest at 5%, principal payments in installments of
$150,000 plus interest due quarterly, maturing in July 2010 1,350 1,500
Watco Management, Inc. - Note payable, interest at 4%, principal payments in
installments of $137,745 including interest annually, maturing in October 2010 382 382
-------- --------
Total long-term debt 32,326 30,826
Less: Current maturities (1,442) (1,508)
-------- --------
Long-term debt, net of current portion $ 30,884 $ 29,318
======== ========
NOTE 6 - SEGMENT INFORMATION
During the first three quarters of 2007, the Company managed and reported
through two business segments: Engineering and Systems. In the fourth
quarter of 2007, due to the past and anticipated growth in certain areas of
our business and change in leadership during 2007, we reevaluated our
reportable segments under Financial Accounting Standards Board Statement
No. 131, "Disclosures about Segments of an Enterprise and Related
Information." As a result, we have elected to realign both management and
reporting into four business segments: Engineering, Construction,
Automation and Land.
The Engineering segment provides consulting services relating to the
development, management and execution of projects requiring professional
engineering and related project services. Services provided by the
Engineering segment include feasibility studies, engineering, design,
procurement, and construction management. The Construction segment provides
construction management personnel and services in the areas of inspection,
mechanical integrity, vendor and turnaround surveillance, field support,
construction, quality assurance and plant asset management. The Automation
segment provides services related to the design, fabrication, and
implementation of process distributed control and analyzer systems,
advanced automation, and information technology projects. The Land segment
provides land management, right-of-way, environmental compliance, and
governmental regulatory compliance services primarily to the pipeline,
utility and telecom companies and other owner/operators of infrastructure
facilities throughout the United States and Canada.
Our Corporate segment includes costs related to business development,
investor relations/governance, executive functions, finance, accounting,
safety, human resources and information technology that are not
specifically attributable to one of the four operating segments but do
support corporate activities and initiatives. Revenue and operating income
for each segment are set forth in the following table.
8
Notes to Condensed Consolidated Financial Statements
----------------------------------------------------
Note 6 - Segment Information (continued) Three Months Ended
March 31,
--------------------
2008 2007
-------- --------
(Dollars in Thousands)
Revenue:
Engineering $ 52,029 $ 51,449
Construction 26,900 13,785
Automation 10,402 9,538
Land 8,835 6,887
-------- --------
Total revenue $ 98,166 $ 81,659
======== ========
Operating income (loss):
Engineering $ 8,587 $ 7,297
Construction 1,325 1,455
Automation 412 (64)
Land 715 667
Corporate (3,919) (3,822)
-------- --------
Total operating income $ 7,120 $ 5,533
======== ========
Financial information about geographic areas
--------------------------------------------
Revenue from the Company's non-U.S. operations is currently not material.
Long-lived assets (principally leasehold improvements and computer
equipment) outside the United States were $79,000 as of March 31, 2008, net
of accumulated depreciation, stated in U.S. dollars.
NOTE 7 - FEDERAL INCOME TAXES
The components of income tax expense (benefit) for the three months ended
March 31, 2008 and 2007 were as follows:
Three Months Ended
March 31,
----------------------
2008 2007
-------- --------
(Dollars in Thousands)
Current $ 2,750 $ 1,857
Deferred (90) (39)
------- -------
Total tax provision $ 2,660 $ 1,818
======= =======
NOTE 8 - EARNINGS PER SHARE
The following table reconciles the denominator used to compute basic
earnings per share to the denominator used to compute diluted earnings per
share ("EPS").
Three Months Ended
March 31,
------------------
2008 2007
-------- --------
(in thousands)
Weighted average shares outstanding
(denominator used to compute basic EPS) 27,060 26,809
Effect of employee and outside director stock options 467 451
------ ------
Denominator used to compute diluted EPS 27,527 27,260
====== ======
9
Notes to Condensed Consolidated Financial Statements
----------------------------------------------------
NOTE 9 -CONTINGENCIES
Employment Agreements
The Company has employment agreements with certain of its executive
officers and certain other officers. Such agreements provide for minimum
salary levels. If the Company terminates the employment of the employee for
any reason other than (1) for cause, as defined in the employment
agreement, (2) voluntary resignation, or (3) the employee's death, the
Company is obligated to provide a severance benefit equal to six months of
the employee's salary, and, at its option, an additional six months at 50%
to 100% of the employee's salary in exchange for an extension of the
non-compete. These agreements are renewable for one year at the Company's
option.
Litigation
From time to time, the Company is involved in various legal proceedings
arising in the ordinary course of business alleging, among other things,
breach of contract or tort in connection with the performance of
professional services, the outcome of which cannot be predicted with
certainty. As of the date of this filing, we are party to several legal
proceedings that we believe have been reserved for or are covered by
insurance, or that, if determined adversely to us individually or in the
aggregate, would not have a material adverse effect on our results of
operations or financial position.
Insurance
The Company carries a broad range of insurance coverage, including general
and business automobile liability, commercial property, professional errors
and omissions, workers' compensation insurance and a general umbrella
policy. The Company is not aware of any claims in excess of insurance
recoveries. ENGlobal is partially self-funded for health insurance claims.
Provisions for expected future payments are accrued based on the Company's
experience.
Long-term Note Receivable
In the first quarter of 2007, ENGlobal Engineering, Inc. ("EEI") and South
Louisiana Ethanol, LLC ("SLE") executed an agreement for EPC services
relating to the retro-fit of an ethanol plant in southern Louisiana. The
history of the SLE project (the "Project") is described in Note 12 to the
Company's financial statements included in its Quarterly Report on Form
10-Q for the quarter ended September 30, 2007 (the "Third Quarter 10-Q")
and is discussed further in the Company's Annual Report on Form 10-K for
the year ended December 31, 2007.
Although work has not recommenced on the Project and SLE has not obtained
permanent financing, the Company continues to believe that, due to the
value of the Collateral, the Note Receivable is fully collectible.
Specifically, an updated appraisal from the bridge lending bank's appraiser
indicates a fair market value of $35.8 million, an orderly liquidation
value of $25.3 million, and a forced liquidation value of $20.0 million.
Moreover, SLE may seek equity financing for the Project in lieu of or in
addition to debt financing.
While the Company believes that in the event the Collateral is liquidated,
SLE's obligations to the Company would be paid in full pursuant to the
Collateral Mortgage in favor of the Company, collectability is not assured
at this time.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Forward-Looking Statements
--------------------------
Certain information contained in this Form 10-Q, the Company's Annual
Report on Form 10-K, as well as other written and oral statements made or
incorporated by reference from time to time by the Company and its
representatives in other reports, filings with the Securities and Exchange
Commission, press releases, conferences, or otherwise, may be deemed to be
forward-looking statements with the meaning of Section 21E of the
Securities Exchange Act of 1934. This information includes, without
limitation, statements concerning the Company's future financial position
and results of operations; planned capital expenditures; business strategy
and other plans for future operations; the future mix of revenues and
business; customer retention; project reversals; commitments and contingent
liabilities; and future demand and industry conditions. Although the
Company believes that the expectations reflected in such forward-looking
statements are reasonable, it can give no assurance that such expectations
will prove to have been correct. We undertake no obligation to publicly
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise. Generally, the words "anticipate,"
"believe," "estimate," "expect," "may," and similar expressions, identify
forward-looking statements, which generally are not historical in nature.
Actual results could differ materially from the results described in the
forward-looking statements due to the risks and uncertainties set forth in
this Form 10-Q, the specific risk factors identified in the Company's
Annual Report on Form 10-K for the year ended December 31, 2007 and those
described from time to time in our future reports filed with the Securities
and Exchange Commission.
The following discussion is qualified in its entirety by, and should be
read in conjunction with, the Company's Consolidated Financial Statements,
including the notes thereto, included in this Form 10-Q and the Company's
Annual Report on Form 10-K for the year ended December 31, 2007.
MD&A Overview
-------------
The following list sets forth a general overview of certain significant
changes in the Company's financial condition and results of operations for
the three months ended March 31, 2008, compared to the corresponding period
in 2007.
During the three-month period
ended March 31, 2008
-----------------------------
Revenue Increased 20.2%
Gross profit Increased 7.5%
Operating income Increased 29.1%
SG&A expense Decreased 6.5%
Net income Increased 25.0%
Long-term debt, net of current portion, increased 5.5%, or $1.6 million,
from $29.3 million at December 31, 2007 to $30.9 million at March 31, 2008,
however, as a percentage of stockholders' equity, long-term debt decreased
to 51.3% from 52.5% at these same dates. The increase in long-term debt is
primarily related to the $1.9 million increase in our line of credit
supporting our growth and the timing difference between meeting short-term
bi-weekly payroll obligations and collections of associated trade
receivables. On average, our day's sales outstanding increased to 62 days
for the three-month period ended March 31, 2008, from 61 days at December
31, 2007, but decreased from 71 days for the comparable three-month period
in 2007. The Company continues to work toward improving billing and
collection processes.
Total stockholders' equity increased 7.9%, or $4.4 million, from $55.8
million as of December 31, 2007 to $60.2 million as of March 31, 2008.
11
Management's Discussion and Analysis (continued)
------------------------------------------------
Consolidated Results of Operations for the Three Months
Ended March 31, 2008 and 2007
(Unaudited)
(Dollars in Thousands)
Three Months Ended
March 31,
----------------------------------------
2008 2007
----------------------------------------
Revenue:
Engineering $ 52,029 53.0 % $ 51,449 63.0 %
Construction 26,900 27.4 % 13,785 16.9 %
Automation 10,402 10.6 % 9,538 11.7 %
Land 8,835 9.0 % 6,887 8.4 %
--------- ------ --------- ------
Total revenue $ 98,166 100.0 % $ 81,659 100.0 %
========= ------ ========= ------
Gross profit:
Engineering $ 9,882 10.1 % $ 9,164 11.2 %
Construction 2,028 2.1 % 2,082 2.6 %
Automation 1,044 1.1 % 781 1.0 %
Land 1,392 1.4 % 1,250 1.5 %
--------- ------ --------- ------
Total gross profit 14,346 14.7 % 13,277 16.3 %
--------- ------ --------- ------
SG&A expense:
Engineering 1,295 1.3 % 1,867 2.3 %
Construction 703 0.7 % 627 0.8 %
Automation 632 0.6 % 845 1.0 %
Land 677 0.7 % 583 0.7 %
Corporate 3,919 4.0 % 3,822 4.7 %
--------- ------ --------- ------
Total SG&A expense 7,226 7.3 % 7,744 9.5 %
--------- ------ --------- ------
Operating income:
Engineering 8,587 8.8 % 7,297 8.9 %
Construction 1,325 1.4 % 1,455 1.8 %
Automation 412 0.5 % (64) 0.0 %
Land 715 0.7 % 667 0.8 %
Corporate (3,919) (4.0)% (3,822) (4.7)%
---------- ------ --------- ------
Total operating income 7,120 7.4 % 5,533 6.8 %
---------- ------ --------- ------
Other income (expense), net (457) (0.6)% (560) (0.7)%
Tax provision (2,660) (2.7)% (1,818) (2.2)%
--------- ------ --------- ------
Net income $ 4,003 4.1 % $ 3,155 3.9 %
========= =========
The percentages shown in the table above represent each segment's portion of the
gross profit, SG&A and operating income as a percentage of the Company's total
revenue for each respective period.
12
Management's Discussion and Analysis (continued)
------------------------------------------------
March 31, March 31,
Quarter-to-Quarter Balance Sheet Comparisons: 2008 2007
----------------------
(Dollars in Thousands)
----------------------
Working capital $ 49,317 $ 44,215
Total assets $122,715 $111,201
Long-term debt, net of current portion $ 30,884 $ 32,474
Stockholders' equity $ 60,162 $ 44,321
We recorded net income of $4.0 million, or $0.15 per diluted share for the
three months ended March 31, 2008, compared to net income of $3.2 million,
or $0.12 per diluted share for the corresponding period last year.
The Company recognizes service revenue as soon as the services are
performed. The majority of the Company's service revenues have historically
been provided through cost-plus contracts whereas a majority of our
fabrication and turnkey EPC projects revenue is earned on fixed-price
contracts. Approximately $8.1 million in fixed-price revenue was recognized
in the three-month period ended March 31, 2008, compared to $8.9 million of
similar revenue in the same period in 2007. Of the fixed-price revenue,
$46,000 and $1.8 million for the three-month period ending March 31, 2008
and March 31, 2007, respectively, were related to the two projects with
recorded losses during 2006.
Revenue on fixed-price contracts is recorded primarily using the
percentage-of-completion (cost-to-cost) method. Under this method, revenue
on long-term contracts is recognized in the ratio that contract costs
incurred bear to total estimated contract costs. Revenue and gross margin
on fixed-price contracts are subject to revision throughout the lives of
the contracts and any required adjustments are made in the period in which
the revisions become known. Losses on contracts are recorded in full as
they are identified.
In the course of providing our services, we routinely provide engineering,
materials, and equipment and may provide construction services on a direct
hire or subcontractor basis. Generally, these materials, equipment and
subcontractor costs are passed through to our clients and reimbursed, along
with fees, which in total are at margins lower than those of our normal
core business. In accordance with industry practice and generally accepted
accounting principles, all costs and fees are included in revenue. The use
of subcontractor services can change significantly from project to project;
therefore, changes in revenue and gross profit, SG&A expense and operating
income as a percent of revenue may not be indicative of business trends.
Operating SG&A expense includes management and staff compensation, office
costs such as rents and utilities, depreciation, amortization, travel and
other expenses generally unrelated to specific client contracts, but
directly related to the support of a segment's operations.
Corporate SG&A expense is comprised primarily of business development
costs, as well as costs related to the executive, investor
relations/governance, finance, accounting, safety, human resources, project
controls, legal and information technology departments and other costs
generally unrelated to specific client projects, but which are incurred to
support corporate activities and initiatives.
Industry Overview:
Many ENGlobal offices have benefited from the strong downstream refinery
market. We expect significant capital projects to be generated by refinery
operators over the next several years and we will continue to research
other markets that value our services. Overall, projects related to
increasing refining capacity and the utilization of heavy or sour crude oil
have trended upward, while projects to satisfy environmental mandates have
trended downward. Given that global demand for oil products has tightened
the supply of both crude oil as well as refined products, we believe each
of ENGlobal's business segments is well positioned within the industry as
capacity increase and modernization projects are undertaken in the United
States.
13
Management's Discussion and Analysis (continued)
------------------------------------------------
The downstream petrochemical industry has historically been a good source
of projects for ENGlobal. While not currently as robust as the refining
market, we have seen a recent increase in both maintenance and capital
spending after several years of relative inactivity. We believe that major
grassroots petrochemical projects will continue to be undertaken overseas,
either closer to product demand in emerging economies, or located closer to
less expensive feed stocks. We expect for the foreseeable future, that
petrochemical work undertaken in the U.S. will consist of smaller capital
projects or be maintenance related.
Despite past downturns in the industry, pipeline projects have remained
constant for the most part, and we have recently seen a significant
increase in project activity. From an engineering perspective, pipeline
projects tend to require less engineering man hours than similar sized
downstream projects. However, ENGlobal provides several services such as
right-of-way acquisition, inspection and construction management that are
in addition to its pipeline related engineering services. However the
drivers we see behind growth in domestic pipeline activity include: 1)
Natural gas transportation away from the Rocky Mountain area as well as
from new gas fields in other parts of the country, 2) Natural gas
transportation related to LNG import facilities, 3) Movement of heavy
Canadian crude oil into the U.S., and 4) Movement of refined products from
Gulf Coast refineries to the Midwest and Northeast.
The country's focus on alternative energy has presented the Company with
many new project opportunities. The North American Industrial Project
Spending Index has recently indicated that capital spending for all
alternative energy projects exceeds that for refining and pipeline
combined. To date, ENGlobal has mainly focused its efforts on biomass
process, such as those related to the production of ethanol and biodiesel,
coal to liquids, along with the utilization of refinery petroleum coke as
an energy source. In addition, the Company sees a good opportunity in solar
energy in the coming years, both by performing project services on solar
collector facilities, as well as facilities for the production of
polysilicon, used in photo voltaic cells. Most of our work on alternative
energy project is not for our traditional large client base, but instead
for financially backed developers
Revenue:
Revenue increased $16.5 million, or 20.2%, to $98.2 million for the three
months ended March 31, 2008 from $81.7 million for the comparable prior
year period with approximately $0.6 million of the increase attributable to
our Engineering segment, $13.1 million of the increase attributable to our
Construction segment, $0.9 million of the increase attributable to our
Automation segment and $1.9 million of the increase attributable to our
Land segment. This is discussed further in our segment information.
Gross Profit:
Gross profit increased $1.0 million, or 7.5%, to $14.3 million for the
three months ended March 31, 2008 from $13.3 million for the comparable
prior year period. Approximately $2.7 million of the increase in gross
profit was due to the $16.5 million increase in revenue offset by
approximately $1.7 million in higher costs and lower margins.
As a percentage of revenue, gross profit decreased 1.6% from 16.3% for the
three months ended March 31, 2007 to 14.7% for the quarter ended March 31,
2008. The decrease in gross profit margin as a percentage of revenue was
primarily related to a shift in revenue mix quarter-over-quarter resulting
from a 119% increase in lower margin Inspection revenue within our
Construction segment.
Selling, General, and Administrative:
As a percentage of revenue, SG&A expense decreased 2.2% to 7.3% for the
three months ended March 31, 2008 from 9.5% for the comparable period in
2007. Total expense for SG&A decreased $0.5 million, or 6.5%, to $7.2
million for the three months ended March 31, 2008 from $7.7 million for the
comparable prior year period.
As a percentage of revenue, Operating SG&A expense decreased 1.5% to 3.3%
for the three months ended March 31, 2008 from 4.8% for comparable prior
year period. Operating SG&A expense decreased approximately $0.6 million
quarter-over-quarter primarily due to $0.3 million in employee and
associated costs re-classified to direct expense, $0.2 million in
non-recurring costs associated with closing the Dallas office during the
quarter ended March 31, 2007, and $0.1 million in lower bad debt expense.
14
Management's Discussion and Analysis (continued)
------------------------------------------------
As a percentage of revenue, Corporate SG&A expense decreased 0.7% to 4.0%
for the three months ended March 31, 2008 from 4.7% for the comparable
prior year period. Corporate SG&A expense increased approximately $0.1
million, or 2.6%, to $3.9 million for the three months ended March 31, 2008
from $3.8 million for the comparable prior year period. The increase over
the prior year's Corporate SG&A was related to increases of approximately
$151,000 related to stock compensation expense and $125,000 in depreciation
and amortization expense, offset by reduced costs of approximately $91,000
in salaries and other employee expenses, $44,000 in facilities expense and
$84,000 in professional services.
Operating Income:
Operating income increased approximately $1.6 million, or 29.1%, to $7.1
million for the three months ended March 31, 2008 from $5.5 million
compared to the same period in 2007. As a percentage of revenue, operating
income increased 0.6% to 7.4% for the three months ended March 31, 2008
from 6.8% for the comparable prior year period.
Other Expense, net:
Other expense decreased $0.1 million, to $0.5 million for the three months
ended March 31, 2008 from $0.6 million for the comparable prior year
period, primarily due to lower net interest expense related to lower
interest rates on our Credit Facility.
Tax Provision:
Income tax expense increased $0.9 million, or 50.0%, to $2.7 million for
the three months ended March 31, 2008 from $1.8 million for the comparable
prior year period. The estimated effective tax rate was 39.9% for the
three-month period ended March 31, 2008 compared to 36.6% for the
comparable prior year quarterly period and 39.7% for the twelve-month
period ended December 31, 2007.
The estimated effective tax rates are based on estimates using historical
rates adjusted by recurring and non-recurring book to tax differences.
Estimates at March 31, 2008 are based on results of the 2007 year-end and
adjusted for estimates of non-recurring differences from the prior year, as
well as anticipated book to tax differences for 2008.
Net Income:
Net income for the three months ended March 31, 2008 increased $0.8
million, or 25.0%, to $4.0 million from $3.2 million for the comparable
prior year period. As a percentage of revenue, net income increased 0.2% to
4.1% for the three-month period ended March 31, 2008 from 3.9% for the
period ended March 31, 2007.
Liquidity and Capital Resources
-------------------------------
Overview
The Company defines liquidity as its ability to pay liabilities as they
become due, fund the business operations and meet monetary contractual
obligations. Our primary source of liquidity during the period ended March
31, 2008 was borrowings under our senior revolving Credit Facility, also
discussed under Note 8 - Line of Credit and Debt, to the Consolidated
Financial Statements included in the 2007 Annual Report on Form 10-K. Cash
on hand at March 31, 2008 totaled $2.0 million and availability under the
Credit Facility totaled $20.1 million resulting in total liquidity of $22.1
million. As of March 31, 2008, management believes the Company's cash
position is sufficient to meet its working capital requirements for the
next 12 months. However, cash and the availability of cash could be
materially restricted if:
(1) circumstances prevent the timely internal processing of invoices,
(2) amounts billed are not collected or are not collected in a timely
manner,
(3) project mix shifts from cost-reimbursable to fixed-price
contracts during periods of growth,
(4) the Company loses one or more of its major customers,
(5) the Company experiences material cost overruns on fixed-price
contracts,
(6) our client mix shifts from our historical owner-operator client
base to more developer based clients,
(7) acquisitions are not integrated timely, or
(8) we not able to meet the covenants of the Credit Facility.
If any such event occurs, we would be forced to consider alternative
financing options.
15
Management's Discussion and Analysis (continued)
------------------------------------------------
Cash Flows from Operating Activities:
Operations generated approximately $0.4 million in net cash for the
three-month period ended March 31, 2008, compared with net cash used for
operations of $4.9 million during the same period in 2007. Unfavorable
changes in working capital accounts during the period negatively impacted
cash flows from operating activities. The primary changes in working
capital were due to the following:
o Increased Trade Receivables - The increase was primarily the
result of increased operating activity. Our collections on past
due Accounts Receivable balances continue to improve and
management does not expect any material collection issues in the
future.
o Decreased Accounts Payable - The decrease was primarily due to
$1.9 million in scheduled vendor and sub-contractor payments
related to the SLE project, which was terminated during the third
quarter of 2007. An additional $2.0 million in similar payments
are scheduled to be made during the second quarter of 2008, which
we anticipate will complete our current material cash commitments
related to the SLE project.
During the quarter, the line of credit increased by $1.9 million from $27.8
million as of December 31, 2007 to $29.7 million as of March 31, 2008.
Our average day's sales outstanding ("DSO") was 62 days for the three-month
period ended March 31, 2008 compared to 71 days for the comparable
three-month period in 2007 and 61 days for the twelve months ended December
31, 2007.
Cash Flows from Investing Activities:
Investing activities used $398,000 in cash for the three-month period ended
March 31, 2008, compared to $429,000 cash used during the same period in
2007. The Company's primary use of invested capital during both periods was
for capital expenditures, mainly computers and technical software
applications. Future investing activities are anticipated to remain
consistent with prior years and include expenditures for capital leasehold
improvements, technical applications software, and equipment, such as
upgrades to computers. Our Credit Facility limits annual capital
expenditures to $3.25 million.
Cash Flows from Financing Activities:
Financing activities provided $1.2 million in cash for the three-month
period ended March 31, 2008, compared to $4.9 million in cash provided
during the same period in 2007. In the first quarter of 2008, the Company
increased its outstanding line of credit by $1.9 million for working
capital needs compared to an increase of $5.6 million in its outstanding
line of credit for the same period in 2007.
Senior Revolving Credit Facility:
Our Credit Facility is used primarily to satisfy changes in working capital
needs and requirements for the issuance of letters of credit. At March 31,
2008, the capacity of the Credit Facility was $50.0 million with an
outstanding balance of $29.7 million and one letter of credit outstanding
in the amount of $247,000 to cover self-insured deductibles under both our
general liability and workers' compensation insurance policies. The letter
of credit was issued in November 2007 and covers the policy period from
September 30, 2007 through September 30, 2008. The remaining borrowings
available under the Credit Facility as of March 31, 2008 were $20.1 million
after consideration of loan covenant restrictions.
Availability under our Credit Facility is as follows:
March 31, December 31, March 31,
2008 2007 2007
------- ------- -------
(Dollars in Thousands)
---------------------------------
Credit Facility $50,000 $50,000 $35,000
Amounts borrowed 29,678 27,835 29,616
Letters of credit 247 247 --
------- ------- -------
Availability under Credit Facility $20,075 $21,918 $ 5,384
======= ======= =======
16
Management's Discussion and Analysis (continued)
------------------------------------------------
The Credit Facility requires the Company to maintain certain financial
covenants as of the end of each calendar month, including the following:
o Leverage Ratio not to exceed 3.00 to 1.00;
o Asset Coverage Ratio to be less than 1.00 to 1.00; and
o Net Worth must be greater than the sum of $40.1 million plus 75%
of positive Net Income earned in each fiscal quarter after
January 1, 2007 plus 100% of the net proceeds of any offering,
sale or other transfer of any capital stock or any equity
securities.
The Credit Facility also contains covenants that place certain limitations
on the Company including limits on new debt, mergers, asset sales,
investments, fixed-price contracts, and restrictions on certain
distributions. The Company was in compliance with all covenants under the
Credit Facility as of March 31, 2008.
17
Management's Discussion and Analysis (continued)
------------------------------------------------
Engineering Segment Results
---------------------------
Three Months Ended
March 31,
-------------------------------------------
2008 2007
-------------------- ---------------------
(Dollars in Thousands)
-------------------------------------------
Gross revenue $ 52,035 $ 51,442
Less intercompany revenue (6) 7
----------- -----------
Total revenue $ 52,029 $ 51,449
=========== ===========
Detailed revenue:
Detail-design 37,935 72.9% 32,796 63.8%
Field services 12,988 25.0% 13,758 26.7%
Procurement services 34 0.1% 1,332 2.6%
Fixed-price 1,072 2.0% 3,563 6.9%
----------- ------- ----------- -------
Total revenue: $ 52,029 100.0% $ 51,449 100.0%
Gross profit: $ 9,882 19.0% $ 9,164 17.8%
Operating SG&A expense: $ 1,295 2.5% $ 1,867 3.6%
----------- -----------
Operating income: $ 8,587 16.5% $ 7,297 14.2%
Overview of Engineering Segment:
Our Engineering segment continues to benefit from a large project load
generated primarily by its downstream clients and to a lesser extent by its
midstream clients. The industry's refining segment continues to be very
active, supplying a large percentage of the Company's backlog. ENGlobal is
benefiting from the renewed interest of its chemical/petrochemical clients
in maintenance and small capital projects as product margins in this
marketplace improve.
Revenue:
Engineering segment revenue increased $0.6 million, or 1.2%, to $52.0
million for the three months ended March 31, 2008 from $51.4 million for
the comparable prior period.
The increase in Engineering segment revenue was primarily brought about by
increased activity in the engineering and construction markets. Refining
related activity has been particularly strong, including projects to expand
existing facilities and utilize heavier sour crude. Capital spending in the
pipeline area is also trending higher, with numerous projects in North
America currently underway to deliver crude oil, natural gas,
petrochemicals and refined products. Renewable energy appears to be an
emerging area of activity and potential growth, with the Company currently
performing a variety of services for ethanol, biodiesel, coal-to-liquids,
petroleum coke to ammonia, and other biomass processes.
Our detail-design services proved strong with revenue increasing 15.6%, or
$5.1 million, to $37.9 million for the period ending March 31, 2008 from
$32.8 million for the comparable period in 2007. As a percentage of total
Engineering segment revenue, detail-design revenue increased 9.1% to 72.9%
in 2008 from 63.8% in 2007.
Our field services revenues remained relatively stable with a decrease of
5.8%, or $0.8 million, from $13.8 million for the period ended March 31,
2007 to $13.0 million for the comparable period in 2008. As a percentage of
total Engineering segment revenue, field services revenue decreased 1.7% to
25.0% in 2008 from 26.7% in 2007.
18
Management's Discussion and Analysis (continued)
------------------------------------------------
Engineering Segment Results (continued)
---------------------------------------
Revenue from procurement services decreased 97.5%, or $1,298,000, from
$1,332,000 for the period ended March, 31 2007 to $34,000 for the
comparable period in 2008. As a percentage of total Engineering segment
revenue, procurement services revenue decreased 2.5% to 0.1% in 2008 from
2.6% in 2007. The level of procurement services is project dependent and
varies over time depending on the volume of procurement activity our
customers choose to do themselves as opposed to using our services.
Fixed-price revenue decreased 71.4%, or $2.5 million, from $3.6 million in
2007 to $1.1 million in 2008. As a percentage of total Engineering segment
revenue, fixed-price revenue decreased 4.9% to 2.0% in 2008 from 6.9% in
2007 as the Company neared completion of certain EPC contracts.
Gross Profit:
Our Engineering segment's gross profit increased $0.7 million, or 7.6%, to
$9.9 million for the three months ended March 31, 2008 from $9.2 million
for the comparable period in 2007. As a percentage of total Engineering
segment revenue, gross profit increased by 1.2% to 19.0% from 17.8% for the
three-month periods ended March 31, 2008 and 2007, respectively. Of the
overall $0.7 million increase in gross profit, approximately $103,000 was
attributable to the $0.7 million increase in total revenue, plus
approximately $615,000 in improved margins. The increase in margins can be
attributed to the reduced activity in low margin/high dollar procurement
projects, as these projects are being replaced with higher margin, core
revenue derived from labor activity.
Selling, General, and Administrative:
Our Engineering segment's SG&A expense decreased $0.6 million, or 31.6%, to
$1.3 million for the three months ended March 31, 2008 from $1.9 million
for the comparable period in 2007. The quarter-over-quarter decrease in the
Engineering segment's SG&A expense came from approximately $0.3 million in
employee and associated costs re-classified to direct expense, $0.2 million
in non-recurring costs associated with closing the Dallas office during the
quarter ended March 31, 2007, and $0.1 million in lower bad debt expense.
As a percentage of total Engineering segment revenue, the segment's SG&A
costs decreased by 1.1% to 2.5% from 3.6% for the three-month periods ended
March 31, 2008 and 2007, respectively.
Operating Income:
Operating income for the Engineering segment increased $1.3 million, or
17.8%, to $8.6 million for the three months ended March 31, 2008 from $7.3
million for the comparable prior year period. As a percentage of total
Engineering segment revenue, operating income increased by 2.3% to 16.5%
for the three months ended March 31, 2008 from 14.2% for the comparable
prior year period.
19
Management's Discussion and Analysis (continued)
------------------------------------------------
Construction Segment Results
----------------------------
Three Months Ended
March 31,
-----------------------------------------
2008 2007
------------------ --------------------
(Dollars in Thousands)
-----------------------------------------
Gross revenue $ 27,017 $ 14,635
Less intercompany revenue (117) (850)
--------- ---------
Total revenue $ 26,900 $ 13,785
========= =========
Detailed revenue:
Inspection 23,394 87.0% 10,703 77.7%
Construction services 3,506 13.0% 3,082 22.3%
--------- ------ --------- ------
Total revenue: $ 26,900 100.0% $ 13,785 100.0%
Gross profit: $ 2,028 7.5% $ 2,082 15.1%
Operating SG&A expense: $ 703 2.6% $ 627 4.5%
Operating income: $ 1,325 4.9% $ 1,455 10.6%
Overview of Construction Segment:
Revenue:
Our Construction segment's revenue increased $13.1 million, or 94.9%, to
$26.9 million for the three-month period ended March 31, 2008 from $13.8
million for the comparable prior year period. We have experienced
significant growth in our inspection related revenue due to increased
capital spending mainly by our pipeline clients. Also contributing to the
increase in construction services revenue has been our ability to increase
our market share.
Gross profit:
Our Construction segment's gross profit decreased approximately $0.1
million, or 4.8%, to $2.0 million for the three months ended March 31, 2008
from $2.1 million for the comparable prior year period and, as a percentage
of total Construction segment revenue, gross profit decreased by 7.6% to
7.5% from 15.1% for the respective periods. The decrease in gross profit
percentage is primarily attributable to the major increase in revenue
related to our growth in inspection services where increased employee
related costs and competitive pressure on bill rates resulted in lower
margins. While inspection related revenues increased $12.7 million, or
approximately 119%, to $23.4 million for the three months ended March 31,
2008 from $10.7 million for the comparable prior year period, the
contribution to gross profit was effectively unchanged. Increased variable
costs associated with labor to perform proposals, project controls and
project management also contributed to the decrease in gross profit.
Selling, General, and Administrative:
Our Construction segment's SG&A expense increased approximately $0.1
million, or 16.7%, to $0.7 million for the three months ended March 31,
2008 from $0.6 million for the same period in 2007 and, as a percentage of
total Construction segment revenue, SG&A expense decreased by 1.9% to 2.6%
from 4.5% for the respective periods.
Operating Income:
Our Construction segment's operating income decreased $0.2 million, or
13.3%, to $1.3 million for the three months ended March 31, 2008 from $1.5
million for the comparable prior year period. As a percentage of total
Construction segment revenue, operating income decreased by 5.7% to 4.9%
for the three months ended March 31, 2008 from 10.6% for the comparable
prior year period.
20
Management's Discussion and Analysis (continued)
------------------------------------------------
Automation Segment Results
--------------------------
Three Months Ended
March 31,
-----------------------------------------
2008 2007
------------------ -------------------
(Dollars in Thousands)
-----------------------------------------
Gross revenue $ 10,557 $ 9,823
Less intercompany revenue (155) (285)
--------- ---------
Total revenue $ 10,402 $ 9,538
========= =========
Detailed revenue:
Fabrication 6,683 64.3% 5,510 57.8%
Non-fabrication 3,719 35.7% 4,028 42.2%
--------- ------ --------- ------
Total revenue: $ 10,402 100.0% $ 9,538 100.0%
Gross profit: $ 1,044 10.0% $ 781 8.2%
Operating SG&A expense: $ 632 6.1% $ 845 8.9%
Operating income: $ 412 4.0% $ (64) (0.7%)
Overview of Automation Segment:
Revenue:
Our Automation segment's revenue increased approximately $0.9 million, or
9.5%, to $10.4 million for the three-month period ended March 31, 2008 from
$9.5 million for the comparable prior year period.
Gross profit:
The Automation segment's gross profit increased approximately $0.2 million,
or 25.0%, to $1.0 million for the three months ended March 31, 2008, from
$0.8 million for the comparable prior year period and, as a percentage of
total Automation segment revenue, gross profit increased by 1.8% to 10.0%
from 8.2% for the respective periods. During the first quarter of 2007, we
experienced reduced margins on a few larger lump sum projects that were not
repeated in the first quarter of 2008. We also are performing more detailed
project reviews and analysis, which have contributed to higher gross
profits.
Selling, General, and Administrative:
Our Automation segment's SG&A expense decreased approximately $0.2 million,
or 25.0%, to $0.6 million for the three months ended March 31, 2008 from
$0.8 million for the same period in 2007 and, as a percentage of total
Automation segment revenue, SG&A expense decreased by 2.8% to 6.1% from
8.9% for the respective periods. Approximately $145,000 of the reduction of
SG&A expenses was due to a reduction in overhead staff.
Operating Income:
The Automation segment recorded an operating income of $0.4 million for the
three months ended March 31, 2008 compared to an operating loss of ($0.1)
million for the three-month period ended March 31, 2007. As a percentage of
total Automation segment revenue, operating income increased by 4.7% to
4.0% for the three months ended March 31, 2008 from (0.7)% for the
comparable prior period. Overall, improved control of direct costs and
overhead contributed to the increased operating income of the Automation
segment during the three months ended March 31, 2008.
21
Management's Discussion and Analysis (continued)
------------------------------------------------
Land Segment Results
--------------------
Three Months Ended
March 31,
-----------------------------------------
2008 2007
------------------- -------------------
(Dollars in Thousands)
-----------------------------------------
Gross revenue $ 8,835 $ 6,887
Less intercompany revenue - -
-------- --------
Total Revenue: $ 8,835 100.0% $ 6,887 100.0%
Gross profit: $ 1,392 15.8% $ 1,250 18.2%
Operating SG&A expense: $ 677 7.7% $ 583 8.5%
Operating income: $ 715 8.1% $ 667 9.7%
Overview of Land Segment:
Revenue:
The Land segment's revenue increased approximately $1.9 million, or 27.5%,
to $8.8 million for the three-month period ended March 31, 2008 from $6.9
million for the comparable prior year period. The Land segment was formed
out of our acquisition of WRC Corporation in May 2006, which was renamed
ENGlobal Land, Inc. in January, 2008.
Gross profit:
The Land segment's gross profit increased approximately $0.1 million, or
7.7%, to $1.4 million for the three months ended March 31, 2008 from $1.3
million for the comparable prior year period and, as a percentage of total
Land segment revenue, gross profit decreased by 2.4% to 15.8% from 18.2%
for the respective periods. As we focused on growing business in the Land
segment, we increased the number of personnel by approximately 37% as of
March 31, 2008 compared to our staffing level at March 31, 2007. Our gross
profit margins have decreased due to the resulting increased costs of labor
and expenses that we were not able to immediately pass through to clients
under existing contracts. We are currently renegotiating billing rates on
existing contracts to accommodate these increased costs.
Selling, General, and Administrative:
The Land segment's SG&A expense increased approximately $0.1 million, or
16.7%, to $0.7 million for the three months ended March 31, 2008 from $0.6
million for the same period in 2007 but, as a percentage of total Land
segment revenue, SG&A expense decreased by 0.8% to 7.7% from 8.5% for the
respective periods. Increases in SG&A costs for the three months ended
March 31, 2008, were related to marketing the ENGlobal brand name as WRC
Corporation was renamed ENGlobal Land, Inc. in January 2008; travel and
marketing expenses were $40,000 higher; bad debt expense grew by $25,000
and another $19,000 was attributable to increased office expenses.
Operating Income:
The Land segment recorded an operating income of $0.7 million for the three
months ended March 31, 2008, compared to an operating income of $0.7
million for the three-month period ended March 31, 2007. As a percentage of
total Land segment revenue, operating income decreased 1.6% from 9.7% for
the three months ended March 31, 2007 to 8.1% for the same period in 2008.
22
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our financial instruments include cash and cash equivalents, accounts
receivable, accounts payable, notes and capital leases payable, and debt
obligations. The book value of cash and cash equivalents, accounts
receivable, accounts payable and short-term notes payable are considered to
be representative of fair value because of the short maturity of these
instruments.
We do not utilize financial instruments for trading purposes and we do not
hold any derivative financial instruments that could expose us to
significant market risk. In the normal course of business, our results of
operations are exposed to risks associated with fluctuations in interest
rates and currency exchange rates.
Our exposure to market risk for changes in interest rates relates primarily
to our obligations under the Comerica Credit Facility. As of March 31,
2008, $29.7 million had been borrowed under the Credit Facility, accruing
interest at 5% per year, excluding amortization of prepaid financing costs.
A 10% increase in the short-term borrowing rates on the Credit Facility
outstanding as of March 31, 2008 would be 50 basis points. Such an increase
in interest rates would increase our annual interest expense by
approximately $148,500, assuming the amount of debt outstanding remains
constant.
In general, our exposure to fluctuating exchange rates relates to the
effects of translating the financial statements of our Canadian subsidiary
from the Canadian dollar to the U.S. dollar. We follow the provisions of
SFAS No. 52 - "Foreign Currency Translation" in preparing our consolidated
financial statements. Currently, we do not engage in foreign currency
hedging activities.
ITEM 4. CONTROLS AND PROCEDURES
a) Evaluation of Disclosure Controls and Procedures
Disclosure controls and procedures are controls and other procedures of a
registrant designed to ensure that information required to be disclosed by the
registrant in the reports that it files or submits under the Exchange Act is
properly recorded, processed, summarized, and reported, within the time periods
specified in the Securities and Exchange Commission's ("SEC") rules and forms.
Disclosure controls and procedures include processes to accumulate and evaluate
relevant information and communicate such information to a registrant's
management, including its Chief Executive Officer and Chief Financial Officer,
as appropriate, to allow for timely decisions regarding required disclosures.
We evaluated the effectiveness of the design and operation of our disclosure
controls and procedures as of March 31, 2008, as required by Rule 13a-15 of the
Exchange Act. As described below, material weaknesses were identified in our
internal control over financial reporting as of March 31, 2008. Based on the
evaluation described above, our Chief Executive Officer and Chief Financial
Officer have concluded that, as of March 31, 2008, our disclosure controls and
procedures were not effective to ensure that information required to be
disclosed by us in the reports we file or submit under the Exchange Act is
recorded, processed, summarized, and reported, within the time periods specified
in the SEC's rules and forms.
Changes in Internal Control over Financial Reporting
In our Form 10-K for the year ended December 31, 2007, we disclosed certain
material weaknesses in internal control over financial reporting, which are
identified below. Neither material weakness has been remediated as of March 31,
2008.
23
Deficiencies in the Company's Control Environment and Accounting System
Controls.
We did not effectively and accurately close the general ledger in a timely
manner and we did not provide complete and accurate disclosure in our notes to
financial statements, as required by generally accepted accounting principles.
Specifically, the Company lacks sufficient knowledge and expertise in financial
reporting to adequately handle complex or non-routine accounting issues,
resulting in the following:
- failure in a timely manner to properly evaluate goodwill for
potential impairment in accordance with SFAS 142, "Goodwill and
Other Intangible Assets";
- difficulty in obtaining timely resolution of SEC comments related
to the above item, causing a delay in the Company's period-end
closing process for its 2007 Form 10-K; and
- failure to effectively utilize third-party specialists in a
timely manner to assist with complex or non-routine accounting
issues.
As noted above, no change in our internal control over financial reporting
occurred during the quarter ended March 31, 2008, that has materially affected,
or is reasonably likely to materially affect, our internal control over
financial reporting.
Remediation Initiatives
Management, with oversight from the Audit Committee of the Board of Directors,
has been addressing the material weaknesses discussed above. While progress has
been made, these remedial steps have not been completed; however, the Company
has performed additional analysis and procedures in order to ensure that the
consolidated financial statements contained in this Quarterly Report on Form
10-Q were prepared in accordance with generally accepted accounting principles
in the United States. Although the Company's remediation efforts are underway,
control weaknesses will not be considered remediated until new internal controls
over financial reporting are implemented and operational for a sufficient period
of time to allow for effective testing and are tested, and management and its
independent registered certified public accounting firm conclude that these
controls are operating effectively. Management, along with its outside
consultants, and the Audit Committee of the Company's Board of Directors are
working to determine the most effective way to implement the remedial measures
listed below, and, if necessary, to develop additional remedial measures to
address the internal control deficiencies identified above. The Company is
monitoring the effectiveness of planned actions and will make any other changes
and take such other actions as management or the Audit Committee determines to
be appropriate. The Company's remediation efforts include:
o engagement of various third-party consultants to assist us with
specific technical accounting issues;
o engagement of third-party consultants to provide valuation services in
accordance with SFAS 142;
o implementation of quarterly and annual disclosure checklists, which
are utilized in connection with the completion of our quarterly
financial statements;
o provision of additional training to accounting staff on SFAS 142, SEC
reporting principles, and GAAP; and
o implementation of periodic accounting management meetings where our
accounting processes and procedures are communicated and reinforced.
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PART II. - OTHER INFORMATION
----------------------------
ITEM 1. LEGAL PROCEEDINGS
From time to time, the Company and its subsidiaries become parties to
various legal proceedings arising in the ordinary course of normal business
activities. While we cannot predict the outcome of these proceedings, in
our opinion and based on reports of counsel, any liability arising from
such matters, individually or in the aggregate, is not expected to have a
material effect upon the consolidated financial position or operations of
the Company.
ITEM 1A. RISK FACTORS
In addition to the other information set forth in this report, you should
carefully consider the factors discussed in Part I, "Item 1A. Risk Factors"
in our Annual Report on Form 10-K for the year ended December 31, 2007,
which could materially affect our business, financial condition or future
results. The risks described in our Annual Report on Form 10-K are not the
only risks facing our Company. Additional risks and uncertainties not
currently known to us or that we currently deem to be immaterial also may
materially adversely affect our business, financial conditions or operating
results.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
In September 2005, Hurricane Rita destroyed our administrative offices in
Beaumont, Texas. Since that time, we have leased additional office space
near our existing Beaumont operations. In March 2008, agreement was met on
our building specifications in a build-to-suit lease agreement.
Groundbreaking commenced April 28, 2008, with plans for completion in the
fall of 2008.
ITEM 6. EXHIBITS
3.1 Amended and Restated Bylaws of ENGlobal Corporation, dated
November 6, 2007.
3.2 Amendment to Amended and Restated Bylaws of ENGlobal Corporation,
effective as of April 29, 2008.
10.1 Build-to-Suit Lease Agreement between Clay Real Estate
Development, L.P. and ENGlobal Corporate Services, Inc., executed
March 6, 2008.
10.2 Amended and Restated Option Pool Agreement between ENGlobal
Corporation and Alliance 2000 Ltd., effective December 20, 2006.
31.1 Certifications Pursuant to Rule 13a - 14(a) of the Exchange Act
of 2002 for the First Quarter 2008
31.2 Certifications Pursuant to Rule 13a - 14(a) of the Exchange Act
of 2002 for the First Quarter 2008
32 Certification Pursuant to Rule 13a - 14(b) of the Exchange Act
and 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 for the First Quarter 2008
25
SIGNATURE
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.
ENGlobal Corporation
Dated: May 6, 2008
By: /s/ Robert W. Raiford
-------------------------
Robert W. Raiford
Chief Financial Officer and Treasurer
26