Cactus Earnings 2020-12-31
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
For the fiscal year ended December 31 , 2020
or
For the transition period from to
Commission File Number: 001-38390
(Exact name of registrant as specified in its charter)
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | ||||
| (Address of principal executive offices) | (Zip code) | ||||
(713 ) 626-8800
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act
| Title of each class | Trading Symbol(s) | Name of each exchange on which registered | ||||||||||||
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well‑known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☑ No ☐
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☑
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b‑2 of the Exchange Act.
| ☑ | Accelerated filer | ☐ | |||||||||
| Non-accelerated filer | ☐ | Smaller reporting company | |||||||||
| Emerging growth company | |||||||||||
If an emerging growth company indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C.7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☑
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b‑2 of the Exchange Act). Yes ☐ No ☑
As of June 30, 2020, the aggregate market value of the common stock of the registrant held by non-affiliates of the registrant was $1.0 billion.
As of February 23, 2021, the registrant had 47,894,842 shares of Class A common stock, $0.01 par value per share, and 27,655,077 shares of Class B common stock, $0.01 par value per share, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
None.
TABLE OF CONTENTS
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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10‑K (this “Annual Report”) contains “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). When used in this Annual Report, the words “could,” “believe,” “anticipate,” “intend,” “estimate,” “expect,” “project” and similar expressions are intended to identify forward‑looking statements, although not all forward‑looking statements contain such identifying words. These forward‑looking statements are based on our current expectations and assumptions about future events and are based on currently available information as to the outcome and timing of future events. When considering forward‑looking statements, you should keep in mind the risk factors and other cautionary statements described under the heading “Item 1A. Risk Factors” included in this Annual Report. These forward‑looking statements are based on management’s current belief, based on currently available information, as to the outcome and timing of future events.
Forward‑looking statements may include statements about:
•demand for our products and services, which is affected by, among other things, changes in the price of crude oil and natural gas in domestic and international markets;
•the level of growth in number of rigs, pad sizes, well spacings and associated well count and availability of takeaway and storage capacity;
•availability of capital and the associated capital spending discipline exercised by customers;
•the financial health of our customers and our credit risk of customer non-payment;
•changes in the number of drilled but uncompleted wells (“DUC’s”) and the level of completion activity;
•the size and timing of orders;
•availability of raw materials and imported items;
•shipping costs and availability of ocean freight from China;
•transportation differentials associated with reduced capacity in and out of the storage hub in Cushing, Oklahoma;
•expectations regarding raw materials, overhead and operating costs and margins;
•availability of skilled and qualified workers;
•potential liabilities such as warranty and product liability claims arising out of the installation, use or misuse of our products;
•the possibility of cancellation of orders;
•our business strategy;
•our financial strategy, operating cash flows, liquidity and capital required for our business;
•our future revenue, income and operating performance;
•the ability to pay dividends and the amount of any such dividends;
•corporate consolidation activity involving our customers;
•the addition or termination of relationships with major customers or suppliers;
•laws and regulations, including environmental regulations, that may increase our costs, limit the demand for our products and services or restrict our operations;
•disruptions in the political, regulatory, economic and social conditions domestically or internationally;
•the severity and duration of the ongoing outbreak of coronavirus (“COVID-19”) and the extent of its impact on our business;
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•outbreaks of other pandemic or contagious diseases that may disrupt our operations, suppliers or facilities or impact demand for oil and natural gas;
•the impact of actions taken by the Organization of Petroleum Exporting Countries (“OPEC”) and other oil and gas producing countries affecting the supply of oil and gas;
•increases in import tariffs assessed on products and imported raw materials used in the manufacture of our goods in the United States which could negatively impact margins and our working capital;
•the significance of future liabilities under the Tax Receivable Agreement (the “TRA”) we entered into with certain current or past direct and indirect owners of Cactus LLC (the “TRA Holders”) in connection with our initial public offering;
•a failure of our information technology infrastructure or any significant breach of security;
•potential uninsured claims and litigation against us;
•competition within the oilfield services industry;
•our dependence on the continuing services of certain of our key managers and employees;
•currency exchange rate fluctuations associated with our international operations; and
•plans, objectives, expectations and intentions contained in this Annual Report that are not historical.
We caution you that these forward‑looking statements are subject to all of the risks and uncertainties, most of which are difficult to predict and many of which are beyond our control, incident to the operation of our business. These risks include, but are not limited to the risks described in this Annual Report under “Item 1A. Risk Factors.” Should one or more of the risks or uncertainties described in this Annual Report occur, or should underlying assumptions prove incorrect, our actual results and plans could differ materially from those expressed in any forward‑looking statements.
All forward‑looking statements, expressed or implied, included in this Annual Report are expressly qualified in their entirety by this cautionary statement. This cautionary statement should also be considered in connection with any subsequent written or oral forward‑looking statements that we or persons acting on our behalf may issue. Except as otherwise required by applicable law, we disclaim any duty to update any forward‑looking statements, all of which are expressly qualified by the statements in this section, to reflect events or circumstances after the date of this Annual Report.
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PART I
Item 1. Business
General
Cactus, Inc. (“Cactus Inc.”) and its consolidated subsidiaries (the “Company,” “we,” “us,” “our” and “Cactus,”), including Cactus Wellhead, LLC (“Cactus LLC”), are primarily engaged in the design, manufacture and sale of wellhead and pressure control equipment. Our products are sold and rented principally for onshore unconventional oil and gas wells and are utilized during the drilling, completion and production phases of our customers’ wells. We also provide field services for all of our products and rental items to assist with the installation, maintenance and handling of the wellhead and pressure control equipment. Additionally, we offer repair and refurbishment services. We operate through 14 U.S. service centers located in Texas, New Mexico, Pennsylvania, North Dakota, Louisiana, Oklahoma, Colorado and Wyoming as well as three service centers in Eastern Australia. Our corporate headquarters are located in Houston, Texas. We also have manufacturing and production facilities in Bossier City, Louisiana and Suzhou, China.
Cactus Inc. was incorporated on February 17, 2017 as a Delaware corporation for the purpose of completing an initial public offering of equity and related transactions, which was completed on February 12, 2018 (our “IPO”). We began operating in August 2011 following the formation of Cactus LLC in part by Scott Bender and Joel Bender, who have owned or operated wellhead manufacturing businesses since the late 1970s. Cactus Inc. is a holding company whose only material asset is an equity interest consisting of units representing limited liability company interests in Cactus LLC (“CW Units”). Cactus Inc. became the sole managing member of Cactus LLC upon completion of our IPO and is responsible for all operational, management and administrative decisions relating to Cactus LLC’s business. Pursuant to the First Amended and Restated Limited Liability Company Operating Agreement of Cactus LLC (the “Cactus Wellhead LLC Agreement”), owners of CW Units are entitled to redeem their CW Units for shares of Cactus Inc.’s Class A common stock, par value $0.01 per share (“Class A common stock”) on a one-for-one basis, which results in a corresponding increase in Cactus Inc.’s membership interest in Cactus LLC and an increase in the number of shares of Class A common stock outstanding. We refer to the owners of CW Units, other than Cactus Inc., (along with their permitted transferees) as “CW Unit Holders.” CW Unit Holders own one share of our Class B common stock, par value $0.01 per share (“Class B common stock”) for each CW Unit such CW Unit Holder owns. Cadent Energy Partners II, L.P. (“Cadent”), an affiliate of Cadent Energy Partners LLC, and Cactus WH Enterprises, LLC (“Cactus WH Enterprises”) are the largest CW Unit Holders. Cactus WH Enterprises is a Delaware limited liability company owned by Scott Bender, Joel Bender, Steven Bender and certain of our other employees. Holders of Class A common stock and Class B common stock vote together as a single class on all matters presented to our stockholders for their vote or approval, except as otherwise required by applicable law or our amended and restated certificate of incorporation.
As of December 31, 2020, Cactus Inc. owned 63.3% and CW Unit Holders owned 36.7% of Cactus LLC, which was based on 47.7 million shares of Class A common stock issued and outstanding and 27.7 million shares of Class B common stock issued and outstanding. Cadent and Cactus WH Enterprises held approximately 11% and 23% of our voting power, respectively, as of December 31, 2020. The following is a rollforward of ownership of legacy CW Units by legacy CW Unit Holders:
| CW Units | |||||
| (in thousands) | |||||
| CW Units held by legacy CW Unit Holders as of February 7, 2018 | 60,558 | ||||
| IPO on February 12, 2018 | (12,118) | ||||
| July 2018 follow-on equity offering | (11,197) | ||||
| Other CW Unit redemptions | (7) | ||||
| CW Units held by legacy CW Unit Holders as of December 31, 2018 | 37,236 | ||||
| March 2019 follow-on equity offering | (8,474) | ||||
| Other CW Unit redemptions | (804) | ||||
| CW Units held by legacy CW Unit Holders as of December 31, 2019 | 27,958 | ||||
| Other CW Unit redemptions | (303) | ||||
| CW Units held by legacy CW Unit Holders as of December 31, 2020 | 27,655 | ||||
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For more information on our 2018 IPO, see our Annual Report of Form 10-K for the year ended December 31, 2018. For further information on the follow-on equity offerings in July 2018 and March 2019, see Note 10 in the Notes to the Consolidated Financial Statements.
The following diagram indicates our simplified ownership structure as of December 31, 2020:
Our Products
Our principal products include our Cactus SafeDrill® wellhead systems as well as frac stacks, our Cactus SafeLink™ monobore, SafeClamp® and SafeInject® systems, zipper manifolds and production trees that we design and manufacture. Every oil and gas well requires a wellhead, which is installed at the onset of the drilling process and remains with the well through its entire productive life. The Cactus SafeDrill® wellhead systems employ technology which allows technicians to land and secure casing strings more safely from the rig floor, reducing the need to descend into the cellar. We believe we are a market leader in the application of such technology, with thousands of our products sold and installed across the United States since 2011. During the completion phase of a well, we rent frac stacks, zipper manifolds and other high-pressure equipment including our SafeLink™, SafeClamp® and SafeInject® systems that are used for well control and managing the transmission of frac fluids and proppants during the hydraulic fracturing process. These severe service applications require robust and reliable equipment. Cactus, through its proprietary equipment, digital offerings and services, reduces the need for human intervention in the exclusion zone, eliminating non-productive time while leading to inherently safer and more environmentally responsible operations. For the subsequent production phase of a well, we sell production trees and the equipment to interface with various forms of artificial lift that regulate hydrocarbon production, which are installed on the wellhead after the frac stack has been removed. In addition, we provide mission-critical field services for all of our products and rental items, including 24-hour service crews to assist with the installation, maintenance, repair and safe handling of the wellhead and pressure control equipment. Our innovative wellhead products and pressure control equipment are developed internally. We believe our close
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relationship with our customers provides us with insight into the specific issues encountered in the drilling and completion processes, allowing us to provide them the highest quality products and service solutions.
We have achieved significant market share, as measured by the percentage of total active U.S. onshore rigs that we follow (which we define as the number of active U.S. onshore drilling rigs to which we are the primary provider of wellhead products and corresponding services during drilling), and brand name recognition with respect to our engineered products, which we believe is due to our focus on safety, reliability, cost effectiveness and time saving features. We optimize our products for pad drilling (i.e., the process of drilling multiple wellbores from a single surface location) to reduce rig time and provide operators with significant efficiencies that translate into increased safety, reduced environmental impact and cost savings at the wellsite.
We operate through service centers in the United States, which are strategically located in the key oil and gas producing regions, including the Permian, Marcellus, Utica, Haynesville, Eagle Ford, Bakken and SCOOP/STACK, among other active oil and gas regions in the United States, and in Eastern Australia. These service centers support our field services and provide equipment assembly and repair services.
Our Revenues
We operate in one business segment. Our revenues are derived from three sources: products, rentals, and field service and other. Product revenues are primarily derived from the sale of wellhead systems and production trees. Rental revenues are primarily derived from the rental and associated repair of equipment used for well control during the completion process as well as the rental of drilling tools. Field service and other revenues are primarily earned when we provide installation and other field services for both product sales and equipment rental. Additionally, other revenues are derived from providing repair and reconditioning services to customers that have previously installed wellheads or production trees on their wellsite. Items sold or rented generally have an associated service component. As a result, there is some level of correlation between field service and other revenues and revenues from product sales and rentals.
For the year ended December 31, 2020, we derived 59% of our total revenues from the sale of our products, 19% from rental and 22% from field service and other. In 2019, we derived 57% of our total revenues from the sale of our products, 22% from rental and 21% from field service and other. In 2018, we derived 53% of our total revenues from the sale of our products, 25% from rental and 22% from field service and other. We have predominantly domestic operations, with a small amount of sales in Australia.
Most of our sales are made on a call out basis pursuant to agreements, wherein our clients provide delivery instructions for goods and/or services as their operations require. Such goods and/or services are most often priced in accordance with a preapproved price list. The actual pricing of our products and services is impacted by a number of factors including competitive pricing pressure, the level of utilized capacity in the oil service sector, maintenance of market share, cost of producing the product and general market conditions.
Costs of Conducting Our Business
The principal elements of cost of sales for our products are the direct and indirect costs to manufacture and supply the product, including labor, materials, machine time, tariffs and duties, freight and lease expense related to our facilities. The principal elements of cost of sales for rentals are the direct and indirect costs of supplying rental equipment, including depreciation, repairs specifically performed on such rental equipment and freight. The principal elements of cost of sales for field service and other are labor, equipment depreciation and repair, equipment lease expense, fuel and supplies. Selling, general and administrative expense is comprised of costs such as sales and marketing, engineering, general corporate overhead, business development, compensation, employment benefits, information technology, safety and environmental, legal and professional.
Suppliers and Raw Materials
Forgings, castings and bar stock represent the principal raw materials used in the manufacture of our products and rental equipment. In addition, we require accessory items (such as elastomers, ring gaskets, studs and nuts) and machined components. We purchase these items from vendors in the United States, China, India and Australia. For the years ended December 31, 2020, 2019 and 2018, approximately $6.7 million, $36.5 million and $46.7 million, respectively, of machined component purchases were made from a vendor located in China, representing approximately 7%, 16% and 21%, respectively, of our total third-party vendor purchases of raw materials, finished products, equipment, machining and other services. We do not believe that we are overly dependent on any individual vendor to supply our required materials or services. The materials
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and services essential to our business are normally readily available and, where we use one or a few vendors as a source of any particular materials or services, we believe that we can, within a reasonable period of time, make satisfactory alternative arrangements in the event of an interruption of supply from any vendor. We believe that our materials and services vendors have the capacity to meet additional demand should we require it, although initially at higher costs and delayed deliveries.
Manufacturing
Our manufacturing and production facilities are located in Bossier City, Louisiana and Suzhou, China. Although both facilities can produce our full range of products, our Bossier City facility has advanced capabilities and is designed to support time-sensitive and rapid turnaround of made-to-order equipment, while our facility in China is optimized for longer lead time orders and outsources its machining requirements. Both facilities are licensed to the latest American Petroleum Institute (“API”) 6A specification for both wellheads and valves and API Q1 and ISO 9001:2015 quality management systems. Where traditional manufacturing facilities are designed to run in batches with different machining processes occurring in stages, our Bossier City facility uses advanced computer numeric control machines to perform multiple machining operations in a single step. We believe eliminating the setup and queue times between machining processes allows us to offer significantly shorter order-to-delivery time for equipment than our competitors, albeit at higher costs than China. Responsiveness to urgent needs strengthens our relationship with key customers. Our Bossier City manufacturing facility also functions as a repair and testing facility with its API 6A certification and full Quality Assurance and Quality Control department. The facility also has the ability to perform phosphate and oiling, copper coating and frac rental equipment remanufacturing. Our production facility in China is configured to efficiently produce our range of pressure control products and components for less time-sensitive, higher-volume orders. All employees in our Suzhou facility are Cactus employees, which we believe is a key factor in ensuring high quality. Our Suzhou facility currently assembles and tests machined components before shipment to Cactus facilities in the United States and Australia.
Trademarks and Patents
Trademarks are important to the marketing of our products. We consider the Cactus Wellhead trademark to be important to our business as a whole. The Company has numerous trademarks registered with the U.S. Patent and Trademark Office and has also applied for registration status of several trademarks which are pending. Once registered, our trademarks can be renewed every 10 years as long as we are using them in commerce. We also seek to protect our technology through use of patents, which afford us 20 years of protection of our proprietary inventions and technology, although we do not deem patents to be critical to our success. We have been awarded several U.S. patents and currently have additional patent applications pending. We also rely on trade secret protection for our confidential and proprietary information. To protect our information, we customarily enter into confidentiality agreements with our employees and suppliers. There can be no assurance, however, that others will not independently obtain similar information or otherwise gain access to our trade secrets.
Cyclicality
We are substantially dependent on conditions in the oil and gas industry, including the level of exploration, development and production activity of, and the corresponding capital spending by, oil and natural gas companies. The level of exploration, development and production activity is directly affected by trends in oil and natural gas prices, which have historically been volatile, and by the availability of capital and the associated capital spending discipline exercised by customers. Declines, as well as anticipated declines, in oil and gas prices could negatively affect the level of these activities and capital spending, which could adversely affect demand for our products and services and, in certain instances, result in the cancellation, modification or rescheduling of existing and expected orders and the ability of our customers to pay us for our products and services. These factors could have an adverse effect on our revenue and profitability.
Due to the ongoing COVID-19 pandemic, 2020 witnessed a severe decline in demand for fossil fuels resulting from government mandated lockdowns and travel restrictions. The oil and gas industry was first impacted by this decline in March 2020 amid the initial worldwide spread of the virus, with West Texas Intermediate (WTI) prices trading at negative levels for a brief period in April. Although oil prices recovered in the last quarter of 2020 from such lows, demand for oil and our customer activity levels remain significantly below levels before the pandemic.
Seasonality
Our business is not significantly impacted by seasonality, although our fourth quarter has historically been impacted by holidays and our clients’ budget cycles.
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Customers
We serve over 200 customers representing majors, independents and other oil and gas companies with operations in the key U.S. oil and gas producing basins as well as in Australia. No customer represented 10% or more of total revenues during the year ended December 31, 2020, whereas one customer represented approximately 10% of total revenues during the year ended December 31, 2019 and 11% during the year ended December 31, 2018.
Competition
The markets in which we operate are highly competitive. We believe that we are one of the largest suppliers of wellheads in the United States. We compete with divisions of Schlumberger and TechnipFMC, as well as with a number of other companies. Similar to Cactus, Schlumberger and TechnipFMC manufacture their own engineered products. We believe that the rental market for frac stacks and related flow control equipment is more fragmented than the wellhead product market. Cactus does not believe that any individual company represents more than 20% of the U.S. rental market. As is the case in the wellhead market, Cactus, Schlumberger and TechnipFMC rent internally engineered and manufactured products. The majority of our other competitors generally rent foreign manufactured generic products.
We believe that the principal competitive factors in the markets we serve are technical features, equipment availability, work force competency, efficiency, safety record, reputation, experience and price. Additionally, projects are often awarded on a bid basis, which tends to create a highly competitive environment. While we seek to be competitive in our pricing, we believe many of our customers elect to work with us based on product features, safety, performance and quality of our crews, equipment and services. We seek to differentiate ourselves from our competitors by delivering the highest‑quality services and equipment possible, coupled with superior execution and operating efficiency in a safe working environment.
Environmental, Health and Safety Regulation
We are subject to stringent governmental laws and regulations, both in the United States and other countries, pertaining to protection of the environment and occupational safety and health. Compliance with environmental legal requirements in the United States at the federal, state or local levels may require acquiring permits to conduct regulated activities, incurring capital expenditures to limit or prevent emissions, discharges and any unauthorized releases, and complying with stringent practices to handle, recycle and dispose of certain wastes. These laws and regulations include, among others:
•the Federal Water Pollution Control Act (the “Clean Water Act”);
•the Clean Air Act;
•the Comprehensive Environmental Response, Compensation and Liability Act;
•the Resource Conservation and Recovery Act;
•the Occupational Safety and Health Act; and
•national and local environmental protection laws in Australia and the People’s Republic of China.
New, modified or stricter enforcement of environmental laws and regulations could be adopted or implemented that significantly increase our compliance costs, pollution mitigation costs, or the cost of any remediation of environmental contamination that may become necessary, and these costs could be material. Our clients are also subject to most, if not all, of the same laws and regulations relating to environmental protection and occupational safety and health in the United States and in foreign countries where we operate. Consequently, to the extent these environmental compliance costs, pollution mitigation costs or remediation costs are incurred by our clients, those clients could elect to delay, restrict or cancel drilling, exploration or production programs, which could reduce demand for our products and services and, as a result, have a material adverse effect on our business, financial condition, results of operations, or cash flows. Consistent with our quality assurance and control principles, we have established proactive environmental and worker safety policies in the United States and foreign countries for the management, handling, recycling or disposal of chemicals and gases and other materials and wastes resulting from our operations. Substantial fines and penalties can be imposed and orders or injunctions limiting or prohibiting certain operations may be issued in connection with any failure to comply with laws and regulations relating to worker health and safety.
Licenses and Certifications. Our manufacturing facility in Bossier City, Louisiana and our production facility in Suzhou, China are currently licensed by the API to monogram manufactured products in accordance with API 6A, 21st Edition product specification for both wellheads and valves while the quality management system is certified to API Q1, 9th Edition, Addendum 2 and ISO 9001:2015. These licenses and certifications expire every three years and are renewed upon successful completion of annual audits. Our current API licenses and certifications are published on our website under the “Quality
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Assurance & Control” section of our website at www.CactusWHD.com. API’s standards are subject to revision, however, and there is no guarantee that future amendments or substantive changes to the standards would not require us to modify our operations or manufacturing processes to meet the new standards. Doing so may materially affect our operational costs. We also cannot guarantee that changes to the standards would not lead to the rescission of our licenses should we be unable to make the changes necessary to meet the new standards. Loss of our API licenses could materially affect demand for these products.
Hydraulic Fracturing. Many of our customers utilize hydraulic fracturing in their operations. Environmental concerns have been raised regarding the potential impact of hydraulic fracturing on underground water supplies and seismic activity. These concerns have led to several regulatory and governmental initiatives in the United States to restrict the hydraulic fracturing process, which could have an adverse impact on our customers’ completions or production activities.
Although we do not conduct hydraulic fracturing, increased regulation and attention given to the hydraulic fracturing process could lead to greater opposition to oil and gas production activities using hydraulic fracturing techniques. In addition, the adoption of new laws or regulations at the federal, state, local or foreign level imposing reporting obligations on, or otherwise limiting, delaying or banning, the hydraulic fracturing process or other processes on which hydraulic fracturing and subsequent hydrocarbon production relies, such as water disposal, could make it more difficult to complete oil and natural gas wells. Further, it could increase our customers’ costs of compliance and doing business, and otherwise adversely affect the hydraulic fracturing services they perform, which could negatively impact demand for our products.
Climate Change. State, national and foreign governments and agencies continue to evaluate, and in some instances adopt, climate-related legislation and other regulatory initiatives that would restrict emissions of greenhouse gases. Changes in environmental requirements related to greenhouse gases, climate change and alternative energy sources may negatively impact demand for our services. For example, oil and natural gas exploration and production may decline as a result of environmental requirements, including land use policies responsive to environmental concerns. In January 2021, the Acting Secretary of the Department of the Interior issued an order suspending new leasing and drilling permits for fossil fuel production on federal lands and waters for 60 days. Then on January 27, 2021, President Biden issued an executive order indefinitely suspending new oil and natural gas leases on public lands or in offshore waters pending completion of a comprehensive review and reconsideration of federal oil and gas permitting and leasing practices. To the extent that the review results in the development of additional restrictions on drilling, limitations on the availability of leases, or restrictions on the ability to obtain required permits, it could impact our customers’ opportunities and reduce demand for our products and services in the aforementioned areas. Because our business depends on the level of activity in the oil and natural gas industry, existing or future laws, regulations, treaties or international agreements related to greenhouse gases and climate change, including incentives to conserve energy or use alternative energy sources, may reduce demand for oil and natural gas and could have a negative impact on our business. Likewise, such restrictions may result in additional compliance obligations that could have a material adverse effect on our business, consolidated results of operations and consolidated financial condition.
Insurance and Risk Management
We rely on customer indemnifications and third‑party insurance as part of our risk mitigation strategy. However, our customers may be unable to satisfy indemnification claims against them. In addition, we indemnify our customers against certain claims and liabilities resulting or arising from our provision of goods or services to them. Our insurance may not be sufficient to cover any particular loss or may not cover all losses. We carry a variety of insurance coverages for our operations, and we are partially self‑insured for certain claims, in amounts that we believe to be customary and reasonable. Historically, insurance rates have been subject to various market fluctuations that may result in less coverage, increased premium costs, or higher deductibles or self‑insured retentions.
Our insurance includes coverage for commercial general liability, damage to our real and personal property, damage to our mobile equipment, sudden and accidental pollution liability, workers’ compensation and employer’s liability, auto liability, foreign package policy, commercial crime, fiduciary liability employment practices, cargo, excess liability, and directors and officers’ insurance. We also maintain a partially self-insured medical plan that utilizes specific and aggregate stop loss limits. Our insurance includes various limits and deductibles or self‑insured retentions, which must be met prior to, or in conjunction with, recovery.
Human Capital Management
As of December 31, 2020, we employed over 660 people worldwide, of which more than 550 were employed in the United States. We are not a party to any collective bargaining agreements and have not experienced any strikes or work stoppages. We consider our relations with our workforce to be good. Our business’s success depends mainly on our ability to attract, retain and motivate a diverse population of talented employees at all levels of our organization, including the individuals
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who comprise our global workforce and executive officers and other key personnel. To succeed in a competitive industry, we have developed key recruitment and retention strategies, objectives and measures which we focus on as part of the overall management of our business.
Recruiting and Development. Our talent strategy is focused on attracting the best talent and rewarding their performance while developing and retaining them. Fiscal year 2020 was a challenging year in which we made difficult staffing decisions, resulting in significant reductions to our workforce. We strive to maintain good relationships with our employees and prioritize rehiring our most experienced branch and field positions as the industry recovers. We reinstated 145 employees before the end of 2020 who were part of our workforce reductions earlier in the year. When hiring, we utilize employee referrals, diverse social media platforms, regional job fairs and partner with educational organizations across the United States to find diverse, qualified, motivated and responsible employees. We are dedicated to the continual training and development of our employees, especially those in field and branch operations. Our internal training focuses on safety, corporate and personal responsibility, product knowledge, behavioral development and ethical conduct. Other training courses offered outside of the company are attended by employees with specialized skills, knowledge or certifications as needed for their ongoing success and professional development.
Compensation and Benefits. We provide compensation and benefits programs to help meet the needs of our employees. In addition to salaries and wages, these programs (which vary by country) include annual bonuses, retirement plans such as a 401(k) plan, healthcare and insurance benefits, health savings accounts partially funded by the Company, standard flexible spending accounts, legal insurance, company-sponsored long and short term disability, accident and critical illness, paid time off, family leave, partially paid maternity and paternity leave, family care resources and employee assistance programs, among others. We also offer tuition reimbursement in certain circumstances to support the continued growth and development of our employees. Additionally, we use targeted equity-based grants with vesting conditions to facilitate the retention of key personnel.
Health and Safety. Our health and safety programs are designed around global standards with appropriate variations addressing the multiple jurisdictions and regulations, specific hazards and unique working environments of our manufacturing and production facilities, service centers and headquarter operations. We require each location to conduct regular safety evaluations to verify that expectations for safety program procedures and training are being met. We also engage in third party conformity assessments of our Health, Safety & Environment (“HSE”) processes to determine adherence to our HSE management system and to global health and safety standards. We monitor our Occupational Safety and Health Administration Total Recordable Incident Rate (“TRIR”) to assess our operation’s health and safety performance. TRIR is defined as the number of incidents per 100 full-time employees that have resulted in a recordable injury or illness in the pertinent period. During fiscal year 2020, we had a TRIR of 0.55 and no work-related fatalities.
We are committed to the health, safety and wellness of our employees. We provide our employees and their families with access to various flexible and convenient health and wellness programs. These programs include benefits that offer protection and security to have peace of mind concerning events that may require time away from work or impact their financial well-being. These tools also support their physical and mental health by providing resources to improve or maintain their health status. In response to the COVID-19 pandemic, we have implemented additional safety measures for employees performing critical on-site work. Our facilities implemented mandatory personal protective wear, extensive deep cleaning and sanitation processes. Any associate who has exhibited symptoms or believes they may have been exposed to the virus is tested and quarantined based on guidelines provided by the Centers for Disease Control and Prevention. We provide paid time off for our associates who miss work due to COVID at their regular pay. Additionally, we have allowed administrative employees to work from home if desired.
Available Information
Our principal executive offices are located at 920 Memorial City Way, Suite 300, Houston, TX 77024, and our telephone number at that address is (713) 626‑8800. Our website address is www.CactusWHD.com. Our periodic reports and other information filed with or furnished to the Securities and Exchange Commission (“SEC”) are available, free of charge, through our website, as soon as reasonably practicable after those reports and other information are electronically filed with or furnished to the SEC. Information on our website or any other website is not incorporated by reference into this Annual Report and does not constitute a part of this Annual Report.
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Item 1A. Risk Factors
Investing in our Class A common stock involves risks. You should carefully consider the information in this Annual Report, including the matters addressed under “Cautionary Statement Regarding Forward‑Looking Statements,” and the following risks before making an investment decision. Our business, results of operations and financial condition could be materially and adversely affected by any of these risks. Additional risks or uncertainties not currently known to us, or that we deem immaterial, may also have an effect on our business, results of operations and financial condition. The trading price of our Class A common stock could decline due to any of these risks, and you may lose all or part of your investment.
Risks Related to the Oilfield Services Industry and Our Business
The global outbreak of COVID-19 and associated responses has had, and is expected to continue to have, an adverse impact on our business and operations.
The COVID-19 pandemic has negatively affected, and is expected to continue to negatively affect, our business and operations and has had and continues to have a negative impact on the oil and gas industry as well as the global economy. In an attempt to slow the spread of the COVID-19 virus, governments worldwide have implemented measures such as travel restrictions, school and business closures and stay-at-home or shelter-in-place orders. These actions have severely reduced the demand for fossil fuels which, in turn, has adversely affected demand for our products and services.
We have experienced, and may experience in the future, slowdowns or temporary idling of certain of our manufacturing and production facilities due to a number of factors, including implementing additional safety measures, testing of our team members, team member absenteeism and governmental orders. In January 2020, our production facility in Suzhou, China closed for 10 days as a result of a government mandated closure. We cannot be sure the Suzhou facility will not face additional closures in the future. A prolonged closure could have a material adverse impact on our ability to operate our business and on our results of operations. We have also experienced, and expect to continue to experience, disruption and volatility in our supply chain, which has resulted, and may continue to result, in increased costs for certain raw materials. The spread of COVID-19 has also disrupted and may continue to disrupt logistics necessary to import, export and deliver products to us and our customers. Ports and other channels of entry have been closed or were operating at only a portion of capacity, as workers have been prohibited or otherwise unable to report to work, and means of transporting products within regions or countries may be limited for the same reason.
As the United States and other countries have attempted to lessen travel restrictions and reopen their businesses and schools, even at reduced occupancy, there has been a resurgence in COVID-19 cases. Governmental authorities at the federal, state and local levels may increase or impose new or stricter social distancing directives, stay-at-home restrictions, travel bans, quarantines, workforce and workplace restrictions or other measures related to the resurgence of the virus. These actions and the broader economic impact of the COVID-19 pandemic have had, and are expected to continue to have, an adverse effect on our business, results of operations and financial condition. The duration of the pandemic and its continued adverse impact on commodity prices and the oil and gas industry are unknown and impossible to predict with certainty. Additionally, there remains uncertainty with regard to whether new work from home policies will remain in place once our communities achieve herd immunity and can return to the office safely. Despite vaccines being distributed worldwide, the extent of future impacts of the coronavirus and any new variants that cause COVID-19 on general economic conditions and on our business, operations and results of operations remains uncertain.
Demand for our products and services depends on oil and gas industry activity and customer expenditure levels, which are directly affected by trends in the demand for and price of crude oil and natural gas and availability of capital.
Demand for our products and services depends primarily upon the general level of activity in the oil and gas industry, including the number of drilling rigs in operation, the number of oil and gas wells being drilled, the depth and drilling conditions of these wells, the volume of production, the number of well completions and the level of well remediation activity, and the corresponding capital spending by oil and gas companies. Oil and gas activity is in turn heavily influenced by, among other factors, current and anticipated oil and natural gas prices locally and worldwide, which have historically been volatile. Declines, as well as anticipated declines, in oil and gas prices could negatively affect the level of these activities and capital spending, which could adversely affect demand for our products and services and, in certain instances, result in the cancellation, modification or rescheduling of existing and expected orders and the ability of our customers to pay us for our products and services. These factors could have an adverse effect on our results of operations, financial condition and cash flows.
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Factors affecting the prices of oil and natural gas include, but are not limited to, the following:
•demand for hydrocarbons, which is affected by worldwide population growth, economic growth rates and general economic and business conditions;
•available excess production capacity within OPEC and the level of oil and gas production by non‑OPEC countries;
•the continued development of shale plays which may influence worldwide supply;
•transportation differentials associated with reduced capacity in and out of the storage hub in Cushing, Oklahoma;
•costs of exploring for, producing and delivering oil and natural gas;
•political and economic uncertainty and sociopolitical unrest;
•oil refining activity and shifts in end‑customer preferences toward fuel efficiency and increased transition to electric vehicles;
•conservation measures and technological advances affecting energy consumption;
•potential acceleration of the commercial development of alternative energy sources (such as wind, solar, geothermal, tidal, fuel cells and biofuels);
•access to capital and credit markets, which may affect our customers’ activity levels and spending for our products and services;
•changes in laws and regulations related to hydraulic fracturing activities or oil and gas drilling, particularly on public properties;
•changes in environmental laws and regulations (including relating to the use of coal in power plants which can impact the demand for natural gas);
•adverse weather conditions and natural disasters;
•terrorist attacks and armed conflicts; and
•global pandemics.
The oil and gas industry is cyclical and has historically experienced periodic downturns, which have been characterized by diminished demand for our products and services and downward pressure on the prices we charge. These downturns cause many exploration and production (“E&P”) companies to reduce their capital budgets and drilling activity. Any future downturn or expected downturn could result in a significant decline in demand for oilfield services and adversely affect our results of operations, financial condition and cash flows.
Growth in U.S. drilling and completion activity, and our ability to benefit from such growth, could be adversely affected by any significant constraints in equipment, labor or takeaway capacity in the regions in which we operate.
Growth in U.S. drilling and completion activity may be impacted by, among other things, pressure pumping capacity, pipeline capacity, and material and labor shortages. While there is no perceived shortage in capacity, should significant growth in activity occur there could be concerns over availability of the equipment, materials and labor required to drill and complete a well, together with the ability to move the produced oil and natural gas to market. Should significant constraints develop that materially impact the economics of oil and gas producers, growth in U.S. drilling and completion activity could be adversely affected. This would have an adverse impact on the demand for the products we sell and rent, which could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We may be unable to employ a sufficient number of skilled and qualified workers to sustain or expand our current operations.
The delivery of our products and services requires personnel with specialized skills and experience. Our ability to be productive and profitable will depend upon our ability to attract and retain skilled workers. In addition, our ability to expand our operations depends in part on our ability to increase the size of our skilled labor force. The demand for skilled workers is high while supply is limited, and the cost to attract and retain qualified personnel has increased. During industry downturns, skilled workers may leave the industry, reducing the availability of qualified workers when conditions improve. In addition, a significant increase in the wages paid by competing employers could result in increases in the wage rates that we must pay. If we are not able to employ and retain skilled workers, our ability to respond quickly to customer demands or strong market conditions may inhibit our growth, which could have a material adverse effect on our business, results of operations and financial condition.
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Our business is dependent on the continuing services of certain of our key managers and employees.
We depend on key personnel. The loss of key personnel could adversely impact our business if we are unable to implement certain strategies or transactions in their absence. The loss of qualified employees or an inability to retain and motivate additional highly‑skilled employees required for the operation and expansion of our business could hinder our ability to successfully maintain and expand our market share.
Equity interests in us are a substantial portion of the net worth of our executive officers and several of our other senior managers. Following the completion of our IPO, those executive officers and other senior managers have increased liquidity with respect to their equity interests in us. As a result, those executive officers and senior managers may have less incentive to remain employed by us. After terminating their employment with us, some of them may become employed by our competitors.
Political, regulatory, economic and social disruptions in the countries in which we conduct business could adversely affect our business or results of operations.
In addition to our facilities in the United States, we operate one production facility in China and have facilities in Australia that sell and rent equipment as well as provide parts, repair services and field services associated with installation. Instability and unforeseen changes in any of the markets in which we conduct business could have an adverse effect on the demand for, or supply of, our products and services, our results of operations and our financial condition. These factors include, but are not limited to, the following:
•nationalization and expropriation;
•potentially burdensome taxation;
•inflationary and recessionary markets, including capital and equity markets;
•civil unrest, labor issues, political instability, natural disasters, terrorist attacks, cyber‑terrorism, military activity and wars;
•outbreaks of pandemic or contagious diseases;
•supply disruptions in key oil producing countries;
•tariffs, trade restrictions, trade protection measures or price controls;
•foreign ownership restrictions;
•import or export licensing requirements;
•restrictions on operations, trade practices, trade partners and investment decisions resulting from domestic and foreign laws and regulations;
•changes in, and the administration of, laws and regulations;
•inability to repatriate income or capital;
•reductions in the availability of qualified personnel;
•development and implementation of new technologies;
•foreign currency fluctuations or currency restrictions; and
•fluctuations in the interest rate component of forward foreign currency rates.
We are dependent on a relatively small number of customers in a single industry. The loss of an important customer could adversely affect our results of operations and financial condition.
Our customers are engaged in the oil and natural gas E&P business primarily in the United States and also Australia. Historically, we have been dependent on a relatively small number of customers for our revenues. Our business, results of operations and financial condition could be materially adversely affected if an important customer ceases to engage us for our services on favorable terms, or at all, or fails to pay or delays paying us significant amounts of our outstanding receivables. Additionally, the E&P industry is characterized by frequent consolidation activity. Changes in ownership of our customers may result in the loss of, or reduction in, business from those customers, which could materially and adversely affect our business, results of operations and financial condition.
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Delays in obtaining, or inability to obtain or renew, permits or authorizations by our customers for their operations could impair our business.
In both the United States and Australia, our customers are required to obtain permits or authorizations from one or more governmental agencies or other third parties to perform drilling and completion activities, including hydraulic fracturing. Such permits or approvals are typically required by state agencies but can also be required by federal and local governmental agencies or other third parties. The requirements for such permits or authorizations vary depending on the location where such drilling and completion activities will be conducted. As with most permitting and authorization processes, there is a degree of uncertainty as to whether a permit will be granted, the time it will take for a permit or approval to be issued and the conditions which may be imposed in connection with the granting of the permit. In some jurisdictions, certain regulatory authorities have delayed or suspended the issuance of permits or authorizations while the potential environmental impacts associated with issuing such permits can be studied and appropriate mitigation measures evaluated. In Texas, rural water districts have begun to impose restrictions on water use and may require permits for water used in drilling and completion activities. In addition, in January 2021, President Biden indefinitely suspended new oil and natural gas leases on public lands or in offshore waters pending completion of a comprehensive review and reconsideration of federal oil and gas permitting and leasing practices. This review could result in additional restrictions or limitations on the issuance of federal leases and permits for drilling on public lands. Permitting, authorization or renewal delays, the inability to obtain new permits or the revocation of current permits could impact our customers’ operations and cause a loss of revenue and potentially have a materially adverse effect on our business, results of operations and financial condition.
Competition within the oilfield services industry may adversely affect our ability to market our services.
The oilfield services industry is highly competitive and fragmented and includes numerous small companies capable of competing effectively in our markets on a local basis, as well as several large companies that possess substantially greater financial and other resources than we do. The amount of equipment available may exceed demand, which could result in active price competition. Many contracts are awarded on a bid basis, which may further increase competition based primarily on price. In addition, adverse market conditions lower demand for well servicing equipment, which results in excess equipment and lower utilization rates. If market conditions in our operating areas deteriorate from current levels or if adverse market conditions persist, the prices we are able to charge and utilization rates may decline. Any significant future increase in overall market capacity for the products, rental equipment or services that we offer could adversely affect our business and results of operations.
New technology may cause us to become less competitive.
The oilfield services industry is subject to the introduction of new drilling and completions techniques and services using new technologies, some of which may be subject to patent or other intellectual property protections. Although we believe our equipment and processes currently give us a competitive advantage, as competitors and others use or develop new or comparable technologies in the future, we may lose market share or be placed at a competitive disadvantage. Further, we may face competitive pressure to develop, implement or acquire certain new technologies at a substantial cost. Some of our competitors have greater financial, technical and personnel resources that may allow them to enjoy various competitive advantages in the development and implementation of new technologies. We cannot be certain that we will be able to continue to develop and implement new technologies or products. Limits on our ability to develop, bring to market, effectively use and implement new and emerging technologies may have a material adverse effect on our business, results of operations and financial condition, including a reduction in the value of assets replaced by new technologies.
Increased costs, or lack of availability, of raw materials and other components may result in increased operating expenses and adversely affect our results of operations and cash flows.
Our ability to source low cost raw materials and components, such as steel castings, bar stock and forgings, is critical to our ability to manufacture and sell our products and provide our services competitively. Our results of operations may be adversely affected by our inability to manage rising costs and availability of raw materials and components, in particular steel, used in our wide variety of products and systems. Additionally, freight costs, specifically ocean freight costs, may rise due to a number of factors including, but not limited to a shortage of shipping containers, congested seaports, capacity constraints on vessels or lockdown in certain markets. We cannot assure that we will be able to continue to purchase and move these materials on a timely basis or at commercially viable prices, nor can we be certain of the impact of changes to tariffs and future legislation that may impact trade with China or other countries. Further, unexpected changes in the size of regional and/or product markets, particularly for short lead‑time products, could affect our results of operations and cash flows. Should our current suppliers be unable to provide the necessary raw materials or components or otherwise fail to deliver such materials and
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components timely and in the quantities required, resulting delays in the provision of products or services to our customers could have a material adverse effect on our business.
In accordance with Section 1502 of the Dodd‑Frank Act, the SEC’s rules regarding mandatory disclosure and reporting requirements by public companies of their use of “conflict minerals” (tantalum, tin, tungsten and gold) originating in the Democratic Republic of Congo and adjoining countries became effective in 2014. While the conflict minerals rule continues in effect as adopted, there remains uncertainty regarding how the conflict minerals rule, and our compliance obligations, will be affected in the future. Additional requirements under the rule could affect sourcing at competitive prices and availability in sufficient quantities of tungsten, which is used in the manufacture of our products or in the provision of our services. This could have a material adverse effect on our ability to purchase these products in the future. The costs of compliance, including those related to supply chain research, the limited number of suppliers and possible changes in the sourcing of these minerals, could have a material adverse effect on our results of operations and cash flows.
We design, manufacture, sell, rent and install equipment that is used in oil and gas E&P activities, which may subject us to liability, including claims for personal injury, property damage and environmental contamination should such equipment fail to perform to specifications.
We provide products and systems to customers involved in oil and gas exploration, development and production. Some of our equipment is designed to operate in high‑temperature and/or high‑pressure environments, and some equipment is designed for use in hydraulic fracturing operations. We also provide parts, repair services and field services associated with installation at all of our facilities and service centers in the United States and Australia, as well as at customer sites. Because of applications to which our products and services are exposed, particularly those involving high pressure environments, a failure of such equipment, or a failure of our customers to maintain or operate the equipment properly, could cause damage to the equipment, damage to the property of customers and others, personal injury and environmental contamination and could lead to a variety of claims against us that could have an adverse effect on our business and results of operations.
We indemnify our customers against certain claims and liabilities resulting or arising from our provision of goods or services to them. In addition, we rely on customer indemnifications, generally, and third‑party insurance as part of our risk mitigation strategy. However, our insurance may not be adequate to cover our liabilities. In addition, our customers may be unable to satisfy indemnification claims against them. Further, insurance companies may refuse to honor their policies, or insurance may not generally be available in the future, or if available, premiums may not be commercially justifiable. We could incur substantial liabilities and damages that are either not covered by insurance or that are in excess of policy limits, or incur liability at a time when we are not able to obtain liability insurance. Such potential liabilities could have a material adverse effect on our business, results of operations, financial condition and cash flows.
Our operations are subject to hazards inherent in the oil and natural gas industry, which could expose us to substantial liability and cause us to lose customers and substantial revenue.
Risks inherent in our industry include the risks of equipment defects, installation errors, the presence of multiple contractors at the wellsite over which we have no control, vehicle accidents, fires, explosions, blowouts, surface cratering, uncontrollable flows of gas or well fluids, pipe or pipeline failures, abnormally pressured formations and various environmental hazards such as oil spills and releases of, and exposure to, hazardous substances. For example, our operations are subject to risks associated with hydraulic fracturing, including any mishandling, surface spillage or potential underground migration of fracturing fluids, including chemical additives. The occurrence of any of these events could result in substantial losses to us due to injury or loss of life, severe damage to or destruction of property, natural resources and equipment, pollution or other environmental damage, clean‑up responsibilities, regulatory investigations and penalties, suspension of operations and repairs required to resume operations. The cost of managing such risks may be significant. The frequency and severity of such incidents will affect operating costs, insurability and relationships with customers, employees and regulators. In particular, our customers may elect not to purchase our products or services if they view our environmental or safety record as unacceptable, which could cause us to lose customers and substantial revenues.
Our insurance may not be adequate to cover all losses or liabilities we may suffer. Also, insurance may no longer be available to us or its availability may be at premium levels that do not justify its purchase. The occurrence of a significant uninsured claim, a claim in excess of the insurance coverage limits maintained by us or a claim at a time when we are not able to obtain liability insurance could have a material adverse effect on our ability to conduct normal business operations and on our results of operations, financial condition and cash flows. In addition, we may not be able to secure additional insurance or bonding that might be required by new governmental regulations. This may cause us to restrict our operations, which might severely impact our financial condition.
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Oilfield anti-indemnity provisions enacted by many states may restrict or prohibit a party’s indemnification of us.
We typically enter into agreements with our customers governing the provision of our services, which usually include certain indemnification provisions for losses resulting from operations. Such agreements may require each party to indemnify the other against certain claims regardless of the negligence or other fault of the indemnified party; however, many states place limitations on contractual indemnity agreements, particularly agreements that indemnify a party against the consequences of its own negligence. Furthermore, certain states, including Louisiana, New Mexico, Texas, and Wyoming, have enacted statutes generally referred to as “oilfield anti-indemnity acts” expressly prohibiting certain indemnity agreements contained in or related to oilfield services agreements. Such oilfield anti-indemnity acts may restrict or void a party’s indemnification of us, which could have a material adverse effect on our business, financial condition, prospects, and results of operations.
Our operations require us to comply with various domestic and international regulations, violations of which could have a material adverse effect on our results of operations, financial condition and cash flows.
We are exposed to a variety of federal, state, local and international laws and regulations relating to matters such as environmental, workplace, health and safety, labor and employment, customs and tariffs, export and re-export controls, economic sanctions, currency exchange, bribery and corruption and taxation. These laws and regulations are complex, frequently change and have tended to become more stringent over time. They may be adopted, enacted, amended, enforced or interpreted in such a manner that the incremental cost of compliance could adversely impact our results of operations, financial condition and cash flows.
Our operations outside of the United States require us to comply with numerous anti‑bribery and anti‑corruption regulations. The U.S. Foreign Corrupt Practices Act, among others, applies to us and our operations. Our policies, procedures and programs may not always protect us from reckless or criminal acts committed by our employees or agents, and severe criminal or civil sanctions may be imposed as a result of violations of these laws. We are also subject to the risks that our employees and agents outside of the United States may fail to comply with applicable laws.
In addition, we import raw materials, semi‑finished goods, and finished products into the United States, China and Australia for use in such countries or for manufacturing and/or finishing for re‑export and import into another country for use or further integration into equipment or systems. Most movement of raw materials, semi‑finished or finished products involves imports and exports. As a result, compliance with multiple trade sanctions, embargoes and import/export laws and regulations pose a constant challenge and risk to us since a portion of our business is conducted outside of the United States through our subsidiaries. Our failure to comply with these laws and regulations could materially affect our business, results of operations and financial condition.
Compliance with environmental laws and regulations may adversely affect our business and results of operations.
Environmental laws and regulations in the United States and foreign countries affect the equipment, systems and services we design, market and sell, as well as the facilities where we manufacture and produce our equipment and systems in the United States and China, and opportunities our customers pursue that create demand for our products. For example, we may be affected by such laws as the Resource Conservation and Recovery Act, the Comprehensive Environmental Response, Compensation, and Liability Act, the Clean Water Act, the Clean Air Act and the Occupational Safety and Health Act of 1970. Further, our customers may be subject to a range of laws and regulations governing hydraulic fracturing, drilling and greenhouse gas emissions.
We are required to invest financial and managerial resources to comply with environmental laws and regulations and believe that we will continue to be required to do so in the future. Failure to comply with these laws and regulations may result in the assessment of administrative, civil and criminal penalties, the imposition of remedial obligations, or the issuance of orders enjoining operations. These laws and regulations, as well as the adoption of other new laws and regulations affecting our operations or the exploration and production and transportation of crude oil and natural gas by our customers, could adversely affect our business and operating results by increasing our costs of compliance, increasing the costs of compliance and costs of doing business for our customers, limiting the demand for our products and services or restricting our operations. Increased regulation or a move away from the use of fossil fuels caused by additional regulation could also reduce demand for our products and services.
Existing or future laws and regulations related to greenhouse gases and public sentiment associated with climate change could have a negative impact on our business and may result in additional compliance obligations with respect
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to the release, capture, and use of greenhouse gases that could have a material adverse effect on our business, results of operations, prospects, and financial condition.
Changes in environmental requirements related to greenhouse gas emissions and public sentiment associated with climate change may negatively impact demand for our products and services. For example, oil and natural gas E&P may decline as a result of environmental requirements, including land use policies and other actions to restrict oil and gas leasing and permitting in response to environmental and climate change concerns. In January 2021, the Acting Secretary of the Department of the Interior issued an order suspending new leasing and drilling permits for fossil fuel production on federal lands and waters for 60 days. Then on January 27, 2021, President Biden issued an executive order indefinitely suspending new oil and natural gas leases on public lands or in offshore waters pending completion of a comprehensive review and reconsideration of federal oil and gas permitting and leasing practices. To the extent that the review results in the development of additional restrictions on drilling, limitations on the availability of leases, or restrictions on the ability to obtain required permits, it could impact our customers’ opportunities and reduce demand for our products and services in the aforementioned areas.
Federal, state, and local agencies have been evaluating climate-related legislation and other regulatory initiatives that would restrict emissions of greenhouse gases in areas in which we conduct business. Because our business depends on the level of activity in the oil and natural gas industry, existing or future laws and regulations related to greenhouse gases and sentiment to climate change, including incentives to conserve energy or use alternative energy sources, could have a negative impact on our business if such laws or regulations reduce demand for oil and natural gas. Likewise, such restrictions may result in additional compliance obligations with respect to the release, capture, sequestration, and use of greenhouse gases. These additional obligations could increase our costs and have a material adverse effect on our business, results of operations, prospects, and financial condition. Additional compliance obligations could also increase costs of compliance and costs of doing business for our customers, thereby reducing demand for our products and services. Finally, increasing concentrations of greenhouse gases in the Earth’s atmosphere may produce climate changes that could have significant physical effects, such as increased frequency and severity of storms, droughts, floods and other climatic events; if such effects were to occur, they could have an adverse impact on our operations.
Risks Related to Our Class A Common Stock
We are a holding company whose only material asset is our equity interest in Cactus LLC, and accordingly, we are dependent upon distributions from Cactus LLC to pay taxes, make payments under the TRA and cover our corporate and other overhead expenses and pay dividends to holders of our class A common stock.
We are a holding company and have no material assets other than our equity interest in Cactus LLC. We have no independent means of generating revenue. To the extent Cactus LLC has available cash and subject to the terms of any current or future credit agreements or debt instruments, we intend to cause Cactus LLC to make (i) pro rata distributions to its unitholders, including us, in an amount at least sufficient to allow us to pay our taxes and to make payments under the TRA and (ii) non‑pro rata payments to us to reimburse us for our corporate and other overhead expenses. To the extent that we need funds and Cactus LLC or its subsidiaries are restricted from making such distributions or payments under applicable law or regulation or under the terms of any future financing arrangements, or are otherwise unable to provide such funds, our financial condition and liquidity could be materially adversely affected. In addition, our ability to pay dividends to holders of our Class A common stock depends on receipt of distributions from Cactus LLC.
Moreover, because we have no independent means of generating revenue, our ability to make payments under the TRA is dependent on the ability of Cactus LLC to make distributions to us in an amount sufficient to cover our obligations under the TRA. This ability, in turn, may depend on the ability of Cactus LLC’s subsidiaries to make distributions to it. The ability of Cactus LLC and its subsidiaries to make such distributions will be subject to, among other things, (i) the applicable provisions of Delaware law (or other applicable U.S. and foreign jurisdictions) that may limit the amount of funds available for distribution and (ii) restrictions in relevant debt instruments issued by Cactus LLC or its subsidiaries. To the extent that we are unable to make payments under the TRA for any reason, such payments will be deferred and will accrue interest until paid.
Cadent and Cactus WH Enterprises LLC have the ability to direct the voting of a significant percentage of the voting power of our common stock, and their interests may conflict with those of our other shareholders.
Holders of Class A common stock and Class B common stock vote together as a single class on all matters presented to our stockholders for their vote or approval, except as otherwise required by applicable law or our amended and restated certificate of incorporation. Cadent and Cactus WH Enterprises owned approximately 11% and 23% of our voting power, respectively, as of December 31, 2020. As a result, Cadent and Cactus WH Enterprises effectively control matters requiring stockholder approval, including the election of directors, changes to our organizational documents and significant corporate
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transactions. This concentration of ownership will limit your ability to affect the way we are managed or the direction of our business. The interests of Cadent and Cactus WH Enterprises with respect to matters potentially or actually involving or affecting us, such as future acquisitions, financings and other corporate opportunities and attempts to acquire us, may conflict with the interests of our other stockholders. In addition, the Chairman of our board of directors is currently a member of Cadent Energy Partners LLC. This director’s duties as a partner of Cadent Energy Partners LLC may conflict with his duties as our director, and the resolution of these conflicts may not always be in our or your best interest. Furthermore, in connection with our IPO, we entered into a stockholders’ agreement with Cadent and Cactus WH Enterprises. Among other things, the stockholders’ agreement provides each of Cadent and Cactus WH Enterprises with the right to designate a certain number of nominees to our board of directors so long as they and their respective affiliates collectively beneficially own at least 5% of the outstanding shares of our common stock. The existence of significant stockholders and the stockholders’ agreement may have the effect of deterring hostile takeovers, delaying or preventing changes in control or changes in management or limiting the ability of our other stockholders to approve transactions that they may deem to be in our best interests. Cadent and Cactus WH Enterprises’ concentration of stock ownership may also adversely affect the trading price of our Class A common stock to the extent investors perceive a disadvantage in owning stock of a company with significant stockholders. See “Item 13. Certain Relationships and Related Party Transactions, and Director Independence—Stockholders’ Agreement.”
Certain of our directors have significant duties with, and spend significant time serving, entities that may compete with us in seeking acquisitions and business opportunities and, accordingly, may have conflicts of interest in allocating time or pursuing business opportunities.
Certain of our directors, who are responsible for managing the direction of our operations and acquisition activities, hold positions of responsibility with other entities (including Cadent and its affiliated entities) whose businesses are similar to our business. The existing positions held by these directors may give rise to fiduciary or other duties that are in conflict with the duties they owe to us. These directors may become aware of business opportunities that may be appropriate for presentation to us as well as to the other entities with which they are or may become affiliated. Due to these existing and potential future affiliations, they may present potential business opportunities to other entities prior to presenting them to us, which could cause additional conflicts of interest. They may also decide that certain opportunities are more appropriate for other entities with which they are affiliated, and as a result, they may elect not to present those opportunities to us. These conflicts may not be resolved in our favor.
Our amended and restated certificate of incorporation and amended and restated bylaws, as well as Delaware law, contain provisions that could discourage acquisition bids or merger proposals, which may adversely affect the market price of our Class A common stock.
Our amended and restated certificate of incorporation authorizes our board of directors to issue preferred stock without shareholder approval. If our board of directors elects to issue preferred stock, it could be more difficult for a third party to acquire us. In addition, some provisions of our amended and restated certificate of incorporation and amended and restated bylaws could make it more difficult for a third party to acquire control of us, even if the change of control would be beneficial to our shareholders, including:
•limitations on the removal of directors;
•limitations on the ability of our shareholders to call special meetings;
•establishing advance notice provisions for shareholder proposals and nominations for elections to the board of directors to be acted upon at meetings of shareholders;
•providing that the board of directors is expressly authorized to adopt, or to alter or repeal our bylaws; and
•establishing advance notice and certain information requirements for nominations for election to our board of directors or for proposing matters that can be acted upon by shareholders at shareholder meetings.
In addition, certain change of control events have the effect of accelerating the payment due under the TRA, which could be substantial and accordingly serve as a disincentive to a potential acquirer of our company.
Future sales of our Class A common stock in the public market, or the perception that such sales may occur, could reduce our stock price, and any additional capital raised by us through the sale of equity or convertible securities may dilute your ownership in us.
Subject to certain limitations and exceptions, the CW Unit Holders may cause Cactus LLC to redeem their CW Units for shares of Class A common stock (on a one‑for‑one basis, subject to conversion rate adjustments for stock splits, stock dividends and reclassification and other similar transactions) and then sell those shares of Class A common stock. Additionally,
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we may issue additional shares of Class A common stock or convertible securities in subsequent public offerings. We have 47,712,577 outstanding shares of Class A common stock and 27,655,077 outstanding shares of Class B common stock as of December 31, 2020. The CW Unit Holders own all 27,655,077 shares of Class B common stock, representing approximately 36.7% of our total outstanding common stock. As required pursuant to the terms of the registration rights agreement that we entered into at the time of our IPO, we have filed a registration statement on Form S-3 under the Securities Act of 1933, as amended, to permit the public resale of shares of Class A common stock owned by Cadent, Cactus WH Enterprises, Lee Boquet and certain existing members of our board of directors. See “Item 13. Certain Relationships and Related Party Transactions, and Director Independence—Stockholders’ Agreement” for more information.
We cannot predict the size of future issuances of our Class A common stock or securities convertible into Class A common stock or the effect, if any, that future issuances and sales of shares of our Class A common stock will have on the market price of our Class A common stock. Sales of substantial amounts of our Class A common stock (including shares issued in connection with an acquisition), or the perception that such sales could occur, may adversely affect prevailing market prices of our Class A common stock.
Cactus Inc. will be required to make payments under the TRA for certain tax benefits that we may claim, and the amounts of such payments could be significant.
In connection with our IPO, we entered into the TRA with the TRA Holders. This agreement generally provides for the payment by Cactus Inc. to each TRA Holder of 85% of the net cash savings, if any, in U.S. federal, state and local income tax and franchise tax that Cactus Inc. actually realizes or is deemed to realize in certain circumstances as a result of certain increases in tax basis and certain benefits attributable to imputed interest. Cactus Inc. will retain the benefit of the remaining 15% of these net cash savings.
The term of the TRA will continue until all tax benefits that are subject to the TRA have been utilized or expired, unless we exercise our right to terminate the TRA (or the TRA is terminated due to other circumstances, including our breach of a material obligation thereunder or certain mergers or other changes of control), and we make the termination payment specified in the TRA. In addition, payments we make under the TRA will be increased by any interest accrued from the due date (without extensions) of the corresponding tax return. Payments under the TRA commenced in 2019, and in the event that the TRA is not terminated, the payments under the TRA are anticipated to continue for approximately 20 years after the date of the last redemption of CW Units.
The payment obligations under the TRA are our obligations and not obligations of Cactus LLC, and we expect that the payments we will be required to make under the TRA will be substantial. Estimating the amount and timing of payments that may become due under the TRA Agreement is by its nature imprecise. For purposes of the TRA, cash savings in tax generally are calculated by comparing our actual tax liability (determined by using the actual applicable U.S. federal income tax rate and an assumed combined state and local income tax rate) to the amount we would have been required to pay had we not been able to utilize any of the tax benefits subject to the TRA. The amounts payable, as well as the timing of any payments under the TRA, are dependent upon significant future events and assumptions, including the timing of the redemption of CW Units, the price of our Class A common stock at the time of each redemption, the extent to which such redemptions are taxable transactions, the amount of the redeeming unit holder’s tax basis in its CW Units at the time of the relevant redemption, the depreciation and amortization periods that apply to the increase in tax basis, the amount and timing of taxable income we generate in the future and the U.S. federal income tax rates then applicable, and the portion of our payments under the TRA that constitute imputed interest or give rise to depreciable or amortizable tax basis. The payments under the TRA are not conditioned upon a holder of rights under the TRA having a continued ownership interest in us. For additional information regarding the TRA, see “Item 13. Certain Relationships and Related Party Transactions, and Director Independence—Tax Receivable Agreement.”
In certain cases, payments under the TRA may be accelerated and/or significantly exceed the actual benefits, if any, we realize in respect of the tax attributes subject to the TRA.
If we elect to terminate the TRA early or it is terminated early due to Cactus Inc.’s failure to honor a material obligation thereunder or due to certain mergers or other changes of control, our obligations under the TRA would accelerate and we would be required to make an immediate payment equal to the present value of the anticipated future payments to be made by us under the TRA (determined by applying a discount rate of one‑year LIBOR plus 150 basis points) and such payment is expected to be substantial. The calculation of anticipated future payments will be based upon certain assumptions and deemed events set forth in the TRA, including (i) the assumption that we have sufficient taxable income to fully utilize the tax benefits covered by the TRA and (ii) the assumption that any CW Units (other than those held by Cactus Inc.) outstanding on the
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termination date are deemed to be redeemed on the termination date. Any early termination payment may be made significantly in advance of the actual realization, if any, of the future tax benefits to which the termination payment relates.
As a result of either an early termination or a change of control, we could be required to make payments under the TRA that exceed our actual cash tax savings under the TRA. In these situations, our obligations under the TRA could have a substantial negative impact on our liquidity and could have the effect of delaying, deferring or preventing certain mergers, asset sales, or other forms of business combinations or changes of control. If the TRA were terminated as of December 31, 2020, the estimated termination payments, based on the assumptions discussed above, would have been approximately $315.1 million (calculated using a discount rate equal to one-year LIBOR plus 150 basis points, applied against an undiscounted liability of approximately $362.5 million). The foregoing number is merely an estimate and the actual payment could differ materially. There can be no assurance that we will be able to finance our obligations under the TRA.
Payments under the TRA are based on the tax reporting positions that we will determine. The TRA Holders will not reimburse us for any payments previously made under the TRA if any tax benefits that have given rise to payments under the TRA are subsequently disallowed, except that excess payments made to any TRA Holder will be netted against payments that would otherwise be made to such TRA Holder, if any, after our determination of such excess. As a result, in some circumstances, we could make payments that are greater than our actual cash tax savings, if any, and may not be able to recoup those payments, which could adversely affect our liquidity.
If Cactus LLC were to become a publicly traded partnership taxable as a corporation for U.S. federal income tax purposes, we and Cactus LLC might be subject to potentially significant tax inefficiencies, and we would not be able to recover payments previously made by us under the TRA even if the corresponding tax benefits were subsequently determined to have been unavailable due to such status.
We intend to operate such that Cactus LLC does not become a publicly traded partnership taxable as a corporation for U.S. federal income tax purposes. A “publicly traded partnership” is a partnership the interests of which are traded on an established securities market or are readily tradable on a secondary market or the substantial equivalent thereof. Under certain circumstances, redemptions of CW Units pursuant to the Redemption Right (or our Call Right) or other transfers of CW Units could cause Cactus LLC to be treated as a publicly traded partnership. Applicable U.S. Treasury regulations provide for certain safe harbors from treatment as a publicly traded partnership, and we intend to operate such that one or more such safe harbors shall apply. For example, we intend to limit the number of unitholders of Cactus LLC, and the Cactus Wellhead LLC Agreement, which was entered into in connection with the closing of our IPO, provides for limitations on the ability of CW Unit Holders to transfer their CW Units and provides us, as managing member of Cactus LLC, with the right to impose restrictions (in addition to those already in place) on the ability of unitholders of Cactus LLC to redeem their CW Units pursuant to the Redemption Right to the extent we believe it is necessary to ensure that Cactus LLC will continue to be treated as a partnership for U.S. federal income tax purposes.
If Cactus LLC were to become a publicly traded partnership, significant tax inefficiencies might result for us and for Cactus LLC, including as a result of our inability to file a consolidated U.S. federal income tax return with Cactus LLC. In addition, we would no longer have the benefit of certain increases in tax basis covered under the TRA, and we would not be able to recover any payments previously made by us under the TRA, even if the corresponding tax benefits (including any claimed increase in the tax basis of Cactus LLC’s assets) were subsequently determined to have been unavailable.
General Risks
A failure of our information technology infrastructure and cyberattacks could adversely impact us.
We depend on our information technology (“IT”) systems for the efficient operation of our business. Accordingly, we rely upon the capacity, reliability and security of our IT hardware and software infrastructure and our ability to expand and update this infrastructure in response to our changing needs. Despite our implementation of security measures, our systems are vulnerable to damage from computer viruses, natural disasters, incursions by intruders or hackers, failures in hardware or software, power fluctuations, cyber terrorists and other similar disruptions. Additionally, we rely on third parties to support the operation of our IT hardware and software infrastructure, and in certain instances, utilize web‑based applications. The failure of our IT systems or those of our vendors to perform as anticipated for any reason or any significant breach of security could disrupt our business and result in numerous adverse consequences, including reduced effectiveness and efficiency of operations, inappropriate disclosure of confidential and proprietary information, reputational harm, increased overhead costs and loss of important information, which could have a material adverse effect on our business and results of operations. In addition, we may be required to incur significant costs to protect against damage caused by these disruptions or security breaches in the future.
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Holders of our Class A common stock may not receive dividends on their Class A common stock.
We declared our first dividend to Class A stockholders in the fourth quarter of 2019. Holders of our Class A common stock are entitled to receive only such dividends as our board of directors may declare out of funds legally available for such payments. We are incorporated in Delaware and are governed by the Delaware General Corporation Law (“DGCL”). The DGCL allows a corporation to pay dividends only out of a surplus, as determined under Delaware law or, if there is no surplus, out of net profits for the fiscal year in which the dividend was declared and for the preceding fiscal year. Under the DGCL, however, we cannot pay dividends out of net profits if, after we pay the dividend, our capital would be less than the capital represented by the outstanding stock of all classes having a preference upon the distribution of assets. We are not required to pay a dividend, and any determination to pay dividends and other distributions in cash, stock or property by us in the future (including determinations as to the amount of any such dividend or distribution) will be at the discretion of our board of directors and will be dependent on then-existing conditions, including business conditions, our financial condition, results of operations, liquidity, capital requirements, contractual restrictions, including restrictive covenants contained in debt agreements, and other factors.
If we are unable to fully protect our intellectual property rights or trade secrets, we may suffer a loss in revenue or any competitive advantage or market share we hold, or we may incur costs in litigation defending intellectual property rights.
While we have some patents and others pending, we do not have patents relating to many of our key processes and technology. If we are not able to maintain the confidentiality of our trade secrets, or if our competitors are able to replicate our technology or services, our competitive advantage would be diminished. We also cannot provide any assurance that any patents we may obtain in the future would provide us with any significant commercial benefit or would allow us to prevent our competitors from employing comparable technologies or processes. We may initiate litigation from time to time to protect and enforce our intellectual property rights. In any such litigation, a defendant may assert that our intellectual property rights are invalid or unenforceable. Third parties from time to time may also initiate litigation against us by asserting that our businesses infringe, impair, misappropriate, dilute or otherwise violate another party’s intellectual property rights. We may not prevail in any such litigation, and our intellectual property rights may be found invalid or unenforceable or our products and services may be found to infringe, impair, misappropriate, dilute or otherwise violate the intellectual property rights of others. The results or costs of any such litigation may have an adverse effect on our business, results of operations and financial condition. Any litigation concerning intellectual property could be protracted and costly, is inherently unpredictable and could have an adverse effect on our business, regardless of its outcome.
Item 1B. Unresolved Staff Comments
None.
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Item 2. Properties
The following table sets forth information with respect to our principal facilities as of December 31, 2020. We do not believe any of the omitted properties, consisting primarily of sales offices and service centers, are individually or collectively material to our operations or business. We believe that our facilities are suitable and adequate for our current operations.
| Location | Type | Own/ Lease | ||||||||||||
| United States | ||||||||||||||
Bossier City, LA(1) | Manufacturing Facility and Service Center | Lease | ||||||||||||
Bossier City, LA(1) | Manufacturing and Assembly Facilities, Warehouse and Land | Own | ||||||||||||
| Donora, PA | Service Center | Lease | ||||||||||||
DuBois, PA(2) | Service Center | Lease | ||||||||||||
| Hobbs, NM | Service Center / Land | Own | ||||||||||||
| Houston, TX | Administrative Headquarters | Lease | ||||||||||||
| New Waverly, TX | Service Center / Land | Own | ||||||||||||
| Odessa, TX | Service Center | Lease | ||||||||||||
| Odessa, TX | Land | Own | ||||||||||||
| Oklahoma City, OK | Service Center | Lease | ||||||||||||
Pleasanton, TX(2) | Service Center | Lease | ||||||||||||
Williston, ND(2) | Service Center | Lease | ||||||||||||
| China and Australia | ||||||||||||||
| Queensland, Australia | Service Centers and Offices / Land | Lease | ||||||||||||
| Suzhou, China | Production Facility and Offices | Lease | ||||||||||||
(1) Consists of various facilities adjacent to each other constituting our manufacturing facility, assembly facility, warehouse and service center.
(2) We also own land adjacent to these facilities.
Item 3. Legal Proceedings
Due to the nature of our business, we are, from time to time, involved in routine litigation or subject to disputes or claims related to our business activities, including workers’ compensation claims and employment related disputes. In the opinion of our management, there is no pending litigation, dispute or claim against us that, if decided adversely, will have a material adverse effect on our results of operations, financial condition or cash flows.
Item 4. Mine Safety Disclosures
Not applicable.
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Common Stock
We have issued and outstanding two classes of common stock, Class A common stock and Class B common stock. Holders of Class B common stock own a corresponding number of CW Units which may be redeemed for shares of Class A common stock. The principal market for our Class A common stock is the New York Stock Exchange (“NYSE”), where it is traded under the symbol “WHD.” No public trading market currently exists for our Class B common stock. As of December 31, 2020, there was one holder of record of our Class A common stock. This number excludes owners for whom Class A common stock may be held in “street name.” There were five holders of record of our Class B common stock.
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Dividends
In October 2019, our board of directors authorized the introduction of a regular quarterly cash dividend of $0.09 per share of Class A common stock. Dividends are not paid to our Class B common stock holders; however, a corresponding distribution up to the same amount per share as our Class A common stockholders is paid to our CW Unitholders for any dividends declared on our Class A common stock. We have paid quarterly dividends uninterrupted since initiation of the program by our board of directors. In fiscal year 2020, the annual dividend rate for our Class A common stock was $0.36 per share. We currently intend to continue paying the quarterly dividend while retaining the balance of future earnings, if any, to finance the growth of our business. However, our future dividend policy is within the discretion of our board of directors and will depend upon then-existing conditions, including our results of operations, financial condition, capital requirements, investment opportunities, statutory and contractual restrictions on our ability to pay dividends and other factors our board of directors may deem relevant.
Performance Graph
The graph below compares the cumulative total shareholder return on our common stock to the S&P 500 Index, the S&P Oil & Gas Equipment & Services Index and the PHLX Oil Service Index from the date our common stock began trading through December 31, 2020. The total shareholder return assumes $100 invested on February 7, 2018 in Cactus Inc., the S&P 500 Index, the S&P Oil & Gas Equipment & Services Index and the PHLX Oil Service Index. It also assumes reinvestment of all dividends. The following graph and related information shall not be deemed “soliciting material” or to be “filed” with the SEC, nor shall such information be incorporated by reference into any future filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent that Cactus Inc. specifically incorporates it by reference into such filing.
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Issuer Purchases of Equity Securities
The following sets forth information with respect to our repurchase of Class A common stock during the three months ended December 31, 2020 (in whole shares).
| Period | Total number of shares purchased(1) | Average price paid per share(2) | ||||||
| October 1-31, 2020 | 983 | $ | 18.71 | |||||
| November 1-30, 2020 | 595 | 23.21 | ||||||
| December 1-31, 2020 | 716 | 26.53 | ||||||
| Total | 2,294 | $ | 22.32 | |||||
(1) Consists of shares of Class A common stock repurchased from employees to satisfy tax withholding obligations related to restricted stock units that vested during the period.
(2) Average price paid for Class A common stock purchased from employees to satisfy tax withholding obligations related to restricted stock units that vested during the period.
Item 6. (Reserved)
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Except as otherwise indicated or required by the context, all references in this Annual Report to the “Company,” “Cactus,” “we,” “us” and “our” refer to Cactus, Inc. and its consolidated subsidiaries, unless we state otherwise or the context otherwise requires. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying consolidated financial statements and related notes. The following discussion contains “forward-looking statements” that reflect our plans, estimates, beliefs and expected performance. Our actual results may differ materially from those anticipated as discussed in these forward-looking statements as a result of a variety of risks and uncertainties, including those described in “Cautionary Statement Regarding Forward-Looking Statements” and “Item 1A. Risk Factors” included elsewhere in this Annual Report, all of which are difficult to predict. In light of these risks, uncertainties and assumptions, the forward-looking events discussed may not occur. We assume no obligation to update any of these forward-looking statements except as otherwise required by law.
This section includes comparisons of certain 2020 financial information to the same information for 2019. Year-to-year comparisons of the 2019 financial information to the same information for 2018 are contained in “Item 7. Management’s Discussion and Analysis of Financial Condition and Result of Operations” of our Annual Report on Form 10-K for the year ended December 31, 2019 filed with the Securities and Exchange Commission on February 28, 2020, which comparative information and the information therein under the caption “Factors Affecting the Comparability of our Financial Condition and Results of Operations” are incorporated by reference herein.
Market Factors
See “Item 1. Business” for information on our products and business. Demand for our products and services depends primarily upon the general level of activity in the oil and gas industry, including the number of drilling rigs in operation, the number of oil and gas wells being drilled, the depth and drilling conditions of these wells, the number of well completions, the level of well remediation activity, the volume of production and the corresponding capital spending by oil and natural gas companies. Oil and gas activity is in turn heavily influenced by, among other factors, oil and gas prices locally and worldwide, which have historically been volatile.
The key market factors impacting our product sales are the number of wells drilled and placed on production, as each well requires an individual wellhead assembly and, at some time after completion, the installation of an associated production tree. We measure our product sales activity levels against our competitors by the number of rigs that we are supporting on a monthly basis as it is correlated to wells drilled. Each active drilling rig produces different levels of revenue based on the customer’s drilling plan, which includes factors such as the number of wells drilled per pad, the time taken to drill each well, the number and size of casing strings, the working pressure, material selection and the complexity of the wellhead system chosen by the customer and the rate at which production trees are eventually deployed. All of these factors may be influenced by the oil and gas region in which our customer is operating. While these factors may lead to differing revenues per rig, we are able to broadly forecast our product needs and anticipated revenue levels based on general trends in a given region and with a specific customer. Increases in horizontal wells drilled as a percentage of total wells drilled, the shift towards pad drilling, and
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an increase in the number of wells drilled per rig are all favorable trends that we believe enhance the demand for our products relative to the active rig count.
Our rental revenues are primarily dependent on the number of wells completed (i.e., hydraulically fractured), the number of wells on a well pad and the number of fracture stages per well. Well completion activity generally follows the level of drilling activity but can be delayed due to such factors as takeaway capacity, storage capacity and budget constraints. Changes to the number of drilled but uncompleted wells (“DUCs”) could provide additional opportunities or headwinds for our rental business relative to general drilling activity.
Field service and other revenues are closely correlated to revenues from product sales and rentals, as items sold or rented almost always have an associated service component. Therefore, the market factors and trends of product sales and rental revenues similarly impact the associated levels of service and other revenues generated.
Our business experiences some seasonality during the fourth quarter due to holidays and customers managing their budgets as the year closes out. This can lead to lower activity in our three revenue categories as well as lower margins, particularly in field services due to lower labor utilization.
Recent Developments and Trends
The ongoing COVID-19 pandemic negatively impacted our business and revenues beginning as early as March 2020. Throughout 2020, the inability to control the spread of the virus and the recent resurgence in cases globally has resulted in continued travel restrictions, school and business closures and stay-at-home orders worldwide. Although vaccines have begun to be administered all over the world, until vehicle and airline travel returns to activity levels closer to those prior to the pandemic, demand for oil will continue to be depressed. Oil prices have recovered from the lows experienced in April 2020, trading above $50 per barrel in January 2021 partially due to Saudi Arabia announcing that it will cut one million barrels a day of crude production starting in February 2021. As oil began trading above $60 per barrel in mid-February 2021 primarily due to harsh winter weather conditions resulting in production disruptions, there has been increasing speculation that Saudi Arabia will restore production of an incremental one million barrels per day starting in April 2021. Even with these recent increases in commodity prices, our customers’ activity continues to be significantly lower than 2019 and early 2020 levels, which translates into reduced demand for our products and services. The resurgence of COVID-19 cases in the United States and other countries as well as delays in vaccinations may limit improvements in the demand for oil and natural gas products and could lead to additional government-mandated lockdowns and other restrictions, which would likely continue to have a negative impact on global energy demand.
During 2020, we saw a significant decline in the level of onshore drilling activity in the U.S. primarily caused by commodity price weakness compounded by the impacts from the COVID-19 pandemic. At the end of 2019, the U.S. onshore rig count as reported by Baker Hughes was 781 rigs. The weekly average U.S. onshore rig count for the three months ended December 31, 2020 was 295 rigs, a 63% decline when compared to 796 rigs for the comparable period in 2019. The increase in commodity prices beginning late in 2020 and into 2021 has led to rebounds in the level of U.S. onshore drilling activity since bottoming in August of 2020 at 230 rigs. As of February 19, 2021, the U.S. onshore rig count was 380.
Recently, there has been an increase in large-scale merger and acquisition activity among E&P companies that operate in the United States. These transactions may be driven in part by an effort to reduce the cost of hydrocarbon production per barrel equivalent and increase overall company efficiencies. These transactions generally increase the size and scale of the counterparties involved, which may provide better access to capital and lead to a healthier overall industry. We have historically focused on providing our products and services to large and well capitalized customers. Consolidation of E&P companies presents both risks and opportunities depending on a number of factors, but namely whether the companies involved are existing customers.
We believe our company is well positioned to continue successfully navigating the challenges posed by the current market environment. At December 31, 2020, we had no long term debt and a strong balance sheet. In response to the drop in demand and customer activity in 2020, we had implemented certain workforce, wage and capital expenditure reductions beginning as early as March 2020. Given the significant service component of our business, we adjust our headcount to reflect current activity levels. By mid-year 2020, we had reduced our global workforce by approximately 50%. As demand and activity started showing signs of recovery, we began bringing our associates back and reinstated 145 associates before the end of the year. We have continued adding personnel in 2021 in line with market activity and implemented a partial roll-back of the wage reductions effective late January 2021. The magnitude of the partial roll-back is less than half of the wage and salary reductions that were implemented in 2020. We are cautiously optimistic regarding signs of recovery. However, we continue to actively review all opportunities to manage costs and efficiently deploy capital relative to market conditions. Our required capital
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expenditures have historically tended to be lower than most other oilfield service providers due to the asset-lite nature of our business model.
Tariffs
Substantially all of the products and frac rental equipment that we import through our Chinese supply chain are subject to tariffs under Section 301 of the Trade Act of 1974 (“Section 301”). For the year ended December 31, 2020, we estimate that approximately 40% of the items received were sourced through our Chinese supply chain. In May 2019, the U.S. Trade Representative announced that it was increasing the level of tariffs on approximately $200 billion worth of Chinese imports pursuant to Section 301. The tariff rate on covered products that were exported on or after May 10, 2019 was raised from 10% to 25%. In 2020, we received a temporary exclusion and tariff suspension on certain covered products exported from China to the United States under Section 301 and received refunds totaling $14.2 million, inclusive of $0.5 million in interest, for tariffs paid on excluded products exported after September 24, 2018. Approximately $4.0 million of the tariff recoveries related to balances included in inventory and were recorded as a reduction to inventory and $9.7 million was recorded as credits to cost of goods sold to offset the accounts where the tariff expenses were originally recorded. The tariff exemption ended August 7, 2020; therefore, we have resumed paying tariffs at 25% on the previously excluded parts imported from China. We believe further increases in the tariff rate above 25% may adversely affect our business, but a combination of factors may mitigate some of the impact of any future increases in tariff rates on our results of operations. These include, among other things, use of product received prior to the introduction of tariffs, our negotiations with suppliers, use of alternative supply chains and favorable currency exchange movements.
Consolidated Results of Operations
The following discussions relating to significant line items from our condensed consolidated statements of income are based on available information and represent our analysis of significant changes or events that impact the comparability of reported amounts. Where appropriate, we have identified specific events and changes that affect comparability or trends and, where reasonably practicable, have quantified the impact of such items.
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Year Ended December 31, 2020 Compared to Year Ended December 31, 2019
The following table presents summary consolidated operating results for the periods indicated:
| Year Ended | |||||||||||||||||||||||
| December 31, | |||||||||||||||||||||||
| 2020 | 2019 | $ Change | % Change | ||||||||||||||||||||
| (in thousands) | |||||||||||||||||||||||
| Revenues | |||||||||||||||||||||||
| Product revenue | $ | 206,801 | $ | 357,087 | $ | (150,286) | (42.1) | % | |||||||||||||||
| Rental revenue | 66,169 | 141,816 | (75,647) | (53.3) | |||||||||||||||||||
| Field service and other revenue | 75,596 | 129,511 | (53,915) | (41.6) | |||||||||||||||||||
| Total revenues | 348,566 | 628,414 | (279,848) | (44.5) | |||||||||||||||||||
| Costs and expenses | |||||||||||||||||||||||
| Cost of product revenue | 131,728 | 220,615 | (88,887) | (40.3) | |||||||||||||||||||
| Cost of rental revenue | 49,077 | 69,829 | (20,752) | (29.7) | |||||||||||||||||||
| Cost of field service and other revenue | 56,143 | 103,163 | (47,020) | (45.6) | |||||||||||||||||||
| Selling, general and administrative expenses | 39,715 | 51,657 | (11,942) | (23.1) | |||||||||||||||||||
| Severance expenses | 1,864 | — | 1,864 | nm | |||||||||||||||||||
| Total costs and expenses | 278,527 | 445,264 | (166,737) | (37.4) | |||||||||||||||||||
| Income from operations | 70,039 | 183,150 | (113,111) | (61.8) | |||||||||||||||||||
| Interest income, net | 701 | 879 | (178) | (20.3) | |||||||||||||||||||
| Other income (expense), net | (555) | 4,294 | (4,849) | nm | |||||||||||||||||||
| Income before income taxes | 70,185 | 188,323 | (118,138) | (62.7) | |||||||||||||||||||
| Income tax expense | 10,970 | 32,020 | (21,050) | (65.7) | |||||||||||||||||||
| Net income | 59,215 | 156,303 | (97,088) | (62.1) | |||||||||||||||||||
| Less: net income attributable to non-controlling interest | 24,769 | 70,691 | (45,922) | (65.0) | |||||||||||||||||||
| Net income attributable to Cactus Inc. | $ | 34,446 | $ | 85,612 | $ | (51,166) | (59.8) | % | |||||||||||||||
nm = not meaningful
Revenues
Product revenue for the year ended December 31, 2020 was $206.8 million, a decrease of $150.3 million, or 42%, from $357.1 million for the year ended December 31, 2019. The decrease was primarily due to lower sales of wellhead and production related equipment as our customers reduced their drilling and completion activity for most of 2020 in direct response to the overall industry downturn resulting from depressed commodity prices exacerbated by the COVID-19 pandemic.
Rental revenue for the year ended December 31, 2020 was $66.2 million, a decrease of $75.6 million, or 53%, from $141.8 million for the year ended December 31, 2019. The decrease was primarily attributable to reduced completion activity by our customers as part of the industry downturn in 2020.
Field service and other revenue for the year ended December 31, 2020 was $75.6 million, a decrease of $53.9 million, or 42%, from $129.5 million for the year ended December 31, 2019. The decrease was primarily attributable to lower customer activity in 2020 related to the industry downturn, resulting in lower billable hours and ancillary services.
Costs and expenses
Cost of product revenue for the year ended December 31, 2020 was $131.7 million, a decrease of $88.9 million, or 40%, from $220.6 million for the year ended December 31, 2019. The decrease was largely attributable to the reduction in product sales and approximately $8.7 million in credits related to tariff refunds.
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Cost of rental revenue for the year ended December 31, 2020 was $49.1 million, a decrease of $20.8 million, or 30%, from $69.8 million for the year ended December 31, 2019. The decrease was primarily attributable to lower repair costs and lower branch expenses. Rental cost of sales in 2020 also included approximately $1.0 million in credits related to tariff refunds. These decreases were partially offset by an increase in depreciation expense on a larger rental fleet during 2020 and higher scrap and rework expenses.
Cost of field service and other revenue for the year ended December 31, 2020 was $56.1 million, a decrease of $47.0 million, or 46%, from $103.2 million for the year ended December 31, 2019. The decrease was mainly related to lower payroll costs associated with fewer field and branch personnel, an increase in gains from sales of field service vehicles of $3.2 million, lower depreciation, fuel and repair expenses on a smaller fleet of vehicles and various other savings resulting from lower overall activity.
Selling, general and administrative expense for the year ended December 31, 2020 was $39.7 million, a decrease of $11.9 million, or 23%, from $51.7 million for the year ended December 31, 2019. The decrease was primarily due to lower personnel costs, including annual incentive bonuses, related to headcount and salary reductions during 2020, a reduction in professional fees, travel and entertainment costs and other decreases associated with certain targeted cost savings measures. These reductions were partially offset by increases in stock-based compensation expense and foreign currency losses.
Severance expense for the year ended December 31, 2020 of $1.9 million was related to severance benefits associated with headcount reductions in the second and third quarters of 2020 resulting from the economic downturn and decline in demand for our products and services.
Interest income, net. Interest income, net was $0.7 million in 2020 compared to $0.9 million in 2019, a decrease of $0.2 million. The decrease was primarily due to lower interest income on cash invested in interest-bearing accounts and money market funds as a result of lower interest rates in 2020, partially offset by $0.5 million of interest income in 2020 associated with the tariff refunds.
Other income (expense), net. Other expense, net for the year ended December 31, 2020 consisted of non-cash adjustments for the revaluation of the liability related to the TRA. Other income, net for the year ended December 31, 2019 of $4.3 million consisted of a $5.3 million non-cash gain on the revaluation of the liability related to the TRA, partially offset by $1.0 million in offering expenses associated with the secondary offering of our Class A common stock in March 2019 by certain selling stockholders.
Income tax expense. Income tax expense for the year ended December 31, 2020 was $11.0 million (15.6% effective tax rate) compared to $32.0 million (17.0% effective tax rate) for 2019. Income tax expense for the year ended December 31, 2020 included a $2.2 million benefit primarily comprised of tax credit adjustments and the revaluation of our deferred tax asset resulting from a change in our forecasted state tax rate. Our effective tax rate is lower than the federal statutory rate of 21% primarily due to the fact that Cactus Inc. is only subject to federal and state income tax on its share of income from Cactus LLC. Income allocated to the non-controlling interest is not subject to U.S. federal or state tax.
Liquidity and Capital Resources
At December 31, 2020 we had $288.7 million of cash and cash equivalents. Our primary sources of liquidity and capital resources are cash on hand, cash flows generated by operating activities and, if necessary, borrowings under our ABL Credit Facility. Depending upon market conditions and other factors, we may also have the ability to issue additional equity and debt if needed. As of December 31, 2020, we had no borrowings outstanding under our ABL Credit Facility and had $45.2 million of available borrowing capacity. Additionally, we were in compliance with the covenants of the ABL Credit Facility as of December 31, 2020.
We expect that our existing cash on hand, cash generated from operations and available borrowings under our ABL Credit Facility will be sufficient for the next 12 months to meet working capital requirements, anticipated capital expenditures, expected TRA liability payments, anticipated tax liabilities and dividends to holders of our Class A common stock as well as pro rata cash distributions to holders of CW units (other than Cactus Inc.).
We currently estimate our net capital expenditures for the year ending December 31, 2021 will range from $10 million to $15 million, excluding acquisitions, mostly related to rental fleet investments. We continuously evaluate our capital expenditures, and the amount we ultimately spend will depend on a number of factors, including, among other things, demand for rental assets, available capacity in existing locations, prevailing economic conditions, market conditions in the E&P industry, customers’ forecasts, volatility and company initiatives.
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Our ability to satisfy our long-term liquidity requirements, including cash distributions to CW Unit Holders to fund their respective income tax liabilities relating to their share of the income of Cactus LLC and to fund liabilities related to the TRA, depends on our future operating performance, which is affected by, and subject to, prevailing economic conditions, market conditions in the E&P industry, availability and cost of raw materials, and financial, business and other factors, many of which are beyond our control. We will not be able to predict or control many of these factors, such as economic conditions in the markets where we operate and competitive pressures. If necessary, we could choose to further reduce our spending on capital projects and operating expenses to ensure we operate within the cash flow generated from our operations.
Tax Receivable Agreement (TRA)
The TRA generally provides for the payment by Cactus Inc. to the TRA Holders of 85% of the net cash savings, if any, in U.S. federal, state and local income tax and franchise tax that Cactus Inc. actually realizes or is deemed to realize in certain circumstances. Cactus Inc. will retain the benefit of the remaining 15% of these net cash savings. To the extent Cactus LLC has available cash, we intend to cause Cactus LLC to make pro rata distributions to its unitholders, including Cactus Inc., in an amount at least sufficient to allow us to pay our taxes and to make payments under the TRA.
Except in cases where we elect to terminate the TRA early, the TRA is terminated early due to certain mergers, asset sales, or other forms of business combinations or changes of control or if we have available cash but fail to make payments when due under circumstances where we do not have the right to elect to defer the payment. We may generally elect to defer payments due under the TRA if we do not have available cash to satisfy our payment obligations under the TRA. Any such deferred payments under the TRA generally will accrue interest. In certain cases, payments under the TRA may be accelerated and/or significantly exceed the actual benefits, if any, we realize in respect of the tax attributes subject to the TRA. In these situations, our obligations under the TRA could have a substantial negative impact on our liquidity.
Assuming no material changes in the relevant tax law, we expect that if the TRA were terminated as of December 31, 2020, the estimated termination payments, based on the assumptions discussed in Note 9 of the Notes to the Consolidated Financial Statements, would be approximately $315.1 million, calculated using a discount rate equal to one-year LIBOR plus 150 basis points, applied against an undiscounted liability of $362.5 million. A 10% increase in the price of our Class A common stock at December 31, 2020 would have increased the discounted liability by $15.1 million to $330.2 million (an undiscounted increase of $17.5 million to $380.0 million), and likewise, a 10% decrease in the price of our Class A common stock at December 31, 2020 would have decreased the discounted liability by $15.1 million to $300.0 million (an undiscounted decrease of $17.5 million to $345.0 million).
Cash Flows
Year Ended December 31, 2020 Compared to Year Ended December 31, 2019
The following table summarizes our cash flows for the periods indicated:
| Year Ended December 31, | ||||||||
| 2020 | 2019 | |||||||
| (in thousands) | ||||||||
| Net cash provided by operating activities | $ | 143,380 | $ | 209,632 | ||||
| Net cash used in investing activities | (18,147) | (55,948) | ||||||
| Net cash used in financing activities | (40,206) | (21,669) | ||||||
Net cash provided by operating activities was $143.4 million and $209.6 million for the years ended December 31, 2020 and 2019, respectively. Operating cash flows for 2020 decreased from 2019 primarily due to the overall reduction in revenue due to the economic downturn evidenced by a decrease in net income adjusted for certain noncash items offset by an increase in cash generated from changes in net working capital and $14.2 million in tariff refunds.
Net cash used in investing activities was $18.1 million and $55.9 million for the years ended December 31, 2020 and 2019, respectively. The decrease was primarily due to lower capital expenditures associated with our rental fleet in 2020 due to reductions in purchases as a result of the current industry environment as well as an increase in proceeds from asset sales.
Net cash used in financing activities was $40.2 million and $21.7 million for the years ended December 31, 2020 and 2019, respectively. The increase was attributable to an increase of $12.9 million in dividend payments to holders of Class A
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common stock and an increase of $7.9 million in Cactus LLC member distributions, partially offset by a $2.2 million reduction in payments on finance leases.
Critical Accounting Policies and Estimates
In preparing our financial statements in accordance with GAAP, we make numerous estimates and assumptions that affect the accounting for and recognition and disclosure of assets, liabilities, equity, revenues and expenses. We must make these estimates and assumptions because certain information that we use is dependent on future events, cannot be calculated with a high degree of precision from available data or is not otherwise capable of being readily calculated based on generally accepted methodologies. In some cases, these estimates are particularly difficult to determine, and we must exercise significant judgment. Actual results could differ materially from the estimates and assumptions that we use in the preparation of our financial statements. We identify certain accounting policies as critical based on, among other things, their impact on the portrayal of our financial condition and results of operations and the degree of difficulty, subjectivity and complexity in their deployment. Note 2 of the Notes to the Consolidated Financial Statements includes a summary of the significant accounting policies used in the preparation of the accompanying consolidated financial statements. The following is a brief discussion of our most critical accounting policies and related estimates and assumptions.
Inventories
Inventories are stated at the lower of cost or net realizable value. Cost is determined using standard cost (which approximates average cost) and weighted average methods. Costs include an application of related direct labor and overhead cost. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. We evaluate the components of inventory on a regular basis for excess and obsolescence. Reserves are made based on a range of factors, including age, usage and technological or market changes that may impact demand for those products. The amount of reserve recorded is subjective and is susceptible to change from period to period.
Long‑Lived Assets
Key estimates related to long‑lived assets include useful lives and recoverability of carrying values. Such estimates could be modified, as impairment could arise as a result of changes in supply and demand fundamentals, technological developments, new competitors with cost advantages and the cyclical nature of the oil and gas industry. We evaluate long‑lived assets for potential impairment indicators whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Long‑lived assets assessed for impairment are grouped at the lowest level for which identifiable cash flows are available, and a provision made where the cash flow is less than the carrying value of the asset. The estimation of future cash flows and fair value is highly subjective and inherently imprecise. Estimates can change materially from period to period based on many factors. Accordingly, if conditions change in the future, we may record impairment losses, which could be material to any particular reporting period.
Income Taxes
Deferred taxes are recorded using the asset and liability method, whereby tax assets and liabilities are determined based on the differences between the financial statement and tax basis of assets and liabilities using enacted tax laws and rates expected to apply to taxable income in the year in which the differences are expected to reverse. We assess the likelihood that our deferred tax assets will be recovered through adjustments to future taxable income. To the extent we believe recovery is not likely, we establish a valuation allowance to reduce the asset to a value we believe will be recoverable based on our expectation of future taxable income. In evaluating our ability to recover our deferred tax assets, we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning strategies and results of recent operations. The assumptions about future taxable income require significant judgment and are consistent with the plans and estimates management is using to manage the underlying business. If the projected future taxable income changes materially, we may be required to reassess the amount of valuation allowance recorded against our deferred tax assets.
Tax Receivable Agreement
The TRA generally provides for the payment by Cactus Inc. to the TRA Holders of 85% of the net cash savings, if any, in U.S. federal, state and local income tax and franchise tax that Cactus Inc. actually realizes or is deemed to realize in certain circumstances as a result of (i) certain increases in tax basis that occur as a result of Cactus Inc.’s acquisition (or deemed acquisition for U.S. federal income tax purposes) of all or a portion of such TRA Holder’s CW Units in connection with our
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IPO or any subsequent offering, or pursuant to any other exercise of the Redemption Right or the Call Right, (ii) certain increases in tax basis resulting from the repayment of borrowings outstanding under Cactus LLC’s term loan facility in connection with our IPO and (iii) imputed interest deemed to be paid by Cactus Inc. as a result of, and additional tax basis arising from, any payments Cactus Inc. makes under the TRA. We will retain the remaining 15% of the cash savings. The TRA liability is calculated by determining the tax basis subject to TRA (“tax basis”) and applying a blended tax rate to the basis differences and calculating the iterative impact. The blended tax rate consists of the U.S. federal income tax rate and an assumed combined state and local income tax rate driven by the apportionment factors applicable to each state.
Redemptions of CW Units result in adjustments to the tax basis of the tangible and intangible assets of Cactus LLC. These adjustments are allocated to Cactus Inc. Such adjustments to the tax basis of the tangible and intangible assets of Cactus LLC would not have been available to Cactus Inc. absent its acquisition or deemed acquisition of CW Units. In addition, the repayment of borrowings outstanding under the Cactus LLC term loan facility resulted in adjustments to the tax basis of the tangible and intangible assets of Cactus LLC, a portion of which was allocated to Cactus Inc. These basis adjustments are expected to increase (for tax purposes) Cactus Inc.’s depreciation and amortization deductions and may also decrease Cactus Inc.’s gains (or increase its losses) on future dispositions of certain assets to the extent tax basis is allocated to those assets. Such increased deductions and losses and reduced gains may reduce the amount of tax that Cactus Inc. would otherwise be required to pay in the future.
Estimating the amount and timing of the tax benefit is by its nature imprecise and the assumptions used in the estimates can change. The tax benefit is dependent upon future events and assumptions, the amount of the redeeming unit holders' tax basis in its CW Units at the time of the relevant redemption, the depreciation and amortization periods that apply to the increase in tax basis, the amount and timing of taxable income we generate in the future and the U.S. federal, state and local income tax rate then applicable, and the portion of Cactus Inc.’s payments under the TRA that constitute imputed interest or give rise to depreciable or amortizable tax basis. The most critical estimate included in calculating the TRA liability to record is the combined U.S. federal income tax rate and an assumed combined state and local income tax rate, to determine the future benefit we will realize. A 100 basis point decrease/increase in the blended tax rate used would decrease/increase the TRA liability recorded at December 31, 2020 by approximately $10.5 million.
Recent Accounting Pronouncements
See Note 2 in the Notes to the Consolidated Financial Statements for discussion of recent accounting pronouncements.
Inflation
While inflationary cost increases can affect our income from operations’ margin, we believe that inflation generally has not had, and in the near future is not expected to have, a material adverse effect on our results of operations. Although the impact of inflation has been insignificant in recent years, it is still a factor in the United States economy, and we tend to experience inflationary pressure on wages and raw materials.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
In the normal course of business, we are exposed to market risk from changes in foreign currency exchange rates and changes in interest rates.
Foreign Currency Exchange Rate Risk
We have subsidiaries with operations in China and Australia who conduct business in their local currencies (functional currencies) and are therefore subject to foreign currency exchange rate risk on cash flows related to sales, expenses, financing and investing transactions in currencies other than the U.S. dollar. Currently, we do not have any open foreign currency forward contracts to hedge this risk.
Additionally, certain intercompany balances between our U.S. and foreign subsidiaries as well as other financial assets and liabilities are denominated in U.S. dollars. Since this is not the functional currency of our subsidiaries in China and Australia, the changes in these balances are translated in our Consolidated Statements of Income, resulting in the recognition of a remeasurement gain or loss. Starting in 2020, we began entering into monthly foreign currency forward contracts to provide a hedge against currency fluctuations on the U.S. dollar denominated assets and liabilities held by our foreign subsidiaries. As of December 31, 2020, if the U.S. dollar strengthened or weakened 10%, the impact to the unrealized value of our forward contracts would be approximately $0.5 million. The gain or loss on the forward contracts would be offset by the gain or loss on the underlying transactions, and therefore, would have no impact on future earnings.
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Interest Rate Risk
Our ABL Credit Facility is variable rate debt. At December 31, 2020, although there were no borrowings outstanding, the applicable margin on Eurodollar borrowings was 1.75% plus an adjusted base rate of one or three month LIBOR.
Item 8. Financial Statements and Supplementary Data
The following Consolidated Financial Statements are filed as part of this Annual Report:
Cactus, Inc. and Subsidiaries
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Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended. Our internal control over financial reporting was designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In making its assessment, management has utilized the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (or “COSO”) in Internal Control-Integrated Framework (2013 framework). Based on this assessment, management has concluded that, as of December 31, 2020, our internal control over financial reporting was effective.
Our independent registered public accounting firm, PricewaterhouseCoopers, LLP, has issued an audit report on the effectiveness of our internal control over financial reporting as of December 31, 2020, which appears herein.
| /s/ Scott Bender | /s/ Stephen Tadlock | |||||||
| President, Chief Executive Officer and Director | Vice President, Chief Financial Officer and Treasurer | |||||||
| Houston, Texas | ||||||||
| February 26, 2021 | ||||||||
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Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of Cactus, Inc.
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated balance sheets of Cactus, Inc. and its subsidiaries (the “Company”) as of December 31, 2020 and 2019, and the related consolidated statements of income, comprehensive income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, including the related notes (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.
Basis for Opinions
The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Critical Audit Matters
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Liability related to the Tax Receivable Agreement
As described in Notes 2 and 9 to the consolidated financial statements, the Company has a liability under the Tax Receivable Agreement (“TRA”) of $204.4 million as of December 31, 2020. In connection with its initial public offering, the Company entered into the TRA with certain direct and indirect owners of Cactus Wellhead, LLC (the “TRA Holders”). The TRA generally provides for the payment by the Company to the TRA Holders of 85% of the net cash tax savings, if any, in United States federal, state and local income tax and franchise tax that the Company actually realizes or is deemed to realize in certain circumstances as a result of (i) certain increases in tax basis that occur as a result of the Company’s acquisition (or deemed acquisition for U.S. federal income tax purposes) of all or a portion of such TRA Holder’s ownership interest in Cactus Wellhead, LLC, (ii) certain increases in tax basis resulting from the repayment of borrowings outstanding under Cactus Wellhead, LLC’s term loan facility, and (iii) imputed interest deemed to be paid by the Company as a result of, and additional tax basis arising from, any payments the Company makes under the TRA. Management calculates the TRA liability by determining the tax basis subject to the TRA (“tax basis”) and applying a blended tax rate to the basis differences and calculating the iterative impact. The blended tax rate consists of the U.S. federal income tax rate and an assumed combined state and local income tax rate driven by the apportionment factors applicable to each state.
The principal considerations for our determination that performing procedures relating to the liability related to the TRA is a critical audit matter are the significant complexity in i) management’s calculation of the tax basis, and (ii) developing the applicable state apportionment factors utilized in determining the appropriate blended tax rate. This in turn led to a high degree of auditor subjectivity and effort in performing procedures and evaluating the appropriateness of the calculation of the tax basis and the blended tax rate. In addition, the audit effort involved the use of professionals with specialized skill and knowledge to assist in performing these procedures and evaluating the audit evidence obtained from these procedures.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to the calculation and recognition of the TRA liability, including controls over the completeness and accuracy of the underlying data used in the tax basis and blended tax rate calculations. These procedures also included, among others, testing the information used in the calculation of the TRA liability, and the involvement of professionals with specialized skills and knowledge to assist in (i) developing an independent calculation of the tax basis, (ii) comparing the independent calculation to management’s calculations to evaluate the reasonableness of the tax basis, (iii) evaluating the apportionment factors and the resulting blended tax rate, and (iv) assessing management’s application of the tax laws. Evaluating management’s determination of the apportionment factors involved considering the current and expected activity levels of the Company and whether the apportionment factors were consistent with evidence obtained in other areas of the audit.
/s/ PricewaterhouseCoopers LLP
Houston, Texas
February 26, 2021
We have served as the Company’s auditor since 2015, which includes periods before the Company became subject to SEC reporting requirements.
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CACTUS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
| December 31, | |||||||||||
| 2020 | 2019 | ||||||||||
| (in thousands, except per share data) | |||||||||||
| Assets | |||||||||||
| Current assets | |||||||||||
| Cash and cash equivalents | $ | $ | |||||||||
Accounts receivable, net of allowance of $ | |||||||||||
| Inventories | |||||||||||
| Prepaid expenses and other current assets | |||||||||||
| Total current assets | |||||||||||
| Property and equipment, net | |||||||||||
| Operating lease right-of-use assets, net | |||||||||||
| Goodwill | |||||||||||
| Deferred tax asset, net | |||||||||||
| Other noncurrent assets | |||||||||||
| Total assets | $ | $ | |||||||||
| Liabilities and Equity | |||||||||||
| Current liabilities | |||||||||||
| Accounts payable | $ | $ | |||||||||
| Accrued expenses and other current liabilities | |||||||||||
| Current portion of liability related to tax receivable agreement | |||||||||||
| Finance lease obligations, current portion | |||||||||||
| Operating lease liabilities, current portion | |||||||||||
| Total current liabilities | |||||||||||
| Deferred tax liability, net | |||||||||||
| Liability related to tax receivable agreement, net of current portion | |||||||||||
| Finance lease obligations, net of current portion | |||||||||||
| Operating lease liabilities, net of current portion | |||||||||||
| Total liabilities | |||||||||||
| Commitments and contingencies | |||||||||||
| Stockholders’ equity | |||||||||||
Preferred stock, $ | |||||||||||
Class A common stock, $ | |||||||||||
Class B common stock, $ | |||||||||||
| Additional paid-in capital | |||||||||||
| Retained earnings | |||||||||||
| Accumulated other comprehensive loss | ( | ||||||||||
| Total stockholders’ equity attributable to Cactus Inc. | |||||||||||
| Non-controlling interest | |||||||||||
| Total stockholders’ equity | |||||||||||
| Total liabilities and equity | $ | $ | |||||||||
The accompanying notes are an integral part of these consolidated financial statements.
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CACTUS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
| Year Ended December 31, | |||||||||||||||||
| 2020 | 2019 | 2018 | |||||||||||||||
| (in thousands, except per share data) | |||||||||||||||||
| Revenues | |||||||||||||||||
| Product revenue | $ | $ | $ | ||||||||||||||
| Rental revenue | |||||||||||||||||
| Field service and other revenue | |||||||||||||||||
| Total revenues | |||||||||||||||||
| Costs and expenses | |||||||||||||||||
| Cost of product revenue | |||||||||||||||||
| Cost of rental revenue | |||||||||||||||||
| Cost of field service and other revenue | |||||||||||||||||
| Selling, general and administrative expenses | |||||||||||||||||
| Severance expenses | |||||||||||||||||
| Total costs and expenses | |||||||||||||||||
| Income from operations | |||||||||||||||||
| Interest income (expense), net | ( | ||||||||||||||||
| Other income (expense), net | ( | ( | |||||||||||||||
| Income before income taxes | |||||||||||||||||
| Income tax expense | |||||||||||||||||
| Net income | $ | $ | $ | ||||||||||||||
| Less: pre-IPO net income attributable to Cactus LLC | |||||||||||||||||
| Less: net income attributable to non-controlling interest | |||||||||||||||||
| Net income attributable to Cactus Inc. | $ | $ | $ | ||||||||||||||
| Earnings per Class A share - basic | $ | $ | $ | ||||||||||||||
| Earnings per Class A share - diluted | $ | $ | $ | ||||||||||||||
| Weighted average Class A shares outstanding - basic | |||||||||||||||||
| Weighted average Class A shares outstanding - diluted | |||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
34
CACTUS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
| Year Ended December 31, | |||||||||||||||||
| 2020 | 2019 | 2018 | |||||||||||||||
| (in thousands) | |||||||||||||||||
| Net income | $ | $ | $ | ||||||||||||||
| Foreign currency translation adjustments | ( | ||||||||||||||||
| Comprehensive income | |||||||||||||||||
| Less: pre-IPO comprehensive income attributable to Cactus LLC | |||||||||||||||||
| Less: comprehensive income attributable to non-controlling interest | |||||||||||||||||
| Comprehensive income attributable to Cactus Inc. | $ | $ | $ | ||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
35
CACTUS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
| Members’ Equity Deficit | Class A Common Stock | Class B Common Stock | Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Non-controlling Interest | Total Equity (Deficit) | ||||||||||||||||||||||||||||||||||||||||||||||||||||
| (in thousands) | Shares | Amount | Shares | Amount | |||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2017 | $ | ( | $ | $ | $ | $ | $ | $ | $ | ( | |||||||||||||||||||||||||||||||||||||||||||||||||
| Member distributions prior to IPO | ( | — | — | — | — | — | — | — | — | ( | |||||||||||||||||||||||||||||||||||||||||||||||||
| Net income prior to IPO | — | — | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Effect of IPO | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Member distributions after IPO | — | — | — | — | — | — | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||
| Effect of Follow-on Offering and CW Unit redemptions | — | ( | — | — | — | ( | ( | ||||||||||||||||||||||||||||||||||||||||||||||||||||
| Tax impact of equity transactions | — | — | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive (loss) | — | — | — | — | — | — | — | ( | — | ( | |||||||||||||||||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income after IPO | — | — | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2018 | $ | $ | $ | $ | $ | $ | ( | $ | $ | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Adjustment to prior periods | — | — | — | — | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Member distributions | — | — | — | — | — | — | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||
| Effect of CW Unit redemptions | — | ( | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||||||
| Tax impact of equity transactions | — | — | — | — | — | — | — | — | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Equity award vestings | — | — | — | ( | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Other comprehensive income | — | — | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||||||
Cash dividends declared ($ | — | — | — | — | ( | — | — | ( | |||||||||||||||||||||||||||||||||||||||||||||||||||
| Net income | — | — | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||||||||||||||||||
| Balance at December 31, 2019 | $ | $ | $ | $ | $ | $ | ( | $ | $ | ||||||||||||||||||||||||||||||||||||||||||||||||||
| Member distributions | — | — | — | — | — | — | — | — | ( | ( | |||||||||||||||||||||||||||||||||||||||||||||||||