10-K 1 a10k.txt ANNUAL REPORT United States Securities and Exchange Commission Washington, D.C. 20549 FORM 10-K (Mark One) (X) Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 2001 ( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 Commission File Number 333-34323 HYDROCHEM INDUSTRIAL SERVICES, INC. (*) (Exact name of registrant as specified in its charter) Delaware 75-2503906 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 900 Georgia Avenue Deer Park, Texas 77536 (Address of principal executive offices) (Zip Code) (713) 393-5600 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: None 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 X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ( X ) The number of shares of Common Stock of the Registrant, par value of $.01 per share, outstanding on February 28, 2002 was 100 shares. The Registrant's Common Stock is not registered under the Securities Act of 1933 or the Securities Exchange Act of 1934. Documents Incorporated by Reference: None -------------------------------------------------------------------------------- * HydroChem International, Inc., a wholly owned subsidiary of HydroChem Industrial Services, Inc., is a Co- Registrant. It is incorporated under the laws of the State of Delaware and its I.R.S. Employer Identification Number is 75-2512500. INDEX
Page Part I. Item 1. Business.............................................. 3 Item 2. Properties............................................ 9 Item 3. Legal Proceedings..................................... 10 Item 4. Submission of Matters to a Vote of Security Holders.. 10 Part II. Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters.......................... 10 Item 6. Selected Financial Data............................... 11 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.................. 12 Item 7a. Quantitative and Qualitative Disclosure about Market Risk................................................. 17 Item 8. Financial Statements and Supplementary Data........... 18 Item 9. Changes in and disagreements with Accountants on Accounting and Financial Disclosure............... 38 Part III. Item 10. Directors and Executive Officers of the Registrant..... 38 Item 11. Executive Compensation................................. 40 Item 12. Security Ownership of Certain Beneficial Owners and Management................................ 42 Item 13. Certain Relationships and Related Transactions......... 44 Part IV. Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.............................. 44 Signatures................................................................ 48 Exhibit Index............................................................. 50
2 Forward-Looking Statements In addition to historical information, this Form 10-K Annual Report contains forward-looking statements. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those reflected in these forward-looking statements. Factors that might cause such a difference include, but are not limited to, those discussed in the sections entitled "Business" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." Readers are cautioned only as of the date on which such statements are made. The Company undertakes no obligation to revise or publicly release the results of any revision to these forward-looking statements. Readers should carefully review the risk factors described in other documents the Company files from time to time with the Securities and Exchange Commission, including the Quarterly Reports on Form 10-Q to be filed by the Company in fiscal year 2002. Part I. Item 1. BUSINESS General HydroChem Industrial Services, Inc. ("HydroChem"), was formed in 1993 for the purpose of combining the industrial cleaning businesses of Hydro Environmental Services Limited Partnership ("Hydro Services") and the Dowell Industrial Services division ("DIS") of Dowell Schlumberger Inc. These businesses had been operating since 1961 and 1938, respectively. In 1995, HydroChem acquired the industrial cleaning business of the Halliburton Industrial Services division ("HIS") of Brown & Root Industrial Services, Inc. HIS had been operating since 1962. Effective January 1, 1999, HydroChem acquired substantially all of the assets and assumed certain liabilities of Valley Systems, Inc. and Valley Systems of Ohio, Inc., (collectively "Valley"). Valley had been operating since 1973. On November 19, 1999, HydroChem acquired all of the issued and outstanding shares of capital stock of Landry Service Co., Inc. ("LANSCO"). LANSCO had been operating since 1984. Effective October 1, 2000, LANSCO was merged into HydroChem and now operates as a division of HydroChem. (See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 14 of Notes to Consolidated Financial Statements.) HydroChem generally conducts business outside the United States through its wholly owned subsidiary, HydroChem International, Inc. ("International"). (HydroChem and its subsidiaries are hereinafter sometimes referred to either separately or collectively as the "Company.") HydroChem is a wholly-owned subsidiary of HydroChem Holding, Inc. ("Holding"). The Company is a leading provider of industrial cleaning services to a wide range of processing industries, including petrochemical plants, oil refineries, power plants, pulp and paper mills, steel mills and aluminum plants. Services provided include high-pressure and ultra-high pressure ("UHP") water cleaning ("hydroblasting"), chemical cleaning, industrial vacuuming, tank cleaning, waste minimization, commissioning and other specialized services. The majority of these services involve recurring maintenance to improve or sustain the operating efficiencies and extend the useful lives of process equipment and facilities. During the year ended December 31, 2001, the Company provided services to approximately 1,250 customers at approximately 1,850 customer sites from 76 operating locations (including both branch and satellite locations) in the United States and one international location in Singapore. In 2001, approximately 59.6% of the Company's revenue was derived from its 20 largest customers, 15 of which are, or are affiliated with, Fortune 500/S&P Global 1200 companies, and approximately 72.2% was derived from its 40 largest customers, 27 of which are, or are affiliated with, Fortune 500/S&P Global 1200 companies. 3 The Company's revenue by industry for each of the last three fiscal years is set forth in the following table (in thousands):
Year ended December 31, ---------------------------------------------------- 1999 % 2000 % 2001 % ---- - ---- - ---- - Petrochemical .... $ 97,590 50.9% $112,657 52.6% $110,682 50.6% Oil refining ..... 26,915 14.0 36,085 16.9 38,725 17.7 Power ............ 23,348 12.2 25,960 12.1 31,298 14.3 Pulp and paper ... 10,571 5.5 7,014 3.3 6,280 2.9 Other ............ 33,512 17.4 32,476 15.1 31,835 14.5 ------ ---- ------ ---- ------ ---- Total ....... $191,936 100.0% $214,192 100.0% $218,820 100.0% ======== ===== ======== ===== ======== =====
The Company's revenue by service line for each of the last three fiscal years is set forth in the following table (in thousands):
Year ended December 31, ---------------------------------------------------- 1999 % 2000 % 2001 % ---- - ---- - ---- - Hydroblasting ...... $ 86,173 44.9% $ 83,795 39.1% $ 88,249 40.3% Chemical cleaning .. 53,771 28.0 54,446 25.4 51,481 23.5 Industrial vacuuming 36,184 18.9 43,404 20.3 51,265 23.4 Tank cleaning ...... 2,079 1.1 18,267 8.5 16,284 7.5 Other .............. 13,729 7.1 14,280 6.7 11,541 5.3 ------ --- ------ --- ------ --- Total ......... $191,936 100.0% $214,192 100.0% $218,820 100.0% ======== ===== ======== ===== ======== =====
Services Hydroblasting, chemical cleaning and industrial vacuuming are the Company's largest sources of revenue, but the Company also offers a variety of other services, including tank cleaning, waste minimization and commissioning services, as described below. The majority of these services involves recurring maintenance programs, and may be provided on a time and materials basis or bid on a project basis. The Company started providing mechanical services in 1998. During 2001, the Company began using sub-contractors to provide these services to its customers, primarily utilizing the services of a company with whom it has a non-exclusive teaming arrangement. Hydroblasting Services The Company's hydroblasting services involve the application of high-pressure and UHP streams of water to clean the interior and exterior surfaces of process equipment, storage tanks and other vessels, and to unplug piping, tubes and lines. Hydroblasting is particularly effective in cleaning deposits that cannot be chemically dissolved or that are located on surfaces where the circulation of chemical cleaning solvents is not feasible. Hydroblasting is primarily used for the removal of scale and other fouling deposits to improve the operating or energy efficiency of equipment, prevent contamination of finished products, and clean equipment in preparation for, or subsequent to, other maintenance work. Hydroblasting is also used to prepare surfaces for welding, inspection or painting, to clean exterior surfaces cosmetically and, with special additives and equipment, to cut steel or concrete. The Company performs its hydroblasting services using equipment that includes an engine, pump and high-pressure hoses that are attached to specialized application devices. Water typically emerges at pressures from 5,000 to 40,000 pounds per square inch, and water volumes generally range from one gallon per minute ("gpm") to 300 gpm. Pressures ranging from 20,000 psi to 40,000 psi, generally considered UHP, are used for certain cleaning and cutting jobs. The deposits and wastes removed by hydroblasting, along with water used in the process, are typically deposited into the customer's waste treatment system for further processing and disposal by the customer. 4 Chemical Cleaning Services Chemical cleaning typically involves circulating chemical solvents through process equipment, piping and tanks or other storage vessels under controlled conditions of temperature, pressure and time to remove fouling deposits from interior surfaces. Chemical cleaning is generally performed as a closed loop process and employed to dissolve substances on surfaces that are inaccessible to hydroblasting, or where chemical cleaning is more effective or safer than hydroblasting. Chemical cleaning also may involve the application of chemical solvents to deposits on exterior surfaces that cannot be cleaned with water or the addition of chemicals to by-products or waste products. Chemical cleaning has many of the same uses and applications as hydroblasting in industrial cleaning. It is also used for "degassing" process equipment to remove volatile substances. In addition, the Company's chemical cleaning services are required from time-to-time in connection with the commissioning, or pre-operational cleaning, of new equipment or an entire plant to remove soil, debris and other substances that accumulate during construction. Most of the Company's chemical cleaning services involves circulation of chemical solvents through process equipment, piping and tanks or other storage vessels. For many of these jobs, a sample of the fouling deposit or substance to be removed is sent to the Company's laboratory facility in the Houston, Texas area, where the Company's chemists determine its chemical make-up, the combination and concentration of chemicals best suited for the cleaning process, and the appropriate temperature, pressure and timing parameters for circulation of the chemicals. The Company also has mobile laboratory units which are used to perform limited chemical analysis on-site and to assist in monitoring ongoing chemical cleaning jobs. After the proper procedure for the on-site work has been determined, a field crew mixes the chemicals, typically on the customer's premises. Using pumping and circulating equipment, the field crew then circulates the solution through the process equipment and, in most cases, collects the waste material and used chemical solution. During the circulation process, the concentration levels of the substance to be removed, and the chemicals that have been introduced into the system are monitored to determine the rate at which the deposits are being removed, and to ensure that proper conditions are being maintained. After collection, the waste typically is emptied at the customer's on-site disposal or storage facility, or it may be pumped into holding tanks that remain on the customer's property for later disposal or treatment by the customer. Industrial Vacuuming Services Industrial vacuuming is the process of removing industrial waste and debris by conveyance of air or by traditional vacuuming techniques. The Company's industrial vacuuming services typically are required to recover these materials for disposal or recycling, to move them within a plant, to remove waste from sumps, to prepare tanks or other storage facilities for routine maintenance, or to assist in other types of cleaning and maintenance services. The Company provides air-moving services using specialized trucks and trailer-mounted equipment to collect and remove a variety of solid and semi-solid materials, including dust, powder, oil, resins, wood chips, steel and plastic pellets, solid catalysts and bricks. The Company also furnishes liquid vacuuming services using conventional vacuum trucks, which maintain a continuous negative tank pressure, for the removal of liquid waste, sludge or spent process fluids from pits, ponds, tanks or process equipment. The Company often provides vacuuming services in connection with its other services. Tank Cleaning Services The Company's tank cleaning services involve cleaning a variety of aboveground storage tanks, ranging from large crude oil and wastewater storage tanks to smaller tanks used for storage of a wide range of finished chemical products or chemicals used in production processes. The cleaning of aboveground storage tanks generally involves the removal of sludge from the tank by transforming the sludge to a pumpable state and pumping it out of the tank. Once out of the tank, the sludge is processed with a centrifuge or filter press in order to separate the solid component for disposal and possible internal recycling of usable product back to the customer. 5 Many of the smaller chemical storage tanks are cleaned using the LANSCO GT (Gas-Tight) System which was developed in 1997. This process utilizes robotics in combining the cleaning and degassing of a tank without manned entry and without venting vapors to the atmosphere. This makes this process advantageous for tanks with hazardous materials and applications where VOC (volatile organic compound) emissions must be controlled for regulatory compliance. The conventional method entails degassing first and then cleaning in a subsequent step, requiring more time and higher cost. Other Services Waste Minimization Services. The Company employs several techniques to reduce customer waste volumes prior to customer disposal, including de-watering and chemical treatment techniques as well as on-line water recycling. The equipment often employed in these processes consists of recessed chamber filter presses and centrifuges, which are used to reduce the customer's cost of disposing of waste and enhance recovery of usable product. Commissioning Services. Commissioning services include a variety of processes utilized to clean newly constructed systems of industrial processing plants prior to their initial operation. These services include the Company's SILENTSTEAM(R) process for cleaning steam path components, as well as the application of flushing, cleaning and passivation technologies to piping, vessels, boilers, and lubrication and hydraulic oil systems. Depending on the nature of the commissioning services, the revenue derived may be attributed to hydroblasting, chemical cleaning, industrial vacuuming or other services. Competition and Market Factors The industrial cleaning service business is highly competitive. Management believes that the principal competitive factors in this business are price, quality of service, safety record, reputation, competence and responsiveness of personnel, efficiency of service, and knowledge of customer plants and operations. Location is an important factor in being able to provide timely and cost-effective services, although this is more of a factor in daily or more frequently recurring maintenance services than in project work. The Company competes with a large number of companies in substantially all of the regions in which it operates. Many of these competitors are local or regional operations servicing a limited geographic area; however, others are larger companies with broader geographic coverage, similar to the Company. Accordingly, the Company's competitors in any particular geographic market may differ. In addition, competitors tend to be stronger in certain services and weaker in others, or may not offer a full range of services. While many of the Company's smaller competitors do not offer as extensive a line of services as the Company, future expansion by these companies or the development of alternative cleaning methods represents potential competition for the Company. Management believes that factors such as maintenance for improved efficiency, a trend toward outsourcing, industry consolidation among the Company's customers and environmental regulations have effected the demand for the Company's industrial cleaning services. Management also believes that the Company benefits from competitive strengths which include industry experience and long-term relationships with quality customers, a broad range of services and industry expertise, an excellent safety record, strategic locations, customer contracts, customer alliances, and experienced management. See "Marketing, Sales and Service Contracts." Business Strategy The Company's business strategy is to expand services provided to existing customers through cross selling, establish relationships with new customers in existing geographic areas, expand geographically, establish additional customer alliances, pursue additional strategic acquisitions and control costs. Field Organizational Structure The Company's field organization is primarily based on geographical divisions. Divisions are generally subdivided into areas, regions and branch locations, some of which are on-site locations. Branch locations are the primary business or operating units. 6 The Company maintains operating and sales personnel at each of its branch locations and operates each location under the direction of a branch manager in accordance with policies, procedures and objectives established by management. Subject to these guidelines, branch personnel have significant autonomy in dealing with customers, employees and vendors in their geographic area. Each branch operates as a separate profit center and is responsible for billing and collecting accounts receivable, although cash receipts are collected centrally via lockbox. Each branch is also responsible for initiating vendor purchase orders and entering payroll hours, although vendor and payroll payments are processed at the Company's headquarters location. Each branch location is allotted certain equipment, vehicles and various types of specialized equipment. However, equipment and personnel are shared among locations as workloads dictate, enabling the Company to realize better utilization of its resources. Marketing, Sales and Service Contracts The Company's sales and marketing is characterized by long-term customer relationships which management believes results from the consistent delivery of high quality, dependable service, advanced technical capabilities, a broad service offering, competitive pricing and a strong customer service orientation among the Company's employees. The Company's services are marketed and sold through a tiered approach, targeting both maintenance and purchasing personnel at the plant level as well as corporate purchasing managers. The Company's sales people and account managers maintain consistent communications with plant contacts to position the Company better to obtain upcoming work and to ensure that on-going work is being performed to meet or exceed customer expectations. The Company's national marketing effort is focused on (i) servicing existing accounts, (ii) establishing new customer accounts, (iii) obtaining multi-plant contracts (regional or national in scope) and (iv) implementing alliance relationships. These efforts are supplemented by advertising in industry publications and participating in industry trade shows. Most of the Company's existing and prospective customers have procedures by which they qualify contractors to become approved vendors in their plants. Customers award master service contracts or contracts for individual projects only to approved vendors. Contractors may be selected at the individual plant level, or on a regional or national basis covering multiple plant locations. A particular plant will typically have two or more approved industrial cleaning providers. One of these may be designated as the primary service provider and receive a majority of the work. Alternatively, the work may be spread evenly between the service providers by the customer, or market share within the plant may be determined by the sales, marketing and operating capabilities of the different service providers. Plants also may have approved service providers for specific services (for example, plants may have hydroblasting contracts with one or more service providers and separate industrial vacuuming contracts with one or more other service providers) or may have contracts covering multiple services provided by the same provider. Master service agreements typically establish general terms and conditions, as well as time and material pricing for services. These contracts do not guarantee work, but they do allow Company personnel to enter the plants more easily, fostering the development of relationships with plant personnel and the marketing of the Company's services. Specific jobs may be performed on a time and materials basis or granted as part of a competitive bid process. Daily or more frequently recurring maintenance work tends to be performed on a time and materials basis, while larger, less frequent projects tend to be bid. The Company's alliance, or managed services, process is a method of providing services to its customers. In an alliance, the Company provides a more comprehensive outsourcing solution to the customer, with the Company more involved in scheduling, managing and benchmarking the delivery of services in a manner that reduces costs for the customer and the Company, and provides for a continuous improvement process over time. Generally, the customer will further benefit from additional savings resulting from reduced downtime for maintenance and increased production. Management estimates that approximately two-thirds of the Company's revenue comes from services performed under its master service agreements and alliances, or separately bid projects in plants where it has master service agreements or alliances. Management believes these agreements generally enhance the consistency and stability of the Company's revenue stream. Safety and Training Industrial cleaning involves exposure to potentially dangerous conditions. For liability and other reasons, customers are very concerned with the safety records of contractors used to perform services at their plants. To minimize the dangers inherent in this type of work, the Company 7 conducts broad training and educational programs and has developed comprehensive safety policies and regulations. The main factors driving the Company's investment in these programs and policies are: (i) achieving employee and customer safety; (ii) controlling insurance and claims costs; (iii) satisfying customers' growing safety and training requirements; (iv) meeting increasing governmental and regulatory requirements; and (v) improving the Company's overall performance. The Company's safety program includes educating Company personnel, implementing, monitoring and improving Company safety policies, employing field safety personnel, providing the proactive support of management, working with safety organizations to make use of their resources and expertise, using process improvement teams and undertaking safety audits, providing cash incentive programs for employees and linking a component of management bonuses to safety, requiring substance abuse screening, investigating all accidents, and distributing on a company-wide basis information regarding accidents that have occurred and how they could have been avoided. Management believes the Company's safety indices are among the best in the industry. As an example, HydroChem's workers' compensation interstate experience modification rate ("EMR") is substantially below the average for companies in its industry. The EMR, calculated by a private advisory rating organization supporting the insurance industry, is one of the most widely observed safety statistics. The EMR is a method of reflecting a company's actual workers' compensation claims experience relative to the normally expected experience of companies within a particular industry. Major Customer In 2001, The Dow Chemical Company represented 13.3% of the Company's total revenue. This includes revenue from Union Carbide Corporation, which was acquired by The Dow Chemical Corporation in February 2001. Governmental Regulations The Company's operations are subject to various federal, state and local regulations governing employee health and safety, protection of the environment, protection of the public, and motor carriers. While management believes the Company operates safely and prudently and is in substantial compliance with these laws and regulations, there can be no assurance that accidents will not occur or that the Company will not incur penalties or fines for violations. In addition, noncompliance with these laws and regulations could negatively impact the Company's ability to secure contracts with customers or obtain adequate insurance at reasonable costs. Any of these factors could have a material adverse effect on the Company's financial condition and results of operations. Occupational Safety and Health Act. The operations of the Company are subject to the requirements of the Occupational Safety and Health Act (the "Act") and comparable state laws. Regulations promulgated under the Act require employers in the industries that the Company serves to implement training programs, work procedures, medical surveillance systems and personnel protection programs, in order to protect employees from workplace hazards and exposure to hazardous chemicals. The Company has established comprehensive programs for complying with these health and safety regulations. The Company is also subject to inspections by the Occupational Health and Safety Administration ("OSHA") and comparable state regulatory agencies following accidents involving the Company's employees, as well as on a random basis at both its facilities and its customer's facilities. These inspections seek to determine whether or not the Company's work practices are in substantial compliance with the Act. While management believes the Company operates safely and prudently, there can be no assurance that accidents will not occur or that the Company will not incur fines as a result of OSHA inspections. Federal, State and Local Environmental Regulations. The Company performs substantially all of its industrial cleaning services at industrial process facilities owned by its customers. Although chemicals may be stored at the Company's branch locations and transported by the Company to its customers' plants, no industrial cleaning services are performed at the branch locations. Typically, hazardous and non-hazardous waste handled by the Company is disposed of by the customer using the customer's waste disposal facilities. However, the Company will transport the customer's waste from one point in the customer's plant to another point within the plant, which may involve travel on a public road or, on a limited basis, to a commercial disposal facility. As a part of its services to its customers, the Company may treat the customer's waste collected by the Company in the cleaning process to neutralize, minimize or separate it into its components, thus facilitating disposal or recycling by the customer. At all times, the customer retains title to and is deemed to be the generator of the waste. Therefore, management does not believe that the Company's activities subject 8 it to the duties pertaining to generators of hazardous waste or to owners and operators of hazardous waste treatment, storage or disposal facilities. However, the Company could be subject to liability under applicable environmental statutes in the event of a spill, discharge or release of chemicals at a branch location, at a customer location, or during transportation. Department of Transportation. Certain of the Company's vehicles are subject to the regulations of the Department of Transportation, which address, among other things, maintenance of the vehicles, driver qualification and record keeping. Failure to comply with these regulations could result in fines or modification of the Company's current procedures with respect to its vehicles. Certain of the laws and regulations applicable to the Company require that it obtain permits and licenses. Management believes that the Company has obtained the permits and licenses material to its business, and that it is in substantial compliance with all federal, state and local laws and regulations governing it. To date, the Company has not been subject to any significant fines, penalties or other liabilities under these laws and regulations. Intellectual Property While the Company has numerous patents and proprietary techniques related to its products and services, it does not believe the ongoing success of its operations is dependent on these patents or techniques, individually or taken as a whole. Insurance In the normal course of business, the Company is subject to numerous operating risks, including risks associated with the safety of its employees and its customers' employees while providing industrial cleaning services, potential damage to a customer's property or business in performing these services and the potential for an environmental accident. The Company currently has in force insurance policies covering general liability, workers' compensation/employer's liability, automobile liability, environmental liability and excess liability. All of these policies are in amounts the Company believes are consistent with industry practices and provide for the Company to pay a deductible or self-insured retention on each claim. However, there can be no assurance that the insurance will adequately protect the Company and, if the Company is only partially insured or completely uninsured, a related claim could result in a material adverse effect on the Company's financial condition and results of operations. Due to adverse changes in market conditions, the Company incurred a significant increase in the price of these coverages when they were renewed in December 2001. Insurance premiums increased by $2.3 million, or 134%, to $4.0 million for 2002 from $1.7 million for 2001. In addition, the deductible for automobile liability coverage increased from $25,000 to $250,000 per occurrence. Employees As of December 31, 2001, the Company had approximately 2,050 full and part-time employees. Two of the Company's employees at one branch location are covered by a collective bargaining agreement. Management believes that relations between the Company and its employees are good. Item 2. PROPERTIES The Company's corporate and corporate support headquarters, as well as its tank cleaning, commissioning services and operations headquarters are located in a 132,000 square foot facility constructed in 1998 on 19.4 acres of land in the Houston, Texas area. This facility, which is owned by the Company, is in close proximity to many of the Company's branch locations and customers in the Houston ship channel area. As of February 28, 2002, the Company had 81 operating and administrative locations in the United States and one international location in Singapore. The Company's current domestic locations are located in Alabama, California, Florida, Georgia, Illinois, Iowa, Kansas, Kentucky, Louisiana, Michigan, Minnesota, New Jersey, Ohio, Oklahoma, Pennsylvania, Tennessee, Texas, Utah, 9 Virginia and West Virginia. The Company owns 10 of these locations. Generally, the remaining locations are leased. Of the operating locations, 46 are on-site facilities provided by or leased from the Company's customers. Item 3. LEGAL PROCEEDINGS The Company was a defendant in a lawsuit filed on September 20, 1999 in the 24th Judicial District for the Parish of Jefferson, Louisiana which sought class certification on behalf of an unknown number of plaintiffs who alleged personal and property damage arising from the release of a single 330-gallon container of hydrochloric acid on a public highway in Kenner, Louisiana in September 1999. Thereafter, the Plaintiffs filed a Motion for Class Certification which the Court denied on September 13, 2001. Any person who desires to pursue an individual claim must file it by November 6, 2002. To date, there have been three individual suits (with a total of eight claimants) filed, all of which were filed prior to the denial of class certification. It is not known how many additional persons, if any, will file individual claims. On September 30, 2001, the Company's primary insurance carrier in this matter entered into a liquidation proceeding. It is uncertain if any coverage in this litigation will be available from the Louisiana Insurance Guaranty Association or any reinsurance carriers. The Company's excess insurance is not affected by the liquidation of the primary carrier. Although it is difficult to predict with certainty until the actual number of claimants is known, management believes, that regardless of the foregoing insurance considerations, the resolution of any such claims will not have a material adverse affect on the Company's financial position or results of operations. Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. Part II. Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Not applicable. 10 Item 6. SELECTED FINANCIAL DATA The selected financial data below includes the accounts of all companies acquired by the Company from their respective dates of acquisition. The selected financial data should be read in conjunction with the Company's Consolidated Financial Statements and the Notes thereto, and "Management's Discussion and Analysis of Financial Condition and Results of Operations."
Year ended December 31, ------------------------------------------------------------ 1997 1998 1999 2000 2001 (dollars in thousands) Financial Data: Revenue ............... $ 160,604 $ 168,770 $ 191,936 $ 214,192 $ 218,820 Gross profit .......... 65,019 63,599 77,984 81,870 78,364 Gross margin .......... 40.5% 37.7% 40.6% 38.2% 35.8% Operating income ...... $ 12,658 $ 7,220 $ 15,865 $ 15,804 $ 9,357 Income (loss) before taxes and extraordinary loss 4,101 (3,191) 2,638 (256) (5,544) Net income (loss) ..... (523) (3,191) 2,603 603 (4,996) Capital expenditures .. 9,557 19,149 6,282 6,457 5,862 Net cash provided by operating activities 12,682 12,978 16,780 12,297 15,911 Net cash (provided by) used in investing and . financing activities (20,509) 13,065 46,415 10,057 14,348
As of December 31, ------------------------------------------------------------ 1997 1998 1999 2000 2001 (in thousands) Balance Sheet Data: Cash and cash equivalents $ 33,862 $ 33,775 $ 4,140 $ 6,380 $ 7,943 Working capital ...... 52,324 46,755 19,202 21,808 22,156 Total assets ......... 152,093 156,425 200,902 198,345 181,635 Total long-term debt, including current maturities ......... 110,000 116,117 150,879 148,208 140,000 Dividends paid ....... 8,540 - - - - Stockholder's equity . 16,707 13,516 16,119 16,722 11,726 Other Data: EBITDA (1) ........... $ 22,405 $17,799 $ 30,163 $ 31,506 $ 24,200 EBITDA margin (2) .... 14.0% 10.5% 15.7% 14.7% 11.1%
---------- (1)EBITDA for any relevant period presented above represents gross profit less selling, general and administrative expense and special charges. EBITDA should not be construed as a substitute for operating income, as an indicator of liquidity or as a substitute for net cash provided by operating activities, which are determined in accordance with accounting principles generally accepted in the United States. EBITDA is included because management believes it to be a useful tool for analyzing operating performance, leverage, liquidity and a company's ability to service debt. The Company's calculation of EBITDA may not be comparable to similar entitled items reported by other companies; as such companies may not define EBITDA as the Company defines it. (2)EBITDA margin for any relevant period presented above represents EBITDA divided by revenue. 11 Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the Selected Financial Data, the Company's Consolidated Financial Statements and the Notes thereto, and the other financial and operating information included elsewhere in this Form 10-K. This Form 10-K contains, in addition to historical information, forward-looking statements that include risks and uncertainties. The Company's actual results may differ materially from the results discussed in the forward-looking statements. Factors that might cause such a difference include those discussed below, as well as those discussed elsewhere in this Form 10-K. The Company undertakes no obligation to release publicly the result of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Critical Accounting Policies The discussion and analysis of the Company's financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, management evaluates these estimates, including those related to self-insurance reserves and the allowance for doubtful accounts receivable. Estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following are the Company's most critical accounting policies. These policies require significant judgments and estimates used in the preparation of the Company's consolidated financial statements. Allowance for doubtful accounts receivable. The Company establishes reserves for doubtful accounts receivable using various percentages according to the age of the receivable and also evaluates customers on a case-by-case basis when management believes the required payment of specific amounts owed to the Company is unlikely to occur. Property and casualty insurance reserve. The Company's property and casualty insurance reserves are based upon management's assumptions and estimates regarding the probable outcome of the claims. Should the outcome differ from management's assumptions and estimates or should the insurance carriers become insolvent to cover claims in excess of the Company's deductible, revisions to the estimated reserves for property and casualty insurance would be required. Results of Operations The following table sets forth, for the periods indicated, information derived from the Company's consolidated statements of operations, expressed as a percentage of revenue. There can be no assurance that the trends in operating results will continue in the future. 12
Year Ended December 31, ------------------------------------ 1999 2000 2001 Revenue............................ 100.0% 100.0% 100.0 % Cost of revenue.................... 59.4 61.8 64.2 ---- ---- ---- Gross profit..................... 40.6 38.2 35.8 SG&A expense....................... 24.9 23.5 23.8 Special charges.................... - - 0.9 Depreciation....................... 6.0 5.5 5.0 Amortization of intangibles........ 1.5 1.9 1.8 --- --- --- Operating income................. 8.2 7.3 4.3 Other: Interest expense, net............ 6.8 7.4 6.9 Other income..................... - - (0.1) --- ---- ---- Income (loss) before taxes and extraordinary loss.............. 1.4 (0.1) (2.5) Income tax benefit............... - (0.4) (0.8) Income (loss) before extraordinary loss............................ 1.4 0.3 (1.7) Extraordinary loss on early extinguishment of debt, net of taxes - - .6 --- --- ---- Net income (loss).................. 1.4% 0.3% (2.3)% === === ==== EBITDA............................. 15.7% 14.7% 11.1 % ==== ==== ====
Comparison of 2001 results to 2000 Revenue. Revenue increased $4.6 million, or 2.2%, to $218.8 million for the year ended December 31, 2001 from $214.2 million in the prior year. The increase resulted from an increase in industrial vacuuming revenue of $7.9 million, or 18.1%, from $43.4 million to $51.3 million, and an increase in hydroblasting revenue of $4.4 million, or 5.3%, from $83.8 million to $88.2 million. These increases were partially offset by a decrease in chemical cleaning revenue of $2.9 million, or 5.5% from $54.4 million to $51.5 million, a decrease in tank cleaning revenue of $2.0 million, or 10.9%, from $18.3 million to $16.3 million and a decrease in revenue from other services of $2.8 million, or 19.2%, from $14.3 million to $11.5 million. The increase in industrial vacuuming revenue resulted from additional vacuum trucks placed in service by the Company in 2001 and 2000. Hydroblasting revenue increased primarily as a result of an increase in turnaround activity and routine maintenance work. Chemical cleaning, tank cleaning and revenue from other services revenue decreased primarily due to fewer projects. Gross profit. Gross profit decreased $3.5 million, or 4.3%, to $78.4 million in 2001 from $81.9 million in the prior year. This decrease is due to an increase in cost of revenue of $8.1 million, or 6.1%, to $140.5 million in 2001 from $132.3 million in the prior year. Cost of revenue increased primarily due to increases in compensation expense and, to a lesser extent, operating supplies and site services expense. The Company typically makes lower margins on site services, which consists mainly of field equipment and tank rental, and other third party services. SG&A expense. SG&A expense increased $1.8 million, or 3.5%, to $52.1 million in 2001 from $50.4 million in the prior year. The increase primarily resulted from an increase in compensation and other employee related expenses. Special charges. In 2001, the Company incurred $2.0 million in special charges. A restructuring charge of $1.5 million was incurred in connection with a cost reduction program in the fourth quarter of 2001 and consisted of $945,000 in severance compensation to 125 employees and $591,000 related to the closing of certain facilities. Accruals of $791,000 remain as of December 31, 2001 related to this restructuring charge. Substantially all of the restructuring charge is SG&A expense. In addition, the Company incurred $483,000 of expenses principally consisting of legal, accounting and other services related to the negotiation of a possible business transaction which did not materialize. (See Note 6 of Notes to Consolidated Financial Statements.) EBITDA. Decreased gross profit and an increase in SG&A expense, including special charges, resulted in a $7.3 million, or 23.2%, decrease in EBITDA to $24.2 million in 2001 from $31.5 million in the prior year. 13 Depreciation. Depreciation expense decreased $846,000, or 7.2%, to $10.9 million in 2001 from $11.7 million in the prior year. The decrease in depreciation expense principally resulted from certain assets becoming fully depreciated. Amortization. Amortization expense of $4.0 million in 2001 was relatively unchanged from the prior year. Operating income. Decreased gross profit and increased SG&A expense, partially offset by reduced depreciation expense, resulted in a decrease in operating income of $6.4 million, or 40.8%, to $9.4 million in 2001, from $15.8 million in the prior year. Interest expense, net. Interest expense, net decreased $1.0 million, or 6.2%, to $15.0 million in 2001 from $16.0 million in the prior year. Decreased interest expense, net resulted from a reduction of outstanding debt from the prior year and lower interest rates on floating rate debt. Income (loss) before taxes and extraordinary loss. For the reasons described above, the Company incurred a loss before taxes and extraordinary loss of $5.5 million in 2001 as compared to a loss of $256,000 in the prior year. Income tax benefit. The effective income tax rate decreased in 2001, primarily as a result of a change in the valuation allowance for deferred tax assets recorded in 2000. Additionally, the effective income tax rate is higher than the statutory rate due to certain nondeductible operating expenses and nondeductible goodwill amortization. Extraordinary loss. In 2001, as a result of the early repayment of HydroChem's previously existing bank debt, an extraordinary loss was recognized in the amount of $1.4 million. The extraordinary loss consisted of $1.6 million for the write-off of associated deferred financing costs and $582,000 for terminating a related interest rate swap agreement, before the related tax benefit of $839,000. Net income (loss). For the reasons described above, the Company's net income decreased $5.6 million resulting in a loss of $5.0 million in 2001, as compared to income of $603,000 in the prior year. Comparison of 2000 results to 1999 Revenue. Revenue increased $22.3 million, or 11.6%, to $214.2 million for the year ended December 31, 2000 from $191.9 million in the prior year. The increase resulted from an increase in tank cleaning revenue of $16.2 million, principally attributable to the LANSCO acquisition, an increase in industrial vacuuming revenue of $7.2 million, or 20.0%, from $36.2 million to $43.4 million, an increase in chemical cleaning revenue of $675,000, or 1.3%, from $53.8 million to $54.4 million, and an increase in revenue from other services of $551,000, or 4.0%, from $13.7 million to $14.3 million. These increases were partially offset by a decrease in hydroblasting revenue of $2.4 million, or 2.8% from $86.2 million to $83.8 million. The increase in industrial vacuuming revenue resulted from additional vacuum trucks placed in service by the Company in 2000 and 1999. Chemical cleaning revenue increased primarily as a result of an increase in the volume of projects. Revenue from other services increased principally as a result of increased waste minimization and nuclear projects. The decrease in hydroblasting revenue resulted from a reduced volume of projects and reduced refinery turnaround activity. Gross profit. Gross profit increased $3.9 million, or 5.0%, to $81.9 million in 2000 from $78.0 million in the prior year. Cost of revenue increased $18.4 million, or 16.1%, to $132.3 million in 2000 from $114.0 million in the prior year primarily due to the LANSCO acquisition. The 2.4% decrease from the prior year in gross profit as a percentage of revenue principally resulted from increased labor, fuel and equipment maintenance costs and lower margins in the acquired LANSCO operations. SG&A expense. SG&A expense increased $2.5 million, or 5.3%, to $50.4 million in 2000 from $47.8 million in the prior year. The increase primarily resulted from the SG&A expense of LANSCO, which was partially reduced by lower insurance and profit sharing expense. EBITDA. Increased gross profit, partially offset by increased SG&A expense, resulted in a $1.3 million, or 4.5%, increase in EBITDA to $31.5 million in 2000 from $30.2 million in the prior year. 14 Depreciation. Depreciation expense increased $246,000, or 2.2%, to $11.7 million in 2000 from $11.5 million in the prior year. The increase in depreciation expense principally resulted from the acquired LANSCO assets and from capital expenditures in 2000 and 1999, partially offset by a reduction in depreciation associated with fully depreciated assets. Amortization. Amortization expense increased $1.2 million, or 40.9%, to $4.0 million in 2000 from $2.8 million in the prior year. Increased amortization expense resulted from goodwill incurred in connection with the acquisition of LANSCO. Operating income. Increased gross profit, partially offset by increased SG&A and depreciation expense, resulted in operating income being relatively unchanged at $15.8 million. Interest expense, net. Interest expense, net increased $2.9 million, or 22.1%, to $16.0 million in 2000 from $13.1 million in the prior year. Increased interest expense, net resulted from additional borrowings to finance the LANSCO acquisition. Income (loss) before taxes. For the reasons described above, the Company incurred a loss before taxes of $256,000 in 2000 as compared to income before taxes of $2.6 million in the prior year. This represents a decrease of $2.9 million. Income tax benefit. An income tax benefit in the amount of $859,000 was recorded, principally resulting from changes in the valuation allowance for deferred taxes. The Company had a valuation allowance of $363,000 and $2.3 million as of December 31, 2000 and 1999, respectively against the net operating loss and foreign tax credit carryforwards. The change in the valuation allowance is the result of utilizing net operating loss carryforwards. These net operating loss carryforwards are being recognized as management believes it is more likely than not that the deferred tax asset would be realized primarily due to the expected future reversal of depreciation temporary differences. Net income (loss). For the reasons described above, net income decreased $2.0 million to $603,000 in 2000, from $2.6 million in the prior year. Quarterly Financial Data The following table sets forth certain unaudited consolidated statements of operations and EBITDA of the Company for the quarterly periods shown. The unaudited quarterly information has been prepared on the same basis as Company's annual financial information and, in management's opinion, includes all adjustments, consisting of normal recurring accruals, necessary to present fairly the information for the quarters presented. The operating results for any quarter are not necessarily indicative of results for the year or for any future period. 15
Three months ended --------------------------------------------------------------------------------------------------- 2000 2001 ------------------------------------------------- ------------------------------------------------- Mar. 31 June 30 Sept. 30 Dec. 31 Mar. 31 June 30 Sept. 30 Dec. 31 ------- ------- -------- ------- ------- ------- -------- ------- (in thousands) Revenue.................. $53,439 $54,199 $52,049 $54,505 $59,390 $57,159 $52,017 $50,254 Cost of revenue.......... 32,264 33,173 32,733 34,152 37,331 35,937 34,469 32,719 ------ ------ ------ ------ ------ ------ ------ ------ Gross profit.......... 21,175 21,026 19,316 20,353 22,059 21,222 17,548 17,535 SG&A expense............. 12,801 12,257 12,293 13,013 13,457 13,164 13,097 12,428 Special charges.......... - - - - - - - 2,018 Depreciation............. 2,933 2,882 3,016 2,879 2,701 2,719 2,717 2,727 Amortization of intangibles 983 1,013 999 997 995 996 995 993 ----- ----- ----- ----- ----- ----- ----- ----- Operating income...... 4,458 4,874 3,008 3,464 4,906 4,343 739 (631) Other: Interest expense, net.. 4,014 4,019 4,018 3,984 3,930 3,893 3,726 3,487 Other(income)expense, net.................. 27 134 (98) (38) 5 15 (128) (27) ----- ----- ----- ----- ----- ----- ----- ----- Income (loss) before taxes and extraordinary loss 417 721 (912) (482) 971 435 (2,859) (4,091) Income tax expense (benefit) - - - (859) 495 490 (1,459) (1,442) ----- ----- ----- ----- ----- ----- ----- ----- Income (loss) before extraordinary loss... 417 721 (912) 377 476 (55) (1,400) (2,649) Extraordinary loss..... - - - - - - - 1,368 ----- ----- ----- ----- ----- ----- ----- ----- Net income (loss)........ $ 417 $ 721 $ (912) $ 377 $ 476 $ (55) $(1,400) $(4,017) ===== ===== ===== ===== ===== ===== ===== ===== EBITDA................... $ 8,374 $ 8,769 $ 7,023 $ 7,340 $ 8,602 $ 8,058 $ 4,451 $ 3,089 ===== ===== ===== ===== ===== ===== ===== =====
Liquidity and Capital Resources The Company has financed its operations through net cash provided by operating activities, existing cash balances, available credit facilities and capital contributions from Holding. On October 25, 2001, the Company entered into a financing agreement with The CIT Group/Business Credit, Inc., the proceeds of which were used for the refinancing of previously existing bank debt. The new credit facility in the amount of $62.5 million consists of (i) a revolving line of credit (the "Revolver") of up to $32.5 million, subject to a borrowing base determined by accounts receivable balances and (ii) two separate term loans in the amount of $24.3 million and $5.8 million, respectively (collectively, the "Term Loans"). The Term Loans require quarterly principal payments which began in January 2002. The financing agreement expires on October 25, 2006, requires the Company to meet a fixed charge coverage ratio and certain other customary covenants, and is secured by all current and future assets of the Company. HydroChem, at its discretion, can pay interest on a Base Rate or Eurodollar ("LIBOR") basis, plus applicable margins. Base Rate margins range from 0.50% to 1.00% and LIBOR-based margins range from 2.75% to 3.25%. Interest payments are required monthly. As of December 31, 2001, $30.0 million was outstanding under the Term Loans. The Company's borrowing base under the Revolver was $23.5 million, of which $3.5 million was reserved for standby letters of credit, principally issued in connection with the Company's property and casualty insurance program. For the year ended December 31, 2001, $10.9 million of net cash was provided by operating and investing activities, which consisted of $15.9 million provided by operating activities and $5.0 million used in investing activities. For the year ended December 31, 2000, $5.2 million of net cash was provided by operating and investing activities, which consisted of $12.3 million provided by operating activities and $7.1 million used in investing activities. For the year ended December 31, 2001, expenditures for property and equipment were $5.9 million. For the year ended December 31, 2000, expenditures for property and equipment were $6.5 million. These expenditures were principally for the purchase of operating equipment. Future contractual obligations related to long-term debt and non-cancelable operating leases as of December 31, 2001 were as follows (in thousands): 16
Payments due by period ------------------------------------------------------------ Years Years After Total Year 1 2 - 3 4 - 5 Year 5 ------------------------------------------------------------ Long-term debt $ 140,000 $ 4,286 $ 8,568 $ 17,146 $ 110,000 Operating leases 29,484 8,169 12,095 6,945 2,275 ------ ----- ------ ----- ----- $ 169,484 $ 12,455 $ 20,663 $ 24,091 $ 112,275 ========= ========= ========= ========= =========
Management believes that cash and cash equivalents at December 31, 2001, net cash expected to be provided by operating activities and borrowings, if necessary, under the Revolver will be sufficient to meet the Company's cash requirements for operations and expenditures for property and equipment for the next twelve months and the foreseeable future thereafter. From time to time, the Company reviews acquisition opportunities as they arise, and may require additional financing if it decides to make additional acquisitions. However, there can be no assurance that if such acquisition opportunities arise, that such acquisitions will be consummated, there will be financing available and on terms satisfactory to the Company. Inflation Certain of the Company's expenses, such as compensation, benefits, chemicals, supplies, and equipment repair and replacement, are subject to normal inflationary pressures. Although the Company to date has been able to offset inflationary cost increases through increased operating efficiencies and modest price increases, there can be no assurance that the Company will be able to offset any future inflationary cost increases through these or similar means. New Accounting Pronouncement In June 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations", and SFAS No. 142, "Goodwill and Other Intangible Assets", effective for fiscal years beginning after December 15, 2001. Under the new rules, goodwill and intangible assets with indefinite lives will no longer be amortized but will be subject to annual impairment tests in accordance with the statements. Other intangible assets will continue to be amortized over their useful lives. The Company will apply the new rules on accounting for goodwill and other intangible assets beginning in the first quarter of 2002. Application of the non-amortization provisions of the statement is expected to result in an annual increase in net income of approximately $2.6 million. During 2002, the Company will perform the first of the required impairment tests of goodwill and intangible assets with indefinite lives as of January 1, 2002. The Company has not yet determined what the effect of these tests will be on the earnings and financial position of the Company. Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The following discussion regarding the Company's market risk includes "forward-looking" statements that involve risk and uncertainties. Actual results could differ materially from those projected in the forward-looking statements. The Company is exposed to certain market risks, which include financial instruments such as short-term investments, trade receivables, and long-term debt. The adverse effects of potential changes in these market risks are discussed below. The sensitivity analyses presented do not consider the effects that such adverse changes may have on overall economic activity nor do they consider additional actions management may take to mitigate the Company's exposure to such changes. The Notes to Consolidated Financial Statements provide a description of the Company's accounting policies and other information related to these financial instruments. The Company does not engage in speculative transactions and does not currently use derivative instruments or engage in hedging activities. The Company had an interest rate swap that was put in place during 1998 and terminated upon the refinancing of certain debt in 2001. The Company provides industrial cleaning services to a wide range of processing industries including petrochemical plants, oil refineries, power plants, pulp and paper mills, steel mills, and aluminum plants. Management believes the Company's portfolio of accounts receivable is well diversified and, as a result, its credit risks are low. On a periodic basis, management evaluates the creditworthiness of the Company's customers and monitors accounts receivable, but typically does not require collateral. The Company's trade receivables are primarily denominated in U.S. dollars and are 17 generally collected in a timely manner. Historically, bad debts have not been material and have been within management's expectations. Management believes timely collection of trade receivables minimizes associated credit risk. The Company places its short-term investments, which generally have a term of less than 90 days, with high quality financial institutions, limits the amount of credit exposure to any one institution, and has investment guidelines relative to diversification and maturities designed to maintain safety and liquidity. As of December 31, 2001, the Company had short-term investments totaling $7.9 million. Due to the short-term nature of these instruments, their carrying value approximated market value. Management does not believe that a decrease of 1.0% from average investment rates in 2001 would be material to the Company during 2002. As of December 31, 2001, the Company's outstanding long-term debt included Senior Subordinated Notes. The Senior Subordinated Notes totaled $110.0 million, are due in the year 2007, and bear interest at a fixed rate of 10 3/8%. As of December 31, 2001 and 2000, their fair value was estimated to be $81.4 million and $79.2 million, respectively. The carrying amount of the remaining long-term debt totaled $30.0 million and $38.2 million at December 31, 2001 and 2000 respectively, and approximated fair value primarily due to the variable nature of their related interest rates. Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Reference is made to the Index to Consolidated Financial Statements on page 19 of the Company's Consolidated Financial Statements and Notes thereto. Quarterly financial data for the Company is presented on page 16. Supplementary schedules for the Company are included in Item 14. 18 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Consolidated Financial Statements Page Report of Independent Auditors............................................20 Consolidated Balance Sheets as of December 31, 2000 and 2001..............21 Consolidated Statements of Operations for each of the years ended December 31, 1999, 2000 and 2001.......................................22 Consolidated Statements of Stockholder's Equity for each of the years ended December 31, 1999, 2000 and 2001.......................................23 Consolidated Statements of Cash Flows for each of the years ended December 31, 1999, 2000 and 2001.......................................24 Notes to Consolidated Financial Statements................................25 19 REPORT OF INDEPENDENT AUDITORS Board of Directors HydroChem Industrial Services, Inc. We have audited the accompanying consolidated balance sheets of HydroChem Industrial Services, Inc. as of December 31, 2000 and 2001, and the related consolidated statements of operations, stockholder's equity and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of HydroChem Industrial Services, Inc. at December 31, 2000 and 2001, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States. ERNST & YOUNG LLP Houston, Texas February 22, 2002 20 HYDROCHEM INDUSTRIAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands, except share data)
December 31, ------------------------ 2000 2001 ------------ --------- ASSETS Current assets: Cash and cash equivalents ................................ $ 6,380 $ 7,943 Receivables, less allowance of $723 and $280, respectively 39,781 30,589 Inventories .............................................. 4,467 4,119 Prepaid expenses and other current assets ................ 1,224 2,566 Income taxes receivable .................................. 328 652 Deferred income taxes (Note 7) ........................... 1,536 3,042 ----- ----- Total current assets .................................. 54,716 48,911 Property and equipment, at cost (Note 3) .................... 100,419 103,438 Accumulated depreciation ................................. (53,721) (62,411) ------- ------- 46,698 41,027 Intangible assets, net (Note 4) ............................. 96,931 91,697 ------- ------ Total assets .......................................... $198,345 $181,635 ======== ======== LIABILITIES AND STOCKHOLDER'S EQUITY Current liabilities: Accounts payable ......................................... $ 9,455 $ 7,065 Accrued liabilities ...................................... 15,595 15,404 Current portion of long-term debt (Note 5) ............... 7,858 4,286 Total current liabilities .......................... 32,908 26,755 Long-term debt (Note 5) ..................................... 140,350 135,714 Deferred income taxes (Note 7) .............................. 8,365 7,440 Commitments and contingencies (Note 8) Stockholder's equity: Common stock, $.01 par value: 1,000 shares authorized, 100 shares outstanding..... 1 1 Additional paid-in-capital ............................ 16,558 16,558 Retained earnings (deficit) ........................... 163 (4,833) --- ------ Total stockholder's equity ......................... 16,722 11,726 ------ ------ Total liabilities and stockholder's equity ......... $198,345 $181,635 ======== ========
See accompanying notes. 21 HYDROCHEM INDUSTRIAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands)
Year ended December 31, ------------------------------------------- 1999 2000 2001 ---- ---- ---- Revenue........................... $ 191,936 $ 214,192 $ 218,820 Cost of revenue................... 113,952 132,322 140,456 ------- -------- ------- Gross profit................... 77,984 81,870 78,364 Selling, general and administrative expense........................ 47,821 50,364 52,146 Special charges (Note 6).......... - - 2,018 Depreciation...................... 11,464 11,710 10,864 Amortization of intangibles....... 2,834 3,992 3,979 ------- -------- ------- Operating income............... 15,865 15,804 9,357 Other: Interest expense, net.......... 13,129 16,035 15,036 Other (income) expense, net.... 98 25 (135) ------- -------- ------- Income (loss) before taxes and extraordinary loss............. 2,638 (256) (5,544) Income tax benefit (Note 7).... - (859) (1,916) ------- -------- ------- Income (loss) before extraordinary loss........................... 2,638 603 (3,628) Extraordinary loss on early extinguishment of debt, net of taxes (Note 5)........ 35 - 1,368 ------- -------- ------- Net income (loss)................. $ 2,603 $ 603 $ (4,996) ======= ======== =======
See accompanying notes. 22 HYDROCHEM INDUSTRIAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY (in thousands)
Additional Retained Common Paid-in Earnings Stock Capital (Deficit) Total ----- ------- --------- ----- Balance at December 31, 1998 $ 1 $16,558 $(3,043 $13,516 Net loss ................ - - 2,603 2,603 ------- ------- ------- ------- Balance at December 31, 1999 1 16,558 (440) 16,119 Net income .............. - - 603 603 ------- ------- ------- ------- Balance at December 31, 2000 $ 1 $16,558 $ 163 $16,722 Net income .............. - - (4,996) (4,996) ------- ------- ------- ------- Balance at December 31, 2001 $ 1 $16,558 $(4,833) $11,726 ======= ======= ======= =======
See accompanying notes. 23 HYDROCHEM INDUSTRIAL SERVICES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)
Year ended December 31, --------------------------------- 1999 2000 2001 ---- ---- ---- Operating activities: Net income (loss)......................... $ 2,603 $ 603 $(4,996) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation............................ 11,464 11,710 10,864 Amortization............................ 2,834 3,992 3,979 Amortization of deferred financing costs 504 738 723 Write-off of deferred financing costs... 35 - 1,626 Deferred income tax provision (benefit). 349 (651) (2,431) Loss (gain) on sale of property and equipment.............................. 13 130 (147) Changes in operating assets and liabilities, net of acquisitions: Receivables, net........................ (1,061) (6,293) 9,192 Inventories............................. (819) 254 348 Prepaid expenses and other current assets 256 (231) (342) Income taxes receivable................. (106) 176 (324) Accounts payable........................ 292 2,626 (2,390) Accrued liabilities..................... 416 (757) (191) --- ---- ---- Net cash provided by operating activities 16,780 12,297 15,911 ------ ------ ------ Investing activities: Expenditures for property and equipment... (6,282) (6,457) (5,862) Acquisitions, net of cash acquired........ (63,362) (1,518) - Proceeds from sale of property and equipment 307 835 816 --- --- --- Net cash used in investing activities.. (69,337) (7,140) (5,046) ------- ------ ------ Financing activities: Proceeds from long-term debt.............. 70,289 - 49,400 Repayments of long-term debt.............. (45,699) (2,671) (57,608) Debt financing costs...................... (1,668) (246) (1,094) ------ ---- ------ Net cash provided by (used in) financing activities............................ 22,922 (2,917) (9,302) ------ ------ ------ Net increase (decrease) in cash and cash equivalents................................ (29,635) 2,240 1,563 Cash and cash equivalents at beginning of period..................................... 33,775 4,140 6,380 ------ ----- ----- Cash and cash equivalents at end of period... $ 4,140 $ 6,380 $ 7,943 ======== ======= ======= Supplemental disclosure: Cash paid during the year for interest.... $ 12,738 $15,481 $14,384 Cash refunded during the year for income taxes, net of amounts paid............. (151) (145) (217)
See accompanying notes. 24 HYDROCHEM INDUSTRIAL SERVICES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001 1. Organization, Formation and Basis of Presentation The consolidated financial statements include the accounts of HydroChem Industrial Services, Inc. ("HydroChem") and its wholly-owned subsidiaries. (HydroChem and its subsidiaries are hereinafter sometimes referred to either separately or collectively as the "Company.") HydroChem is a wholly-owned subsidiary of HydroChem Holding, Inc. ("Holding"). The Company is engaged in the business of providing industrial cleaning services to a wide range of processing industries, including petrochemical plants, oil refineries, power plants, pulp and paper mills, steel mills, and aluminum plants. Services provided include high-pressure and ultra-high pressure water cleaning (hydroblasting), chemical cleaning, industrial vacuuming, tank cleaning, waste minimization, commissioning and other specialized services. The majority of these services involve recurring maintenance to improve or sustain the operating efficiencies and extend the useful lives of process equipment and facilities. 2. Significant Accounting Policies Principles of Consolidation The accompanying consolidated financial statements include the accounts of HydroChem and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. Cash and Cash Equivalents All investments that are readily convertible to known amounts of cash are considered to be cash equivalents. Inventories Inventories are stated at the lower of cost or market. Property and Equipment Property and equipment are recorded at cost. Costs assigned to property and equipment of acquired businesses are based on estimated fair value at the date of acquisition. Depreciation is provided for using the straight-line method over estimated useful lives ranging from 3 to 39 years. When property is retired or otherwise disposed of, the related cost and accumulated depreciation are removed from the accounts and any resulting gain or loss is reflected in income. Intangibles Intangible assets, which primarily consist of goodwill, are being amortized over 3 to 40 years on a straight-line basis. Costs allocated to other specifically identifiable intangible assets arising from business acquisitions are being amortized over their estimated useful lives. Deferred financing costs are being amortized over three to ten year financing terms and are recorded as interest expense. The Company continually evaluates whether events or circumstances have occurred that indicate the remaining estimated useful lives of the intangible assets may warrant revision or that the remaining balances may not be recoverable. Should factors indicate that the intangible assets should be evaluated for possible impairment, the Company would use an estimate of the acquired business' undiscounted future cash flows compared to the carrying value of the assets to determine whether the assets are deemed impaired. Management believes there have been no events or circumstances which warrant revision to the remaining useful lives or which affect the recoverability of the Company's intangible assets. 25 Derivative Investments In June 1998, the Financial Accounting Standards Board issued Statement No. 133 (SFAS 133), Accounting for Derivative Instruments and Hedging Activities, as amended by SFAS 138, which is required to be adopted in years beginning after June 15, 2000. On January 1, 2001, the Company adopted SFAS 133. SFAS 133 requires that all derivatives be recorded on the consolidated balance sheet at their fair value. Changes in the fair value of derivatives are recorded each period in earnings or other comprehensive income (loss), depending on the type of hedging instrument and the effectiveness of those hedges. All derivatives are adjusted to their fair market values at the end of each quarter. Unrealized net gains and losses for cash flow hedges are recorded in other comprehensive income (loss). In 1998, the Company entered into an interest rate swap to fix the interest rate on a variable rate term loan. This derivative, which was designated as a cash flow hedge at the time of adoption of SFAS 133, qualified for evaluation using the short cut method for assessing effectiveness and was considered highly effective as defined by SFAS 133. In connection with debt refinancing activities in 2001, this interest rate swap was terminated. (See Note 5.) Revenues Revenues are recognized as services are provided. Income Taxes Income taxes are provided for based on the liability method of accounting. Deferred income taxes are recorded to reflect the tax consequences of differences between the financial statement basis and the income tax basis of assets and liabilities. Stock-Based Compensation Holding grants stock options to employees of the Company for a fixed number of shares with an exercise price no less than the fair value of the shares at the date of grant. The Company accounts for such stock option grants in accordance with Financial Accounting Standards Board Statement No. 123, Accounting for Stock-Based Compensation ("FAS 123"), which permits the measurement of compensation expense in accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees ("APB 25"). The Company has elected to follow APB 25. Reclassifications Certain 1999 and 2000 amounts have been reclassified to conform to the 2001 presentation. Use of Estimates The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, management evaluates these estimates, including those related to self-insurance reserves and the allowance for doubtful accounts receivable. Estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following are the Company's most critical accounting policies. These policies require significant judgments and estimates used in the preparation of the Company's consolidated financial statements. Allowance for doubtful accounts receivable. The Company establishes reserves for doubtful accounts receivable using various percentages according to the age of the receivable and also evaluates customers on a case-by-case basis when management believes the required payment of specific amounts owed to the Company is unlikely to occur. Property and casualty insurance reserve. The Company's property and casualty insurance reserves are based upon management's assumptions and estimates regarding the probable outcome of the claims. Should the outcome differ from management's assumptions and estimates or should the insurance carriers become insolvent to cover claims in excess of the Company's 26 deductible, revisions to the estimated reserves for property and casualty insurance would be required. Concentration of Credit Risk The Company provides industrial cleaning services to a wide range of processing industries including petrochemical plants, oil refineries, power plants, pulp and paper mills, steel mills, and aluminum plants. The Company believes its portfolio of accounts receivable is well diversified and, as a result, its credit risks are minimal. The Company evaluates the creditworthiness of its customers and monitors accounts on a periodic basis, but typically does not require collateral. Credit losses have been within management's expectations. New Accounting Pronouncement In June 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations", and SFAS No. 142, "Goodwill and Other Intangible Assets", effective for fiscal years beginning after December 15, 2001. Under the new rules, goodwill and intangible assets with indefinite lives will no longer be amortized but will be subject to annual impairment tests in accordance with the statements. Other intangible assets will continue to be amortized over their useful lives. The Company will apply the new rules on accounting for goodwill and other intangible assets beginning in the first quarter of 2002. Application of the non-amortization provisions of the statement is expected to result in an annual increase in net income of approximately $2,600,000. During 2002, the Company will perform the first of the required impairment tests of goodwill and intangible assets with indefinite lives as of January 1, 2002. The Company has not yet determined what the effect of these tests will be on the earnings and financial position of the Company. 3. Property and Equipment Property and equipment at December 31, 2000 and 2001 consisted of the following (in thousands):
2000 2001 ---- ---- Land............................................ $ 1,961 $ 1,736 Office facilities, furniture, fixtures and computer equipment............................. 22,055 23,065 Machinery and equipment......................... 74,826 77,376 Vehicles........................................ 1,577 1,261 ----- ----- Total property and equipment................. $100,419 $103,438 ======== ========
4. Intangibles Intangible assets as of December 31, 2000 and 2001 consist of the following (in thousands):
2000 2001 ---------------------- ---------------------- Gross Book Net Book Gross Book Net Book Value Value Value Value ----- ----- ----- ----- Deferred financing costs.. $ 6,646 $ 4,032 $ 5,127 $ 2,777 Other intangibles......... 14,761 10,076 14,759 9,418 Goodwill ................. 92,115 82,823 92,116 79,502 ------ ------ ------ ------ Total ................. $113,522 $ 96,931 $112,002 $ 91,697 ======== ======== ======== ========
27 5. Long-Term Debt Long-term debt at December 31, 2000 and 2001 consisted of the following (in thousands):
2000 2001 ---- ---- Subordinated Notes ...................... $ 110,000 $ 110,000 Machinery and Equipment Loan ............ - 24,250 Real Estate Loan ........................ - 5,750 Term Loan ............................... 29,000 - Mortgage Loan ........................... 7,208 - Seller Notes ............................ 2,000 - ----- ----- Total long-term debt ................. 148,208 140,000 Less current portion of long-term debt (7,858) (4,286) $ 140,350 $ 135,714 ========= =========
In August 1997, HydroChem issued $110,000,000 of its 10 3/8% Senior Subordinated Notes due 2007 (the "Subordinated Notes"). The Subordinated Notes mature on August 1, 2007 and bear interest at 10 3/8% per annum which is payable semi-annually in arrears on February 1 and August 1 of each year. The Subordinated Notes are redeemable at the option of HydroChem, in whole or in part, on or after August 1, 2002 at specified redemption prices. All HydroChem subsidiaries, including International, are guarantors of the Subordinated Notes on a full and unconditional, and joint and several basis. On November 19, 1999, the Company entered into a credit agreement with six financial institutions which provided for secured borrowings of up to $60,000,000, and consisted of a $30,000,000 term loan (the "Term Loan") and a $30,000,000 revolving loan (the "Old Revolver") which was subject to borrowing base limitations. The credit facility would have expired on December 31, 2004, and required HydroChem to meet certain customary financial ratios and covenants, and restricted the Company from any further pledging of its assets. The credit facility was secured by all current and future assets of the Company and Holding. In connection with the construction of the Company's headquarters and operating facility in the Houston, Texas area, HydroChem entered into a loan agreement with a financial institution dated July 17, 1998, as amended. The loan agreement provided for an interim financing construction loan of up to $7,500,000, which was converted to a term loan (the "Mortgage Loan") in the amount of $7,500,000 on March 31, 1999. The Mortgage Loan was collateralized by first priority liens on the land and improvements, would have matured on September 30, 2006, and required quarterly payments of interest and principal. On October 25, 2001, the Company entered into a financing agreement with The CIT Group/Business Credit, Inc., proceeds of which were used for the refinancing of the Company's previous Term Loan, Old Revolver and Mortgage Loan described above. The new credit facility in the amount of $62,500,000 consists of (i) a revolving line of credit (the "Revolver") of up to $32,500,000, subject to a borrowing base determined by accounts receivable balances, (ii) a term loan in the amount of $24.3 million (the "Machinery and Equipment Loan") and (iii) a term loan in the amount of $5.8 million (the "Real Estate Loan"). The Machinery and Equipment Loan and the Real Estate Loan require quarterly principal payments that began in January 2002. The financing agreement expires on October 25, 2006, requires the Company to meet a fixed charge coverage ratio and certain other customary covenants, and is secured by all current and future assets of the Company. HydroChem, at its discretion, can pay interest on a Base Rate or Eurodollar ("LIBOR") basis, plus applicable margins. Base Rate margins range from 0.50% to 1.00% and LIBOR-based margins range from 2.75% to 3.25%. Interest payments are required monthly. As a result of the early repayment of HydroChem's prior existing bank debt, an extraordinary loss was recognized in 2001 in the amount of $1,369,000, net of taxes. The extraordinary loss consisted of $1,626,000 for the write-off of associated deferred financing costs and $582,000 for terminating a related interest rate swap agreement, before the related tax benefit of $839,000. As of December 31, 2001, $30,000,000 was outstanding under the Machinery and Equipment Loan and the Real Estate Loan. The Company's borrowing base under the Revolver was $23,500,000, of which $3,500,000 was reserved for standby letters of credit, principally issued in connection with the Company's property and casualty insurance program. There was no funded debt outstanding under the Revolver at December 31, 2001. 28 In connection with an acquisition in November 1999, the Company issued two promissory notes to the principal selling shareholders in the aggregate principal amount of $3,500,000. The final principal payments, in the amount of $2,000,000, were paid on November 19, 2001. Maturities of long-term debt for the years ended December 31, are as follows (in thousands): 2002.................................. $ 4,286 2003.................................. 4,284 2004.................................. 4,284 2005.................................. 4,284 2006.................................. 12,862 Thereafter............................ 110,000 ------- $ 140,000 =========
6. Special Charges In 2001, the Company incurred $2.0 million in special charges. A restructuring charge of $1.5 million was incurred in connection with a cost reduction program in the fourth quarter of 2001 and consisted of $945,000 in severance compensation to 125 employees and $591,000 related to the closing of certain facilities. Accruals of $791,000 remain as of December 31, 2001 related to this restructuring charge. Substantially all of the restructuring charge is SG&A expense. In 2001, the Company was also involved in negotiations regarding a possible business transaction which did not materialize. The Company incurred $483,000 of expenses, principally consisting of legal, accounting and other services which were provided in connection with these negotiations. 7. Income Taxes The Company files a consolidated tax return with Holding. Current and deferred taxes are allocated on a separate company basis. Significant components of the Company's deferred tax liabilities and assets as of December 31, 2000 and 2001 were as follows (in thousands):
2000 2001 ---- ---- Deferred tax liabilities: Property and equipment ....... $ 8,128 $ 7,993 Intangibles .................. 3,088 3,456 ----- ----- Total deferred tax liabilities 11,216 11,449 Deferred tax assets: Net operating loss ........... 1,325 3,255 Alternative minimum tax ...... 1,477 1,477 Foreign tax credit ........... 366 250 Accrued liabilities .......... 1,221 2,077 Receivables .................. 250 107 Other ........................ 114 135 Valuation allowance .......... (366) (250) ---- ---- Total deferred tax assets .... 4,387 7,051 ----- ----- Net deferred tax liability ......... $ 6,829 $ 4,398 ======== ========
The provision (benefit) for income taxes for the years ended December 31, 1999, 2000 and 2001 consisted of the following (in thousands):
1999 2000 2001 ---- ---- ---- Current.......................... $ (349) $ (208) $ (325) Deferred......................... 349 (651) (1,591) --- ---- ------ $ - $ (859) $ (1,916) ======== ======== ========
29 The differences between income taxes computed at the federal statutory income tax rate and the provision for income taxes for the years ended December 31, 1999, 2000 and 2001 consisted of the following (in thousands):
1999 2000 2001 ---- ---- ---- Income taxes computed at federal income tax rate............................. $ 885 $ (90) $ (1,940) State income taxes, net of federal tax benefit.............................. 305 178 249 Nondeductible permanent differences.... 515 1,385 622 Change in valuation allowance.......... (1,040) (1,969) - Other, net............................. (665) (363) (847) ---- ---- ---- Provision for income taxes............. $ - $ (859) $ (1,916) ======== ======== ========
At December 31, 2001, the Company had alternative minimum tax credit carryforwards of approximately $1,477,000, foreign tax credit carryforwards of approximately $250,000 and a net operating loss carryforward of approximately $8,564,000. The alternative minimum tax credit carryforwards are available indefinitely, the foreign tax credit carryforwards began to expire in 1999 and the net operating loss carryforward begins to expire in 2009. 8. Commitments and Contingencies The Company leases most of its operating locations, and certain vehicles and equipment under operating leases. The leases contain various renewal options, rent escalation provisions and insurance requirements. Lease expense for the years ended December 31, 1999, 2000 and 2001was $8,744,000, $9,072,000 and $9,177,000, respectively. Future minimum rental commitments under operating leases with initial terms of one year or more at December 31, 2001 are as follows (in thousands): 2002........................................... $8,169 2003........................................... 6,635 2004........................................... 5,460 2005........................................... 4,201 2006........................................... 2,744 Thereafter..................................... 2,275 ----- Total.......................................... $29,484 =======
The Company is a defendant in various lawsuits arising in the normal course of business and certain other lawsuits. Substantially all of these suits are being defended by the Company's insurance carriers. Management believes that any material contingent liability associated with this litigation will not exceed the limits of applicable insurance policies or other indemnities. While the results of litigation cannot be predicted with certainty, management believes adequate provision has been made for all of the foregoing claims and the final outcome of any pending litigation will not have a material adverse effect on the Company's consolidated financial position or results of operations. 9. Employee Benefit Plans Profit Sharing and 401(k) Plan HydroChem maintains the HydroChem Industrial Services Discretionary Profit Sharing Plan and 401(k) Plan (the "Plan"). Profit sharing contributions to the Plan are at the discretion of the Board of Directors of HydroChem. All profit sharing contributions are allocated to the accounts of individual participants based upon a formula. Eligible employees, at their option, may also make contributions to their separate 401(k) accounts within the Plan. HydroChem matches 100% of the first 3% of compensation contributed by non-exempt employees and 50% of the first 3% of compensation contributed by exempt employees, up to a maximum of $750 per employee. All profit sharing and 401(k) contributions and any earnings thereon are tax-deferred. No profit sharing contribution was made for the years ended December 31, 1999, 2000 and 2001. For the same years, HydroChem made employer 401(k) matching contributions to the Plan of $522,000, $560,000 and $614,000, respectively. 30 Deferred Bonus Plan Effective May 1, 1999, the Company adopted a deferred bonus plan (the "Deferred Plan"). Awards under the Deferred Plan may be granted to a select group of management employees as determined by the Board of Directors. Subject to continuing employment, each participant upon receiving an initial award under the Deferred Plan in any given year is guaranteed an additional award in the following year, equal to at least one half of that person's discretionary cash bonus for the prior year. Awards under the Deferred Plan vest in equal annual installments on the first four anniversary dates of the award. Awards also become fully vested if the participant dies, becomes disabled, or is terminated without cause within one year after a change of control (an "Acceleration Event"). Generally, the vested portion of any award is payable with interest either four years from the date of grant or, at the option of the participant, seven years after the date of the grant. Awards are also payable upon the occurrence of an Acceleration Event. In most cases, the interest on any award is at one of two specified rates. The lower of the two rates applies if the payment is made after four years. The higher rate applies if the participant elects to defer payment until seven years after the date of grant or if there is an Acceleration Event. The Company accrued $601,000 and $888,000 of Deferred Compensation expense for the years ended December 31, 2000 and 2001, respectively. 10. Stock Option Plan In 1994, the Board of Directors of Holding (the "Board") adopted, and the stockholders approved, the HydroChem Holding, Inc. 1994 Stock Option Plan (the "Option Plan"), pursuant to which options to purchase up to an aggregate of 620,779 shares of Holding's Class A Common Stock may be granted. The Option Plan is administered by a committee of not fewer than two directors appointed by the Board. Among other things, the committee decides which employees will receive options, the number of shares covered by any option granted, the term of the option and the exercise price and other terms and conditions of each such option. The committee also decides if each option granted shall be an incentive stock option under Section 422 of the Internal Revenue Code of 1986 (the "Code") or an option that does not qualify under that section of the Code ("Non-Qualified Stock Option"). The Board may at any time suspend or terminate the Option Plan or revise or amend it in any respect. All options granted under the Option Plan are nontransferable except by the laws of descent and distribution. All options granted to date expire ten years after the date of grant or upon earlier termination of employment unless due to death, disability or retirement, in which case the option remains exercisable for an additional three months in the case of retirement and one year in the case of death or disability, but, in all cases, only to the extent it was exercisable at the time of such death, disability or retirement. All options granted since the inception of the Option Plan have been Non-Qualified Stock Options and become exercisable in installments, generally over three to four year periods after the date of grant. The weighted-average remaining contractual life of outstanding options at December 31, 2001 was 4.6 years. 31 A summary of the Option Plan as of December 31, 1999, 2000 and 2001 and changes during the years ended on those dates is presented below:
Number of Weighted- Shares Average Covered by Exercise Options Price ------- ----- Outstanding at January 1, 1999.................... 281,789 $1.00 Granted....................................... 38,300 1.00 Exercised..................................... 54,539 1.00 Canceled...................................... 19,500 1.00 ------ ---- Outstanding at December 31, 1999 ................. 246,050 1.00 Granted....................................... 16,089 1.00 Exercised..................................... 35,964 1.00 Canceled...................................... 14,625 1.00 ------ ---- Outstanding at December 31, 2000 ................. 211,550 1.00 Granted....................................... 8,625 1.00 Exercised..................................... 14,875 1.00 Canceled...................................... 21,000 1.00 ------ ---- Outstanding at December 31, 2001.................. 184,300 $1.00 === ===== ======= ===== Exercisable at: December 31, 1999............................. 186,000 $1.00 December 31, 2000............................. 180,200 $1.00 December 31, 2001............................. 165,150 $1.00
The Company has elected to follow APB 25 and related interpretations in accounting for employee stock options. Accordingly, no compensation expense has been recognized for these stock options. Pro forma information regarding net income and earnings per share is required by FAS 123, which also requires that the information be determined as if the Company had accounted for its employee stock options under the fair value method of FAS 123. The fair value for these options was estimated at the date of grant using a minimum value option pricing model. The minimum value method calculated a fair value that is materially the same as recorded by the Company according to APB 25, therefore pro forma presentation has not been included. 11. Fair Value of Financial Instruments The Company does not hold or issue financial instruments for trading purposes. Fair value amounts have been determined using available market information and appropriate valuation methodologies as described below. However, considerable judgment is required to interpret market data and to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize in a current market exchange. Potential income tax ramifications related to the realization of unrealized gains and losses that would be incurred in an actual sale or settlement have not been taken into consideration. The carrying amounts for cash and cash equivalents, accounts receivable, and current liabilities approximate their fair values, principally due to the short-term maturities of these instruments. The estimated fair value of the Subordinated Notes of $79,200,000 and $81,400,000 as of December 31, 2000 and 2001, respectively, is based on the most recently available trading prices. The carrying amounts for the Company's other long-term debt are reasonable estimates of their fair values, principally due to the variable nature of their respective interest rates. 32 12. Guarantor Information Summary financial information for HydroChem is as follows (in thousands):
CONDENSED CONSOLIDATING BALANCE SHEETS As of December 31, 2000 ----------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Assets Receivables................... $ 36,611 $ 2,958 $ 212 $ - $ 39,781 Other current assets.......... 12,645 1,724 566 - 14,935 ------ ----- --- --- ------ Total current assets........ 49,256 4,682 778 - 54,716 Property and equipment, net.. 46,498 122 78 - 46,698 Intangible assets, net........ 96,864 67 - - 96,931 Investments................... 1,102 - - (1,102) - ----- --- --- ------ ------- Total assets................ $193,720 $ 4,871 $ 856 $ (1,102) $198,345 ======== ======= ===== ======== ======== Liabilities and Equity Current liabilities........... 32,033 801 74 - 32,908 Long-term debt................ 140,350 - - - 140,350 Deferred income taxes......... 8,365 - - - 8,365 Stockholder's equity.......... 12,972 4,070 782 (1,102) 16,722 ------ ----- --- ------ ------ Total liabilities and equity $193,720 $ 4,871 $ 856 $ (1,102) $198,345 ======== ======= ===== ======== ========
As of December 31, 2001 ----------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Assets Receivables................... $ 30,127 $ 462 $ - $ - $30,589 Other current assets.......... 13,929 3,748 645 - 18,322 ------ ----- --- --- ------ Total current assets........ 44,056 4,210 645 - 48,911 Property and equipment, net.. 40,793 101 133 - 41,027 Intangible assets, net........ 91,630 67 - - 91,697 Investments................... 1,102 - - (1,102) - ----- --- --- ------ ------ Total assets................ $177,581 $4,378 $ 778 $(1,102) $181,635 ======== ====== ===== ======= ======== Liabilities and Equity Current liabilities........... 26,454 282 19 - 26,755 Long-term debt................ 135,714 - - - 135,714 Deferred income taxes......... 7,440 - - - 7,440 Stockholder's equity.......... 7,973 4,096 759 (1,102) 11,726 ----- ----- --- ------ ------ Total liabilities and equity $177,581 $4,378 $ 778 $(1,102) $181,635 ======== ====== ===== ======= ========
33
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS Year Ended December 31, 1999 ---------------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Revenue.......................... $181,534 $7,155 $3,247 $ - $191,936 Cost of revenue.................. 107,460 4,462 2,030 - 113,952 ------- ----- ----- --- ------- Gross profit.................. 74,074 2,693 1,217 - 77,984 Selling, general and administrative expense.......... 45,616 1,663 542 - 47,821 Depreciation..................... 11,255 105 104 - 11,464 Amortization of intangibles...... 2,834 - - - 2,834 ----- --- --- --- ----- Operating income.............. 14,369 925 571 - 15,865 Interest and other expense, net.. 13,214 15 (2) - 13,227 ------ -- -- --- ------ Income before taxes and extraordinary loss........... 1,155 910 573 - 2,638 Extraordinary loss............... 35 - - - 35 -- --- --- --- -- Net income.................... $ 1,120 $ 910 $ 573 $ - $ 2,603 ======== ====== ====== ====== ========
Year Ended December 31, 2000 ---------------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Revenue.......................... $205,751 $7,539 $902 $ - $214,192 Cost of revenue.................. 127,105 4,752 465 - 132,322 ------- ----- --- --- ------- Gross profit.................. 78,646 2,787 437 - 81,870 Selling, general and administrative expense.......... 49,164 954 246 - 50,364 Depreciation..................... 11,625 75 10 - 11,710 Amortization of intangibles...... 3,992 - - - 3,992 ----- --- --- --- ----- Operating income.............. 13,865 1,758 181 - 15,804 Interest and other expense, net.. 16,049 11 - - 16,060 ------ -- --- --- ------ Income (loss) before taxes.... (2,184) 1,747 181 - (256) Income tax benefit............... (859) - - - (859) ---- --- --- --- ---- Net income (loss)............. $ (1,325) $1,747 $181 $ - $ 603 ======== ====== ==== ====== ========
Year Ended December 31, 2001 ---------------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Revenue.......................... $214,188 $3,946 $ 686 $ - $218,820 Cost of revenue.................. 137,138 2,866 452 - 140,456 ------- ----- --- --- ------- Gross profit.................. 77,050 1,080 234 - 78,364 Selling, general and administrative expense.......... 50,957 952 237 - 52,146 Special charge................... 2,018 - - - 2,018 Depreciation..................... 10,774 68 22 - 10,864 Amortization of intangibles...... 3,979 - - - 3,979 ----- --- --- --- ----- Operating income.............. 9,322 60 (25) - 9,357 Interest and other expense, net.. 14,868 35 (2) - 14,901 ------ -- -- --- ------ Income (loss) before taxes and extraordinary loss....... (5,546) 25 (23) - (5,544) Income tax benefit............... (1,916) - - - (1,916) ------ --- --- --- ------ Income (loss) before extraordinary loss........... (3,630) 25 (23) - (3,628) Extraordinary loss............... 1,368 - - - 1,368 ----- --- --- --- ----- Net income (loss)............. $ (4,998) $ 25 $(686) $ - $ (4,996) ======== ===== ===== ====== ========
34
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS Year Ended December 31, 1999 ---------------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Net cash provided by (used in) operating activities........... $ 16,989 $ (95) $ (114) $ - $ 16,780 Capital expenditures............. (6,205) (5) (72) - (6,282) Other investing activities, primarily acquisitions......... (63,055) - - - (63,055) ------- --- --- --- ------- Net cash used in investing activities..................... (69,260 (5) (72) - (69,337) Proceeds from (repayments) of long-term debt, net.............. 25,547 - (957) - 24,590 Other financing activities....... (1,668) - - - (1,668) ------ --- --- --- ------ Net cash provided by (used in) financing activities........... 23,879 - (957) - 22,922 ------ --- ---- --- ------ Net decrease in cash............. $(28,392) $(100) $(1,143) $ - $(29,635) ======== ===== ======= ====== ========
Year Ended December 31, 2000 ---------------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Net cash provided by operating $11,896 $333 $68 $ - $12,297 activities..................... Capital expenditures............. (6,452) (5) - - (6,457) Other investing activities....... (683) - - - (683) ---- --- --- --- ---- Net cash used in investing activities..................... (7,135) (5) - - (7,140) Repayments of long-term debt, net (2,671) - - - (2,671) Other financing activities....... (246) - - - (246) ---- --- --- --- ---- Net cash used in financing activities..................... (2,917) - - - (2,917) Net increase in cash............. $ 1,844 $328 $68 $ - $ 2,240 ======= ==== === ====== =======
35
Year Ended December 31, 2001 ---------------------------- Guarantor Total HydroChem Subsidiaries Eliminations Consolidated --------- ------------ ------------ ------------ Int'l Other ----- ----- Net cash provided by (used in) operating activities........... $16,148 $(309) $ 72 $ - $15,911 Capital expenditures............. (5,737) (48) (77) - (5,862) Other investing activities....... 816 - - - 816 --- --- --- --- --- Net cash used in investing activities..................... (4,921) (48) (77) - (5,046) Repayments of long-term debt, net (8,208) - - - (8,208) Other financing activities....... (1,094) - - - (1,094) Net cash used in financing activities..................... (9,302) - - - (9,302) ------ --- --- --- ------ Net increase (decrease) in cash.. $ 1,925 $(357) $ (5) $ - $ 1,563 ------- ----- ------ ------ -------
13. Major Customer In 1999, 2000, and 2001, one customer and its affiliates represented 10.0%, 9.2% and 13.3%, respectively, of the Company's total revenue. 14. Acquisitions Effective January 1, 1999, the Company acquired substantially all of the assets and assumed certain liabilities of Valley Systems, Inc. and Valley Systems of Ohio, Inc. (collectively "Valley"), a regional industrial services provider. The assets acquired consisted primarily of (i) accounts receivable, (ii) property, plant and equipment, (iii) intangibles, and (iv) other operating assets. The adjusted purchase price for the acquired assets was $30,900,000 in cash, of which $4,000,000 was deposited into escrow. As part of the transaction, the Company also assumed $2,493,000 in capital lease obligations and $5,594,000 in bank debt. The Company has replaced the capital leases with operating leases and retired the bank debt. The source of funds for the purchase price and retirement of Valley's bank debt was a combination of cash on hand and borrowings under a previous credit facility. The acquisition has been accounted for using the purchase method of accounting. The excess of the purchase price over the fair value of the net assets acquired is being amortized over periods ranging from 10 to 25 years and is estimated as follows (in thousands): Purchase price (as adjusted)............. $ 30,857 Transaction and acquisition costs........ 1,950 ------- 32,807 Fair value of net assets acquired........ 5,857 ------- Excess of purchase price over fair value. $ 26,950 ======
The book value of net assets acquired was determined to approximate fair value at the date of acquisition. Transaction costs consisted primarily of fees to attorneys, accountants and other outside service providers, and costs of transferring ownership of the acquired assets. Acquisition costs primarily represent (i) severance and relocation costs for certain Valley employees, (ii) expenses incurred in connection with the closing or consolidation of certain facilities, and (iii) certain other costs incurred directly in connection with the acquisition. On November 19, 1999, the Company acquired all of the issued and outstanding capital stock (the "Shares") of Landry Service Co., Inc. ("LANSCO"). LANSCO is primarily engaged in the business of tank cleaning, oil reclamation and liquid-solid waste separation for the oil refining industry. The Company paid $35,500,000 for the Shares, consisting of $32,000,000 in cash paid at closing and $3,500,000 in Seller Notes paid in installments with interest over the two years following the date of acquisition to the two principal stockholders of LANSCO. Further, the Company paid one of these principal stockholders an additional $1,250,000 over two years as additional consideration for his Shares and for consulting 36 services. The source of funds for the acquisition was a combination of existing available cash, the Seller Notes, and the Term Loan. (See Note 5.) The acquisition of the Shares has been accounted for using the purchase method of accounting. The excess of the purchase price over the fair value of the net assets acquired is being amortized over periods ranging from 10 to 25 years and is estimated as follows (in thousands): Cash payment...................................... $32,000 Seller Notes...................................... 3,500 Additional purchase price......................... 1,050 Transaction and acquisition costs................. 1,150 ----- 37,700 Fair value of net assets acquired................. 4,975 ----- Excess of purchase price over fair value.......... $32,725 =======
The book value of net assets acquired was determined to approximate fair value at the date of acquisition. The additional purchase price represented an amount that was paid over two years to a former principal stockholder of LANSCO. Transaction costs primarily consisted of fees to accountants, attorneys and other outside service providers. Acquisition costs primarily consisted of consulting fees payable over two years to a former principal stockholder of LANSCO and costs directly associated with the integration of LANSCO operations and facilities. The results of operations derived from the Valley and LANSCO acquisitions are included in the Company's financial statements from the effective date of each acquisition. 37 Item 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. Part III. Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The directors and executive officers of HydroChem are as follows:
Names of Directors and Executive Officers Age Position ---------------------- --- -------- B. Tom Carter, Jr........ 57 Chairman of the Board and Chief Executive Officer Robert B. Crates......... 39 Director Carl L. Blonkvist........ 64 Director Gary D. Noto............. 47 President and Chief Operating Officer Donovan W. Boyd.......... 48 Executive Vice President J. Pat DeBusk............ 61 Executive Vice President Kelvin R. Collard........ 44 Vice President and Chief Financial Officer Pelham H. A. Smith....... 45 Executive Vice President R. Dwane Ruiz............ 47 Vice President Gregory G. Rice.......... 37 Vice President Michael P. Steindler..... 54 General Counsel and Secretary
Subject to the terms of a stockholders agreement entered into by Holding and all of its stockholders (the "Stockholders Agreement"), the Board of Directors of HydroChem currently consists of three directors who hold office until the next annual meeting of the stockholders or until their successors are duly elected and qualified. Pursuant to the terms of the Stockholders Agreement, one director, Mr. Blonkvist, has been designated by Citicorp Venture Capital, Ltd. ("CVC") and one director, Mr. Crates, has been designated by LKCM Venture Partners I Ltd. The stockholders also agreed to elect Mr. Carter as a director so long as he serves as Chief Executive Officer. The Stockholders Agreement further provides that CVC has the right to designate an additional director, and that the holders of a majority of the shares of Holding's capital stock owned by such stockholders may designate a director, but neither CVC nor the majority stockholders have exercised these rights. See "Item 12. Security Ownership of Certain Beneficial Owners and Management." The executive officers are elected annually by the Board of Directors and serve at the discretion of the Board until their successors are duly elected and qualified. B. Tom Carter, Jr. has been Chairman of the Board and Chief Executive Officer of HydroChem or Chief Executive Officer of Hydro Services since 1990. Mr. Carter was also the President until August 1998. As a private investor, Mr. Carter assembled the investment groups which acquired Hydro Services in 1990 and formed HydroChem in 1993 for the purposes of combining the businesses of Hydro Services and DIS. Robert B. Crates has been a director of HydroChem since 1993. Since December 1995, Mr. Crates has been a principal of Crates Thompson Capital, Inc., an investment company engaged in the management of private equity funds. From May 1988 to November 1995, Mr. Crates served as the general partner of LKCM Venture Partners I Ltd., a private equity fund. Carl L. Blonkvist has been a director of HydroChem since November 2000. Mr. Blonkvist has been engaged in private consulting beginning in January 2002. Prior thereto, he had been President and Chief Operating Officer since February 1998 of Page-Wheatcroft & Co., an executive search firm. From January 1994 to August 1997, he was a Senior Vice President of Coca-Cola Foods. Mr. Blonkvist has also been a director of Merchant Metals Incorporated, a manufacturer of cyclone fencing, since April 1997. 38 Gary D. Noto has been President and Chief Operating Officer of HydroChem since August 1998. Mr. Noto had served as an Executive Vice President of HydroChem since December 1996 and in various executive, management or other positions with HydroChem, or Hydro Services or the predecessor to its operations since 1978. Donovan W. Boyd has been an Executive Vice President of HydroChem since August 1998. Mr. Boyd had served as a Vice President of HydroChem since November 1997. From April 1995 to October 1997, Mr. Boyd was Senior Vice President and Chief Operating Officer of North American Technologies Group, a publicly held technology development company. Prior thereto, Mr. Boyd was a Vice President of Rust Industrial Services, Inc. for more than one year. J. Pat DeBusk has been an Executive Vice President of HydroChem since December 1993. Mr. DeBusk also held various executive or other management positions with Hydro Services or the predecessor to its operations since 1964. Kelvin R. Collard has been a Vice President and Chief Financial Officer of HydroChem since February 2002. From July 1999 to June 2001, he was Vice President and Controller of Lyondell Chemical Company, a global chemical manufacturer ("Lyondell"). He held the same position from August 1997 to June 2001 with Equistar Chemicals, L.P., a domestic petrochemical manufacturer for which Lyondell is the managing general partner. From May 1989 to July 1997, Mr. Collard held various management positions for Atlantic Richfield and its subsidiaries, with the final position as controller for ARCO Coal Company. Pelham H. A. Smith has been an Executive Vice President of HydroChem since December 2000. He was also Chief Financial Officer from such date until February 2002. Prior thereto, Mr. Smith had served as Vice President of HydroChem since December 1993. Before that time, Mr. Smith had been assisting Mr. Carter since 1990 in various private investment activities. R. Dwane Ruiz has been a Vice President of HydroChem since August 1998. Prior thereto, Mr. Ruiz held various management positions with HydroChem or HIS since 1977. Gregory G. Rice has been a Vice President of HydroChem since August 1998. Prior thereto, Mr. Rice held various management positions with HydroChem or DIS since August 1987. Michael P. Steindler has been the General Counsel of HydroChem since April 1994 and has been the Secretary of HydroChem since March 1995. From August 1993 to February 1998, he was also a partner in the law firm of Cassell & Stone in Dallas, Texas. Directors and Officers of Holding and International The directors of Holding and International are the same as those of HydroChem. The executive officers of Holding and International are B. Tom Carter, Jr. (Chairman and Chief Executive Officer), Gary D. Noto (President and Chief Operating Officer), Kelvin R. Collard (Vice President and Chief Financial Officer), Pelham H. A. Smith (Executive Vice President) and Michael P. Steindler (General Counsel). 39 Item 11. EXECUTIVE COMPENSATION The following table provides certain information concerning compensation earned by the Chief Executive Officer and the Company's next four most highly compensated executive officers serving in such capacities at December 31, 2001 who received compensation in excess of $100,000 (the "Named Executive Officers") for the period indicated.
Long-Term Compensation ---------------------- Number of Annual Compensation Shares ------------------- Underlying All Other Name and Principal Position Year Salary Bonus Options Compensation(1) --------------------------- ---- ------ ----- ------- --------------- B. Tom Carter, Jr ........... 2001 $275,000 $ - 8,625 $ 750 Chairman of the Board and . 2000 265,835 - 16,089 750 Chief Executive Officer ... 1999 240,406 150,000 - 750 Gary D. Noto ................ 2001 196,538 50,000 - 52,913 President and Chief ....... 2000 186,026 70,000 - 31,512 Operating Officer ......... 1998 186,028 97,000 4,000 750 Donovan W. Boyd ............. 2001 165,000 87,000 - 42,213 Executive Vice President .. 2000 151,820 73,500 - 22,150 1999 150,155 75,000 20,000 750 R. Dwane Ruiz ............... 2001 140,577 67,000 - 42,213 Vice President ............ 2000 112,692 53,125 - 22,150 1999 96,500 42,525 - 750 Michael P. Steindler ........ 2001 180,000 41,000 - - Executive Vice President .. 2000 180,000 50,000 - - and Chief Financial Officer 1999 180,000 42,000 - -
__________ (1) Consists of HydroChem's 401(k) matching contribution of $750 per person per year, and for 2000 and 2001, the portion of any deferred bonus that vested during the year plus interest on such vested portion. See "Deferred Bonus Plan." Director Compensation Directors receive a $1,500 fee for each Board of Directors meeting, unless they are also employees of the Company and as such do not receive additional compensation for serving as directors. All directors of the Company are reimbursed for out-of-pocket expenses incurred in attending meetings of the Board of Directors and for other expenses incurred in their capacities as directors of the Company. In connection with serving on the Board of Directors as the CVC designee, CVC has transferred to Mr. Blonkvist 30,000 shares of Holding's Class B Common Stock. See "Item 12. Security Ownership of Certain Beneficial Owners and Management". Stock Option Information Holding has adopted the HydroChem Holding, Inc. 1994 Stock Option Plan (the "Option Plan"). The Option Plan is administered by a committee of Holding's Board of Directors (the "Committee"), which currently consists of Messrs. Blonkvist and Crates. The purpose of the Option Plan is to advance the interests of Holding and its subsidiaries by encouraging certain employees of the Company to acquire a proprietary interest in Holding through ownership of Holding's Class A Common Stock ("Class A Common"). The total number of shares of Class A Common that may be subject to options under the Option Plan is 620,779. As of December 31, 2001, options for 184,300 shares 40 of Class A Common were outstanding and options for 21,000 shares were available for grant. The duration of each option and the exercise schedule therefor is determined by the Committee at the time of grant. The following table sets forth certain information with respect to the exercise of stock options and unexercised options granted to the Named Executive Officers. Fiscal Year End Option Values
Number of Securities Value of Underlying Unexercised Shares Acquired Value Unexercised Options In-the-Money Options Name on Exercise Realized at December 31, 2001 at December 31, 2001 (1) ---- ----------- -------- -------------------- ------------------------ Exercisable Unexercisable Exercisable Unexercisable ----------- ------------- ----------- ------------- B.Tom Carter......... 16,089 $ 0 - - $ 0 $ 0 Gary D. Noto......... - - 19,500 2,000 0 0 Donovan W. Boyd...... - - 10,000 10,000 0 0 R. Dwane Ruiz........ - - 8,150 4,650 0 0 Michael P. Steindler. - - - - 0 0
__________ (1) There is no established trading market for the Class A Common, but the Company has attempted to determine its market value based upon the same criteria which were used to determine the exercise prices of past options granted. Based upon these criteria, at December 31, 2001, there were no options which were in-the-money. Employment Agreements and Other Arrangements Holding has an employment agreement with Mr. Carter under which he serves as the Chairman of the Board and Chief Executive Officer of Holding and the Company. Either Holding or Mr. Carter may terminate this agreement at anytime by giving one year advance notice. Mr. Carter's current base compensation under this Agreement is $275,000 per year, and is subject to review and may be increased periodically at the discretion of the Board. Under this agreement, bonuses are payable to Mr. Carter at the sole discretion of the Board. Also under this agreement, Holding granted Mr. Carter in March 1995 an option to purchase 310,390 shares of Class A Common at an exercise price of $1.00 per share under Holding's 1994 Stock Option Plan. See "Stock Option Information." If Mr. Carter's employment is terminated without cause as defined in his agreement, then he is entitled to a lump sum severance payment equal to one year of his then current base compensation. Mr. Carter's agreement contains a covenant not to compete and other customary restrictions. The covenant not to compete does not apply if there is a termination without cause, or a resignation by Mr. Carter after a change in control as defined in his agreement or after a diminution in his duties. The Company has guaranteed Holding's obligations under the employment agreement. In connection with the exercise of certain stock options and the payment of accrued interest on prior loans, Holding has loaned to Mr. Carter the principal sum of $434,362. The loan is evidenced by a secured promissory note dated March 15, 2002 bearing interest at the rate of 4.52% per annum, compounded annually. Principal and all accrued interest thereon is payable on March 14, 2008. The note is secured by a pledge of the Class A Common shares acquired pursuant to Mr. Carter's stock option exercises. HydroChem has employment agreements with Messrs. Noto and Boyd. Each of these agreements renews automatically on an annual basis unless either HydroChem or the employee gives 30 days notice to the contrary. The current annual base compensation under these agreements for Messrs. Noto and Boyd is $210,000 and $165,000, respectively. Such amounts are subject to review and may be increased periodically at the discretion of HydroChem. For Mr. Noto, bonuses are also payable at the sole discretion of HydroChem. Mr. Boyd's agreement provided a performance bonus for 1999 of up to 50% of his base compensation. Mr. Boyd's agreement also provided for an award under HydroChem's Deferred Plan, as defined below, of $80,000 in 1999 and an amount in 2000 equal to at least 100% of Mr. Boyd's performance bonus for 1999. If HydroChem terminates the employment of Messrs. Noto or Boyd without cause, as defined in their respective agreements, then such individual is entitled to a continuation of his then current base compensation for 12 months. Each of the agreements for Messrs. Noto and Boyd contain covenants not to compete and other customary restrictions 41 The Company and Mr. Ruiz are parties to a Supplemental Confidentiality and Proprietary Information Agreement with Provision for Severance Benefit dated as of April 1, 2000. Among other things, this Agreement provides that if HydroChem terminates the employment of Mr. Ruiz without cause as therein defined, then he is entitled to a continuation of his then current base compensation for six months. Deferred Bonus Plan Effective May 1, 1999, the Company adopted a deferred bonus plan (the "Deferred Plan"). Awards under the Deferred Plan may be granted to a select group of management employees as determined by the Board of Directors. Subject to continuing employment, each participant upon receiving an initial award under the Deferred Plan in any given year is guaranteed an additional award in the following year, equal to at least one half of that person's discretionary cash bonus for the prior year. Awards under the Deferred Plan vest in equal annual installments on the first four anniversary dates of the award. Awards also become fully vested if the participant dies, becomes disabled, or is terminated without cause within one year after a change of control (an "Acceleration Event"). Generally, the vested portion of any award is payable with interest either four years from the date of grant or, at the option of the participant, seven years after the date of the grant. Awards are also payable upon the occurrence of an Acceleration Event. In most cases, the interest on any award is at one of two specified rates. The lower of the two rates applies if the payment is made after four years after the date of grant. The higher rate applies if the participant elects to defer payment until seven years after the date of grant or if there is an Acceleration Event. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT All of the outstanding capital stock of International is owned by HydroChem. All of the outstanding capital stock of HydroChem is owned by Holding. The authorized capital stock of Holding consists of (i) 8,000,000 shares of Class A Common, par value $.00005 per share, of which 1,268,881 shares are issued and outstanding; (ii) 5,000,000 shares of Class B Common Stock, par value $.00005 per share ("Class B Common"), of which 3,926,598 shares are issued and outstanding; (iii) 1,000,000 shares of Class C Common Stock, par value $.00005 per share ("Class C Common"), of which no shares are issued and outstanding; and (iv) 5,000,000 shares of Series A 13% Cumulative Preferred Stock, par value $.00005 per share ("Series A Preferred"), all of which are issued and outstanding. The following table sets forth certain information known to the Company with respect to beneficial ownership of Holding's equity securities (rounded to the nearest share) by (i) each director; (ii) each Named Executive Officer; (iii) all executive officers and directors of the Company as a group; and (iv) each stockholder known by the Company to be the beneficial owner of more than five percent of any class of voting securities of Holding. Such information is presented as of February 28, 2002. 42
Class A Common Class B Common Series A Preferred -------------------- -------------------- -------------------- No. of % of No. of % of No. of % of Name Shares Class Shares Class Shares Class --------------------------------- ---------- ------- ---------- ------- ---------- ------- Executive Officers and Directors: B. Tom Carter, Jr. (1) ........ 462,754 36.5% - - 360,993 7.2% 900 Georgia Avenue Deer Park, Texas 77536 Robert B. Crates .............. - - - - - - Carl L. Blonkvist.............. 30,000 2.4% 30,000 * - - Gary D. Noto (2) (3) .......... 38,079 3.0% 880 * 31,488 * Donovan W. Boyd (4)............ 10,000 * - - - - Michael P. Steindler........... - - - - - - R. Dwane Ruiz (5).............. 8,150 * - - - - All directors and executive officers as a group (11 persons) (2) (6).......... 640,710 47.0% 32,420 * 447,584 9.0% Other Principal Stockholders: LKCM Venture Partners I Ltd. .. 673,993 53.1% - - 2,100,628 42.0% 301 Commerce Street, Suite 1600 Fort Worth, Texas 76102 Citicorp Venture Capital, Ltd.(2) 2,818,510 69.0% 2,818,510 71.8% 1,250,861 25.0% 399 Park Avenue New York, New York 10043 BT Capital Partners, Inc. (2) . 705,154 35.7% 705,154 18.0% 793,959 15.9% 280 Park Avenue (32W) New York, New York 10017 World Equity Partners, L.P. (7) 496,623 28.1% - - - - 399 Park Avenue New York, New York 10043 Heller Financial, Inc.(8) ..... 310,390 19.7% - - - - 500 West Monroe Street Chicago, Illinois 60661 HES Management, Inc. .......... 102,650 8.1% - - 360,993 7.2% 5956 Sherry Lane, Suite 930 Dallas, Texas 75225 Thomas F. McWilliams (2) (9)... 67,343 5.0% 67,343 1.7% 33,871 * c/o Citicorp Venture Capital, Ltd. 399 Park Avenue New York, New York 10043
__________ * Less than one percent. (1) Includes 102,650 shares of Class A Common and 360,993 shares of Series A Preferred held in the name of HES Management, Inc., of which Mr. Carter, as a sole stockholder, may be deemed the beneficial owner. (2) Includes a number of shares of Class A Common that the stockholder may acquire upon the conversion of shares of Class B Common on a 1-for-1 basis. (3) Includes 19,500 shares of Class A Common that Mr. Noto may acquire upon the exercise of stock options within 60 days of February 28, 2002. (4) Represents 10,000 shares of Class A Common that Mr. Boyd may acquire upon exercise of stock options within 60 days of February 28, 2002. 43 (5) Represents 8,150 shares of Class A Common Stock that Mr. Ruiz may acquire upon exercise of stock options within 60 days of February 28, 2002. (6) Includes 62,650 shares of Class A Common that may be acquired upon the exercise of stock options within 60 days of February 28, 2002, and 32,420 shares of Class A Common that may be acquired upon the conversion of shares of Class B Common on a 1-for-1 basis. (7) Represents 496,623 shares of Class A Common that World Equity Partners, L.P. may purchase upon the exercise of a warrant within 60 days of February 28, 2002. (8) Represents 310,390 shares of Class C Common that Heller Financial, Inc. may purchase upon the exercise of a warrant within 60 days of February 28, 2002. Heller Financial, Inc. may acquire 310,390 shares of Class A Common within 60 days of February 28, 2002, upon exercise of its right to convert all of its shares of Class C Common into Class A Common on a 1-for-1 basis. (9) Represents 56,393 shares of Class B Common held in the name of Alchemy, L.P., of which Mr. McWilliams, as the sole general partner, may be deemed the beneficial owner, and 10,950 shares of Class B Common and 33,871 shares of Series A Preferred held in the name of the Thomas F. McWilliams Flint Trust of which Mr. McWilliams, as the sole beneficiary of such trust, may be deemed the beneficial owner. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS In connection with the exercise of certain stock options and the payment of accrued interest on prior loans, Holding has loaned to Mr. Carter the principal sum of $434,362. The loan is evidenced by a secured promissory note dated March 15, 2002 bearing interest at the rate of 4.52% per annum, compounded annually. Principal and all accrued interest thereon is payable on March 14, 2008. The note is secured by a pledge of the Class A Common shares acquired pursuant to Mr. Carter's stock option exercises. Part IV. Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) 1. See the Index to Consolidated Financial Statements in "Item 8 - Financial Statements and Supplementary Data." 2. Financial Statement Schedules. Schedule II Valuation and Qualifying Accounts S-1 44 SCHEDULE II Valuation and Qualifying Accounts
Additions ------------------------ Charged Charged Balance at to Costs to Other Balance at Beginning and Accounts- Deductions End of of Period Expenses Describe Describe Period --------- -------- -------- -------- ------ (In thousands) Year Ended December 31, 1999 Reserves and allowances deducted from asset accounts: Allowance for doubtful accounts receivable........... $ 536 $ 85 $ 59(1) $ 9(2) $ 671 Year Ended December 31, 2000 Reserves and allowances deducted from asset accounts: Allowance for doubtful accounts receivable........... $ 671 $ 549 $ - $ 497(2) $ 723 Year Ended December 31, 2001 Reserves and allowances deducted from asset accounts: Allowance for doubtful accounts receivable........... $ 723 $ (11) $ - $ 432(2) $ 280
(1) Added in connection with the acquisition of Lansco. (2) Uncollectible accounts receivable written off, net of recoveries. S-1 3. Exhibits Exhibit Number Description ------ ----------- 3.1 Certificate of Incorporation of HydroChem Industrial Services, Inc. as amended. (Exhibit 3.1 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 3.2 Certificate of Incorporation of HydroChem International, Inc., as amended. (Exhibit 3.2 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 3.3 By-Laws of HydroChem Industrial Services, Inc. (Exhibit 3.3 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 3.4 By-Laws of HydroChem International, Inc. (Exhibit 3.4 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 4.1 Purchase Agreement, dated as of July 30, 1997, by and among HydroChem Industrial Services, Inc., HydroChem International, Inc. and Donaldson, Lufkin & Jenrette Securities Corporation, as Initial Purchaser, relating to the 10 3/8% Series A Senior Subordinated Notes due 2007. (Exhibit 4.1 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 4.2 Indenture, dated as of August 1, 1997, among HydroChem Industrial Services, Inc., HydroChem International, Inc., as Guarantor, and Norwest Bank, Minnesota, N.A., as Trustee. (Exhibit 4.2 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 4.3 Registration Rights Agreement dated August 4, 1997, by and among HydroChem Industrial Services, Inc., HydroChem International, Inc. and Donaldson, Lufkin & Jenrette Securities Corporation, as Initial Purchaser. (Exhibit 4.3 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 10.1 HydroChem Holding, Inc. 1994 Stock Option Plan. (Exhibit 10.1 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 10.2 Deferred Bonus Plan of HydroChem Industrial Services, Inc. effective May 1, 1999. (Exhibit 10.14 to the Company's Form 10-Q filed August 10, 1999, is hereby incorporated by reference.) 10.3 First Amendment to Deferred Bonus Plan of HydroChem Industrial Services, Inc. dated as of May 1, 2000. (Exhibit 10.3 to the Company's Form 10-Q filed August 11, 2000, is hereby incorporated by reference.) 10.4 Second Amendment to Deferred Bonus Plan of HydroChem Industrial Services, Inc. dated as of May 1, 2001. (Exhibit 10.4 to the Company's Form 10-Q filed May 11, 2001, is hereby incorporated by reference.) 10.5 Employment Agreement dated December 15, 1993 by and among HydroChem Holding, Inc., HydroChem Industrial Services, Inc. and B. Tom Carter, Jr., as amended through December 9, 1996. (Exhibit 10.5 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 45 10.6 Fourth Amendment to Employment Agreement dated April 9, 1998 by and among HydroChem Holding, Inc., HydroChem Industrial Services, Inc. and B. Tom Carter, Jr. (Exhibit 10.8 to the Company's Form 10-Q, filed May 14, 1998, is hereby incorporated by reference.) 10.7 Secured Promissory Note dated March 15, 2001 from B. Tom Carter, Jr. to HydroChem Holding, Inc. (Filed herewith.) 10.8 Pledge Agreement dated March 15, 2002 between B. Tom Carter, Jr. and HydroChem Holding, Inc. (Filed herewith.) 10.9 Employment Agreement dated November 1, 1992 between HydroChem Industrial Services, Inc. and Gary D. Noto. (Exhibit 10.3 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 10.10 Amendment dated January 27, 1999 to Employment Agreement dated November 1, 1992 between HydroChem Industrial Services, Inc. and Gary D. Noto. (Exhibit 10.8 to the Company's Form 10-K, filed March 29, 1999, is hereby incorporated by reference.) 10.11 Employment Agreement dated November 1, 1992 between HydroChem Industrial Services, Inc. and J. Pat DeBusk. (Exhibit 10.2 to the Company's Registration Statement on Form S-4, filed August 25, 1997, is hereby incorporated by reference.) 10.12 Employment Agreement dated September 26, 1997 between HydroChem Industrial Services, Inc. and Donovan W. Boyd. (Exhibit 10.10 to the Company's Form 10-K filed March 29, 1999, is hereby incorporated by reference.) 10.13 First Amendment to Employment Agreement dated as of June 28, 1999 to Employment Agreement dated as of September 26, 1997 between HydroChem Industrial Services Inc. and Donovan W. Boyd. (Exhibit 10.10 to the Company's Form 10-Q filed August 10, 1999, is hereby incorporated by reference.) 10.14 Second Amendment to Employment Agreement dated as of January 17, 2001 to Employment Agreement dated as of September 26, 1997 between HydroChem Industrial Services and Donovan W. Boyd. (Exhibit 10.13 to the Company's Form 10-K, filed March 21, 2001, is hereby incorporated by reference.) 10.15 Supplemental Confidentiality and Proprietary Information Agreement with Provision for Severance Benefit dated as of April 1, 2000 between HydroChem Industrial Services, Inc. and Dwane Ruiz. (Filed herewith.) 10.16 Letter Agreement regarding termination of employment dated March 27, 2002 between HydroChem Industrial Services, Inc. and Pelham H. A. Smith. (Filed herewith.) 10.17 Letter Agreement regarding employment dated January 28, 2002 between HydroChem Industrial Services, Inc. and Kelvin Collard.(Filed herewith.) 10.18 Finance Agreement dated October 25, 2001 among HydroChem Industrial Services, Inc., HydroChem Holding, Inc. HydroChem International, Inc. HydroChem Industrial Cleaning, Inc. and The CIT Group/Business Credit, Inc., as Agent and Lender. (Exhibit 10.25 to the Company's Form 10-Q, filed November 8, 2001, is hereby incorporated by reference.) 10.19 First Amendment dated as of November 30, 2001 to Finance Agreement dated October 25, 2001 among HydroChem Industrial Services, Inc., HydroChem Holding, Inc., HydroChem International, Inc, HydroChem Industrial Cleaning, Inc., and The CIT Group/Business Credit, Inc. as Agent and Lender. (Filed herewith.) 46 10.20 Second Amendment dated as of January 31, 2002 to Finance Agreement dated October 25, 2001 among HydroChem Industrial Services, Inc., HydroChem Holding, Inc., HydroChem International, Inc., HydroChem Industrial Cleaning, Inc., The CIT Group/Business Credit, Inc., as Agent and Lender, and the other Lender parties thereto. (Filed herewith.) (b) Reports on Form 8-K. None. 47 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 29th day of March 2002. HYDROCHEM INDUSTRIAL SERVICES, INC. By: /s/ Kelvin R. Collard --------------------- Kelvin R. Collard, Vice President and Chief Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on the 29th day of March 2002. Name: Capacities: /s/ B. Tom Carter, Jr. ---------------------- B. Tom Carter, Jr. Chairman of the Board and Chief Executive Officer /s/ Kelvin R. Collard --------------------- Kelvin R. Collard Vice President and Chief Financial Officer /s/ Patricia K. Burns --------------------- Patricia K. Burns Vice President and Corporate Controller /s/ Robert B. Crates -------------------- Robert B. Crates Director /s/ Carl L. Blonkvist --------------------- Carl L. Blonkvist Director 48 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 29th day of March 2002. HYDROCHEM INTERNATIONAL, INC. By: /s/ Kelvin R. Collard --------------------- Kelvin R. Collard, Vice President and Chief Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on the 29th day of March 2002. Name: Capacities: /s/ B. Tom Carter, Jr. ---------------------- B. Tom Carter, Jr. Chairman of the Board and Chief Executive Officer /s/ Kelvin R. Collard --------------------- Kelvin R. Collard Vice President and Chief Financial Officer /s/ Patricia K. Burns --------------------- Patricia K. Burns Vice President and Corporate Controller /s/ Robert B. Crates -------------------- Robert B. Crates Director /s/ Carl L. Blonkvist --------------------- Carl L. Blonkvist Director 49 EXHIBIT INDEX 10.7 Secured Promissory Note dated March 15, 2002 from B. Tom Carter, Jr. to Hydrochem Holding, Inc. 10.8 Pledge Agreement dated March 15, 2002 from B. Tom Carter, Jr. to Hydrochem Holding, Inc. 10.15 Supplemental Confidentiality and Proprietary Information Agreement with Provision for Severance Benefit dated as of April 1, 2000 between HydroChem Industrial Services, Inc. and Dwane Ruiz. 10.16 Letter Agreement regarding termination of employment dated March 27, 2002 between HydroChem Industrial Services, Inc. and Pelham H. A. Smith. 10.17 Letter Agreement regarding employment dated January 28, 2002 between HydroChem Industrial Services, Inc. and Kelvin Collard. 10.19 First Amendment dated as of November 30, 2001 to Finance Agreement dated October 25, 2001 among HydroChem Industrial Services, Inc., HydroChem Holding, Inc., HydroChem International, Inc, HydroChem Industrial Cleaning, Inc., and The CIT Group/Business Credit, Inc. as Agent and Lender. 10.20 Second Amendment dated as of January 31, 2002 to Finance Agreement dated October 25, 2001 among HydroChem Industrial Services, Inc., HydroChem Holding, Inc., HydroChem International, Inc., HydroChem Industrial Cleaning, Inc., The CIT Group/Business Credit, Inc., as Agent and Lender, and the other Lender parties thereto. 50