10-Q/A 1 d10qa.txt FORM 10-Q/A FOR THE PERIOD 3/31/2001 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q/A (Mark One) /X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001 OR / / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM_________ TO__________ Commission File Number 1-13071 HANOVER COMPRESSOR COMPANY (Exact name of registrant as specified in its charter) Delaware 76-0625124 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 12001 North Houston Rosslyn Houston, Texas 77086 (Address of principal executive offices) (281) 447-8787 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such 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 As of May 11, 2001 there were 70,316,226 shares of the Company's common stock, $0.001 par value, outstanding. EXPLANATORY NOTE Hanover Compressor Company (the "Company") is filing this amendment to its Quarterly Report on Form 10-Q for the quarter ended March 31, 2001 in order to restate the Consolidated Financial Statements and make appropriate conforming revisions to "Management's Discussion and Analysis of Financial Condition and Results of Operations." In conjunction with a separate review of the Company's joint ventures and other transactions conducted by the Board of Directors in early 2002, the Company determined that restatement was appropriate. The net effect of this restatement was as follows: (i) an increase in revenues of $10.0 million, from $219.8 million to $229.8 million; (ii) an increase in income before taxes of $1.9 million, from $30.3 million to $32.2 million; (iii) an increase in net income of $1.2 million, from $18.6 million to $19.8 million; and (iv) an increase in earnings per common share of $0.02 basic and $0.01 diluted for the quarter ended March 31, 2001. For additional details of the transactions involved in the restatement and their impact on the Consolidated Financial Statements, see Note 11 of the Notes to Condensed Consolidated Financial Statements. 2 HANOVER COMPRESSOR COMPANY CONDENSED CONSOLIDATED BALANCE SHEET (UNAUDITED) (IN THOUSANDS OF DOLLARS, EXCEPT FOR PAR VALUE AND SHARE AMOUNTS)
March 31, December 31, 2001 2000 ------------------ ----------------- ASSETS (Restated) (Restated) Current assets: Cash and cash equivalents $ 99,436 $ 45,484 Accounts receivable trade, net 209,677 223,022 Inventory 202,665 145,442 Costs and estimated earnings in excess of billings on uncompleted contracts 35,778 24,976 Prepaid taxes 20,611 19,948 Other current assets 17,625 12,384 ------------------ ------------------ Total current assets 585,792 471,256 Property, plant and equipment, net 707,779 573,596 Goodwill, net 165,471 141,973 Intangible and other assets 64,759 64,931 ------------------ ------------------ Total assets $ 1,523,801 $ 1,251,756 ================== ================== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Current maturities of long-term debt $ 2,837 $ 2,423 Short-term notes payable 2,323 10,073 Accounts payable, trade 104,646 88,651 Accrued liabilities 49,980 46,705 Advance billings 41,160 32,292 Billings on uncompleted contracts in excess of costs and estimated earnings 9,196 5,669 ------------------ ------------------ Total current liabilities 210,142 185,813 Long-term debt 196,122 110,935 Other liabilities 138,877 132,895 Deferred income taxes 117,387 103,405 ------------------ ------------------ Total liabilities 662,528 533,048 Commitments and contingencies (note 8) Mandatorily redeemable convertible preferred securities 86,250 86,250 Common stockholders' equity: Common stock, $.001 par value; 200,000,000 shares authorized; 70,181,136 and 66,454,703 shares issued and outstanding, respectively 70 66 Additional paid-in capital 606,484 483,737 Notes receivable - employee stockholders (1,499) (1,531) Accumulated other comprehensive income (loss) (484) (457) Retained earnings 171,169 151,360 Treasury stock - 75,739 common shares at cost (717) (717) ------------------ ------------------ Total common stockholders' equity 775,023 632,458 ------------------ ------------------ Total liabilities and common stockholder's equity $ 1,523,801 $ 1,251,756 ================== ==================
The accompanying notes are an integral part of these financial statements. 3 HANOVER COMPRESSOR COMPANY CONDENSED CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME (UNAUDITED) (IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
Three months ended March 31, 2001 2000 ------------ -------------- Revenues: (Restated) Rentals $ 80,057 $ 56,104 Parts, service and used equipment 50,334 11,316 Compressor fabrication 54,651 14,185 Production and processing equipment fabrication 41,612 5,925 Equity in income of non-consolidated affiliate 750 1,022 Other 2,385 2,005 ------------ ----------- 229,789 90,557 Expenses: Rentals 26,712 18,151 Parts, service and used equipment 29,840 8,206 Compressor fabrication 46,256 11,391 Production and processing equipment fabrication 33,768 4,483 Selling, general and administrative 20,736 9,115 Depreciation and amortization 17,403 10,359 Leasing expense 15,288 8,076 Interest expense 2,986 1,630 Distributions on mandatorily redeemable convertible preferred securities 1,593 1,591 Other 2,992 - ------------ ----------- 197,574 73,002 Income before income taxes and cumulative effect of accounting change 32,215 17,555 Provision for income taxes 12,242 6,390 ------------ ----------- Net income before cumulative effect of accounting change 19,973 11,165 Cumulative effect of accounting change for derivative instruments, net of income tax (164) - ------------ ----------- Net Income 19,809 11,165 Other comprehensive loss, net of tax: Foreign currency translation adjustment (27) (156) ------------ ----------- Comprehensive income $ 19,782 $ 11,009 ============ =========== Diluted net income per share: Net income before cumulative effect of accounting change $ 19,973 11,165 Distributions on mandatorily redeemable convertible preferred securities, net of income tax 1,036 - Cumulative effect of accounting change, net of income tax (164) - ------------ ----------- Net income for purposes of computing diluted net income per share $ 20,845 $ 11,165 ============ =========== Weighted average common and common equivalent shares outstanding: Basic 66,869 57,414 Diluted 75,904 62,190 Earnings per common share: Basic $ 0.30 $ 0.19 Diluted $ 0.27 $ 0.18
The accompanying notes are an integral part of these financial statements. 4 HANOVER COMPRESSOR COMPANY CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED) (IN THOUSANDS OF DOLLARS)
Three Months ended March 31, 2001 2000 -------------------------------- Cash flows from operating activities: (Restated) Net income $ 19,809 $ 11,165 Adjustments: Depreciation and amortization 17,403 10,359 Amortization of debt issuance costs and debt discount 587 160 Bad debt expense 468 242 (Gain)/Loss on sale of property, plant and equipment (4,034) (1,286) Equity in income of nonconsolidated affiliates (750) (1,022) Loss on derivative instrument 3,245 - Deferred income taxes 7,982 4,980 Changes in assets and liabilities, excluding business combinations: Accounts receivable 28,293 3,407 Inventory (51,323) (11,646) Costs and estimated earnings in excess of billings on uncompleted contracts (7,275) (6,556) Accounts payable and other liabilities 8,528 (2,715) Advance billings 8,868 260 Other (340) (7,400) -------------------------------- Net cash provided by (used in) operating activities 31,461 (52) Cash flows from investing activities: Capital expenditures (72,733) (60,896) Proceeds from sale of property, plant and equipment 2,063 103,504 Cash used for business combinations, net (61,515) - Cash used to acquire investments in nonconsolidated subsidiaries (4,225) - -------------------------------- Net cash provided by (used in) investing activities (136,410) 42,608 Cash flows from financing activities: Net repayment on revolving credit facility (102,500) (33,100) Repayment of long-term debt and short-term notes (8,653) (131) Issuance of convertible senior notes, net 185,590 - Issuance of common stock, net 83,850 - Proceeds from warrant conversions and stock option exercises 759 697 Repayment of shareholder notes 32 1,194 -------------------------------- Net cash provided by (used in) financing activities 159,078 (31,340) -------------------------------- Effect of exchange rate changes on cash and equivalents (177) (26) -------------------------------- Net increase in cash and cash equivalents 53,952 11,190 Cash and cash equivalents at beginning of period 45,484 5,756 -------------------------------- Cash and cash equivalents at end of period $ 99,436 $ 16,946 ================================ Acquisitions of businesses: Property, plant and equipment acquired $ 84,764 Other assets acquired, net of cash acquired $ 11,250 Goodwill $ 18,500 Liabilities $ (7,000) Debt issued $ (2,764) Deferred taxes $ (6,000) Common stock issued $ (37,235)
The accompanying notes are an integral part of these financial statements. 5 HANOVER COMPRESSOR COMPANY Notes to Condensed Consolidated Financial Statements 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Hanover Compressor Company (the "Company") included herein have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and the rules and regulations of the Securities and Exchange Commission. Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. It is the opinion of management that the information furnished includes all adjustments, consisting only of normal recurring adjustments, which are necessary to present fairly the financial position, results of operations, and cash flows of the Company for the periods indicated. The financial statement information included herein should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2000. These interim results are not necessarily indicative of results for a full year. EARNINGS PER COMMON SHARE Basic earnings per common share is computed using the weighted average number of shares outstanding for the period. Diluted earnings per common share is computed using the weighted average number of shares outstanding adjusted for the incremental shares attributed to outstanding options and warrants to purchase common stock and convertible securities. Included in diluted shares are common stock equivalents relating to options of 4,207,000 and 4,090,000, and warrants of 4,000 and 688,000, for the three months ended March 31, 2001 and 2000, respectively, and mandatorily redeemable convertible preferred securities of 4,825,000 for the three months ended March 31, 2001. The mandatorily redeemable convertible preferred securities were excluded from the diluted shares for the three months ended March 31, 2000 and the convertible senior notes were excluded from the diluted shares for all periods presented as their effect would be anti-dilutive. RECLASSIFICATIONS Certain amounts in the prior years' financial statements have been reclassified to conform to the 2001 financial statement classification. These reclassifications have no impact on net income. 2. BUSINESS COMBINATIONS In March 2001, the company purchased the OEC Compression Corporation ("OEC") in an all-stock transaction for approximately $100.7 million, including the payment of approximately $63.0 million of OEC indebtedness. The Company issued an aggregate of approximately 1,145,000 shares of common stock to stockholders of OEC. The acquisition was accounted for under the purchase method of accounting. The pro forma information set forth below assumes the acquisitions of OEC, the Dresser-Rand Company's compression services division and Applied Process Solutions, Inc. ("APSI") completed in 2001 and 2000 are accounted for as if the purchases had occurred at the beginning of 2000. The pro forma information is presented for informational purposed only and is not necessarily indicative of the results of operations that would have been achieved had the acquisitions been consummated at that time (in thousands, except per share amounts):
Three Months Ended March 31, 2001 2000 -------------- ----------- (Restated) (unaudited) (unaudited) Revenue $232,810 $143,498 Net income before cumulative effect of accounting change 18,536 11,505 Earnings per common share--basic 0.27 0.18 Earnings per common share--diluted 0.26 0.17
6 3. INVENTORIES Inventory consisted of the following amounts (in thousands):
March 31, December 31, 2001 2000 ------------------------------------------ (Restated) (Restated) Parts and supplies $143,765 $ 93,308 Work in progress 53,041 47,193 Finished goods 5,859 4,941 ------------------------------------------ $202,665 $145,442 ==========================================
4. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consisted of the following (in thousands):
March 31, December 31, 2001 2000 ----------------------------------------- (Restated) (Restated) Compression equipment and facilities $ 718,997 $576,328 Land and buildings 35,719 35,233 Transportation and shop equipment 47,985 44,202 Other 16,309 15,279 ----------------------------------------- 819,010 671,042 Accumulated depreciation (111,231) (97,446) ----------------------------------------- $ 707,779 $573,596 =========================================
5. STOCK AND CONVERTIBLE SENIOR NOTES OFFERING In March 2001, the Company issued $192,000,000 principal amount of 4.75% convertible senior notes due 2008. The notes will mature on March 15, 2008 and are first subject to call on March 15, 2004. The notes will be convertible into shares of the Company's common stock at a conversion price of approximately $43.94 per share. The Company received approximately $185,590,000 of proceeds from the sale, net of underwriting and estimated offering costs. In March 2001, the Company completed a public offering of 2,500,000 newly issued shares of the Company's common stock. The Company realized approximately $83,850,000 of proceeds from the offering net of underwriting and estimated offering costs. 6. LEASING TRANSACTION In October 2000, the Company completed a $172,589,000 sale and lease back of certain compression equipment. In March 2000, the Company entered into a separate $200,000,000 sale and lease back of certain compression equipment. Under the March agreement, the Company received $100,000,000 proceeds from the sale of compression equipment at closing and in August 2000, the Company completed the second half of the equipment lease and received an additional $100,000,000 for the sale of additional compression equipment. In June 1999 and in July 1998 the Company completed two other separate $200,000,000 sale and lease back transactions of certain compression equipment. All transactions are recorded as a sale and lease back of the equipment and are recorded as operating leases. Under all the lease agreements, the equipment was sold and leased back by the Company for a 5 year period and will continue to be deployed by the Company under its normal operating procedures. At any time, the Company has 7 options to repurchase the equipment at fair market value. The Company has substantial residual value guarantees under the lease agreements that are due upon termination of the leases and which may be satisfied by a cash payment or the exercise of the Company's purchase options. Any gains on the sale of the equipment are deferred until the end of the respective lease terms. Should the Company not exercise its purchase options under the lease agreements, the deferred gains will be recognized to the extent they exceed any residual value guarantee payments and any other items required under the lease agreements. The lease agreements call for variable quarterly payments that fluctuate with the London Interbank Offering Rate. The following future minimum lease payments are due under the leasing arrangements exclusive of any guarantee payments (in thousands): 2001 -- $44,600; 2002 -- $60,100; 2003 -- $52,000; 2004 -- $36,600; 2005 - $15,400. 7. ACCOUNTING FOR DERIVATIVES The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS 133"), as amended by SFAS 137 and SFAS 138, effective January 1, 2001. SFAS 133 requires that all derivative instruments (including certain derivative instruments embedded in other contracts) be recognized in the balance sheet at fair value, and that changes in such fair values be recognized in earnings unless specific hedging criteria are met. Changes in the values of derivatives that meet these hedging criteria will ultimately offset related earnings effects of the hedged item pending recognition in earnings. At December 31, 2000, the Company had two interest rate swaps outstanding with notional amounts of $75,000,000 and $125,000,000 and strike rates of 5.51% and 5.56%, respectively. These swaps were entered into to convert the variable lease payments under the Company's 1998 lease agreement to fixed payments. The difference paid or received on the swap transactions is recognized in leasing expense. The interest rate swaps expire in July 2001 unless they are extended for an additional two year term at the option of the counterparty. On January 1, 2001, in accordance with the transition provisions of SFAS 133, the Company recorded an unrealized loss resulting from the cumulative effect of an accounting change in the statement of income of approximately $164,000 ($.00 per share), net of tax benefit of $89,000. During the three months ended March 31, 2001, the Company recorded an additional unrealized loss of $3.0 million related to the change in the fair value of these interest rate swaps in other expense in the statement of income. At March 31, 2001 the Company recorded a liability of $3.2 million related to these interest rate swaps in other liabilities. The fair value of these interest rate swaps will fluctuate with changes in interest rates over their remaining terms and these changes in fair value will be recorded in the statement of income. The counterparties to all of the Company's interest rate swap agreements consist of major international financial institutions. The Company continually monitors the credit quality of these financial institutions and does not expect non-performance by any counterparty. 8. COMMITMENTS AND CONTINGENCIES In January 2001, the Company entered into a facilitation agreement with Bellili Energy SRL ("Bellili"), a fabrication company based in Italy. In connection with the agreement, the Company agreed to provide Bellili with project financing including necessary guarantees, bonding capacity and other collateral on an individual project basis. Under the agreement, Bellili must present each project to the Company which must be approved at the Company's sole discretion. At March 31, 2001, no amounts were outstanding under the facilitation agreement. Under a separate agreement with Bellili, the Company has guaranteed performance bonds on Bellili's behalf totaling approximately $4.7 million at March 31, 2001. In the ordinary course of business the Company is involved in various pending or threatened legal actions. While management is unable to predict the ultimate outcome of these actions, it believes that any ultimate liability arising from these actions will not have a material adverse effect on the Company's consolidated financial position, results of operations or cash flows. 9. RELATED PARY In March 2001, the Company advanced cash to Michael J. McGhan, the Company's Chief Executive Officer, in return for two promissory notes. The notes receivable totaled $2,200,000, bear interest at 4.88% per annum, and mature in April 2006. The notes are secured with full recourse, by a deed of trust and security agreement on two parcels of land and all improvements and personal property located on the land. During the three months ending March 31, 2001, the Company sold equipment totaling approximately $12,004,000 to an affiliate of Enron Capital and Trade Resources Corp ("Enron"). 8 10. REPORTABLE SEGMENTS The Company manages its business segments primarily on the type of product or service provided. The Company has five principal industry segments: Rentals-- Domestic; Rentals--International; Parts, Service and Used Equipment; Compressor Fabrication and Production and Processing Equipment Fabrication. The Rentals segments provide natural gas compression rental and maintenance services to meet specific customer requirements. The Compressor Fabrication Segment involves the design, fabrication and sale of natural gas compression units to meet unique customer specifications. The Production and Processing Equipment Fabrication Segment designs, fabricates and sells equipment utilized in the production of crude oil and natural gas. Parts, Service and Used Equipment segment provides used equipment, both new and used parts directly to customers, as well as complete maintenance services for customer owned packages. Prior periods have been restated to reflect the expansion in 2000 of the Parts, Service and Used Equipment segment. The Company evaluates the performance of its segments based on segment gross profit. Segment gross profit for each segment includes direct operating expenses. Costs excluded from segment gross profit include selling, general and administrative, depreciation and amortization, leasing, interest, distributions on mandatorily redeemable convertible preferred securities and income taxes. Amounts defined as "Other" include equity in income of non-consolidated affiliates, results of other insignificant operations and corporate related items primarily related to cash management activities. Revenues include sales to external customers and inter-segment sales. Intersegment sales are accounted for at cost except for compressor fabrication equipment sales which are accounted for on an arms length basis, and the sales and resulting profits are eliminated in consolidation. Identifiable assets are tangible and intangible assets that are identified with the operations of a particular segment or geographic region, or which are allocated when used jointly. Capital expenditures include fixed asset purchases. The following table presents sales and other financial information by reportable segment for the three months ended March 31, 2001 and 2000 (in thousands).
PARTS, SERVICE PRODUCTION DOMESTIC INTERNATIONAL AND USED COMPRESSOR EQUIPMENT RENTALS RENTALS EQUIPMENT FABRICATION FABRICATION OTHER ELIMINATIONS CONSOLIDATED 2001: (Restated) Revenues from external customers $ 53,729 $ 26,328 $50,334 $ 54,651 $ 41,612 $ 3,135 $ $ 229,789 Intersegment sales 1,834 7,183 19,528 785 1,134 (30,464) --------------- ------------------------------------- ------------------------------- ---------- Total revenues 53,729 28,162 57,517 74,179 42,397 4,269 (30,464) 229,789 Gross profit 36,382 16,963 20,494 8,395 7,844 3,135 93,213 Identifiable assets 724,760 251,345 37,270 301,631 109,875 99,436 1,523,801 2000: Revenues from external customers $ 38,208 $ 17,896 $11,316 $ 14,185 $ 5,925 $ 3,027 $ $ 90,557 Intersegment sales 300 5,492 25,753 620 (32,165) ------------------------------------------------------------------------ Total revenues 38,208 18,196 16,808 39,938 6,545 3,027 (32,165) 90,557 Gross profit 25,907 12,046 3,110 2,794 1,442 3,027 48,326
9 11. RESTATEMENT The transactions involved in the restatement, which are detailed further below are: (i) the Cawthorne Channel project in Nigeria, initially conducted through the Hampton Roads joint venture; (ii) the Company's acquisition of two compressors in a non-monetary exchange transaction; (iii)a compressor sale transaction; and (iv) an increase in certain selling, general and administrative expenses as well as an increase in depreciation and amortization expense. The impact of the restatement on the quarter ended March 31, 2001 is summarized in the table below:
Cawthorne Channel Acquisition Project in of Nigeria / Compressors Hampton In Compressor Roads Joint Non-Monetary Sale As Filed Venture Exchange Transaction -------- ------- -------- ----------- Revenues: Rentals........................................................ $ 80,057 Parts, service and used equipment.............................. 38,330 $12,004 Compressor fabrication......................................... 54,651 Production and processing equipment fabrication................ 43,591 $(1,979) Equity in income of non-consolidated affiliates................ 750 Other.......................................................... 2,385 -------- ------- ---- ------- Total revenues............................................... 219,764 (1,979) 12,004 -------- ------- ---- ------- Expenses: Rentals........................................................ 26,712 Parts, service and used equipment.............................. 21,886 7,954 Compressor fabrication......................................... 46,284 (28) Production and processing equipment fabrication................ 35,149 (1,381) Selling, general and administrative............................ 19,977 263 Depreciation and amortization.................................. 16,867 ($10) Lease expense.................................................. 15,288 Interest expense............................................... 2,704 282 Distributions on mandatorily redeemable convertible preferred Securities.......................................... 1,593 Other.......................................................... 2,992 -------- ------- ---- ------- Total expenses............................................... 189,452 (864) (10) 7,954 -------- ------- ---- ------- Income before income taxes....................................... 30,312 (1,115) 10 4,050 Provision for income taxes....................................... 11,519 (424) 4 1,539 -------- ------- ---- ------- Net income before cumulative effect of accounting change......... 18,793 (691) 6 2,511 Cumulative effect of accounting change, net of income tax..... (164) -------- ------- ---- ------- Net income....................................................... $ 18,629 ($ 691) $ 6 $ 2,511 ======== ======= ==== ======= Earnings per common share Basic......................................................... $ 0.28 Diluted....................................................... $ 0.26 Additional Selling, General and Administrative & Depreciation and Amortization Expenses Restarted -------- --------- Revenues: Rentals.............................................................. $ 80,057 Parts, service and used equipment.................................... 50,334 Compressor fabrication............................................... 54,651 Production and processing equipment fabrication...................... 41,612 Equity in income of non-consolidated affiliates...................... 750 Other................................................................ 2,385 ------- -------- Total revenues..................................................... 229,789 ------- -------- Expenses: Rentals.............................................................. 26,712 Parts, service and used equipment.................................... 29,840 Compressor fabrication............................................... 46,256 Production and processing equipment fabrication...................... 33,768 Selling, general and administrative.................................. $496 20,736 Depreciation and amortization........................................ 546 17,403 Lease expense........................................................ 15,288 Interest expense..................................................... 2,986 Distributions on mandatorily redeemable convertible preferred Securities................................................ 1,593 Other................................................................ 2,992 ------- -------- Total expenses..................................................... 1,042 197,574 ------- -------- Income before income taxes............................................. (1,042) 32,215 Provision for income taxes............................................. (396) 12,242 ------- -------- Net income before cumulative effect of accounting change............... (646) 19,973 Cumulative effect of accounting change, net of income tax........... (164) ------- -------- Net income............................................................. ($646) $ 19,809 ======= ======== Earnings per common share Basic........................................................... $0.30 Diluted......................................................... $0.27
Cawthorne Channel Project in Nigeria / Hampton Roads Joint Venture ------------------------------------------------------------------ Cawthorne Channel is a project to build, own and operate barge-mounted gas compression and gas processing facilities to be stationed off the coast of Nigeria in performance of a contract between Global Energy and Refining Ltd ("Global") and Shell Petroleum Development Company of Nigeria Limited, the Nigerian operating unit of The Royal/Dutch Shell Group ("Shell"). The Company entered into a contract with Global in June 1999 to fabricate and lease the facilities to Global to fulfill the Shell contract. Subsequently, the Company acquired a 10% interest in Global. 10 In September 2000, a joint venture known as Hampton Roads Shipping Investors II, L.L.C. ("Hampton Roads") was formed to own the gas processing facilities and lease them to Global. The Company purchased a 25% interest in Hampton Roads for $1,250,000 and entered into a turn-key construction contract with Hampton Roads to construct the facilities. The equipment, which had a sale price of $51 million, was to be used pursuant to a 10-year contract on behalf of Shell to commence September 30, 2001. In the first quarter of 2001, the scope of the project was reduced to $43 million and the contract term was extended to 15 years with a projected start date of September 2003. As the project has not yet started, the Company has recorded no income attributable to its equity ownership in the venture. The Company is constructing the equipment to be used in the gas compression and processing project with Shell under the turn-key construction contract with Hampton Roads and had accounted for this activity under the percentage of completion method of accounting. Based upon the evaluation of new information related to these transactions, the Company determined that it should not have recognized revenue for this activity during these periods. The restatement treats the project as if the Company had owned 100% of the project since inception and adjusts the impact for the first quarter of 2001 by reversing the revenue and related costs recognized under the percentage of completion method. In February 2002, the Company purchased the 75% interest in Hampton Roads that it did not own. The Company now owns 100% of the venture and will recognize the rental revenues pursuant to its contract with Global once startup begins. Acquisition of Compressors In Non-Monetary Exchange --------------------------------------------------- In the third quarter of 2000, the Company entered into an acquisition of two compressors in a non-monetary exchange transaction with an independent oil and gas producer. In the transaction, the Company acquired the two compressors in exchange for certain gas reservoir rights that the Company had obtained in settlement of a payment default by one of its customers. The Company accounted for the transaction as an exchange of non-monetary assets and recorded $2.2 million in revenue and pre-tax income in 2000. Based upon the evaluation of new information related to this transaction, the Company determined that it should not have recognized a gain on this transaction. The impact for the period above is a reduction of depreciation expense. Compressor Sale Transaction --------------------------- The Company sold 33 gas compressors to a gas pipeline system then controlled by Enron for $12.0 million pursuant to invoices issued in December 2000. The Company recorded $4.1 million of pre-tax income from the transaction in the fourth quarter of 2000. In January 2001, the Company entered into an agreement with its customer to provide transition services and settle claims between the parties arising from the operation of the compressors prior to their sale. The agreement also provided for the issuance of a bill of sale. Upon further evaluation of the transaction, the Company determined that it should have recognized the gain on this transaction when it issued the bill of sale in January 2001 rather then December 2000. Selling, general and administrative expense and depreciation and amortization ----------------------------------------------------------------------------- expense ------- After reviewing its selling, general and administrative expenses for 2001, the Company determined that certain expenses had been understated. As a result, the Company increased these expenses by $496,000 for the three months ended March 31, 2001. Additionally, the Company understated depreciation and amortization expense for the same period by $546,000. 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Certain matters discussed in this document are "forward-looking statements" intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. These forward-looking statements can generally be identified as such because the context of the statement will include words such as the Company "believes", "anticipates", "expects", "estimates" or words of similar import. Similarly, statements that describe the Company's future plans, objectives or goals are also forward- looking statements. Such forward-looking statements are subject to certain risks and uncertainties which could cause actual results to differ materially from those anticipated as of the date of this report. The risks and uncertainties include (1) the loss of market share through competition, (2) the introduction of competing technologies by other companies, (3) a prolonged substantial reduction in oil and gas prices which would cause a decline in the demand for the Company's compression and oil and gas production equipment, (4) new governmental safety, health and environmental regulations which could require significant capital expenditures by the Company, (5) inability to successfully integrate businesses acquired; and (6) changes in economic or political conditions in the countries in which the Company operates. The forward-looking statements included herein are only made as of the date of this report and the Company undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances. GENERAL The Company is a leading provider of a broad array of natural gas compression, gas handling and related services in the United States and select international markets. Founded in 1990 and publicly held since 1997, the Company operates the largest compressor rental fleet, in terms of horsepower, in the gas compression industry and provides its services on a rental, contract compression, maintenance and acquisition leaseback basis. In conjunction with the Company's maintenance business, the Company has developed its parts and service business to provide solutions to customers that own their own compression equipment but want to oursource their operations. The Company's compression services are complemented by its compressor and oil and gas production equipment fabrication operations and gas processing and treating, gas measurement and power generation services, which broaden the Company's customer relationships both domestically and internationally. The Company's products and services are essential to the production, gathering, processing, transportation and storage of natural gas and are provided primarily to independent and major producers and distributors of natural gas. As of March 31, 2001, the Company operated a fleet of 5,796 compression rental units with an aggregate capacity of approximately 2,429,000 horsepower. In March 2001, the company purchased OEC Compression Corporation("OEC") in an all-stock transaction for approximately $100.7 million, including the payment of approximately $63.0 million of indebtedness of OEC. The acquisition was accounted for under the purchase method of accounting. RESULTS OF OPERATIONS The following discussion has been updated to reflect the restated results of operations, see Note 11 in "Notes to Consolidated Financial Statements" for details regarding the restatement. THREE MONTHS ENDED MARCH 31, 2001 COMPARED TO THREE MONTHS ENDED MARCH 31, 2000 REVENUES The Company's total revenues increased by $139.2 million, or 154%, to $229.8 million during the three months ended March 31, 2001 from $90.6 million during the three months ended March 31, 2000. The increase resulted primarily from growth of the Company's natural gas compressor rental fleet and business acquisitions completed during 2000. Revenues from rentals increased by $24.0 million, or 43%, to $80.1 million during the three months ended March 31, 2001 from $56.1 million during the three months ended March 31, 2000. Domestic revenues from rentals increased by $15.5 million, or 41%, to $53.7 million during the three months ended March 31, 2001 from $38.2 million during the three months ended March 31, 2000. International rental revenues increased by $8.4 million, or 47%, to $26.3 million during the three months ended March 31, 2001 from $17.9 million during the three months ended March 31, 2000. The increase in both domestic and international rental revenue resulted from business acquisitions completed during 2000 and from expansion of the Company's rental fleet. At March 31, 2001, the compressor rental fleet consisted of approximately 2,429,000 horsepower, a 61% increase over the 1,507,000 horsepower in the rental fleet at March 31, 2000. Domestic horsepower in the rental fleet increased by 64% to 2,009,000 horsepower at March 31, 2001 from approximately 1,223,000 horsepower at March 31, 2000. In addition, international horsepower increased by 48% to 420,000 horsepower at March 31, 2001 from approximately 284,000 horsepower at March 31, 2000. Revenue from parts, service and used equipment increased by $39.0 million, or 345%, to $50.3 million during the three 12 months ended March 31, 2001 from $11.3 million during the three months ended March 31, 2000. This increase was due in part to increase in marketing focus as well as expansion of business activities through acquisitions. Revenues from compressor fabrication increased by $40.5 million, or 285%, to $54.7 million during the three months ended March 31, 2001 from $14.2 million during the three months ended March 31, 2000. This increase was due to the acquisition of Dresser-Rand Company's compression services division during September 2000. During the three months ended March 31, 2001, an aggregate of approximately 136,000 horsepower of compression equipment was fabricated compared to approximately 80,000 horsepower fabricated during the three months ended March 31, 2000. Revenues from production and processing equipment fabrication increased by $35.7 million, or 602%, to $41.6 million during the three months ended March 31, 2001 from $5.9 million during the three months ended March 31, 2000. The increase was due primarily to the acquisition of APSI during June, 2000. Equity in earnings in subsidiaries decreased by $.2 million, or 26%, to $.8 million during the three months ended March 31, 2001, from $1.0 million during the three months ended March 31, 2000. Other income during the three months ended March 31, 2001 amounted to $2.4 million compared to $2.0 million during the three months ended March 31, 2000, an increase of $.4 million. Included in other income was $.7 million which was related to fees earned under the Bellili agreements. EXPENSES Operating expenses of the rental segments increased by $8.5 million, or 47%, to $26.7 million during the three months ended March 31, 2001 from $18.2 million during the three months ended March 31, 2000. The increase resulted primarily from the corresponding 43% increase in revenues from rentals over the corresponding period in 2000. The gross profit percentage from rentals was 67% during the three months ended March 31, 2001 and 68% during the three months ended March 31, 2000. Operating expenses of parts, service and used equipment increased by $21.6 million, or 264% to $29.8 million, which relates to the 345% increase in parts, service and used equipment revenue. The gross profit margin from parts, service and used equipment was 41% during the three months ended March 31, 2001 and 28% during the three months ended March 31, 2000. The increase in gross profit margin for parts, service and used equipment was due primarily to business acquisitions completed during 2000. Certain of these acquired businesses had higher gross margins than the Company has historically experienced in this segment. Operating expenses of compressor fabrication increased by $34.9 million, or 306%, to $46.3 million during the three months ended March 31, 2001 from $11.4 million during the three months ended March 31, 2000 commensurate with the corresponding increase in compressor fabrication revenue. The gross profit margin on compression fabrication was 15% during the three months ended March 31, 2001 and 20% during the three months ended March 31, 2000. The decrease in gross profit margin for compression fabrication was attributable to the acquisition of the compression services division of Dresser- Rand Company, which has lower gross margins than the Company has historically experienced. The operating expenses attributable to production equipment fabrication increased by $29.3 million, or 653%, to $33.8 million during the three months ended March 31, 2001 from $4.5 million during the three months ended March 31, 2000. The gross profit margin attributable to production and processing equipment fabrication was 19% during the three months ended March 31, 2001 and was 24% during the three months ended March 31, 2000. The decrease in gross profit margin for production and processing equipment fabrication was attributable to the acquisition of APSI, in June 2000, which has lower gross margins than the Company has historically experienced. Selling, general and administrative expenses increased $11.6 million, or 127%, to $20.7 million during the three months ended March 31, 2001 from $9.1 million during the three months ended March 31, 2000. The increase is attributable to increased personnel and other administrative and selling expenses associated with increased activity in the Company's business segments as described above resulting from the acquisitions completed during 2000. The Company believes that earnings before interest, leasing expense, distributions on mandatorily redeemable convertible preferred securities, income taxes, depreciation and amortization (EBITDA) is a standard measure of financial performance used for valuing companies in the compression industry. EBITDA is a useful common yardstick as it measures the capacity of companies to generate cash without reference to how they are capitalized, how they account for significant non-cash charges for depreciation and amortization associated with assets used in the business (the bulk of which are long-lived assets in the compression industry), or what their tax attributes may be. Additionally, since EBITDA is a basic source of funds not only for growth but to service indebtedness, lenders in both the private and public debt markets use EBITDA as a primary determinant of borrowing capacity. EBITDA for the three months ended March 31, 2001 increased 77% to $69.5 million from $39.2 million for the three months ended March 31, 2000 primarily due to the increase in the Company's revenues and income for reasons previously discussed. EBITDA should not be considered in isolation from, or a substitute for, net income, cash flows from operating activities or other consolidated income or cash flow data prepared in accordance with generally accepted accounting principles. 13 Depreciation and amortization increased by $7.0 million to $17.4 million during the three months ended March 31, 2001 compared to $10.4 million during the three months ended March 31, 2000. The increase in depreciation was due to the additions to the rental fleet which were partially offset by the sale of compressor equipment in the equipment leases in March and October 2000. The increase in amortization was due to the goodwill recorded from business acquisitions completed during 2000. The Company incurred leasing expense of $15.3 million during the three months ended March 31, 2001 compared to $8.1 million during the three months ended March 31, 2000 resulting from the Equipment Leases entered into in 2000. Interest expense increased by $1.4 million to $3.0 million during the three months ended March 31, 2001 from $1.6 million for the three months ended March 31, 2000 due to higher levels of outstanding debt. Other expenses during the three months ended March 31, 2001 was $3.0 million, which resulted from the recognition of an unrealized loss related to the change in fair value of the interest rate swaps as required under SFAS 133 (as described in "NEW ACCOUNTING PRONOUNCEMENTS"). INCOME TAXES The provision for income taxes increased by $5.9 million, or 92%, to $12.2 million during the three months ended March 31, 2001 from $6.4 million during the three months ended March 31, 2000. The increase resulted primarily from the corresponding increase in income before income taxes. The average effective income tax rates during the three months ended March 31, 2001 and 2000 were 38.0% and 36.4%, respectively. The increase in average effective income tax rates is due primarily to increased income in foreign tax jurisdictions. NET INCOME Net income increased by $8.6 million, or 77%, to $19.8 million during the three months ended March 31, 2001 from $11.2 million during the three months ended March 31, 2000 for the reasons discussed above. LIQUIDITY AND CAPITAL RESOURCES The Company's cash balance amounted to $99.4 million at March 31, 2001 compared to $45.5 million at December 31, 2000. Primary sources of cash during the three months ended March 31, 2001 were net proceeds of $185.6 million from the issuance of 4.75% Convertible Senior Notes due 2008 and $83.9 million through a public offering of 2,500,000 shares of common stock by the Company and operating cash flows of $31.5 million. Principal uses of cash during the three months ended March 31, 2001 were capital expenditures and business acquisitions of $134.2 million and the net repayment of the revolving credit facility for $102.5 million. Working capital increased to $375.7 million at March 31, 2001 from $285.4 million at December 31, 2000, primarily as a result of increases in inventories, costs in excess of billings and other current assets. The increase in the balances is due to an increased level of activity in the Company's lines of business over 2000 as well as from acquisitions and the stock and convertible senior notes issuance in March 2001. These increases were offset by an increase in current liabilities. The amounts invested in property, plant and equipment during 2001 was $72.7 million which resulted in the addition of approximately 278,000 horsepower to the rental fleet. At March 31, 2001, the rental fleet consisted of 2,009,000 horsepower domestically and 420,000 in the international rental fleet. Current plans are to spend approximately $296 million during the remainder of 2001, exclusive of any major acquisition, in continued expansion of the rental fleet. Historically, the Company has funded capital expenditures with a combination of internally generated cash flow, borrowings under the revolving credit facility, lease transactions and raising additional equity and long term debt. As of March 31, 2001 the Company has approximately $175 million of credit capacity remaining on its $200 million Bank Credit Agreement. The Company feels it has adequate capital resources to fund its estimated level of capital expenditures for the year 2001. NEW ACCOUNTING PRONOUNCEMENTS The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS 133"), as amended by SFAS 137 and SFAS 138, effective January 1, 2001. SFAS 133 requires that all derivative instruments (including certain derivative instruments embedded in other contracts) be recognized in the 14 balance sheet at fair value, and that changes in such fair values be recognized in earnings unless specific hedging criteria are met. Changes in the values of derivatives that meet these hedging criteria will ultimately offset related earnings effects of the hedged item pending recognition in earnings. At December 31, 2000, the Company had two interest rate swaps outstanding with notional amounts of $75,000,000 and $125,000,000 and strike rate of 5.51% and 5.56%, respectively. These swaps were entered into to convert the variable lease payments under the Company's 1998 lease agreement to fixed payments. The differential paid or received on the swap transactions is recognized in leasing expense. The interest rate swaps expire in July 2001 unless they are extended for an additional two-year term at the option of the counter party. On January 1, 2001 in accordance with the transition provisions of SFAS 133, the Company recorded a loss resulting from the cumulative effect of an accounting change in the statement of income of approximately $164,000 ($.00 per share), net of tax benefit of $89,000. During the three months ended March 31, 2001, the Company recognized an additional unrealized loss of $3.0 million related to the change in the fair value of these interest rate swaps in other expense in the statement of income. At March 31, 2001, the Company recorded a liability of $3.2 million related to these interest rate swaps in other liabilities. The fair value of these interest rate swaps will fluctuate with changes in interest rates over their remaining terms and the fluctuations will be recorded in the statement of income. The counterparties to all of the Company's interest rate swap agreements consist of major international financial institutions. The Company continually monitors the credit quality of these financial institutions and does not expect non-performance by any counterparty. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is exposed to interest rate and foreign currency risk. The Company periodically enters into interest rate swaps to manage its exposure to fluctuations in interest rates. At March 31, 2001, the fair market value of these interest rate swaps was approximately $3.2 million and this amount was recorded in other liabilities. At March 31, 2001, the Company is exposed to variable rental rates on the equipment leases it entered into in June 1999 and March, August and October 2000. Assuming a hypothetical 10% increase in interest rates from those in effect at quarter end; the increase in annual leasing expense on these equipment leases would be approximately $4.4 million. The Company does not currently use derivative financial instruments to mitigate foreign currency risk. 15 PART II. OTHER INFORMATION Item 6: Exhibits and reports on Form 8-K (b) Reports submitted on Form 8-K: (1) A report on Form 8-K was filed on February 5, 2001, which filed as an exhibit under the caption "Item 7 - Financial Statements and Exhibits" the Certificate of Incorporation of Hanover Compressor Holding Co., as amended. (2) A report on Form 8-K was filed on February 5, 2001, which filed as an exhibit under the caption "Item 7 - Financial Statements and Exhibits" a press release reporting that the Company and one of its stockholders had fulfilled the parties' obligations pursuant to the terms of a letter agreement between the stockholder and the Company entered into on November 14, 1995 relating to investment banking services provided by the stockholder. (3) A report on Form 8-K was filed on February 5, 2001, which filed as an exhibit under the caption "Item 7 - Financial Statements and Exhibits" a press release reporting that the Company and OEC Compression Corporation had agreed to delay the closing of their merger and to re- submit the merger to a vote of OEC's stockholders due to recent public disclosures by the Company of a fee payable to one of Hanover's stockholders and a related restatement of Hanover's financial statements for 1997. (4) A report on Form 8-K was filed on February 5, 2001, which announced under the caption "Item 5 - Other Events" that the Company would make a public offering of 10 million shares of common stock, 2,500,000 of which would be issued and sold by the Company and 7,500,000 of which would be sold by selling stockholders, and $150 million of convertible senior notes. (5) A report on Form 8-K was filed on February 27, 2001, which reported under the caption "Item 5 - Other Events" that the Company expected to report cash flow and earnings per share results that are within the range of analysts' consensus estimates for the fourth quarter ended December 31, 2000. (6) A report on Form 8-K was filed on March 9, 2001, which reported under the caption "Item 5 - Other Events" the Company's revenues, cash flow and earnings per common share for both the fourth quarter and year ended December 31, 2000.
16 (7) A report on Form 8-K was filed on March 16, 2001, which reported under the caption "Item 5 - Other Events" announced the pricing of the Company's public offering of 10 million shares of common stock and $170 million convertible senior notes. (8) A report on Form 8-K was filed on March 20, 2001, which filed as an exhibit under the caption "Item 7 - Financial Statements and Exhibits" a press release reporting that the Company had completed its previously announced acquisition of OEC Compression Corporation in an all-stock transaction for approximately $101.1 million, including the assumption of approximately $62.1 million of indebtedness of OEC.
All other items specified by Part II of this report are inapplicable and have been omitted. 17 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HANOVER COMPRESSOR COMPANY Date: April 15, 2002 By: /s/ Michael J. McGhan ---------------------- Michael J. McGhan President and Chief Executive Officer Date: April 15, 2002 By: /s/ John E. Jackson ------------------- Chief Financial Officer 18