ProFrac Holding Corp. (ACDC) FY 2023 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and related notes included within “Item 8. Financial Statements and Supplementary Data.” In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect the Company’s plans, estimates, or beliefs. Actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Annual Report, including, without limitation, those described in the sections titled “Cautionary Note Regarding Forward-Looking Statements” and Part I, Item 1A “Risk Factors.”
Overview
We are a vertically integrated and innovation-driven energy services holding company providing hydraulic fracturing, proppant production, other completion services and other complementary products and services to leading upstream oil and natural gas companies engaged in the exploration and production ("E&P") of North American unconventional oil and natural gas resources.
We operate in three reportable business segments: stimulation services, proppant production and manufacturing. Our stimulation services segment owns and operates a fleet of mobile hydraulic fracturing units and other auxiliary equipment that generates revenue by providing stimulation services to our customers. Our proppant production segment provides proppant to oilfield service providers and E&P companies. Our manufacturing segment sells highly engineered, tight tolerance machined, assembled, and factory tested products such as high horsepower pumps, valves, piping, swivels, large-bore manifold systems, and fluid ends.
Before our corporate reorganization on May 17, 2022, our consolidated financial statements presented herein consisted of the accounts of our predecessor as discussed below. Subsequent to May 17, 2022, our consolidated financial statements presented herein include our accounts and those of our subsidiaries that are wholly-owned, controlled by us, or a VIE where we are the primary beneficiary.
Our Predecessor and ProFrac Holding Corp.
Our predecessor consists of ProFrac LLC and its subsidiaries, Best Pump & Flow LP (“Best Flow”) and Alpine Silica, LLC (“Alpine”), (which we refer to as “ProFrac Predecessor”) on a consolidated basis. Historical periods for ProFrac Predecessor had been presented on a consolidated and combined basis given the common control ownership of the Wilks Parties. On December 21, 2021, all of the then-outstanding membership interests in Best Flow and Alpine were contributed to ProFrac LLC in exchange for membership interests in ProFrac LLC. Unless otherwise indicated, the historical consolidated financial information included in this Annual Report presents the historical financial information of ProFrac Predecessor. Historical consolidated financial information is not indicative of the results that may be expected in any future periods.
Summary Financial Results
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Total revenue for 2023 was $2,630.0 million; an increase of $204.4 million from 2022.
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Net loss for 2023 was $59.2 million; a decrease of $401.9 million from 2022.
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Cash provided by operating activities for 2023 was $553.5 million, an increase of $138.3 million from 2022.
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Total principal amount of long-term debt was $1,107.9 million at December 31, 2023, an increase of $148.5 million from December 31, 2022.
2023 Significant Events
In December 2023, we completed the refinancing of our existing senior secured term loan and other debt with two new financings totaling $885 million, which will both mature in 2029. As a result of these transactions, we extended our significant debt maturities to 2029, and obtained the financial flexibility to take advantage of the expected increase in activity levels in 2024. For more information, see “Note 6 – Debt” in the notes to our consolidated financial statements.
In September 2023, we entered into a purchase agreement with THRC Holdings, LP and FARJO Holdings, LP, both Wilks Parties, whereby we issued and sold 50,000 shares of Preferred Stock for gross proceeds of $50.0 million. For more information, see “Note 8 – Preferred Stock” and “Note 16 – Related Party Transactions” in the notes to our consolidated financial statements.
In February 2023, we acquired Performance Proppants, LLC, a Texas limited liability company, and certain related companies for total purchase consideration of approximately $462.8 million. Performance Proppants is a frac sand provider with four sand mines in the Haynesville basin.
In January 2023, we acquired Producers Service Holdings LLC, a Delaware limited liability company, an employee-owned pressure pumping services provider serving Appalachia and the Mid-Continent, for total purchase consideration of approximately $35.0 million. Through this transaction, we added hydraulic fracturing equipment, totaling 200,000 HHP as
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well as a 50,000 square foot manufacturing facility located near Zanesville, OH, through which we have expanded our manufacturing footprint to support Northeast operations.
2022 Significant Events
In the second quarter of 2022, we completed an IPO of 18.2 million shares of its Class A common stock, par value $0.01 per share at a public offering price of $18.00 per share, which generated combined net proceeds of $301.7 million, after deducting underwriter discounts and commissions and estimated offering costs.
On March 4, 2022, we acquired FTS International, Inc. for total purchase consideration of approximately $405.7 million. FTSI was one of the largest providers of hydraulic fracturing services in North America, with 1.3 million HHP as of December 31, 2021. FTSI operated in the Permian Basin, Eagle Ford Shale, Midcontinent, Haynesville Shale and Uinta Basin.
Through a series of transactions in the first half of 2022, we entered into a supply agreement with Flotek Industries, Inc. (“Flotek”) to provide full downhole chemistry solutions for 30 of our hydraulic fracturing fleets for a period of ten years starting on April 1, 2022. In connection with this transaction, we determined that Flotek was a variable interest entity and that we were the primary beneficiary. As a result, subsequent to May 17, 2022, the date that Flotek shareholders approved the supply agreement, we have included Flotek in our consolidated financial statements.
On July 25, 2022, we acquired the West Texas subsidiaries of Signal Peak Silica, for total purchase consideration of approximately $97.4 million. This acquisition expanded our in-basin frac sand mining operations in the Permian Basin.
In November 2022, we acquired U.S. Well Services, Inc. (“USWS”) for total purchase consideration of approximately $479.1 million. USWS was a technology-driven oilfield service company focused on electric-powered pressure pumping services in the United States. The USWS fleets consisted mostly of all-electric hydraulic fracturing equipment. The USWS electric fleets replace the engines, transmissions, and radiators used in conventional diesel fleets with electric motors.
In December 2022, we completed the acquisition of the Eagle Ford sand mining operations of Monarch Silica, LLC, for total purchase consideration of approximately $166.5 million. This acquisition added the Eagle Ford Shale to our in-basin frac sand mining operations.
In December 2022, we acquired REV Energy Holdings, LLC (“REV”), for total purchase consideration of approximately $140.6 million. REV was a hydraulic fracturing service provider with 204,500 HHP. REV operated in the Rocky Mountains and Eagle Ford Shale.
See Note 4 – Business Combinations” and “Note 16 – Related Party Transactions” in the notes to our consolidated financial statements for additional discussion related to our acquisitions.
Overall Trends and Outlook
Our customers’ focus on capital discipline and shareholder returns has reduced volatility in the rig count, which has reduced the volatility of demand for our services relative to historical trends. This has allowed us to maintain activity levels and pricing levels that contribute to an attractive return on our assets. We believe the industry’s activity levels will be maintained during 2024 allowing for continued cash flow generation. Our entire organization is focused on improving our performance in 2024 through three areas of focus: providing superior customer service, improved utilization of our assets, and continuously reducing our cost per unit. We expect these areas of focus, combined with our strategic initiatives, to improve our relative commercial positioning and financial results during 2024.
Results of Operations
Revenues
The following table summarizes revenues by reportable segment:
| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2023 | 2022 | 2021 | ||||||||||
| Revenues | ||||||||||||
| Stimulation services | $ | 2,291.2 | $ | 2,348.7 | $ | 745.4 | ||||||
| Proppant production | 383.3 | 90.0 | 27.2 | |||||||||
| Manufacturing | 176.1 | 166.7 | 76.4 | |||||||||
| Other | 193.0 | 111.8 | — | |||||||||
| Eliminations | (413.6 | ) | (291.6 | ) | (80.6 | ) | ||||||
| Total revenues | $ | 2,630.0 | $ | 2,425.6 | $ | 768.4 |
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Stimulation services revenues in 2023 decreased $57.5 million, or 2%, from 2022. This decrease was due to a decrease in average active fleets and lower fleet utilization in 2023. These decreases were substantially offset by the full year effect of our acquisitions when compared with last year. Stimulation services revenues in 2022 increased $1,603.3 million, or 215%, from 2021. This increase was due to an increase in customer activity and an increase in active fleets, pumping hours and pricing in 2022. FTSI and USWS contributed revenue to this segment from their acquisition dates in 2022.
Proppant production revenues in 2023 increased $293.3 million, or 326%, from 2022. This increase was due to our acquisitions which increased the number of mines operated and the related tonnage mined. Revenue recognized for the amortization of acquired off-market contracts was $57.5 million and $6.6 million in 2023 and 2022, respectively. Proppant production revenues in 2022 increased $62.8 million, or 231%, from 2021. This increase was due to an increase in proppant volumes and pricing resulting from increased proppant demand primarily in the Permian basin. Additionally, Monahans contributed revenue to this segment from its acquisition date. Intersegment revenues for the proppant production segment were 30%, 62% and 40%, in 2023, 2022, and 2021, respectively.
Manufacturing revenues in 2023 increased $9.4 million, or 6%, from 2022. This increase was primarily attributable to increased activity in our stimulation services segment. Manufacturing revenues in 2022 increased $90.3 million, or 118%, from 2021. This increase was primarily attributable to increased activity in our stimulation services segment. Intersegment revenues for the manufacturing segment were 89%, 92% and 90%, in 2023, 2022, and 2021, respectively.
Other revenues in 2023 increased $81.2 million, or 73%, from 2022. This increase was due to Flotek’s increased revenues from the supply contract with our stimulation services segment. Flotek recorded $20.1 million of revenue related to contract shortfalls because the stimulation services segment did not purchase the minimum contractual commitment of chemistry products from Flotek. Intersegment revenues for Flotek were 65% and 67%, in 2023 and 2022, respectively. Flotek was acquired in 2022 and therefore contributed no revenues in 2021.
Cost of Revenues
The following table summarizes our cost of revenues by reportable segment:
| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2023 | 2022 | 2021 | ||||||||||
| Cost of revenues, exclusive of depreciation, depletion, and amortization: | ||||||||||||
| Stimulation services | $ | 1,636.5 | $ | 1,433.6 | $ | 570.8 | ||||||
| Proppant production | 169.4 | 40.5 | 14.1 | |||||||||
| Manufacturing | 146.6 | 137.5 | 65.8 | |||||||||
| Other | 166.2 | 118.4 | — | |||||||||
| Eliminations | (413.5 | ) | (291.3 | ) | (80.6 | ) | ||||||
| Total cost of revenues, exclusive of depreciation, depletion, and amortization | $ | 1,705.2 | $ | 1,438.7 | $ | 570.1 |
Stimulation services cost of revenues in 2023 increased $202.9 million, or 14%, from 2022. This increase was due to the full year effect of our acquisitions when compared with last year and was partially offset by our decrease in average active fleets in 2023. Cost of revenues for this segment included an intercompany supply commitment charge of $20.1 million because the stimulation services segment did not purchase the minimum contractual commitment of chemistry products from Flotek. Stimulation services cost of revenues in 2022 increased $862.8 million, or 151%, from 2021. This increase was due to an increase in customer activity levels and increased prices for proppant and chemicals used in the fracturing process. Additionally, FTSI and USWS contributed costs to this segment from their acquisition dates.
Proppant production cost of revenues in 2023 increased $128.9 million, or 318%, from 2022. This increase was due to acquisitions which increased the number of mines operated and the related tonnage mined. Proppant production cost of revenues in 2022 increased $26.4 million, or 187%, from 2021. This increase was due to an increase in proppant production to meet increased customer demand in 2022. Additionally, Monahans contributed costs to this segment from its acquisition date.
Manufacturing cost of revenues in 2023 increased $9.1 million, or 7%, from 2022. This increase was due to increased activity in our stimulation services segment in 2023. Manufacturing cost of revenues in 2022 increased $71.7 million, or 109%, from 2021. This increase was due to increased activity in our stimulation services segment as well as higher prices for the cost of raw materials in 2022.
Other cost of revenues in 2023 increased $47.8 million, or 40%, from 2022. This increase was due to Flotek’s increased volumes from performing under the supply contract with our stimulation services segment. Flotek was acquired in 2022 and therefore contributed no cost of revenues in 2021.
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Selling, General and Administrative
The following table summarizes our selling, general and administrative expenses:
| Year Ended December 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| 2023 | 2022 | 2021 | |||||||||
| Selling, general and administrative: | |||||||||||
| Selling, general and administrative, excluding stock-based compensation | $ | 238.7 | $ | 175.7 | $ | 64.2 | |||||
| Stock-based compensation related to deemed contributions | 19.7 | 59.3 | — | ||||||||
| Stock-based compensation | 10.1 | 8.1 | — | ||||||||
| Total selling, general and administrative | $ | 268.5 | $ | 243.1 | $ | 64.2 |
Selling, general and administrative (“SG&A”) expenses in 2023 increased $25.4 million, or 10%, from 2022. Excluding stock-based compensation expense, SG&A expenses increased $63.0 million, or 36%. This increase was due to higher labor and non-labor costs associated with our acquisitions. Subsequent to June 30, 2023, we adjusted our cost structure to right size our organization, through the acceleration of acquisition synergies and headcount reductions. In the fourth quarter of 2023, our SG&A expenses, excluding stock-based compensation, decreased 5% from the same period last year.
SG&A expenses in 2022 increased $178.9 million, or 279%, from 2021. Excluding stock-based compensation expense, SG&A expenses increased $111.5 million, or 174%. This increase was due to increased headcount, incentive compensation and non-labor costs in 2022 associated with our increased activity levels and 2022 acquisitions. In 2022 we also recognized stock-based compensation associated with certain deemed shareholder contributions. See “Note 10 – Stock-based Compensation” in the notes to our consolidated financial statements for discussion of our stock-based compensation related to deemed contributions.
Depreciation, Depletion, and Amortization
The following table summarizes our depreciation, depletion, and amortization:
| Year Ended December 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| 2023 | 2022 | 2021 | |||||||||
| Depreciation, Depletion, and Amortization | |||||||||||
| Depreciation | $ | 387.1 | $ | 261.2 | $ | 139.9 | |||||
| Amortization | 35.2 | 5.6 | 0.6 | ||||||||
| Depletion | 16.1 | 0.5 | 0.2 | ||||||||
| Total depreciation, depletion, and amortization | $ | 438.4 | $ | 267.3 | $ | 140.7 |
Depreciation, depletion, and amortization in 2023 increased $171.1 million, or 64%, from 2022. This increase was due to increased depreciation in 2023 from our acquisitions and increased capital expenditures in recent periods as well as increased amortization from customer relationship intangible assets acquired in 2023. The increase in depletion was due to our acquired sand mines. Depreciation, depletion, and amortization in 2022 increased $126.6 million, or 90%, from 2021. This increase was due to increased depreciation in 2022 from increased capital expenditure in 2022 and the depreciation related to the assets acquired from FTSI and USWS acquisition in 2022.
Acquisition Related Expenses
Acquisition and integration costs consist of professional and advisory fees, acquisition related severance expenditures, and other costs associated with acquisition and integration activities. Acquisition related expenses were $21.8 million, $48.8 million and zero in 2023, 2022 and 2021, respectively. These costs related to our acquisition and integration activities in 2023 and 2022. We expect for these expenses to significantly decrease in 2024 due to reduced acquisition and integration related activities.
Other Operating Expenses, Net
The following table summarizes our other operating expenses, net:
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| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2023 | 2022 | 2021 | ||||||||||
| (Gain) loss on disposal of assets | $ | (1.7 | ) | $ | 2.1 | $ | 9.8 | |||||
| Litigation expenses and accruals for legal contingencies | 34.1 | 11.3 | — | |||||||||
| Severance charges | 1.1 | — | 0.5 | |||||||||
| Loss on foreign currency transactions | — | — | 0.2 | |||||||||
| Reorganization costs | — | — | 2.1 | |||||||||
| Impairments of long-lived assets | 2.5 | — | — | |||||||||
| Acquisition earnout adjustments | (6.6 | ) | — | — | ||||||||
| Provision for credit losses, net of recoveries | 0.1 | 1.9 | (1.2 | ) | ||||||||
| Total | $ | 29.5 | $ | 15.3 | $ | 11.4 |
Loss on disposal of assets, net consists of gains or losses on excess property, early equipment failures, and other asset dispositions.
Litigation expenses and accruals for legal contingencies generally represent legal and professional fees incurred in litigation as well as estimates for loss contingencies with regards to certain vendor disputes and litigation matters. In 2023 more than half of these costs are related to litigation costs incurred in connection with multiple patent infringement lawsuits against Halliburton. See “Note 13 - Commitments and Contingencies” in the notes to our consolidated financial statements for further discussion.
Severance charges in 2023 related to the departure of two executives.
Impairments of long-lived assets in 2023 related to certain construction-in-process assets at one of our acquired sand mines that were abandoned.
The acquisition earnout adjustments represent a decrease in the fair value of the contingent consideration related to our acquisition of REV in December 2022.
Interest Expense, Net
Interest expense, net in 2023 increased by $95.4 million from 2022. This increase was primarily due to a higher average debt balance in 2023 and higher average interest rates in 2023. Interest expense, net in 2022 increased by $33.7 million from 2021. This increase was primarily due to a higher average debt balance in 2022 and higher average interest rates in 2022. We are subject to interest rate risk on our variable-rate debt. A 1% increase in interest rates on our variable-rate debt as of December 31, 2023, would increase the annual interest expense for this debt by approximately $10.0 million. See “Note 6 – Debt” in the notes to our consolidated financial statements for additional discussion related to our debt.
Loss on Extinguishment of Debt
As a result of debt refinancing transactions and debt repayments in 2023, we recognized a loss on extinguishment of debt in 2023 of $33.5 million compared with $17.6 million and $0.5 million in 2022 and 2021, respectively.
Other Income (Expense), Net
Other expense, net in 2023 was $36.2 million. This balance was primarily due to an unrealized loss on our investment in BPC of $30.2 million. See “Note 5 - Investments” in the notes to our consolidated financial statements for discussion of our investment in BPC. This balance was also due to and a loss of $8.5 million on our Munger make-whole provision. See “Note 14 - Fair Value Measurements” in the notes to our consolidated financial statements for discussion of the Munger make-whole provision.
Other income, net in 2022 was $16.5 million. This balance included a gain of $10.2 million related to the change in fair value of the Flotek Convertible Notes before we obtained control of Flotek. This balance also contained an unrealized gain of $4.2 million on the Munger make-whole provision.
Income Tax Benefit (Expense)
Income tax expense in 2023 was $1.2 million for an effective tax rate of negative 2.1%. The difference between the U.S. statutory tax rate of 21% and the effective tax rate was due to the income that was earned within the financial statement consolidated group that was not subject to tax within the financial statement consolidated group and changes in the valuation allowance on our net deferred tax assets.
Income tax expense in 2022 was $9.1 million for an effective tax rate of 2.6%. The difference between the U.S. statutory tax rate of 21% and the effective tax rate was due to the income that was earned within the financial statement consolidated group that was not subject to tax within the financial statement consolidated group after the Company’s corporate reorganization to a taxable entity subsequent to the IPO and changes in the valuation allowance on our net deferred tax assets.
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Income tax benefit in 2021 was $0.2 million. The difference between the U.S. statutory tax rate of 21% and the effective tax rate was due to the Company’s partnership tax status in 2021.
Liquidity and Capital Resources
Sources of Liquidity
Historically, our primary sources of liquidity have been borrowings under our debt agreements and cash flows from operations. In 2023, the Company raised $50.0 million from the sale of its Series A preferred stock to THRC Holdings and FARJO Holdings. The Company presently does not expect any further funds from this source. THRC Holdings and FARJO Holdings are Wilks Parties. See “Note 16 – Related Party Transactions” in the notes to our consolidated financial statements.
While Flotek is included in our consolidated financial statements, we do not have the ability to access or use Flotek’s cash or liquidity in our operations and, accordingly, have excluded Flotek’s cash and other sources of liquidity from the following discussion of our liquidity and capital resources. See “Note 4 – Business Combinations” in the notes to our consolidated financial statements for discussion of our ownership of Flotek.
Our Alpine 2023 Term Loan requires us to segregate collateral associated with Alpine and limits our ability to use Alpine's cash or assets to satisfy our obligations or the obligations of our other subsidiaries. We also have limited ability to provide Alpine with liquidity to satisfy its obligations. See “Note 6 – Debt” in the notes to our consolidated financial statements for more information.
At December 31, 2023, we had $19.3 million of cash and cash equivalents, excluding Flotek, and $83.4 million available for borrowings under our revolving credit facility which resulted in a total liquidity position of $102.7 million. Refer to “Note 6 – Debt” in the notes to our consolidated financial statements for more information regarding our revolving credit facility.
We believe that our cash and cash equivalents, cash provided by operations, and the availability under our revolving credit facility will be sufficient to fund our capital expenditures, satisfy our obligations, and remain in compliance with our existing debt covenants for at least the next 12 months. If we pursue additional acquisitions during 2024 we will likely need to raise additional debt and/or equity financing to fund them. There is no assurance we could do that on favorable terms, if at all.
Flotek Liquidity
In Flotek’s Form 10-Q filed on November 8, 2023, Flotek concluded that there was substantial doubt about its ability to continue as a going concern due to limited sources of liquidity. Flotek is evaluating strategies to obtain additional funding to improve its liquidity position and believes it will be able to continue to fund its operations. We believe that substantial doubt about Flotek’s ability to continue as a going concern does not materially adversely affect our business, financial condition or results of operations as we do not guarantee any Flotek liabilities and we have access to other chemical suppliers.
Cash Flows
The following table provides a summary of our cash flows:
| Year Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2023 | 2022 | 2021 | ||||||||||
| Net cash provided by (used in): | ||||||||||||
| Operating activities | $ | 553.5 | $ | 415.2 | $ | 43.9 | ||||||
| Investing activities | (715.8 | ) | (1,028.6 | ) | (78.4 | ) | ||||||
| Financing activities | 149.7 | 645.9 | 36.9 | |||||||||
| Net change in cash, cash equivalents, and restricted cash | $ | (12.6 | ) | $ | 32.5 | $ | 2.4 |
Net cash provided by operating activities was $553.5 million, $415.2 million, and $43.9 million in 2023, 2022 and 2021, respectively. Cash flows from operating activities consists of net income or loss adjusted for non-cash items and changes in operating assets and liabilities.
Net income or loss adjusted for non-cash items in 2023 resulted in a cash increase of $423.5 million compared with a cash increase of $679.5 million in 2022 and a cash increase of $108.4 million in 2021. The change from 2022 to 2023 was primarily due to lower earnings in 2023. The change from 2021 to 2022 was primarily due to higher earnings in 2022.
The net change in operating assets and liabilities in 2023 resulted in a cash increase of $130.0 million compared with a cash decrease of $264.3 million in 2022 and a cash decrease of $64.5 million in 2021. The change from 2022 to 2023 was primarily due to an increase in cash provided by accounts receivable in 2023, when compared with 2022, resulting from our decreased activity levels and lower working capital needs in 2023. The change from 2021 to 2022 was primarily due to increased working capital needs to fund our increased activity levels in 2022.
Net cash used in investing activities was $715.8 million, $1,028.6 million and $78.4 million in 2023, 2022 and 2021, respectively. The change from 2022 to 2023 was primarily due to decreased cash used for acquisitions, capital expenditures
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and other investments. The change from 2021 to 2022 was primarily due to $640.7 in net cash paid for acquisitions and higher capital expenditures of $268.8 million related to dual fuel engine upgrades, engine standby controller installations, and our electric frac fleet build program. These uses of cash were partially offset by cash proceeds from a sale-leaseback of real property.
Net cash provided by financing activities was $149.7 million, $645.9 million, and $36.9 million in 2023, 2022, and 2021, respectively. In 2023 cash borrowed net of debt repayments was $101.6 million and we received $48.9 million in net proceeds from our preferred stock offering. In 2022 cash borrowed net of debt repayments was $413.8 million and we also received $228.8 million of proceeds from our IPO and related transactions. In 2021 cash borrowed net of debt repayments was $39.4 million.
Cash Requirements
Our material cash requirements have consisted of, and we anticipate will continue to consist of the following:
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debt service obligations, including interest,
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capital expenditures,
•
purchase commitments,
•
tax receivable agreement payments, and
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acquisitions of strategic businesses.
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Debt Service Obligations
The following table summarizes our outstanding indebtedness as of December 31, 2023 and our future maturities:
| 2024 | 2025 | 2026 | 2027 | 2028 | Thereafter | Total | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| ProFrac Holding Corp.: | |||||||||||||||||||||||||||
| 2029 Senior Notes | $ | 30.0 | $ | 60.0 | $ | 60.0 | $ | 60.0 | $ | 60.0 | $ | 250.0 | 520.0 | ||||||||||||||
| 2022 ABL Credit Facility | — | — | — | 117.4 | — | — | 117.4 | ||||||||||||||||||||
| Equify Notes | 5.0 | 5.0 | 5.0 | 3.6 | — | — | 18.6 | ||||||||||||||||||||
| Finance lease obligations | 2.3 | 2.2 | 2.0 | 1.8 | 0.3 | — | 8.6 | ||||||||||||||||||||
| Other | 9.9 | 2.6 | 0.6 | 0.6 | 0.1 | — | 13.8 | ||||||||||||||||||||
| ProFrac Holding Corp. principal amount | 47.2 | 69.8 | 67.6 | 183.4 | 60.4 | 250.0 | 678.4 | ||||||||||||||||||||
| Alpine Subsidiary: | |||||||||||||||||||||||||||
| Alpine 2023 Term Loan | 15.0 | 60.0 | 60.0 | 60.0 | 60.0 | 110.0 | 365.0 | ||||||||||||||||||||
| Monarch Note | 54.7 | — | — | — | — | — | 54.7 | ||||||||||||||||||||
| Finance lease obligations | 1.9 | 0.2 | — | — | — | — | 2.1 | ||||||||||||||||||||
| Alpine principal amount | 71.6 | 60.2 | 60.0 | 60.0 | 60.0 | 110.0 | 421.8 | ||||||||||||||||||||
| Flotek Subsidiary: | |||||||||||||||||||||||||||
| Flotek ABL credit facility | 7.5 | — | — | — | — | — | 7.5 | ||||||||||||||||||||
| Flotek other | 0.1 | 0.1 | — | — | — | — | 0.2 | ||||||||||||||||||||
| Flotek principal amount | 7.6 | 0.1 | — | — | — | — | 7.7 | ||||||||||||||||||||
| Total principal amount | $ | 126.4 | $ | 130.1 | $ | 127.6 | $ | 243.4 | $ | 120.4 | $ | 360.0 | $ | 1,107.9 |
See “Note 6 – Debt” and “Note 7 - Leases” in the notes to our consolidated financial statements for the discussion of our various debt agreements and capital leases, respectively.
Capital Expenditures
The nature of our capital expenditures consists of a base level of investment required to support our current operations and amounts related to growth and company initiatives.
In 2023 our capital expenditures were $267.0 million, consisting of maintenance capital expenditures for our fleet, building four electric-powered hydraulic fracturing fleets, and engine upgrades to convert legacy pumps to next generation technology. During the second quarter of 2023, we decided to reduce capital expenditures for the remainder of the year to more closely align with our customers’ activity levels and our reduced number of active fleets as well as to maintain target return thresholds on capital investments.
In 2024 we estimate capital expenditures will range from $150 million to $200 million in maintenance related expenditures and an additional $100.0 million for growth initiatives across all segments. Currently, growth capital expenditures for 2024 are expected to be related to sand mine improvements and upgrades to our hydraulic fracturing fleet.
We continually evaluate our capital expenditures and the amount that we ultimately spend will depend on a number of factors, including customer demand for fleets and expected industry activity levels. We believe we will be able to fund our 2024 capital program from cash flows from operations.
Purchase Commitments
As of December 31, 2023, we had purchase commitments of $29.8 million in 2024 for hydraulic fracturing equipment components.
Tax Receivable Agreement
In connection with our initial public offering, ProFrac Corp. entered into a tax receivable agreement (the “TRA”) with certain holders of limited liability company interests in ProFrac LLC (the “TRA Holders”). The TRA generally provides for payment by ProFrac Corp. to the TRA Holders of 85% of the net cash savings, if any, in U.S. federal, state and local income tax and franchise tax that ProFrac Corp. actually realizes as a result of certain equity transactions performed by the TRA Holders.
In 2023 the TRA Holders converted all of their Class B common stock to Class A common stock. See “Note 1 – Organization and Description of Business” in the notes to our consolidated financial statements for further discussion of this common stock conversion and related transactions. The tax effect of our IPO and this transaction resulted in an estimated $68.1 million noncurrent TRA liability. As of December 31, 2023, the current liability for our TRA obligation was an additional $2.8
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million. The TRA liability will generally be paid under the TRA as ProFrac Corp. realizes actual cash tax savings from the tax benefits covered by the TRA in future tax years. We do not expect a significant increase in the estimate of this liability in future periods.
Commitments and Contingencies
We are currently litigating multiple patent infringement lawsuits against Halliburton. The outcomes of these cases are uncertain and the ultimate resolution of them could have a material adverse effect on our liquidity in the periods in which these matters are resolved. See “Note 13 - Commitments and Contingencies” in the notes to our consolidated financial statements for further discussion.
Critical Accounting Policies and Estimates
The preparation of our consolidated financial statements and related notes requires us to make estimates that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosures of contingent assets and liabilities. We base these estimates on historical results and various other assumptions believed to be reasonable, all of which form the basis for making estimates concerning the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from these estimates, and such differences could be material.
In the notes accompanying the consolidated financial statements included elsewhere in this annual report, we describe the significant accounting policies used in the preparation of our consolidated financial statements. We believe that the following represent the most significant estimates and management judgments used in preparing the consolidated financial statements.
Business Combinations
Business combinations are accounted for under the acquisition method of accounting. Under this method, the assets acquired and liabilities assumed are recognized at their respective fair values as of the date of acquisition. The excess, if any, of the acquisition price over the fair values of the assets acquired and liabilities assumed is recorded as goodwill. For significant acquisitions, we utilize third-party appraisal firms to assist us in determining the fair values for certain assets acquired and liabilities assumed. The measurement of these fair values requires us to make significant estimates and assumptions which are inherently uncertain.
Adjustments to the fair values of assets acquired and liabilities assumed are made until we obtain all relevant information regarding the facts and circumstances that existed as of the acquisition date (the “measurement period”), not to exceed one year from the date of the acquisition. We recognize measurement-period adjustments in the period in which we determine the amounts, including the effect on earnings of any amounts we would have recorded in previous periods if the accounting had been completed at the acquisition date.
The estimation of net assets acquired in business combinations requires significant judgment in determination of the fair value of the assets and liabilities acquired. Our fair value estimates require us to use significant observable and unobservable inputs. The estimates of fair value are also subject to significant variability, are sensitive to changes in market conditions, and are reasonably likely to change in the future. A significant change in the observable and unobservable inputs and determination of fair value of the assets and liabilities acquired could significantly impact our consolidated financial statements.
Goodwill
Goodwill is evaluated for impairment annually in the fourth quarter or whenever events or circumstances indicate the carrying value may not be recoverable. The impairment test involves a comparison of the fair value of each reporting unit with its carrying value. Fair value reflects our estimate of the price a potential market participant would be willing to pay for the reporting unit in an arms-length transaction. Reporting units with significant goodwill balances at December 31, 2023, include our Stimulation Services reporting unit, Flotek reporting unit, and our Haynesville Proppant Production reporting unit, which represents our Performance Proppants acquisition.
Determining the fair value of a reporting unit requires complex analysis and judgment. We use a combination of discounted cash flow models and market data, such as earnings multiples and quoted market prices, for observable comparable companies. Discounted cash flow models require detailed forecasts of cash flow drivers, such as revenue growth rates, margin rates, and capital investments as well as estimates of weighted-average cost of capital rates. These estimates are made in the context of many uncertain factors, such as the effectiveness of our strategy, changes in customer behavior, technological changes, competitor actions, regulatory changes and macroeconomic trends.
Due to the decrease in our consolidated financial results and the decrease in our market capitalization in 2023, we elected to test the goodwill for our Stimulation Services reporting unit and our Haynesville Proppant Production reporting unit using a quantitative impairment assessment, which required us to estimate the fair values of these reporting units.
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Based on our quantitative and qualitative assessments, we determined that none of the goodwill for our reporting units was impaired at December 31, 2023. The excess fair value as a percentage of book value for our Stimulation Services reporting unit was more than 20%. The fair value of our Haynesville Proppant Production reporting unit was marginally in excess of its book value at December 31, 2023, which we concluded was reasonable considering that the acquisition of Performance Proppants was nine months before the measurement date. When estimating the future cash flows for these reporting units, we generally assumed revenue and operating margins in future years would increase as we implement new commercial strategies for these reporting units and increase the utilization of our assets. However, if overall market conditions deteriorate, or if we are unable to achieve our forecasted results, future non-cash impairment charges may result which could be material. The fair value of our Flotek reporting unit was marginally in excess of its book value at December 31, 2023. The fair value for the Flotek reporting unit is derived from the observable trading price of its publicly-traded common stock. If the price of Flotek’s common stock has a sustained decline, a future non-cash impairment charge may result which could be material.
Income Taxes
Before May 17, 2022, the ProFrac Predecessor entities were organized as limited liability companies or a limited partnership and were treated as either a disregarded entity or a partnership for U.S. federal income tax purposes, whereby the ordinary business income or loss and certain deductions were passed-through and reported on the members’ income tax returns. As such, the Company was not required to account for U.S. federal income taxes in the consolidated financial statements. Certain state income-based taxes are imposed on the Company which are reflected as income tax expense or benefit in historical periods.
In connection with the IPO in May 2022, the Company reorganized and ProFrac LLC became partially owned by ProFrac Corp., a U.S. Internal Revenue Code Subchapter C corporation (“C-Corporation”). ProFrac Corp. is a taxable entity and is required to account for income taxes under the asset and liability method for periods subsequent to May 17, 2022.
Income taxes are accounted for using the asset and liability method. Deferred taxes are recognized for the tax consequences of temporary differences by applying enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. We recognize future tax benefits to the extent that such benefits are more likely than not to be realized.
We record a valuation allowance to reduce the value of a deferred tax asset if based on the consideration of all available evidence, it is more likely than not that all or some portion of the deferred tax asset will not be realized. Significant weight is given to evidence that can be objectively verified. We evaluate our deferred income taxes at each reporting date to determine if a valuation allowance is required by considering all available evidence, including historical and projected taxable income and tax planning strategies. We will adjust a previously established valuation allowance if we change our assessment of the amount of deferred income tax asset that is more likely than not to be realized.
An estimate of whether a valuation allowance is necessary and the related amount of the valuation allowance contain uncertainties because it requires us to apply judgment to all positive and negative evidence available to us. When considering the likelihood of whether a deferred tax asset will be available to offset future taxable income, we assess, among other things, our historical and projected income or loss. When performing this assessment, we must consider the cyclical nature of our business. Our business is heavily influenced by current and expected prices for oil and natural gas. These prices are outside of our control and a downturn in the market can result in periods of significant losses for us, which could prevent the realization of a deferred tax asset. We therefore must consider the future possibility of an industry downturn and the severity of its effect on our business when considering all positive and negative evidence related to the realization of our deferred tax assets. Although we believe that our judgments and estimates are reasonable, an adjustment to a valuation allowance in a given period may require a material adjustment in a future period if our assumptions regarding our future taxable income are proven inaccurate due to an industry downturn.
We record uncertain tax positions, if any, in accordance with ASC 740 on the basis of a two-step process in which (1) we determine whether it is more likely than not that the tax positions will be sustained on the basis of the technical merits of the position and (2) for those tax positions that meet the more-likely-than-not recognition threshold, we recognize the largest amount of tax benefit that is more than 50 percent likely to be realized upon ultimate settlement with the related tax authority. We had no uncertain tax positions during the periods presented.
Property, Plant and Equipment
We calculate depreciation based on the estimated useful lives of our assets. When assets are placed into service, we make estimates with respect to their useful lives that we believe are reasonable. However, the cyclical nature of our business, which results in fluctuations in the use of our equipment and the environments in which we operate, could cause us to change our estimates, thus affecting the future calculation of depreciation.
We continuously perform repair and maintenance expenditures on our service and mining equipment. Expenditures for renewals and betterments that extend the lives of our equipment, which may include the replacement of significant
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components of equipment, are capitalized and depreciated. Other repairs and maintenance costs are expensed as incurred. The determination of whether an expenditure should be capitalized or expensed requires management judgment with regard to the effect of the expenditure on the useful life of the equipment.
We separately identify and account for certain significant components of our hydraulic fracturing units including the engine, transmission, and pump, which requires us to separately estimate the useful lives of these components.
Recent Accounting Pronouncements
See “Note 2 – Summary of Significant Accounting Policies” in the notes to our consolidated financial statements for further discussion regarding recently issued accounting standards.
Related Party Transactions
See “Note 16 – Related Party Transactions” in the notes to our consolidated financial statements for further discussion regarding related party transactions.