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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
(Mark One)
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the fiscal year ended May 31, 1998.
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 No. 0-18716
MATRIX SERVICE COMPANY
(Exact name of registrant as specified in its charter)
Delaware 73-1352174
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10701 East Ute Street 74116
Tulsa, Oklahoma (Zip Code)
(Address of Principal
Executive Offices)
Registrant's telephone number, including area code: (918) 838-8822.
Securities Registered Pursuant to Section of the Act: None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, par value $0.01 per share
(Title of class)
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 ______
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
The approximate aggregate market value of the registrant's common stock (based
upon the August 26, 1998 closing sale price of the common stock as reported by
the NASDAQ National Market System) held by non-affiliates as of August 26, 1998
was approximately $53,034,509.
The number of shares of the registrant's common stock outstanding as of August
26, 1998 was 9,642,638 shares.
Documents Incorporated by Reference
Certain sections of the registrant's definitive proxy statement relating to the
registrant's 1998 annual meeting of stockholders, which definitive proxy
statement will be filed within 120 days of the end of the registrant's fiscal
year, are incorporated by reference into Part III of this Form 10-K.
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The registrant hereby amends and restates in its entirety, Item 1 of Part I of
its Annual Report on Form 10-K for the fiscal year ended May 31, 1998, in order
to correct certain paragraphs treating Midwest Industrial Contractors, Inc.
("Midwest") as a discontinued operation.
Additionally, the registrant hereby amends and restates in its entirety, Items
6, 7 and 8 of Part II and Item 14 of Part IV of its Annual Report on Form 10-K
for the fiscal year ended May 31, 1998, in order to restate the Selected
Financial Data, Management's Discussion and Analysis of Financial Condition and
Results of Operations, Financial Statements and Supplemental Data, and the
Exhibits, Financial Statement Schedules and Reports on Form 8-K to reflect the
treatment of Midwest as an exited business line rather than a discontinued
operation.
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TABLE OF CONTENTS
Part I
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Page
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Item 1. Business.................................................... 1
Part II
Item 6. Selected Financial Data..................................... 13
Item 7 Management's Discussion and Analysis of Financial Condition.
and Results of Operations................................... 14
Item 8. Financial Statements and Supplementary Data................. 24
Part IV
Item 14. Exhibits, Financial Statement Schedules and Reports on
Form 8-K.................................................... 25
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PART I
Item 1. Business
Background
Matrix Service Company (the "Company") provides specialized on-site
maintenance and construction services for petroleum refining and storage
facilities and water storage tanks and systems for the municipal and private
industry sector. Owners of these facilities use the Company's services in an
effort to improve operating efficiencies and to comply with stringent
environmental and safety regulations. Through its subsidiaries Matrix Service,
Inc. ("Matrix"), San Luis Tank Piping Construction Co., Inc. and an affiliated
company West Coast Industrial Coatings, Inc. (collectively "San Luis"), Heath
Engineering, Ltd. and an affiliated company ("Heath"), Brown Steel Contractors,
Inc. and affiliated companies (collectively, "Brown"), Mayflower Vapor Seal
Corporation ("Mayflower") and General Service Corporation and affiliated
companies, Maintenance Services, Inc. and Mainserv-Allentech, Inc.
(collectively, "GSC"), the Company provides maintenance and construction
services and related products for large aboveground storage tanks ("ASTs")
holding petroleum, petrochemical and other products and piping systems located
at petroleum refineries, and bulk storage terminals. Also, the Company provides
field-erected, elevated and ground level water tanks for the municipal and
private industry sector. Through its subsidiary, Colt Construction Company
("Colt"), the Company provides maintenance and construction services for
industrial process plants and refineries. Colt specializes in performing
"turnarounds", which involve complex, time-sensitive maintenance of the critical
operating units of a refinery and other in-plant maintenance. In February 1998
the Company adopted a plan for restructuring Midwest which include closing and
abandoning its operations (See Management's Discussion and Analysis and
Financial Statements Note 3).
The Company was incorporated in Delaware in 1989 to become a holding
company for Matrix, which was incorporated in Oklahoma in 1984, and Petrotank
Equipment Inc. ("Petrotank"), which was incorporated in Oklahoma in 1988. In
October 1990, the Company acquired through a subsidiary substantially all of the
assets and operations of Midwest. The Midwest operations were discontinued
during fiscal year 1998. In June 1991, the Company acquired San Luis (the "San
Luis Acquisition"). In December 1992, the Company acquired through a subsidiary
substantially all of the assets and operations of Colt. In June 1993, the
Company acquired substantially all of the assets and assumed certain liabilities
of Heath. In July 1993, the Company entered into a joint venture (Al Shafai-
Midwest Constructors) with a Saudi Arabian company to perform mechanical
contracting services in the Kingdom of Saudi Arabia. Al Shafai-Midwest
Constructors is 49% owned by Midwest International, Inc., a wholly owned
subsidiary of the Company. Al Shafai-Midwest Constructors was issued a
commercial license to perform services in Saudi Arabia in June 1993. In May
1995, the Company discontinued operations in Saudi Arabia, and is in the process
of liquidating the joint venture. In April 1994, the Company acquired Brown.
In August 1994 the Company acquired certain assets of Mayflower Vapor Seal
Corporation. In June 1997, the Company acquired (the "GSC Acquisition") General
Service Corporation and affiliated companies. GSC provides services and
products similar to those provided by Matrix and operates primarily in the
Northeast part of the United States, with products sales to U.S. and foreign
customers.
On December 16, 1997, the Company and ITEQ, Inc. ("ITEQ") entered into a
Plan and Agreement of Merger whereby ITEQ agreed to acquire the Company. On
January 19, 1998 the Company and ITEQ mutually agreed to terminate the Plan and
Agreement of Merger, due to unanticipated difficulties in connection with the
expected integration of personnel from divergent corporate cultures. During the
third quarter of fiscal year 1998, the Company adopted a plan for restructuring
of operations to reduce costs, eliminate duplication of facilities and improve
efficiencies. The plan included closing fabrication shops in Newark, Delaware
and Rancocas, New Jersey and moving these operations to a more efficient and
geographically centered facility in Bristol, Pennsylvania. Additionally, the
Company closed a fabrication shop at Elkston, Maryland. The production from the
Maryland facility, which was principally elevated water tanks, will be provided
by the Company's Newnan, Georgia plant. (The facilities located in Delaware, New
Jersey, Pennsylvania and Maryland were all leased facilities.) The Company sold
real estate that was not being utilized in Mississauga, Canada, and the Company
also discontinued certain product lines that were no longer profitable. During
the third quarter of fiscal year 1998 the board of directors approved a plan
whereby the Company would exit the operations of Midwest, which included
maintenance services for refineries in the FCCU turnaround, process heater and
related refractory
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construction markets. The Company will in an orderly manner discontinue to
operate in the markets that Midwest has historically participated. Unless the
context otherwise requires, all references herein to the Company include Matrix
Service Company and its subsidiaries. The Company's principal executive offices
are located at 10701 East Ute Street, Tulsa, Oklahoma 74116, and its telephone
number at such address is (918) 838-8822.
Aboveground Storage Tank Operations
The Company's AST operations include the maintenance, repair,
inspection, design and construction of ASTs, and the equipping of these tanks
with devices mandated by current and proposed environmental regulations. These
devices include a variety of floating roof and seal assemblies, tank bottoms and
secondary containment systems, each of which is designed to enable tank owners
and operators to comply with federal and state air and water quality guidelines
and regulations regarding leaks and spills of petroleum products from storage
facilities. The Company manufactures and sells certain of these devices,
including a line of patented floating roof seals. These seals, which are
marketed under the Company's Flex-A-Seal(R) and Flex-A-Span(R) trademarks,
reduce losses of stored petroleum products through evaporation and,
consequently, reduce air pollution. In addition, the seals reduce the amount of
rainwater that enters the tanks, reduce the hazards of rim fires thereby
reducing product contamination, lowering wastewater disposal costs, and reduce
tank owner's overall risk. The Company's secondary containment systems allow
tank owners to detect leaks in the tanks at an early stage, before groundwater
or surface water contamination has occurred. In addition, the systems help to
control leakage until the tank can be repaired.
AST Market and Regulatory Background
The American Petroleum Institute has estimated that there are
approximately 700,000 ASTs in the United States that store crude oil,
condensate, lube oils, distillates, gasolines and various other petroleum
products. These tanks range in capacity from 26 barrels (42 gal/barrel) to in
excess of 1,000,000 barrels. The Company's principal focus is inspecting,
maintaining, repairing, designing and constructing large ASTs, with capacities
ranging from approximately 50 to 1,000,000 barrels. The Company believes, based
on industry statistics, that there are over 120,000 of these large tanks
currently in use, accounting for more than 70% of the domestic petroleum product
storage capacity. These ASTs are used primarily by the refining and storage
segments of the petroleum industry. The petrochemical industry also uses a
significant number of large ASTs.
Historically, many AST owners limited capital expenditures on ASTs to
new construction and periodic maintenance on an as-needed basis. Typically,
these expenditures decreased during periods of depressed conditions in the
petroleum and petrochemical industries, as AST owners sought to defer
expenditures not immediately required for continued operations.
In the three most recent years, there has been a very limited increase
in demand for AST services; however, during fiscal years 1995 and 1994 there was
a decrease in the overall demand for AST services, generally related to
conditions in the petroleum industry. During the last three years, several
factors have shifted new responsibilities to AST service companies. First,
increased safety and health requirements have caused owners of the facilities to
rely on outside sources who have the safety equipment and training to provide
repair and maintenance services. Second, increasingly stringent federal and
state regulations regarding air, soil and water contamination from petroleum
storage facilities, and the related potential liability associated with
responsibility for environmental damage, have led AST owners to rely on service
companies to provide more preventive maintenance and equip their ASTs with
various pollution control devices. Third, many technical personnel left the
petroleum and petrochemical industries resulting in a loss of in-house AST
management expertise. Fourth, recent changes in the marketing of gasoline and
changes in the supply of refined petroleum products resulting from the closing
of certain refineries have caused an increase in demand for new tankage to
provide storage facilities at new locations. Fifth, environmental requirements
for oxygenated fuels have also created a demand for new tanks.
The principal environmental regulations that affect AST owners generally
fall within two categories - air pollution regulations and soil and water
contamination regulations. See "Business - Other Business Matters -
Regulation." Regulations adopted by the United States Environmental Protection
Agency ("EPA") and several states provide incentives to owners and operators of
ASTs to maintain and inspect their tanks on a regular basis
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and, in some cases, to install double tank bottoms and other secondary
containment systems to prevent contamination of soil and water and allow for
early detection of leaks. The EPA and numerous states have also adopted
regulations generally requiring facilities that hold petroleum products,
petrochemicals and other volatile liquids be equipped with roof and seal
assemblies that substantially decrease atmospheric emissions from these liquids.
Because many existing ASTs were designed with a floating roof assembly that
contained only a single roof seal, these regulations have required many AST
owners to retrofit their tanks with new roof and seal assemblies. See
"Aboveground Storage Tank Operations - AST Services and Products" and "Other
Business Matters - Regulation."
On March 29, 1990, the EPA published the Toxicity Characteristic
Leachate Procedure (the "TCLP") regulation, which provided new guidelines for
identifying certain wastes as "hazardous" under the Resource Conservation
Recovery Act of 1976 ("RCRA"). The TCLP regulation continues to be amended.
The regulation generally provides that a waste will be considered hazardous if
the leachate from the TCLP leaching procedure test contains any one of several
identified substances at concentrations higher than prescribed levels. These
substances include benzene, a common component of petroleum wastes from
refineries. Benzene was not included in the prior EPA leaching procedure test,
which has been replaced by the TCLP. The Company believes that regulations
pursuant to the TCLP and RCRA have been, and will continue to be, beneficial to
its business by requiring its customers to construct new storage tanks to
replace existing surface impoundments. See "Other Business Matters -
Regulation."
In January 1991, the American Petroleum Institute ("API") adopted
industry standards for the maintenance, inspection and repair of existing ASTs.
The API standards provide the industry for the first time with uniform
guidelines for the maintenance and repair of ASTs. The Company believes that
these standards have resulted, and will continue to result, in an increased
level of AST maintenance and repair on the part of many AST owners.
AST Services and Products
The Company provides its customers with a comprehensive range of AST
services and products. The Company specializes in maintenance and repair of
ASTs and retrofitting existing ASTs with a variety of pollution control devices
as part of its general maintenance services. In addition, the Company
constructs new ASTs, provides AST inspection and manufactures tank
appurtenances.
New Construction
The Company designs, fabricates and constructs new ASTs to both
petroleum and water industry standards and customer specifications. These tanks
range in capacity from approximately 50 barrels to 1,000,000 barrels. Clients
require new tanks in conjunction with expansion plans, replacement of old or
damaged tanks, storage for additional product lines to meet environmental
requirements, replacement of surface impoundments and changes in population.
Maintenance and Modification
The Company derives a significant portion of its revenues from providing
AST maintenance, repair and modification services. The principal services in
this area involve the design, construction and installation of floating roof and
seal assemblies, the design and construction of secondary containment systems
(double bottoms), and the provision of a variety of services for underground and
aboveground piping systems. The Company also installs, maintains and modifies
tank appurtenances, including spiral stairways, platforms, water drain-off
assemblies, roof drains, gauging systems, fire protection systems, rolling
ladders and structural supports.
Floating Roof and Seal Assemblies. Many ASTs are equipped with a
floating roof and seal assembly. A floating roof consists of a circular piece of
welded steel or thin aluminum that floats on the surface of the stored petroleum
product. The floating roof is required by environmental regulations to minimize
vapor emissions and reduce fire hazard. A floating roof also prevents losses of
stored petroleum products. The seal spans the gap between the rim of the
floating roof and the tank wall. The seal prevents vapor emissions from an AST
by creating the tightest possible seal around the perimeter of the roof while
still allowing movement of the
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roof and seal downward and upward with the level of stored product. In addition,
the Company's seal system prevents substantially all rainwater from entering the
tank. The type of seal assembly the Company most commonly installs consists of a
primary mechanical "shoe" seal and a secondary flexible seal mounted above the
shoe seal. A mechanical shoe seal is a metal sheet connected to the outer rim of
a floating roof and held vertically against the wall of the storage vessel by
hangers and springs system. A flexible coated "vapor" fabric spans the space
between the metal shoe and the floating roof. The secondary seal is composed of
a flexible tip and an additional vapor fabric mounted on a metallic compression
plate attached to the rim of the floating roof. The Company's seals are
manufactured from a variety of materials designed for compatibility with
specific petroleum products. All of the seals installed by the Company may be
installed while the tank is in service, which reduces tank owners' maintenance,
cleaning and disposal costs. In addition to a mechanical shoe seal coupled with
a secondary flexible seal, the Company also installs a variety of other types of
seal systems designed to meet customer specifications.
Secondary Containment Systems. The Company constructs a variety of
secondary containment systems under or around ASTs according to its own design
or the design provided by its customers. Secondary leak detection systems allow
tank owners to detect leaks in the tanks at an early stage before groundwater
contamination has occurred. In addition, the systems help to contain leakage
until the tank can be repaired.
The most common type of secondary containment system constructed
involves installing a liner of high-density polyethylene, reinforced
polyurethane or a layer of impervious clay under the steel tank bottom. The
space between the liner and elevation of the new bottom is then filled with a
layer of concrete or sand. A cathodic protection system may be installed
between the liner and the new bottom to help control corrosion. Leak
detection ports are installed between the liner and steel bottom to allow for
visual inspection while the tank is in service. The Company believes that
during the 1990's a substantial number of AST owners have installed, and will
continue to install, secondary containment systems.
Elevated Tanks
In April 1994, as a result of the Company's efforts to expand its
product base, the Company purchased Brown Steel, which designs, fabricates and
erects elevated tanks for water storage for municipalities and industrial
customers. Brown's facilities in Georgia include fabrication equipment which
gives Brown the ability to produce two-dimension roll in steel for the
fabrication of spherical shaped tanks. This facility is qualified to perform
services on equipment that requires American Society of Mechanical Engineering
Code Stamps ("ASME Codes"). Demand for these types of tanks is expected to
increase given the current upturn in housing starts resulting in a corresponding
increase in the demand for water.
Specialty Tanks
The Company designs, fabricates and field erects new refrigerated
liquefied gas storage tanks for the storage of ammonia, butane, carbon dioxide,
ethane, methane, nitrogen, oxygen, propane and other low temperature products.
These tanks are utilized by the chemical, petrochemical and industrial gas
industries.
Manufacturing
The Company operates five "state-of-the-art" facilities located in
Oklahoma, California, Georgia and Pennsylvania. The Company owns and operates a
fabrication facility located on 13 acres at the Tulsa Port of Catoosa. The
Company owns the building and equipment. This facility has the capacity to
fabricate new tanks, new tank components and all maintenance, retrofit and
repair parts including fixed roofs, floating roofs, seal assemblies, shell plate
and tank appurtenances. The Tulsa Port has transportation service via railroad
and Mississippi River barge facilities in addition to the interstate highway
system, making it economical to transport heavy loads of raw material and
fabricated steel. This facility is qualified to perform services on equipment
that requires ASME Codes. Many state agencies and insurance carriers require
that certain equipment be ASME coded. Many of the Company's competitors are not
ASME code qualified, forcing them to subcontract portions of a project, giving
the Company an advantage on this type of work. The Company leases two
fabrication facilities in California. The Company rents the real estate and
owns the equipment in the two leased facilities in California which is used for
fabricating new tanks and tank components. The Georgia facility, which was
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acquired in the "Brown" acquisition, is 184,350 square feet of buildings owned
by the Company. This facility supports the fabrication of elevated tanks,
pressurized storage spheres and refrigerated liquefied gas storage tanks. See
"Business - Aboveground Storage Tank Operations - Elevated Tanks - Specialty
Tanks". The two Pennsylvania facilities contain 91,824 square feet of real
estate, which is leased. The Company owns the equipment which is used for the
fabrication of new tanks and tank components.
Hydrocarbon Process Operations
The Company provides specialized maintenance and construction services
to the domestic petroleum refining industry and, to a lesser extent, to the gas
processing and petrochemical industries. The Company specializes in routine and
supplemental plant maintenance, turnarounds and capital construction services,
which involve complex, time-sensitive maintenance of the critical operating
units of a refinery. The Company concentrates on performing these services for
the more structurally complex components in a refinery. See "Hydrocarbon
Process Operations - Hydrocarbon Process Components".
Hydrocarbon Process Market Overview
The domestic petroleum refining industry presently consists of
approximately 170 operating refineries. To ensure the operability,
environmental compliance, efficiency and safety of their plants, refiners must
maintain, repair or replace process equipment, operating machinery and piping
systems on a regular basis. Major maintenance and capital projects require the
shutdown of an operating unit, or in some cases, the entire refinery. In
addition to routine maintenance, numerous repair and capital improvement
projects are undertaken during a turnaround. Depending on the type, utilization
rate, and operating efficiency of a refinery, turnarounds of a refinery unit
typically occur at scheduled intervals ranging from six months to four years.
The U.S. refinery industry has undergone significant changes in the last
17 years. From 1981 to 1998, crude oil refining capacity dropped from a peak of
approximately 18.6 million barrels per day in 1981, to approximately 15.6
million barrels per day by the end of 1997, due primarily to the closure of many
inefficient refineries. The closings were the result of increased international
competition, reduced demand for domestic petroleum products, which resulted in
declining product prices during the first part of this period, reduced domestic
crude oil resources in certain geographical areas, and the inability of some
refineries to cost - effectively finance capital improvements required to
produce cleaner burning fuels and meet environmental regulations.
Since 1993, a combination of increased demand for petroleum products and
a stabilization in refining capacity has led to a substantial increase in
refinery utilization. In addition, an improvement in refining profitability
during the last three years has also provided an incentive for refiners to
maintain high levels of utilization at their facilities. The high utilization
rates have accelerated the physical deterioration of existing refineries,
intensifying the need for repair and maintenance services. In addition, due to
the high cost and environmental opposition associated with the construction of
new refineries, any increase in current refining capacity is likely to involve
refurbishing old refineries and expanding existing facilities, which will
require specialized construction services. Increased utilization rates and
increased refining profitability provide an incentive for refineries to minimize
the duration of maintenance turnarounds. In addition, increased public
awareness of environmental issues, potential liability for exposure to hazardous
working conditions, toxic materials, and environmental contamination, have
resulted in increased stringent regulations which dictate that refineries clean,
inspect and maintain process and storage facilities more frequently. Further,
refineries have been subject to increasing regulatory pressure to upgrade their
emission control systems.
These factors have encouraged refineries to increase their reliance on
outside contractors who can perform specialized turnaround services within
strict time constraints. The Company believes, for example, that a substantial
number of turnarounds are currently performed by outside contractors.
Additional specialized modifications to many existing refineries may be required
to produce cleaner burning, reformulated gasolines and desulphurized diesel fuel
based on amendments to the Clean Air Act. (See "Other Business Matters -
Regulation.") Management believes that projects related to pollution control
are contributing a significant part of the Company's refinery-related revenues.
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Hydrocarbon Process Components
The Company's principal refinery services are related to turnaround
projects at petroleum refineries. The size and complexity of a turnaround
project depends on the type of refinery unit being maintained or modified and
the nature of any necessary modifications. The following paragraphs describe
the major units involved in a typical refinery. The Company performs turnaround
services with respect to each of the units described below, all of which must be
maintained on a regular basis to ensure safe and efficient refinery operations.
Crude Distillation Unit. In the refining process, hydrocarbon raw
materials (primarily crude oil) are heated to approximately 275F. The crude is
then treated to remove salt and then heated further, resulting in partial
vaporization. The vapors are then routed to a crude distillation unit, where
they are further heated. The hydrocarbon compounds that comprise crude oil
separate, or "fractionate", when subjected to high temperatures. The crude
distillation unit fractionates the hydrocarbons into several intermediate
products, several of which undergo further processing in various downstream
units, the most important of which are discussed below.
Delayed Coker Unit. Delayed coking is a thermal cracking process in
which residual substances are heated to high temperatures and allowed time to
decompose into hydrocarbon vapors and a solid residue coke product. A full
range of light hydrocarbon gases, including hydrogen and olefins, are produced
by the coking reaction. These gases, in addition to gasoline boiling range
material ("naphtha") cracked products, are compressed and cooled at sufficiently
high pressure to condense the volatile light hydrocarbons. The liquefied
petroleum gases are then routed to an Alkylation Unit, which is described below.
Coker gas oil is produced as a side product from the coker fractionator with a
vaporization temperature of approximately 900F. This oil is routed to the FCCU.
Petroleum coke from the Delayed Coker Unit is used for fuel, for electrodes and
for special purposes such as manufacturing graphite.
Catalytic Reformer Unit. The Catalytic Reformer Unit upgrades the
octane of the naphtha produced in the Delayed Coker Unit. The octane of the
naphtha is approximately 52, compared with the average refinery gasoline pool
octane of 87.9. Straight-run and cracked refinery naphthas boiling between 160F
and 390F are catalytically reformed to improve motor fuel properties. Prior to
entering the Catalytic Reformer Unit, naphtha is fractionated into light, medium
and heavy naphtha streams. The two lighter streams are selectively blended into
gasoline and military jet fuel. The heavy naphtha fraction is routed to a
naphtha hydro-treating unit prior to catalytic reforming. The principal product
of the reformer is reformat, a high-octane gasoline blending stock.
Alkylation Unit. The Alkylation Unit is used to alkylate or chemically
combine isobutane with propylene and butylene to form high-octane gasoline. The
process utilizes hydrofluoric acid or sulfuric acid as the alkylation catalyst.
The feedstock for the Alkylation Unit is produced by the FCCU and the Delayed
Coker Unit and contains saturated propane, isobutane, and normal butane in
addition to propylene and butylene. The feed stream also contains significant
amounts of hydrogen sulfide, which is extracted and routed to a sulfur recovery
unit. The reactor effluent is partially vaporized through a heat exchanger to
provide refrigeration for the reactorcontractor. The vapors are compressed and
then fractionated into propane, isobutane and normal butane, and alkylate.
Butamer Unit. A Butamer Unit converts normal butane to isobutane. A
refinery needs a source of supplemental isobutane on a year-round basis to
balance the requirements of the Alkylation Unit. Most of the normal butane
produced in a refinery is blended into gasoline to increase vapor pressure.
During the summer months, when gasoline vapor pressure specifications are low,
the refinery generally has adequate or surplus supplies of normal butane.
During the winter months, when gasoline vapor pressure specifications are high,
a refinery buys normal butane from outside sources.
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Hydrocarbon Process Services
The Company's principal refinery services include turnarounds for the
complete refinery with integrated process units, and complete construction and
maintenance services. The Company performs unit turnarounds involving
maintenance of crude distillation units, catalytic reformer units, delayed coker
units, alkylation units, reformers, and butamer units. These services also
involve the maintenance and modification of heat exchangers, heaters, vessels
and piping.
Heat Exchanger Services
The Company provides heat exchanger service to the refining industry,
which involves the removal, testing, repairing and reinstallation of heat
exchangers. The Company owns specialized equipment to extract and reinstall
heat exchangers from both ground levels and aerial installations. In addition,
the Company owns retubing equipment, hydraulic bolt-torquing equipment and
specialized transport carriers for moving these heat exchangers throughout the
facilities.
Other Support Services
Emergency Response Services. The Company also performs substantial
repair and revamp services in connection with refinery unit failures, fires,
explosions and other accidents. The Company believes that it has enhanced its
relationships with its customers by responding quickly to these types of
emergencies and by providing timely repair services, returning the affected
plants to normal operations without substantial delays.
ASME Code Stamp Services. The Company is qualified to perform services
on equipment that contains American Society of Mechanical Engineer Code Stamps
("ASME codes"). Many state agencies and insurance companies require that
qualified ASME code installers perform services on ASME coded equipment. Many
of the Company's competitors are not ASME code qualified, which forces them to
subcontract portions of a project involving work with coded equipment.
Daily and Routine Supplemental Maintenance. The Company provides
supplemental and routine daily maintenance services for operating refineries.
Daily work crews at the refineries range in size from 120 to over 165 per
refinery. The Company provides a wide range of supplemental services including
equipment operations and complete daily maintenance services and repairs.
Moreover, the pressure to reduce the overall cost of maintaining the refineries
has initiated a trend of restructuring the daily and routine maintenance forces.
Refineries are seeking outside supplemental maintenance forces with proven
programs for increasing unit and equipment reliability, and a history of
performing work safely. The Company has entered into two multi-year maintenance
agreements. The Company believes there is a substantial market for a quality
maintenance workforce that places an emphasis on safety and that can forge
partnerships with refinery personnel to reduce maintenance expenses.
General Construction Services
As part of the Company's efforts to be more independent of the petroleum
industry it has expanded its construction services capabilities into other
industries. The Company generated increased revenues during the latest fiscal
year from construction projects outside the petroleum and municipal water
industries, which has been their traditional markets. The Company was awarded
two projects during the fiscal year for general construction. One project
involved moving a food processing plant and expanding the capacity of that
plant. The other significant project involved the general construction of a
plant to manufacture computer grade silicon.
Other Business Matters
Customers and Marketing
The Company derives a significant portion of its revenues from
performing construction and maintenance services for the major integrated oil
companies. The Company also performs services for independent petroleum
refining and marketing companies, architectural and engineering firms, food
industry,
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general construction and for several major petrochemical companies. In addition,
the Company builds water tanks for private and municipal water facilities. The
Company is typically engaged by the manager of the facility at which the work is
being performed, although on occasion the Company contracts with one of its
customers to perform services at several facilities.
The Company had one customer accounting for more than 10% of revenues in
two of the last three years. During fiscal 1998, Pacific Northwest Sugar
Company and during fiscal 1996, ARCO USA accounted for more than 10% of the
Company's revenues in each of those years. The Company sold its products and
services to approximately 587 customers during fiscal 1999.
The Company markets its services and products primarily through its
marketing personnel, senior professional staff and its management. The
marketing personnel concentrate on developing new customers and assist
management and staff with existing customers. The Company generally is required
to bid competitively for work on a project-by-project basis. Projects are
typically awarded after a bidding process spanning two weeks to four months, and
are generally awarded based on price considerations, work quality, safety and
efficiency. The Company bids for projects on both a fixed price basis and on a
detailed time and materials basis. The Company has established alliance
relationships with six major oil companies. These relationships place the
Company in an advantageous position to our competition. The alliances, in
general, designate the Company as a sole source provider for certain maintenance
and construction projects.
Competition
The AST and refinery service industries are highly fragmented and
competition is intense within these industries. Competition is based on, among
other factors, work quality and timeliness of performance, safety and
efficiency, availability of personnel and equipment, and price. The Company
believes that its expertise and its reputation for providing timely services
allow it to compete effectively. Although many companies that are substantially
larger than the Company have entered the market from time to time in competition
with the Company, the Company believes that the level of expertise necessary to
perform complicated, on-site maintenance and construction operations presents an
entry barrier to these companies and other competitors with less experience than
the Company.
Backlog
At May 31, 1998, the Company had an estimated backlog of work under
contracts believed to be firm of approximately $75.3 million, as compared with
an estimated backlog of approximately $69.1 million as of May 31, 1997.
Virtually all of the projects comprising this backlog are expected to be
completed within fiscal year 1999. Because many of the Company's contracts are
performed within short time periods after receipt of an order, the Company does
not believe that the level of its backlog is a meaningful indicator of its sales
activity.
Insurance
The Company maintains worker's compensation insurance, general liability
insurance and auto liability insurance in the primary amount of $2.0 million,
and an umbrella policy with coverage limits of $20.0 million in the aggregate.
The Company also maintains policies to cover its equipment and other property
with coverage limits of $60.1 million and policies for care, custody and control
with coverage limits of $2.7 million in the aggregate. Most of the Company's
policies provide for coverage on an occurrence basis, not a "claims made" basis.
The Company's liability policies are subject to certain deductibles, none of
which is higher than $50,000. The Company maintains a performance and payment
bonding line of $45.0 million. The Company also maintains key-man insurance
policies covering certain of its executive officers, and professional liability
insurance.
Many of the Company's contracts require it to indemnify its customers
for injury, damage or loss arising in connection with their projects, and
provide for warranties of materials and workmanship. There can be no assurance
that the Company's insurance coverage will protect it against the incurrence of
loss as a result of such contractual obligations.
8
<PAGE>
Employees
At May 31, 1998, the Company had approximately 283 non-field, full-time
employees. The Company also employed up to approximately 1,395 additional
persons on a project-by-project basis during fiscal 1998. In its refinery
turnaround operations, the Company employed up to approximately 795 persons at
its job sites during the most active periods of 1998. Approximately 434 of the
employees of Matrix Service Mid-Continent, Inc., a subsidiary of the Company,
are covered by a collective bargaining agreement. The Company believes that its
relations with its employees are good, and has not experienced any significant
strikes or work stoppages.
Patents and Proprietary Technology
The Company holds two issued U.S. patents, which cover its Flex-A-
Seal(R) and Flex-A-Span(R) roof seal products. The Company's Flex-A-Seal(R)
patent is held jointly with an English company, which markets the Flex-A-Seal(R)
products in the United Kingdom. The Flex-A-Seal(R) patent expires in August
2000 and the Flex-A-Span(R) patent expires in August 2008. The Company also
holds the patents for Flex-A-Seal(R) and Flex-A-Span(R) in Holland and in
Canada. The Company holds a U.S. patent which covers its ThermoStor(R), a
diffuser system that receives, stores and dispenses both chilled and warm water
in and from the same storage tank. The ThermoStor(R) patent expires in March
2010. The Company also holds a patent for a Floating Deck Support Apparatus(R)
for aluminum roofs. This patent expires on January 24, 2001. The Company has
developed the RS 1000 Tank Mixer(R) which controls sludge build-up in crude oil
tanks through resuspension. The RS 1000 Tank Mixer(R) patent expires in August
2012. The Company has applied for patents for two other products it has
developed. The Company has designed and developed the Flex-A-Swivel, a swivel
joint for floating roof drain systems. Also, the Company has designed the
Firesafe(R) which is an environmentally safe alternative to underground storage
tanks that meets the stringent requirements of UFC 77-203 (d)(2), NFPA 30, EPA
and Underwriter's Laboratories. While the Company believes that the protection
of its patents is important to its business, it does not believe that these
patents are essential to the success of the Company.
Regulation
Various environmental protection laws have been enacted and amended
during the past 20 years in response to public concern over the environment.
The operations of the Company and its customers are subject to these evolving
laws and the related regulations, which are enforced by the EPA and various
other federal, state and local environmental, safety and health agencies and
authorities. Although the Company believes that its operations are in material
compliance with such laws and regulations, there can be no assurance that
significant costs and liabilities will not be incurred due to increasingly
stringent environmental restrictions and limitations. Historically, however,
the cost of measures taken to comply with these laws has not had a material
adverse effect on the financial condition of the Company. In fact, the
proliferation of such laws has led to an increase in the demand for some of the
Company's products and services. A discussion of the principal environmental
laws affecting the Company and its customers is set forth below.
Air Emissions Requirements. The EPA and many state governments have
adopted legislation and regulations subjecting many owners and operators of
storage vessels and tanks to strict emission standards. The regulations
prohibit the storage of certain volatile organic liquids ("VOLs") in open-top
tanks and require tanks which store VOLs to be equipped with primary and/or
secondary roof seals mounted under a fixed or floating roof. Related
regulations also impose continuing seal inspection and agency notification
requirements on tank owners and prescribe certain seal requirements. Under the
latest EPA regulations, for example, floating roofs on certain large tanks
constructed or modified after July 1984 must be equipped with one of three
alternative continuous seals mounted between the inside wall of the tank and the
edge of the floating roof. These seals include a foam or liquid-filled seal
mounted in contact with the stored petroleum product; a combination of two seals
mounted one above the other, the lower of which may be vapor mounted; and a
mechanical shoe seal, composed of a metal sheet held vertically against the
inside wall of the tank by springs and connected by braces to the floating roof.
The EPA is in the process of developing further regulations regarding seals and
floating roofs.
9
<PAGE>
Though Company facilities themselves are generally not subject to such
requirements, these and other similar regulations have resulted in the
implementation of ongoing tank maintenance and inspection programs by many
owners and operators of ASTs. These programs also generally result in
additional tank repairs, maintenance and modifications which provide a market
for the Company's services.
Amendments to the federal Clean Air Act adopted in 1990 require, among
other things, that refineries produce cleaner burning gasoline for sale in
certain large cities where the incidence of volatile organic compounds in the
atmosphere exceeds prescribed levels leading to ozone depletion. Refineries are
undergoing extensive modifications to develop and produce acceptable
reformulated fuels that satisfy the Clean Air Act Amendments. Such modifications
are anticipated to cost refineries several billion dollars, and require the use
of specialized construction services such as those provided by the Company. A
significant number of refineries have completed changes to produce "reformulated
fuels", principally refineries serving specific areas of the U.S.; however,
there are a substantial number of refineries that have not made the change.
Water Protection Regulations. Protection of groundwater and other water
resources from spills and leakage of hydrocarbons and hazardous substances from
storage tanks and pipelines has become a subject of increasing legislative and
regulatory attention, including releases from ASTs. Under federal Clean Water
Pollution Control Act regulations, owners of most ASTs are required to prepare
spill prevention, control and countermeasure ("SPCC") plans detailing steps that
have been taken to prevent and respond to spills and to provide secondary
containment for the AST to prevent contamination of soil and groundwater. These
plans are also subject to review by the EPA, which has authority to inspect
covered ASTs to determine compliance with SPCC requirements. Various states have
also enacted groundwater legislation that has materially affected owners and
operators of petroleum storage tanks. The adoption of such laws has prompted
many companies to install double bottoms on their storage tanks to lessen the
chance that their facilities will discharge or release regulated chemicals.
State statutes regarding protection of water resources have also induced many
petroleum companies to excavate product pipelines located in or near marketing
terminals, to elevate the pipelines aboveground and to install leak detection
systems under the pipelines. These laws and regulations have generally led to an
increase in the demand for some of the Company's products and services.
In the event hydrocarbons are spilled or leaked into groundwater or
surface water from an AST that the Company has constructed or repaired, the
Company could be subject to lawsuits involving such spill or leak. To date, the
Company has not suffered a material loss resulting from such litigation.
Hazardous Waste Regulations. The Resource Conservation and Recovery Act
of 1976 ("RCRA") provides a comprehensive framework for the regulation of
generators and transporters of hazardous waste, as well as persons engaged in
the treatment, storage and disposal of hazardous waste. Under state and federal
regulations, many generators of hazardous waste are required to comply with a
number of requirements, including the identification of such wastes, strict
labeling and storage standards, and preparation of a manifest before the waste
is shipped off site. Moreover, facilities that treat, store or dispose of
hazardous waste must obtain a RCRA permit from the EPA, or equivalent state
agency, and must comply with certain operating, financial responsibility and
site closure requirements.
In 1990, the EPA issued its Toxicity Characteristic Leaching Procedure
("TCLP") regulations. Under the TCLP regulations, which have been amended from
time to time, wastes containing prescribed levels of any one of several
identified substances, including organic materials found in refinery wastes and
waste-waters (such as benzene), will be characterized as "hazardous" for RCRA
purposes. As a result, some owners and operators of facilities that produce
hazardous wastes are being required to make modifications to their facilities or
operations in order to remain outside the regulatory framework or to come into
compliance with the Subtitle C requirements. Many petroleum refining,
production, transportation and marketing facilities are choosing to replace
existing surface impoundments with storage tanks and to equip certain of the
remaining impoundments with secondary containment systems and double liners.
Accordingly, the Company believes that the promulgation of the TCLP regulations
are having a positive impact on its tank construction and modification business.
Amendments to RCRA require the EPA to promulgate regulations banning the
land disposal of hazardous wastes, unless the wastes meet certain treatment
standards or the particular land disposal method meets certain waste containment
criteria. Regulations governing disposal of wastes identified as hazardous
under the
10
<PAGE>
TCLP, for example, could require water drained from the bottom of many petroleum
storage tanks to be piped from the tanks to a separate facility for treatment
prior to disposal. Because the TCLP regulations can, therefore, provide an
incentive for owners of petroleum storage tanks to reduce the amount of water
seepage in the tanks, the Company believes that the regulations have and will
continue to positively influence sales of its Flex-A-Seal(R) roof seals, which
materially reduce the amount of water seepage into tanks.
CERCLA. The Comprehensive Environmental Response, Compensation and
Liability Act of 1980 ("CERCLA"), also known as "Superfund", authorizes the EPA
to identify and clean up sites contaminated with hazardous substances and to
recover the costs of such activities, as well as damages to natural resources,
from certain classes of persons specified as liable under the statute. Such
persons include the owner or operator of a site and companies that disposed or
arranged for the disposal of hazardous substances at a site. Under CERCLA,
private parties which incurred remedial costs may also seek recovery from
statutorily responsible persons. Liabilities imposed by CERCLA can be joint and
several where multiple parties are involved. Many states have adopted their own
statutes and regulations to govern investigation and cleanup of, and liability
for, sites contaminated with hazardous substances or petroleum products.
Although the liabilities imposed by CERCLA (and other environmental
legislation) are more directly related to the activities of the Company's
clients, they could under certain circumstances give rise to liability on the
part of the Company if the Company's efforts in completing client assignments
were considered arrangements related to the transport or disposal of hazardous
substances belonging to such clients. In the opinion of management, however, it
is unlikely that the Company's activities will result in any liability under
either CERCLA or other environmental regulations in an amount which will have a
material adverse effect on the Company's operations or financial condition, and
management is not aware of any current liability of the Company based on such a
theory.
Oil Pollution Act. The Oil Pollution Act of 1990 ("OPA") established a
new liability and compensation scheme for oil spills from onshore and offshore
facilities. Section 4113 of the OPA directed the President to conduct a study
to determine whether liners or other secondary means of containment should be
used to prevent leaking or to aid in leak detection at onshore facilities used
for storage of oil. The Company believes that its business would be positively
affected by any regulations eventually promulgated by EPA that required liners
andor secondary containment be used to minimize leakage from ASTs. While the
regulation has not, to date, been enacted, the industry designs secondary
containment in all new tanks being built and, in general, secondary containment
is installed in existing tanks when they are taken out of service for other
reasons, in anticipation of this regulation.
Health and Safety Regulations. The operations of the Company are
subject to the requirements of the Occupational Safety and Health Act ("OSHA")
and comparable state laws. Regulations promulgated under OSHA by the Department
of Labor require employers of persons in the refining and petrochemical
industries, including independent contractors, to implement work practices,
medical surveillance systems, and personnel protection programs in order to
protect employees from workplace hazards and exposure to hazardous chemicals.
In addition, in response to recent accidents in the refining and petrochemical
industries, new legislation and regulations including OSHA's Process Safety
Management Standard ("PSM") requiring stricter safety requirements have been
enacted. Under PSM, employers and contractors must ensure that their employees
are trained in and follow all facility work practices and safety rules and are
informed of known potential hazards. The Company has established comprehensive
programs for complying with health and safety regulations. While the Company
believes that it operates safely and prudently, there can be no assurance that
accidents will not occur or that the Company will not incur substantial
liability in connection with the operation of its business.
The State of California has promulgated particularly stringent laws and
regulations regarding health and safety and environmental protection. The
Company's operations in California are subject to strict oversight under these
laws and regulations and the failure to comply with these laws and regulations
could have a negative impact on the Company.
11
<PAGE>
Executive Officers of the Company
The executive officers of the Company and their ages and positions are
listed below.
<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<S> <C> <C>
Martin L. Rinehart 60 President & Chief Executive Officer
C. William Lee 58 Vice President-Finance, Chief Financial Officer
Bradley S. Vetal 42 President, Matrix Service, Inc.
Bruce M. Lierman 38 President, Colt Construction Co., Inc.
Mark A. Brown 41 President, Brown Steel Contractors, Inc.
Connie J. Conger 45 Vice President-Accounting
</TABLE>
Martin L. Rinehart is a founder of the Company and has served as its
President and Chief Executive Officer since February 27, 1998. From June 1992 to
February 1998, he served as Assistant to the President of Matrix Service, Inc.
Mr. Rinehart served as the Vice President-Operations of the Company from its
inception to June 1992. From 1980 until 1984, Mr. Rinehart served as Executive
Vice President of Tank Service, Inc. Mr. Rinehart succeeded Doyl D. West, who
served as President, Chief Executive Officer and Chairman of the Board of the
Company until his retirement in February, 1998. Mr. West will continue to
provide consulting services for the Company.
C. William Lee is a founder of the Company has served as its Vice
President-Finance and as a director since the Company's inception. Prior to
1984, Mr. Lee served as Vice President-Finance and Secretary-Treasurer of Tank
Service, Inc.
Bradley S. Vetal has been with the Company since January 1987 and has
served as President of Matrix Service, Inc. since June 1, 1992. From June 1991
through May 1992, he served as Vice President of Eastern Operations of Matrix
Service Mid-Continent, Inc. From January 1987 to June 1991, Mr. Vetal served in
various capacities within Matrix. Effective June 1, 1996, Mr. Vetal assumed a
newly created position of Vice President-Tank Division of Matrix Service
Company. This position is responsible for all AST operations.
Bruce M. Lierman has served as President of Colt Construction Company
since March 1997. Mr. Lierman held numerous positions with Colt since its
formation in 1984. His diversified experience within Colt includes developing
and managing turnaround, construction and maintenance work groups for the
Company. Mr. Lierman started his career with Crown Zellerbach Corporation of
Portland, Oregon in January 1982. From June 1983 to September 1985, Mr. Lierman
worked for the family owned electrical construction business, Lierman Electric.
Mark A. Brown has served as President of Brown Steel Contractors, Inc.
since 1992. After graduating from Auburn University in 1979, Mr. Brown joined
the company and has served in various management capacities in all phases of
Company operations. Mr. Brown is a grandson of the original Company founders.
Connie J. Conger joined the Company in 1980 as Controller and assumed
the duties of Vice President of Accounting in 1992. Ms. Conger completed her CPA
certification in 1994. Ms. Conger was previously Controller for seven years for
a Tulsa based architectural firm.
12
<PAGE>
Item 6. Selected Financial Data
The following table sets forth selected historical financial information
for the Company covering the five years ended May 31, 1998. The following
financial information included in the Statement of Operations reflects the
acquisition of GSC in 1998. See the Notes to the Company's Consolidated
Financial Statements.
<TABLE>
<CAPTION>
(In thousands, except per share data)
Matrix Service Company
---------------------------------------------------------------------------------------
Years Ended
---------------------------------------------------------------------------------------
May 31, May 31, May 31, May 31, May 31,
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Revenues $225,428 $183,144 $183,725 $177,516 $133,480
Gross profit 18,589 17,440 16,618 13,914 16,488
* Restructuring cost 20,956 - - - -
Operating income (loss) (16,291) 5,496 4,719 1,456 4,566
Income (loss) before income tax
expense (benefit) (17,353) 5,114 4,398 (455) 4,655
Net income (loss) (11,638) 2,984 2,449 (189) 2,717
Earnings (loss) per common share
- diluted (1.22) 0.31 0.26 (0.02) 0.29
Weighted average of common
shares - diluted 9,546 9,699 9,507 9,417 9,401
Balance Sheet Data:
Working capital $ 41,084 $ 28,213 $ 26,370 $ 26,800 $ 20,070
Total assets 112,741 116,872 105,757 105,729 100,902
Long-term obligations 13,106 6,362 4,847 8,467 5,194
Deferred tax liability 4,949 4,757 5,088 4,698 4,145
Stockholders' equity 65,252 76,212 73,034 70,820 69,487
</TABLE>
* During the third quarter of fiscal year 1998, the board of directors approved
a plan whereby the Company would exit the operations of Midwest and discontinue
to operate in the markets that Midwest has historically participated. The
Company is in the process of completing all open contracts and disposing of all
assets. The Company will abandon this business entirely.
During fiscal year 1998, the Company adopted a plan for restructuring of
operations to reduce costs, eliminate duplication of facilities and improve
efficiencies. The plan included closing fabrication shops in Newark, Delaware
and Rancocas, New Jersey and moving these operations to a more efficient and
geographically centered facility in Bristol, Pennsylvania. Additionally, the
Company closed a fabrication shop at Elkston, Maryland. The production from the
Maryland facility, which was principally elevated water tanks, is being provided
by the Company's Newnan, Georgia plant.
13
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
The Company was organized in October 1989 to become a holding company
for Matrix and Petrotank. The discussion and analysis presented below is of the
consolidated financial statements of these companies and the Company's other
subsidiaries since the date of acquisition, including (i) Tank Supply, Inc.,
(ii) after June 1, 1991, San Luis, (iii) after December 30, 1992, Colt, (iv)
after June 10, 1993, Heath, (v) after April 1, 1994, Brown, and (vi) after June
17, 1997, GSC.
The Company recognizes revenues from fixed price contracts using the
percentage of completion accounting method which measures progress on an
uncompleted contract based on the amount of costs incurred for such project
compared with the total amount of costs expected to be incurred through the
completion of the project. Revenues from cost-plus-fee contracts are recognized
on the basis of costs incurred plus the estimated fee earned.
The Company has experienced an increase in revenues during the last
three fiscal years. For fiscal 1998, GSC was included for eleven and one half
months. All acquired companies, except GSC, were included for the full year for
fiscal 1997 and 1996. Incremental revenues, gross profit and selling, general
and administrative expenses attributable to the results of operations of GSC,
which were not included in the prior years, are as follows:
<TABLE>
<CAPTION>
(in millions)
Year ended
May 31, 1998
----------------------
<S> <C>
Revenues $ 25.1
Gross Profit 3.6
Selling, general &
administrative expenses 1.7
</TABLE>
During the third quarter 1998, the Company adopted a plan to restructure
its operations. The Company recorded a charge of $21.0 million in connection
with the restructuring - See Note 3 to Consolidated Financial Statements.
The Company expects a continued demand for its continuing services in
the foreseeable future. Management believes that the percentage growth of its
revenues for fiscal 1999 will be stronger than fiscal year 1998. The limitation
to growth for the last three fiscal years was due to decreased demand for the
Company's services. Limitations on growth capacity also reflect the seasonal
nature of the Company's refinery turnaround activities, which creates pressure
to expand the supervisory staff during the turnaround seasons. The Company
continues to recruit, hire and train additional project engineers and project
managers, and the Company's ability to continue to grow will depend, in part, on
its ability to continue this process, and a stronger demand for the Company's
services. The Company has expanded its construction services into general
industrial projects in an effort to decrease the seasonal effects of refinery
related projects.
The Company's quarterly results may tend to fluctuate from period to
period, due primarily to the timing of turnarounds performed by the Company.
Generally, the Company performs a substantial percentage of its turnaround
projects in two periods - February through May and September through November.
Historically, these are the time periods when most refiners temporarily shutdown
certain operating units for maintenance, repair or modification prior to
changing their product mix in anticipation of a seasonal shift in product
demand. Consequently, the Company's second quarter ending November 30 and its
fourth quarter ending May 31 typically include greater revenues from turnarounds
than its first quarter or its third quarter.
14
<PAGE>
Results of Operations
The following table presents, for the periods indicated, the
percentage relationship which certain items in the Company's statement of
operations bear to revenues. The following data should be read in conjunction
with the financial statements of the Company and the notes thereto contained
elsewhere in this Form 10-K. Revenues for fiscal year ending May 31, 1998 were
positively affected by the inclusion of GSC for eleven and one half months.
<TABLE>
<CAPTION>
Percentage of Revenues
Years Ended May 31,
--------------------------------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Revenues 100.0% 100.0% 100.0%
Cost of revenues 91.7 90.5 91.0
Gross profit 8.3 9.5 9.0
Selling, general and administrative expenses 5.7 6.1 5.9
Restructuring cost 9.3 -- --
Operating income (loss) (7.1) 3.0 2.6
Other income (expense) (0.4) (0.2) (0.2)
Income (loss) before income tax expense (7.5) 2.8 2.4
Provision (benefit) for income taxes (2.5) 1.1 1.1
Net income (loss) (5.0)% 1.7% 1.3%
===== ===== =====
</TABLE>
Fiscal 1998 Compared to Fiscal 1997
Revenues for the year ended May 31, 1998 were $225.4 million as
compared to revenues of $183.1 million for the year ended May 31, 1997,
representing an increase of approximately $42.3 million or 23.1%. The increase
was primarily due to the acquisition of GSC as well as increased revenues from
the Company's services in industrial construction and refinery maintenance
markets.
Gross profit increased to $18.6 million for the year ended May 31,
1998 from gross profit of $17.4 million for the year ended May 31, 1997, an
increase of approximately $1.2 million or 6.9%. Gross profit as a percentage of
revenues decreased to 8.3% in the 1998 period from 9.5% for the 1997 period.
This decrease in gross profit percentage was due to lower gross margin on
certain types of aboveground storage tanks.
Selling, general and administrative expenses increased to $12.9
million for the year ended May 31, 1998 from expenses of $11.1 million for the
year ended May 31, 1997, an increase of $1.8 million or approximately 16.2%. The
increase was due to the acquisition of GSC. Selling, general and administrative
expenses as a percentage of revenues decreased to 5.7% for fiscal 1998 from 6.1%
for fiscal 1997.
15
<PAGE>
During fiscal 1998 the Company recorded a restructuring, impairment
and abandonment charge of $21.0 million. This charge resulted from plans adopted
by the Company to exit the Midwest operations and for restructuring of
operations to reduce costs, eliminate duplications of facilities and improve
efficiencies - See Note 3 to Consolidated Financial Statements.
Operating income before restructuring, impairment and abandonment
charges (see Note 3 to Consolidated Financial Statements) decreased to $4.7
million for the year ended May 31, 1998 from $5.5 million for the year ended May
31, 1997, a decrease of $0.8 million or approximately 14.5%. The decrease was
due to higher selling, general and administrative expenses partially offset by
higher gross profit.
Interest income was $267 thousand for the year ended May 31, 1998
versus $164 thousand for the year ended May 31, 1997. Interest expense increased
to $1.3 million for the year ended May 31, 1998 from $536 thousand of interest
expense for the year ended May 31, 1997. The increase in interest expense
resulted primarily from increased borrowing under the Company's revolving and
term loan credit facility. The increased borrowings from the Company's credit
facilities were used primarily for the GSC acquisition. Outstanding balances
under this facility at May 31, 1998 was $15.0 million as compared with $7.5
million outstanding at May 31, 1997.
Net income (loss) decreased to $(11.6) million for the 1998 period
from $3.0 million for the 1997 period. The decrease was due to one-time charges
related to restructuring as well as operating losses and disposal costs from
exited operations.
Fiscal 1997 Compared to Fiscal 1996
Revenues for the year ended May 31, 1997 were $183.1 million as
compared to revenues of $183.7 million for the year ended May 31, 1996.
Gross profit increased to $17.4 million for the year ended May 31,
1997 from gross profit of $16.6 million for the year ended May 31, 1996, an
increase of approximately $0.8 million or 4.8%. Gross profit as a percentage of
revenues increased to 9.5% in the 1997 period from 9.0% for the 1996 period.
Selling, general and administrative expenses increased to $11.1
million for the year ended May 31, 1997 from expenses of $10.8 million for the
year ended May 31, 1996, an increase of $0.3 million or approximately 2.8%. The
increase was due to an increase of certain administrative personnel and
facilities in line with the increased revenues at the Company's related
operations. Selling, general and administrative expenses as a percentage of
revenues were flat at 6.1% for fiscal 1997 versus 5.9% for fiscal 1996.
Operating income increased to $5.5 million for the year ended May 31,
1997 from $4.7 million for the year ended May 31, 1996, an increase of $0.8
million or approximately 17.0%. The increase was due to improved gross profit
margin and a decrease in amortization of intangible assets.
Interest income decreased to $164 thousand for the year ended May 31,
1997 from $411 thousand for the year ended May 31, 1996. This decrease resulted
from interest earned on the refund of certain state and federal income taxes
received during the previous year. Interest expense decreased to $536 thousand
for the year ended May 31, 1997 from $815 thousand of interest expense for the
year ended May 31, 1996. The decrease resulted primarily from decreased
borrowing under the Company's revolving credit facility. Under this facility, a
$4.9 million term loan was made to the Company on October 5, 1994, and $2.4
million remains outstanding at May 31, 1997.
16
<PAGE>
Net income increased to $3.0 million for the 1997 period from $2.4
million for the 1996 period. The increase was due to improved gross profit
margin, and decreased amortization of intangible assets, as compared with the
prior year. The net income in 1996 of $2.4 million would have been even better
had the Company not incurred a $1.2 million net loss at Midwest, based primarily
on the strong performance in the construction and tank maintenance and repair
operations.
Exited And Restructured Operations
During the third quarter of fiscal year 1998, the board of directors
approved a plan whereby the Company would exit the operations of Midwest and
discontinue to operate in the markets that Midwest has historically
participated. The Company is in the process of completing all open contracts and
disposing of all assets. The Company will abandon this business entirely.
During the three years ended in fiscal 1998, 1997 and 1996, Midwest had
operating losses of $3.4 million, $1.8 million and $1.8 million respectively.
Midwest's principal refinery operations involved turnarounds of Fluid
Catalytic Cracking Units (FCCU). FCCU's require a high level of maintenance
because of the extremely high temperatures inside the units - in excess of 1000
degree F - and due to abrasive catalysts flow and their many internal parts,
which consist generally of stainless steel components and refractory lined
systems. Refractory is a heat and erosion resistant lining that insulates the
inner shell of the unit vessels. The main pieces of equipment in an FCCU are the
reactor, the regenerator and the flue gas handling system. Most of the repair
and revamp work during turnaround is performed on this equipment. Major revamp
work is required to increase efficiencies of the FCCU with changing technology
and to reduce air pollution from the unit, as required by constantly changing
laws. In most cases, the mechanical work - involving the disassembly and repair
of the unit components - and the refractory work - involving the installation of
the refractory material onto the inside of the units vessels - is performed by
different contractors.
Also during the third quarter of 1998, the Company adopted a board of
directors approved plan to restructure operations to reduce costs, eliminate
duplication of facilities and improve efficiencies. The plan included closing
fabrication shops in Newark, Delaware and Rancocas, New Jersey and moving these
operations to a more efficient and geographically centered facility in Bristol,
Pennsylvania. Additionally, the Company closed a fabrication shop at Elkston,
Maryland. The production from the Maryland facility, which was principally
elevated water tanks, will be provided by the Company's Newnan, Georgia plant.
(The facilities located in Delaware, New Jersey, Pennsylvania and Maryland were
all leased facilities.) The Company is selling real estate that is not being
utilized in Mississauga, Canada, and is also discontinuing certain product lines
that are no longer profitable.
As part of the restructuring plan the Company separately reviewed the
operations of San Luis for impairment indicators as actual operating and cash
flow results were less than projections for Fiscal 1998, the principals in
management, from whom the original business was purchased, left the employment
of the company in early fiscal 1998, San Luis reputation in the industry had
deteriorated and the business name was dissolved into Matrix Service Company.
The operating income and cash flows from this business unit were not
historically negative; however, there are significant concerns that future
operations may not be positive. Based on these potential impairment indicators,
an estimate of the undiscounted cash flows of the San Luis operations was made.
This estimate indicated impairment and, as a result, the entire amount of the
goodwill related to San Luis was written off.
Additionally, in evaluating the Company's Mayflower vapor seal
operations, the operating income and cash flows from this business unit
indicated that positive amounts were not attainable. Therefore, the businesses
will be completely abandoned, the goodwill written-off, and impaired assets
abandoned or sold at their net realizable value. The operating results of
Mayflower have not been significant to the Company's operations
Employee termination costs associated with the reorganization and
termination of all employees of Midwest and Mayflower were recognized and paid
during fiscal 1998.
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Other reorganization costs include the cost of travel related expenses
for reorganization teams which proposed, planned and carried out the Company's
restructuring plans, cost of a failed merger with ITEQ, Inc. and equipment
moving.
Matrix recorded a restructuring, impairment and abandonment charge of
$21.0 million. Included in this amount were costs for combining operations,
eliminating duplications, write-off of goodwill related to product lines exited,
and abandonment and disposal of nonproducing assets of $19.8 million and benefit
and other costs of $1.2 million. See Note 3 to the Consolidated Financial
Statements.
Fiscal Year Ended May 31, 1998 - Midwest Industrial Contractors, Inc.
After an extensive analysis of the market and an evaluation of Midwest
Industrial Contractors, Inc. (Midwest) ability to compete in that market,
Management made the decision to terminate the operations of Midwest effective
February 28. Additionally, the decision was made to exit the market for
structural work on FCCU's and refractory linings for hydrocarbon processing
vessels, which is substantially the revenue base for Midwest.
Revenue for Midwest was $10.6 million in fiscal 1998 as compared with
$16.5 million for the full year ending May 31, 1997 or a decrease of $5.9
million or 35.8%.
Gross profit for Midwest in fiscal 1998 resulted in a loss of $1.9
million as compared to a break-even position from the year ending May 31, 1997.
These losses resulted from cost overruns on jobs.
Fiscal Year Ended May 31, 1997 - Midwest Industrial Contractors, Inc.
Revenue for Midwest was $16.5 million for the year ending May 31, 1997
compared with $18.2 million for the year ending May 31, 1995 or a decrease of
$1.7 million or 9.3%.
Gross profit for Midwest was unchanged at a break-even level for years
ending May 31, 1997 and May 31, 1996.
Selling, general and administrative expenses for Midwest were
unchanged at $1.4 million for the year ending May 31, 1997 as compared to the
year ending May 31, 1996.
Operating losses for Midwest were unchanged for a loss of $1.8 million
for years ending May 31, 1997 and May 31, 1996. While Midwest's operating
results for the 1997 fiscal year were not improved, they did not deteriorate.
Management believes that the low gross profit margin in fiscal 1997 resulted
primarily from "too aggressive" bid pricing practices and to a lessor extent
from ineffective management of the work in the field. Both of these factors had
a negative influence on the operating results for the two previous years.
Pricing pressures still exist; however, Matrix Management believes that with the
experience gained, over the last one to two years by the new Midwest Management,
that Midwest should produce improved "bid" pricing and in turn improved
operating results.
Net loss for Midwest was substantially unchanged at $1.3 million for
the year ending May 31, 1997 compared with a loss of $1.2 million for the year
ending May 31, 1996. However, based upon budget projections for Midwest,
management believed that future cash flows would be positive and that no
impairment of the assets existed.
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<PAGE>
Fiscal Year Ended May 31, 1996 - Midwest Industrial Contractors, Inc.
Revenues for Midwest was $18.2 million for the year ending May 31,
1996 as compared with $36.6 million for the year ending May 31, 1995 or a
decrease of $18.4 million or 50.3%. This decrease was due principally as a
result of several key employees of Midwest leaving on June 1, 1995, the first
day of the fiscal year 1996. These employees joined with a former Midwest
employee in a competing business and interfered with Midwest business
relationships.
Gross profit for Midwest decreased to a break-even level for the year
ending May 31,1996 from gross profit of $3.3 million for the year ending May 31,
1995, a decrease of $3.3 million. The departure of the key employees of Midwest
affected the gross profit in two ways. First, the market which Midwest
participates was divided by the new competitor thus reducing the volume of
revenues. Second, Midwest was forced to bid and perform work with people who did
not possess the experience level that was necessary for the efficient and
successful completion of work.
Selling, general and administrative expenses for Midwest increased to
$1.4 million for the year ending May 31, 1996 compared with $1.1 million for the
period ending May 31, 1995, an increase of $0.3 million. The increase was
principally legal costs and increased sales promotional expenses.
Operating loss for Midwest for the year ending May 31, 1996 was $1.8
million compared to an operating profit of $2.2 million for the year ending May
31, 1995 or a decrease of $4.0 million. The decrease resulted from the decrease
in gross profit and an increase in selling, general and administrative expenses.
Net loss for Midwest for the year ending May 31, 1996 was $1.2 million
as compared to $1.2 million net profit for the year ending May 31, 1995 or a
decrease of $2.4 million. Although Midwest's performance was strong in 1995,
the Company had a net loss of $0.2 million as a result of a weaker performance
in the construction and tank maintenance and repair operations.
Management believes that the significant downturn at Midwest in 1996
was completely attributable to the change in personnel. Since everyone in the
senior management was new in their positions in 1996 and since budget
projections for Midwest on an ongoing basis was positive, management believed
that future cash flows would be positive and that no impairment of assets
existed.
Fiscal Year Ended May 31, 1995 - Midwest Industrial Contractors, Inc.
Revenues of Midwest Industrial Contractors, Inc. (Midwest) for the
year ending May 31, 1995 was $36.6 million as compared with $22.7 million for
the year ending May 31, 1994 or an increase of $13.9 million or 61.2%. Gross
profit for Midwest for the year ending May 31, 1995 was $3.3 million as compared
with $2.0 for the year ending May 31, 1994 or an increase of $1.3 million.
Operating profit and net income for Midwest for the year ending May
31, 1995 was $2.2 million and $1.2 million respectively as compared with the
year ending May 31, 1994 of $0.9 million and $0.6 million. On June 1, 1995,
several key management employees left and joined with a former Midwest employee
in a competing business. However, based upon other management personnel still in
place and based upon these positive results, management believed that no
impairment issues existed.
Liquidity and Capital Resources
The Company's cash and cash equivalents totaled approximately $2.6
million at May 31, 1998 and $1.9 million at May 31, 1997.
The Company has financed its operations recently with cash generated
by operations and advances under the Company's credit facility. The Company has
a credit facility with a commercial bank under which the
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<PAGE>
Company may borrow a total of $30.0 million. The Company may borrow up to $20.0
million under a revolving credit agreement based on the level of the Company's
eligible receivables. The agreement provides for interest at a Prime Rate or a
LIBOR based option, and matures on October 31, 1999. At May 31, 1998, the
outstanding advances under the revolver totaled $5.5 million. The interest rate
for this facility at May 31, 1998 was 6.8%. The credit facility also provides
for a term loan up to $10.0 million. On March 2, 1998, a term loan of $10.0
million was made to the Company. The term loan is due on February 28, 2003 and
is to be repaid in 60 equal payments beginning in March 1998 at an interest rate
based upon the Prime Rate or a LIBOR Option. At May 31, 1998 the balance
outstanding on this facility was $9.5 million. In conjunction with this note on
March 1, 1998, the Company entered into an Interest Rate Swap Agreement with a
commercial bank, effectively providing a fixed interest rate of 7.5% for the
five-year period of the term loan.
Operations of the Company provided $2.2 million of cash for the year
ended May 31, 1998 as compared with providing $6.2 million of cash for the year
ended May 31, 1997, a decrease of approximately $4.0 million. The decrease was
due primarily to a reduction in accounts payable and accrued liabilities.
Capital expenditures during the year ended May 31, 1998 totaled
approximately $2.6 million. Of this amount, approximately $604 thousand was
used to purchase trucks for field operations, and approximately $1.2 million was
used to purchase welding, construction, and fabrication equipment. The Company
invested approximately $392 thousand in furniture and fixtures during the year,
which includes approximately $263 thousand invested in computer equipment for
operations and automated drafting. The Company has currently budgeted
approximately $5.2 million for capital expenditures for fiscal 1999. The Company
expects to be able to finance these expenditures with working capital and
borrowings under the Company's credit facility.
The Company believes that its existing funds, amounts available from
borrowings under its existing credit facility, and cash generated by operations
will be sufficient to meet the Company's working capital needs at least through
fiscal 1999 and possibly thereafter unless significant expansions of operations
not now planned are undertaken, in which case the Company would arrange
additional financing as a part of any such expansion. The Company also believes
that cash flows from operations will be enhanced after the restructuring
discussed under the caption "Exited And Restructured Operations", as the
operating losses generated by Midwest will be eliminated and the expected
efficiencies gained from the cost reductions and duplicate facility eliminations
should improve operating cash flows.
Other
New Accounting Standards
Earnings Per Share. In 1997, the Financial Accounting Standards Board
(FASB) issued Statement No. 128, Earnings Per Share. Statement No 128 replaced
the calculation of primary and fully diluted earnings per share with basic and
diluted earnings per share. Unlike primary earnings per share, basic earnings
per share excludes any dilutive effects of options, warrants and convertible
securities. Diluted earnings per share is very similar to the previously
reported fully diluted earnings per share. All earnings per share amounts for
all periods have been presented, and where appropriate, restated to conform to
the Statement No. 128 requirements.
Comprehensive Income. In June 1997, the FASB issued Statement No. 130,
Reporting Comprehensive Income. Statement No. 130 establishes new rules for the
reporting and display of comprehensive income and its components. Comprehensive
income is net income, plus certain other items that are recorded directly to
stockholders' equity. The only such item currently applicable to the Company is
foreign currency translation adjustments. The Statement, which is not required
to be adopted by the Company until fiscal 1999, is not expected to materially
change the Company's financial reporting or disclosures.
Segments. In June 1997, the FASB issued Statement No. 131, Disclosures
about Segments of an Enterprise and Related Information. The Statement changes
the way public companies report segment
20
<PAGE>
information in annual financial statements and also requires companies to report
selected segment information in interim financial reports to shareholders. As
the Company operates in one industry segment, this Statement will not change the
Company's financial reporting or disclosures.
Derivatives and Hedging. In June 1998, the FASB issued Statement No.
133, Accounting for Derivative Instruments and Hedging Activities, which is
required to be adopted in years beginning after June 15, 1999 (fiscal 2001 for
the Company). Because of the company's minimal use of derivatives, management
does not anticipate that the adoption of the Statement will have a significant
effect on earnings or the financial position of the Company.
Year 2000 Impact
The Year 2000 issue creates a significant problem with business
automation for businesses, government agencies, and all computer users. A
significant number of applications in use today use two digit years and can fail
between now and January 1, 2000.
State of Readiness. The Company is sensitive to the growing concern
associated with the inception of the new millennium and its impact on the
business marketplace. In an effort to retain its ability to provide on-going
quality products and services to its customers, the Company is actively pursuing
Year 2000 compliance for all of its computer systems.
Assessment. The Company is in the process of finalizing its inventory
and assessment efforts, which includes comprehensive review of its business
systems. The Company anticipates completion of this task no later than
September 30, 1998. The assessment focuses on the identification of automated
business areas and electronic processes.
Based on assessment results, the Company has determined that it will
be required to modify, upgrade or replace only a limited number of its systems
so that its business areas will function properly with respect to dates in the
year 2000 and thereafter.
The Company estimates the impact of Year 2000 issues on non-IT Systems
to have no material impact on the operations of the business. Non-IT Systems
include systems with embedded technology containing programmed instructions
running via processor chips.
Project Timetable. The Company believes that with the planned
modifications to existing software and conversions to new software, the Year
2000 issue will not pose significant operation problems for its computer
systems.
The Company has minimal third party interface systems; however,
communications have been initiated with significant suppliers and large
customers to determine the extent to which the Company's systems are vulnerable
to those third parties' failure to remediate their own Year 2000 issues.
The Company estimates that it has completed approximately 75% of the
inventory and assessment activities. Of the systems identified, 20% have been
remediated, and 10% solutions implemented into the production environment. The
Company expects that the remaining systems will be upgraded, tested and
implemented by the second quarter of 1999, which is prior to any anticipated
impact on its operating systems.
Anticipated Cost. The anticipated costs of the Year 2000 project has
been estimated at $200 thousand, of which approximately 40% will be capitalized.
The remaining 60% will be expensed as incurred and is not expected to have a
material effect on the results of operations. Any non-compliant hardware is
dated and would ordinarily be scheduled for replacement.
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<PAGE>
Contingency Plans. Despite the best planning and execution efforts,
the Company is working from the premise that some issues will not be uncovered,
and that some issues that are uncovered will not be successfully resolved. In an
effort to manage and mitigate this risk exposure, the Company is developing a
risk management and contingency plan for its critical operations. The Company
anticipates completion of this task no later than November 30, 1998.
In addition to the upgrade strategy, the Company has recently
completed a requirements study for the selection and implementation of a new
enterprise-wide management information system. The scope of this project has
been maintained separately and independent of the Year 2000 efforts. The project
is designed to be a full replacement for the financial and operational systems,
and is scheduled for implementation in mid-1999. If the existing "upgrade"
strategy fails, this project could be escalated to mitigate any material
business disruptions.
While the Company believes its efforts are adequate to address its
Year 2000 issues, there can be no guarantee that all Year 2000 issues will be
anticipated and corrected and that the systems of other companies on which the
Company's systems and operations rely will be converted on a timely basis;
failure of all significant Year 2000 issues to be corrected could have a
material adverse effect on the Company.
All critical systems over which Matrix has control are planned to be
compliant and tested before year 2000. However, Matrix has identified the
possibility of service disruptions due to non-compliance by third parties as the
area equating to the most reasonably likely worst case scenario. For example,
power failures and telecommunication outages would cause service interruptions.
It is not possible to quantify the possible financial impact if this most
reasonably likely worst case scenario were to come to fruition.
The preceding discussion contains forward-looking statements
including, without limitation, statements relating to Matrix's plans,
strategies, objectives, expectations, intentions, and adequate resources, that
are made pursuant to the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995. Readers are cautioned that such forward-looking
statements contained in the year 2000 update are based on certain assumptions
which may vary from actual results. Specifically, the dates on which Matrix
believes the year 2000 project will be completed and computer systems will be
implemented are based on management's best estimates, which were derived
utilizing numerous assumptions of future events, including the continued
availability of certain resources, third-party modification plans and other
factors. However, there can be no guarantee that these estimates will be
achieved, or that there will not be a delay in, or increased costs associated
with, the implementation of the year 2000 project. Other specific factors that
might cause differences between the estimates and actual results include, but
are not limited to, the availability and cost of personnel trained in these
areas, the ability to locate and correct all relevant computer code, timely
responses to and corrections by third parties and suppliers, the ability to
implement interfaces between the new systems and the systems not being replaced,
and similar uncertainties. Due to the general uncertainty inherent in the year
2000 problem, resulting in large part from the uncertainty of the year 2000
readiness of third parties, Matrix cannot ensure its ability to timely and cost
effectively resolve problems associated with the year 2000 issue that may affect
its operations and business, or expose it to third-party liability.
Certain Factors Influencing Results and Accuracy of Forward-Looking Statements
This Annual Report contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933. Discussions containing
such forward-looking statements may be found in the material set forth under
"Business" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations," as well as within the Annual Report generally. In
addition, when used in this Annual Report, the words "believes", "anticipates",
"expects" and similar expressions are intended to identify forward-looking
statements.
In the normal course of its business, the Company, in an effort to
help keep it shareholders and the public informed about the Company's
operations, may from time to time issue certain statements, either in writing
22
<PAGE>
or orally, that contain or may contain forward-looking information. Generally,
these statements relate to business plans or strategies, projected or
anticipated benefits or other consequences of such plans or strategies, or
projections involving anticipated revenues, earnings or other aspects of
operating results. Such forward-looking statements are subject to a number of
risks and uncertainties. As noted elsewhere in this Annual Report, all phases of
the Company's operations are subject to a number of uncertainties, risks and
other influences, many of which are beyond the control of the Company, and any
one of which, or a combination of which, could materially affect the results of
the Company's operations and whether forward-looking statements made by the
Company ultimately prove to be accurate.
The following discussion outlines certain factors that in the future
could affect the Company's consolidated results and cause them to differ
materially from those that may be set forth in any forward-looking statement
made by or on behalf of the Company. The Company cautions the reader, however,
that this list of risk factors may not be exhaustive.
Competition. The Company competes with numerous large and small
companies, some of which have greater financial and other resources than the
Company. Competition within both the aboveground storage tank and hydrocarbon
process services business is intense and is based on quality of service, price,
safety considerations and availability of personnel. See "Business-Other
Business Matters-Competition."
Market Factors. The Company is dependent on the petroleum storage
operations of the petroleum industry, and a downturn in that industry could
negatively affect its operations. The Company's hydrocarbon processing
operations focus primarily on the refining industry. The refining industry has
undergone significant changes in the past decade with respect to product
composition, costs of petroleum products, and refinery capacity and utilization.
Although the Company believes that these changes in the industry have positively
affected its business, changes could occur that decrease the industry's
dependence on the type of services the Company provides. See "Business-
Aboveground Storage Tank Operations-Hydrocarbon Process Services."
Availability of Supervisory Personnel. The Company employs in its
operations project supervisors with substantial experience and training. The
growth of the business will depend on, and may be restricted by, its ability to
retain these personnel and to recruit and train additional supervisory
employees. The competition to recruit qualified supervisor staff is intense.
Labor Markets. The operations of the Company are labor intensive. The
Company has employed up to 650 workers for a single project, and some of the
workers employed by the Company are represented by labor unions and covered by
collective bargaining agreements. Although the Company has to date been able to
employ sufficient labor to complete its projects, changes in labor market
conditions could restrict the availability of workers or increase the cost of
such labor, either of which could adversely affect the Company. In addition, the
operations of the Company could be adversely affected by a strike or work
stoppage. See "Business-Other Business Matters-Employees."
Fluctuations in Quarterly Results. The operating results of
hydrocarbon process services may be subject to significant quarterly
fluctuations, affected primarily by the timing of planned maintenance projects
at customers' facilities. Generally, the Company's turnaround projects are
undertaken in two primary periods-February through May and September through
November-when refineries typically shut down certain operating units to make
changes to adjust to seasonal shifts in product demand. As a result, the
Company's quarterly operating results can fluctuate materially. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations of the Company."
Environmental Regulation. The operations of the Company have been
affected positively by the promulgation of more stringent environmental laws and
more stringent enforcement of existing laws. Although the Company's future
business success is not dependent on increased environmental regulation,
decreased regulation and enforcement could adversely affect the demand for the
services provided by the Company. See "Business-AST Market and Regulatory
Background-Other Business Matters."
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<PAGE>
Potential Liability and Insurance. The operations of the Company
involve the use of heavy equipment and exposure to construction hazards, with
attendant significant risks of liability for personal injury and property
damage. While the Company believes that it operates safely and prudently, there
can be no assurance that accidents will not occur or that the Company will not
incur substantial liability in connection with the operation of its business.
In addition, recent accidents within the refining and petrochemical industries
may result in additional regulation of independent contractors serving those
industries. See "Business-Other Business Matters-Regulation." The Company
maintains workers compensation insurance, general liability insurance and auto
liability insurance, but such insurance is subject to coverage limits of $2.0
million per accident or occurrence. The Company also maintains an umbrella
policy with coverage limits of $20.0 million in the aggregate. Such insurance
includes coverage for losses or liabilities relating to environmental damage or
pollution. Although the Company believes that it conducts its operations
prudently and that it minimizes its exposure to such risks, the Company could be
materially adversely affected by a claim that was not covered or only partially
covered by insurance. See "Business-Other Business Matters-Insurance."
Item 8. Financial Statements and Supplementary Data
Reference is made to the financial statements, the report thereon, the
notes thereto and supplementary data commencing at page F-1 of this Annual
Report on Form 10-K, which financial statements, report, notes and data are
incorporated herein by reference.
24
<PAGE>
PART IV
<TABLE>
<S> <C>
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) 1 and 2 Financial Statements of the Company
Report of Independent Auditors 1
Consolidated Balance Sheets as of May 31, 1998 and 1997. 2
Consolidated Statements of Operations for the years ended May 31, 4
1998, 1997 and 1996.
Consolidated Statements of Changes in Stockholders" Equity for the 6
years ended May 31, 1998, 1997 and 1996.
Consolidated Statements of Cash Flows for the years ended May 31, 7
1998, 1997 and 1996.
Notes to Consolidated Financial Statements 9
Quarterly Financial Data (Unaudited)
</TABLE>
All schedules have been omitted since the required information is
not present or is not present in amounts sufficient to require
submission of the schedule.
25
<PAGE>
3. List of Exhibits
2.1 Stock Purchase Agreement, dated February 22, 1994, by and
among Matrix Service Company and the shareholders of
Georgia Steel Fabricators, Inc. (Exhibit 2.1 to the
Company's Current Report on Form 8-K (File No. 0-18716)
filed March 7, 1994, is hereby incorporated by reference).
3.1 Restated Certificate of Incorporation (Exhibit 3.1 to the
Company's Registration Statement on Form S-1 (No. 33-
36081), as amended, filed July 26, 1990 is hereby
incorporated by reference).
3.2 Bylaws, as amended (Exhibit 3.2 to the Company's
Registration Statement on Form S-1 (No. 33-36081) as
amended, filed July 26, 1990 is hereby incorporated by
reference).
4.1 Specimen Common Stock Certificate (Exhibit 4.1 to the
Company's Registration Statement on Form S-1 (File No. 33-
36081), as amended, filed July 26, 1990 is hereby
incorporated by reference).
+ 10.1 Matrix Service Company 1990 Incentive Stock Option Plan
(Exhibit 10.14 to the Company's Registration Statement on
Form S-1 (File No. 33-36081), as amended, filed July 26,
1990 is hereby incorporated by reference).
+ 10.2 Matrix Service Company 1991 Stock Option Plan, as amended.
Form S-8 (File No. 333-56945) filed June 12, 1998 is
hereby incorporated by reference. Exhibit 10.1 to the
Company's Registration Statement.
10.3 Standard Industrial Lease, dated June 30, 1989, between
Matrix Service, Inc. and the Kinney Family Trust (Exhibit
10.16 to the Company's Registration Statement on Form S-1
(No. 33-36081), as amended, filed July 26, 1990 is hereby
incorporated by reference).
10.4 Lease Agreement, dated May 30, 1991, between Tim S. Selby
and Stephanie W. Selby as Co-Trustees of the Selby Living
Trust dated October 20, 1983, Tim S. Selby and Stephanie
W. Selby, and Richard Chafin, Trustee of the Selby
Children's Trust 1 dated December 12, 1983 and San Luis
Tank Piping Construction Co., Inc. (Exhibit 10.9 to the
Company's Registration Statement on Form S-1 (File No. 33-
48373) filed June 4, 1992 is hereby incorporated by
reference).
+ 10.5 Employment and Noncompetition Agreement, dated June 1,
1991, between West Coast Industrial Coatings, Inc. and San
Luis Tank Piping Construction Co., Inc., and Tim S. Selby
(Exhibit 10.10 to the Company's Registration Statement on
Form S-1 (File No. 33-48373) filed June 4, 1992 is hereby
incorporated by reference).
26
<PAGE>
List of Exhibits
10.6 Revolving Credit Agreement, dated August 30, 1994, by and among
the Company and its subsidiaries, and Liberty Bank & Trust
Company of Tulsa, N.A. (Exhibit 10.9 to the Company's Annual
Report on Form 10-K for the fiscal year ended May 31, 1995
(File No. 0-18716) is hereby incorporated by reference).
10.7 Security Agreement, dated August 30, 1994, by and among the
Company and its subsidiaries, and Liberty Bank & Trust Company
of Tulsa, N.A. (Exhibit 10.12 to the Company's Annual Report on
Form 10-K for the fiscal year ended May 31, 1995 (File No. 0-
18716) is hereby incorporated by reference).
10.8 Promissory Note, dated December 30, 1992, by and between the
Company, Colt Acquisition Company and Colt Construction Company
and Duncan Electric Company. (Exhibit 10.17 to the Company's
Annual Report on Form 10-K (File No. 0-18716), filed August 27,
1993, is hereby incorporated by reference).
+ 10.9 Employment and Noncompetition Agreement dated February 22,
1994, between Brown Steel Contractors, Inc. and Mark A. Brown
(Exhibit 99.2 to the Company's Current Report on Form 8-K,
(File No. 0-18716), filed March 7, 1994, is hereby incorporated
by reference).
+ 10.10 Employment and Noncompetition Agreement dated February 22,
1994, between Brown Steel Contractors, Inc. and Sample D. Brown
(Exhibit 99.3 to the Company's Current Report on Form 8-K,
(File No. 0-18716), filed March 7, 1994, is hereby incorporated
by reference).
+ 10.11 Matrix Service Company 1995 Nonemployee Directors' Stock Option
Plan (Exhibit 4.3 to the Company's Registration Statement on
Form S-8 (File No. 333-2771), filed April 24, 1996 is hereby
incorporated by reference).
10.12 Stock Purchase Agreement, dated June 17, 1997, by and among
Matrix Service Company and the shareholders of General Service
Corporation.
10.13 First Amendment to Credit Agreement, dated June 19, 1997, by
and among the Company and its subsidiaries, and Liberty Bank &
Trust Company of Tulsa, N.A.
10.14 Security Agreement, dated June 19, 1997, by and among the
Company and its subsidiaries, and Liberty Bank & Trust Company
of Tulsa, N.A.
10.15 Promissory Note (Revolving Note) dated June 19, 1997 by and
between the Company and its subsidiaries, and Liberty Bank &
Trust Company of Tulsa, N.A.
27
<PAGE>
List of Exhibits
10.16 Promissory Note (Term Note, due August 31, 1999), by and
between the Company and its subsidiaries, and Liberty Bank &
Trust Company of Tulsa, N.A.
10.17 Promissory Note (Term Note, due June 19, 2002), dated June 19,
1997 by and between the Company and its subsidiaries, and
Liberty Bank & Trust Company, N.A.
* 11.1 Computation of Per Share Earnings.
* 21.1 Subsidiaries of Matrix Service Company.
* 23.1 Consent of Ernst & Young LLP.
* 27.1 Financial Data Schedule
_____________
* Filed herewith.
+ Management Contract or Compensatory Plan.
(b) Reports on Form 8-K: None
28
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Matrix Service Company has duly caused this amended to
report to be signed on its behalf by the undersigned, thereunto duly authorized.
Matrix Service Company
Date: August 23, 1999 By: /s/ Bradley S. Vetal
----------------------
Bradley S. Vetal, President
29
<PAGE>
Report of Independent Auditors
The Stockholders and Board of Directors
Matrix Service Company
We have audited the accompanying consolidated balance sheets of Matrix Service
Company as of May 31, 1998 and 1997, and the related consolidated statements of
operations, changes in stockholders' equity, and cash flows for each of the
three years in the period ended May 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Matrix
Service Company at May 31, 1998 and 1997, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
May 31, 1998, in conformity with generally accepted accounting principles.
Ernst & Young LLP
Tulsa, Oklahoma
August 14, 1998
1
<PAGE>
Matrix Service Company
Consolidated Balance Sheets
<TABLE>
<CAPTION>
May 31
1998 1997
---------------------------
(In Thousands)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 2,606 $ 1,877
Accounts receivable 37,165 37,745
Costs and estimated earnings in excess of
billings on uncompleted contracts 15,340 11,349
Inventories 6,352 4,989
Income tax receivable 5,279 317
Deferred income taxes 3,252 1,021
Prepaid expenses 524 456
---------------------------
Total current assets 70,518 57,754
Property, plant and equipment, at cost:
Land and buildings 16,481 15,097
Construction equipment 24,092 24,444
Transportation equipment 6,108 5,504
Furniture and fixtures 3,315 3,164
Construction in progress 973 2,614
---------------------------
50,969 50,823
Accumulated depreciation 22,533 20,861
---------------------------
28,436 29,962
Goodwill, net of accumulated amortization
of $1,595 and $4,894 in 1998 and 1997,
Respectively 13,217 28,721
Other assets 570 435
---------------------------
Total assets $112,741 $116,872
===========================
</TABLE>
2
<PAGE>
Matrix Service Company
Consolidated Balance Sheets (continued)
<TABLE>
<CAPTION>
May 31
1998 1997
----------------------------
(In Thousands)
<S> <C> <C>
Liabilities and stockholders' equity
Current liabilities:
Accounts payable $ 12,250 $ 12,738
Billings on uncompleted contracts in excess
of costs and estimated earnings 7,612 6,325
Accrued insurance 2,369 3,308
Earnout payable 884 2,400
Other accrued expenses 4,214 3,275
Current portion of long-term debt 2,105 1,495
----------------------------
Total current liabilities 29,434 29,541
Long-term debt 13,106 6,362
Deferred income taxes 4,949 4,757
Stockholders' equity:
Common stock - $.01 par value; 15,000,000
shares authorized; 9,600,232 and 9,491,153
shares issued in 1998 and 1997, respectively 96 95
Additional paid-in capital 51,458 50,903
Retained earnings 14,221 26,269
Cumulative translation adjustment (523) (145)
----------------------------
65,252 77,122
Less treasury stock, at cost - 115,228 shares
in 1997 - 910
----------------------------
Total stockholders' equity 65,252 76,212
----------------------------
Total liabilities and stockholders' equity $112,741 $116,872
============================
</TABLE>
See accompanying notes.
3
<PAGE>
Matrix Service Company
Consolidated Statements of Operations
<TABLE>
<CAPTION>
Year ended May 31
1998 1997 1996
----------------------------------------------------
(In thousands, except share
and per share amounts)
<S> <C> <C> <C>
Revenues $ 225,428 $ 183,144 $ 183,725
Cost of revenues 206,839 165,704 167,107
----------------------------------------------------
Gross profit 18,589 17,440 16,618
Selling, general and administrative expenses 12,947 11,080 10,784
Goodwill and noncompete amortization 977 864 1,115
Restructuring costs 20,956 - -
----------------------------------------------------
Operating income (loss) (16,291) 5,496 4,719
Other income (expense):
Interest expense (1,275) (536) (815)
Interest income 267 164 411
Other (54) (10) 83
----------------------------------------------------
Income (loss) from operations
before income taxes (17,353) 5,114 4,398
Provision (benefit) for federal, state and
foreign income taxes:
Current (3,676) 2,486 1,683
Deferred (2,039) (356) 266
----------------------------------------------------
(5,715) 2,130 1,949
----------------------------------------------------
Net income (loss) $ (11,638) $ 2,984 $ 2,449
====================================================
Basic earnings (loss) per common share $ (1.22) $ .32 $ .26
====================================================
Diluted earnings (loss) per common share $ (1.22) $ .31 $ .26
====================================================
Weight average common shares
outstanding:
Basic 9,545,979 9,330,246 9,291,630
Diluted 9,545,979 9,698,659 9,507,425
</TABLE>
See accompanying notes.
4
<PAGE>
Matrix Service Company
Consolidated Statements of Changes in Stockholders' Equity
<TABLE>
<CAPTION>
Additional Cumulative
Common Paid-In Retained Treasury Translation
Stock Capital Earnings Stock Adjustment Total
--------------------------------------------------------------------------
(In Thousands)
<S> <C> <C> <C> <C> <C> <C>
Balances, May 31, 1995 $ 95 $ 51,188 $ 21,464 $ (1,826) $ (101) $ 70,820
Exercise of stock options (36,408 shares) - - (296) 328 - 32
Tax effect of exercised stock options - (261) - - - (261)
Translation adjustment - - - - (6) (6)
Net income - - 2,449 - - 2,449
--------------------------------------------------------------------------
Balances, May 31, 1996 95 50,927 23,617 (1,498) (107) 73,034
Exercise of stock options (62,239 shares) - - (332) 588 - 256
Tax effect of exercised stock options - (24) - - - (24)
Translation adjustment - - - - (38) (38)
Net income - - 2,984 - - 2,984
--------------------------------------------------------------------------
Balances, May 31, 1997 95 50,903 26,269 (910) (145) 76,212
Exercise of stock options (224,307 shares) 1 555 (410) 910 - 1,056
Translation adjustment - - - - (378) (378)
Net loss - - (11,638) - - (11,638)
--------------------------------------------------------------------------
Balances, May 31, 1998 $ 96 $ 51,458 $ 14,221 $ - $ (523) $ 65,252
==========================================================================
</TABLE>
See accompanying notes.
5
<PAGE>
Matrix Service Company
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Year ended May 31
1998 1997 1996
--------------------------------------
<S> <C> <C> <C>
(In Thousands)
Operating activities
Net income (loss) $(11,638) $ 2,984 $ 2,449
Adjustments to reconcile net income (loss)
to
net cash provided by operating activities:
Depreciation and amortization 5,134 5,365 5,851
Deferred income tax provision (2,039) (356) 266
(benefit)
(Gain) loss on sale of equipment 467 (70) 248
Noncash write-off of restructuring 19,772 - -
costs
Changes in operating assets and
liabilities increasing (decreasing)
cash, net of effects of acquisitions:
Accounts receivable 5,166 (8,540) (2,257)
Costs and estimated earnings
in excess of billings on
uncompleted contracts (2,858) 773 (2,540)
Inventories (138) (840) 566
Prepaid expenses (77) (277) 247
Accounts payable (3,486) 3,281 (1,746)
Billings on uncompleted
contracts in excess of costs
and estimated earnings 473 1,972 40
Accrued expenses (2,484) 1,203 3,632
Income taxes receivable/payable (4,544) 699 2,846
Other (797) (15) 11
--------------------------------------
Net cash provided by operating activities 2,951 6,179 9,613
Investing activities
Acquisition of property, plant and equipment (2,577) (5,802) (3,410)
Acquisitions and investment in foreign joint
venture, net of cash acquired (5,068) (2,353) (1,931)
Return of investment in foreign joint venture - 200 -
Proceeds from other investing activities 652 155 116
--------------------------------------
Net cash used in investing activities (6,993) (7,800) (5,225)
</TABLE>
6
<PAGE>
Matrix Service Company
Consolidated Statements of Cash Flows (continued)
<TABLE>
<CAPTION>
Year ended May 31
1998 1997 1996
---------------------------------------
(In Thousands)
<S> <C> <C> <C>
Financing activities
Issuance of common stock $ 1,056 $ 256 $ 32
Advances under bank credit agreement 11,750 7,000 7,500
Repayments of bank credit agreement (4,200) (4,000) (9,500)
Repayment of other notes (3,652) (1,089) (1,089)
Repayment of acquisition note (459) (529) (1,409)
Issuance of acquisition note 250 - -
Issuance of equipment lease - 22 50
Issuance of equipment notes 40 - -
Repayments of equipment notes - (23) (54)
---------------------------------------
Net cash provided by (used in)
Financing activities 4,785 1,637 (4,470)
Effect of exchange rate changes on cash (14) (38) 5
---------------------------------------
Net increase (decrease) in cash and cash
equivalents 729 (22) (77)
Cash and cash equivalents, beginning of year 1,877 1,899 1,976
---------------------------------------
Cash and cash equivalents, end of year $ 2,606 $ 1,877 $ 1,899
=======================================
Supplemental disclosure of cash
flow
information:
Cash paid during the period for:
Income taxes $ 1,064 $ 1,706 $ 1,777
Interest 1,275 545 823
</TABLE>
See accompanying notes.
7
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements
May 31, 1998, 1997 and 1996
1. Summary of Significant Accounting Policies
Organization and Basis of Presentation
The consolidated financial statements present the accounts of Matrix Service
Company ("MSC") and its subsidiaries (collectively referred to as the
"Company"). Subsidiary companies include Matrix Service, Inc., ("Matrix"),
Midwest Industrial Contractors, Inc. ("Midwest"), Matrix Service Mid-Continent,
Petrotank Equipment, Inc. ("Petrotank"), Tank Supply, Inc., San Luis Tank Piping
Construction Co., Inc. ("San Luis"), Colt Construction Co. ("Colt"), General
Services Corporation ("GSC"), Heath Engineering Ltd. ("Heath"), and Brown Steel
Contractors, Inc. ("Brown"). GSC was purchased in the current period, see Note
2, and Midwest was exited, see Note 3. Intercompany transactions and balances
have been eliminated in consolidation.
The Company operates primarily in the United States and has operations in Canada
and Mexico through Heath and San Luis. The Company's industry segment is
maintenance, construction services and products for petroleum refining and
storage facilities and water storage tanks and systems for municipalities and
private industry.
Cash Equivalents
The Company includes as cash equivalents all investments with original
maturities of three months or less which are readily convertible into cash. The
carrying value of cash equivalents approximates fair value.
Inventories
Inventories consist primarily of raw materials and are stated at the lower of
cost or net realizable value. Cost is determined using the first-in, first-out
or average cost method.
Revenue Recognition
Revenues from fixed-price contracts are recognized on the percentage-of-
completion method measured by the percentage of costs incurred to date to
estimated total costs for each contract. Revenues from cost-plus-fee contracts
are recognized on the basis of costs incurred plus the estimated fee earned.
Anticipated losses on uncompleted contracts are recognized in full when they
become known.
8
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Depreciation and Amortization
Depreciation is computed using the straight-line method over the estimated
useful lives of the depreciable assets. Goodwill and noncompete agreements are
being amortized over 40 and 3 to 5 years, respectively, using the straight-line
method.
Impairment of Long-Lived Assets
The Company reviews long-lived assets and intangible assets, including goodwill,
for impairment periodically whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. Recoverability of
assets is measured by a comparison of the carrying amount of the asset to future
net cash flows expected to be generated by the asset. If such assets are
considered to be impaired, the impairment to be recognized is measured by the
amount by which the carrying amount of the assets exceeds the fair value of the
assets.
Income Taxes
Deferred income taxes are computed using the liability method whereby deferred
tax assets and liabilities are recognized based on temporary differences between
financial statement and tax bases of assets and liabilities using presently
enacted tax rates.
Earnings per Common Share
In 1997, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 128, "Earnings per Share." Statement 128 replaced the
previously reported primary and fully diluted earnings per share with basic and
diluted earnings per share. Unlike primary earnings per share, basic earnings
per share excludes any dilutive effects of options, warrants, and convertible
securities. Diluted earnings per share is very similar to the previously
reported fully diluted earnings per share. Basic earnings per common share is
calculated based on the weighted average shares outstanding during the period.
Diluted earnings per share includes in average shares outstanding employee stock
options which are dilutive (-0-, 368,413 and 215,795 shares in 1998, 1997 and
1996, respectively). All earnings per share amounts for all periods have been
presented, and where necessary, restated to conform to the Statement 128
requirements.
9
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Stock Option Plans
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25) and related interpretations
in accounting for its employee stock options because, as discussed in Note 7,
the alternative fair value accounting provided for under FASB Statement No. 123,
"Accounting for Stock-Based Compensation," requires use of option valuation
models that were not developed for use in valuing employee stock options. Under
APB 25, because the exercise price of the Company's employee stock options
equals the market price of the underlying stock on the date of grant, no
compensation expense is recognized.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
2. Acquisition
On June 17, 1997, the Company acquired all of the outstanding common stock of
General Services Corporation and its affiliated companies, Maintenance Services,
Inc., Allentech, Inc., and Environmental Protection Services (collectively
"GSC") for up to $7.8 million, subject to certain adjustments. The purchase
price consisted of $4.75 million in cash and a $250 thousand, prime rate
(currently 8.25%) promissory note payable in 12 equal quarterly installments. In
addition, the stockholders of GSC are entitled to receive in the future up to an
additional $2.75 million in cash if GSC satisfies certain earnings requirements.
Under the provision of the contract the stockholders have the right to elect 70%
of the earnout amount upon change of control of the Company. This transaction
was accounted for as a purchase and resulted in approximately $3.0 million of
goodwill and non-competition covenants. Operations of GSC are included in the
accompanying financial statements from date of acquisition. Operations of GSC
from June 1, 1997 to date of acquisition and for fiscal years 1997 and 1996 were
not significant to the Company's reported results.
10
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
3. Restructuring Costs
During the third quarter of fiscal year 1998, the board of directors approved a
plan whereby the Company would exit the operations of Midwest and discontinue to
operate in the markets that Midwest has historically participated. The Company
is in the process of completing all open contracts and disposing of all assets.
The Company will abandon this business entirely. The operating activities of
Midwest, previously reflected as Discontinued Operations, are reflected herein
as Continuing Operations. During the three years ended in fiscal 1998, 1997 and
1996, Midwest had operating losses of $3.4 million, $1.8 million and $1.8
million respectively.
Also during the third quarter of 1998, the Company adopted a board of directors
approved plan to restructure operations to reduce costs, eliminate duplication
of facilities and improve efficiencies. The plan included closing fabrication
shops in Newark, Delaware and Rancocas, New Jersey and moving these operations
to a more efficient and geographically centered facility in Bristol,
Pennsylvania. Additionally, the Company closed a fabrication shop at Elkston,
Maryland. The production from the Maryland facility, which was principally
elevated water tanks, will be provided by the Company's Newnan, Georgia plant.
(The facilities located in Delaware, New Jersey, Pennsylvania and Maryland were
all leased facilities.) The Company is selling real estate that is not being
utilized in Mississauga, Canada, and is also discontinuing certain product lines
that are no longer profitable.
As part of the restructuring plan the Company separately reviewed the operations
of San Luis for impairment indicators as actual operating and cash flow results
were less than projections for Fiscal 1998, the principals in management, from
whom the original business was purchased, left the employment of the company in
early fiscal 1998, San Luis reputation in the industry had deteriorated and the
business name was dissolved into Matrix Service Company. The operating income
and cash flows from this business unit were not historically negative; however,
there are significant concerns that future operations may not be positive. Based
on these potential impairment indicators, an estimate of the undiscounted cash
flows of the San Luis operations was made. This estimate indicated impairment
and, as a result, the entire amount of the goodwill related to San Luis was
written off.
Additionally, in evaluating the Company's Mayflower vapor seal operations, the
operating income and cash flows from this business unit indicated that positive
amounts were not attainable. Therefore, the businesses will be completely
abandoned, the goodwill written-off, and impaired assets abandoned or sold at
their net realizable value. The operating results of Mayflower have not been
significant to the Company's operations.
11
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
3. Restructuring Costs (continued)
Employee termination costs associated with the reorganization and termination of
all employees of Midwest and Mayflower were recognized and paid during fiscal
1998.
Other reorganization costs include the cost of travel related expenses for
reorganization teams which proposed, planned and carried out the Company's
restructuring plans, cost of a failed merger with ITEQ, Inc. and equipment
moving.
As a result of these restructuring and closing operations, the Company recorded
the following charges:
<TABLE>
<CAPTION>
(In thousands)
--------------
<S> <C>
Impairment:
Midwest Goodwill $ 14,555
San Luis Goodwill 4,103
Mayflower Goodwill 466
Asset Impairment 648
Employee Termination 386
Other Reorganization Costs 798
--------------
$ 20,956
==============
</TABLE>
12
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
4. Uncompleted Contracts
Contract terms of the Company's construction contracts generally provide for
progress billings based on completion of certain phases of the work. The excess
of costs incurred and estimated earnings recognized for construction contracts
over amounts billed on uncompleted contracts is reported as a current asset and
the excess of amounts billed over costs incurred and estimated earnings
recognized for construction contracts on uncompleted contracts is reported as a
current liability as follows:
<TABLE>
<CAPTION>
May 31
1998 1997
--------------------------------
(In Thousands)
<S> <C> <C>
Costs incurred and estimated earnings
recognized on uncompleted contracts $ 207,229 $ 109,770
Billings on uncompleted contracts 199,501 104,746
--------------------------------
$ 7,728 $ 5,024
================================
Shown on balance sheet as:
Costs and estimated earnings in excess
of billings on uncompleted contracts $ 15,340 $ 11,349
Billings on uncompleted contracts in
excess of costs and estimated earnings 7,612 6,325
--------------------------------
$ 7,728 $ 5,024
================================
</TABLE>
Approximately $4.0 million and $4.2 million of accounts receivable at May 31,
1998 and 1997, respectively, relate to billed retainages under contracts.
13
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
5. Long-Term Debt
Long-term debt consists of the following:
<TABLE>
<CAPTION>
1998 1997
--------------------------
(In Thousands)
<S> <C> <C>
Borrowings under bank credit facility:
Revolving note $ 5,500 $ 5,000
Term note 9,500 2,450
Other 211 407
--------------------------
15,211 7,857
Less current portion 2,105 1,495
--------------------------
$ 13,106 $ 6,362
==========================
</TABLE>
On March 1, 1998, the Company and a commercial bank entered into an amendment to
a credit facility agreement originally established in 1994, whereby the Company
may borrow a total of $30 million. The amended agreement provides for a $20
million revolving credit facility based on the level of the Company's eligible
receivables. The agreement provides for an interest rate based on a prime or
LIBOR option and matures on October 31, 1999. The credit facility also provides
for a $10 million term loan, due February 29, 2003, payable in 60 equal payments
beginning in March 1998. The interest rates for the revolver and the term loan
at May 31, 1998 were 6.8% and 7.5%, respectively. The agreement requires
maintenance of certain financial ratios, limits the amount of additional
borrowings and prohibits the payment of dividends. The credit facility is
secured by all accounts receivable, inventory, intangibles, and proceeds related
thereto.
In conjunction with the term note, on March 1, 1998, the Company entered into an
interest rate swap agreement for an initial notional amount of $10 million with
a commercial bank, effectively providing a fixed interest rate of 7.5% for the
five-year period on the term note. The Company pays 7.5% interest and receives
LIBOR plus 1 1/2%, calculated on the notional amount. The notional amount was
$9.7 million at May 31, 1998. Net receipts or payments under the agreement are
recognized as an adjustment to interest expense. The swap agreement expires in
2003. If LIBOR decreases, interest payments received and the market value of the
swap position decrease.
14
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
5. Long-Term Debt (continued)
The Company has outstanding letters of credit and letters of guarantee totaling
$3,513,008 which mature during 1998 and 1999.
Aggregate maturities of long-term debt for the years ending May 31 are as
follows (in thousands), for each fiscal year: 1999 - $2,105; 2000 - $7,589; 2001
- - $2,021, 2002 - $2,000 and 2003 - $1,496.
The carrying value of debt approximates fair value.
6. Income Taxes
The components of the provision (benefit) for income taxes are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------------------------
(In Thousands)
<S> <C> <C> <C>
Current:
Federal $ (2,760) $ 1,825 $ 1,145
State (961) 443 373
Foreign 45 218 165
------------------------------------------
(3,676) 2,486 1,683
Deferred:
Federal (1,963) (121) (21)
State (13) (180) 368
Foreign (63) (55) (81)
------------------------------------------
(2,039) (356) 266
------------------------------------------
$ (5,715) $ 2,130 $ 1,949
==========================================
</TABLE>
15
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
6. Income Taxes (continued)
The difference between the expected tax rate and the effective tax rate is
indicated below:
<TABLE>
<CAPTION>
1998 1997 1996
-----------------------------------------
(In Thousands)
<S> <C> <C> <C>
Expected provision for federal
Income taxes at the statutory
Rate $ (5,900) $ 1,739 $ 1,495
State income taxes, net of federal
Benefit (642) 290 257
Charges without tax benefit,
Primarily goodwill amortization 827 225 246
Other - (124) (49)
-----------------------------------------
Provision for income taxes $ (5,715) $ 2,130 $ 1,949
=========================================
</TABLE>
Significant components of the Company's deferred tax liabilities and assets as
of May 31, 1998 and 1997 are as follows:
<TABLE>
<CAPTION>
1998 1997
-------------------------
(In Thousands)
<S> <C> <C>
Deferred tax liabilities:
Tax over book depreciation $ 4,878 $ 4,713
Other - net 71 44
-------------------------
Total deferred tax liabilities 4,949 4,757
Deferred tax assets:
Foreign insurance dividend 275 275
Vacation accrual 239 205
Noncompete amortization 472 423
Loss carryforward 1,377 -
Other - net 889 118
-------------------------
Total deferred tax assets 3,252 1,021
-------------------------
Net deferred tax liability $ 1,697 $ 3,736
=========================
</TABLE>
The Company has unused state job tax credit carryforwards of $267,000 at May 31,
1998.
16
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
7. Stockholders' Equity
The Company has adopted a 1990 Incentive Stock Option Plan (the "1990 Plan") and
a 1991 Incentive Stock Option Plan (the "1991 Plan") to provide additional
incentives for officers and other key employees of the Company. The Company has
also adopted a 1995 Nonemployee Directors' Stock Option Plan (the "1995 Plan").
Under the 1990 and 1991 Plans, incentive and nonqualified stock options may be
granted to the Company's key employees and nonqualified stock options may be
granted to nonemployees who are elected for the first time as directors of the
Company after January 1, 1991. Options generally become exercisable over a five-
year period from the date of the grant. Under the 1995 Plan, qualified stock
options are granted annually to nonemployee directors. Stock options granted
under the 1995 Plan generally become exercisable over a two-year period from the
date of the grant. Under each plan, options may be granted with durations of no
more than ten years. The option price per share may not be less than the fair
market value of the common stock at the time the option is granted. Shareholders
have authorized an aggregate of 1,320,000, 900,000, and 250,000 options to be
granted under the 1990, 1991, and 1995 Plans, respectively. Options exercisable
total 803,211 and 681,279 at May 31, 1998 and 1997, respectively.
Pro forma information regarding net income and earnings per share is required by
Statement of Financial Accounting Standards No. 123, and has been determined as
if the Company had accounted for its employee stock options under the fair value
method of that Statement. The fair value for these options was estimated at the
date of grant using a Black-Scholes option pricing model with the following
weighted-average assumptions: risk-free interest rates of 5.44% to 6.62%;
dividend yield of -0-%; volatility factors of the expected market price of the
Company's stock of .326 to .690; and an expected life of the options of 2 to 5
years.
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
17
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
7. Stockholders' Equity (continued)
The Statement's pro forma information from the options is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
----------------------------------------------
(In Thousands)
<S> <C> <C> <C>
Net income (loss) before stock options $(11,638) $2,984 $2,449
Compensation expense from stock options
1996 grant 123 231 78
1997 grant 75 38 -
1998 grant 164 - -
----------------------------------------------
Net income (loss) $(12,000) $2,715 $2,371
==============================================
Pro forma earnings (loss) per common share:
Basic $ (1.26) $ .29 $ .26
Diluted $ (1.26) $ .28 $ .25
</TABLE>
The effect of compensation expense from stock options on 1996 pro forma net
income reflects the vesting of 1996 awards. 1997 pro forma net income reflects
the second year of vesting of the 1996 awards and the first year of vesting of
1997 awards. 1998 pro forma net income reflects the third year of vesting of the
1996 awards, the second year of vesting of 1997 awards and the first year of
vesting of the 1998 awards.
18
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
7. Stockholders' Equity (continued)
The following summary reflects option transactions for the past three years:
<TABLE>
<CAPTION>
Shares Option Price Per Share
-----------------------------------------------
Shares under option:
<S> <C> <C>
Balance at May 31, 1995 1,432,205 $ .67 - $ 5.75
Granted 391,500 3.63 - 6.25
Exercised (36,408) .67 - 3.63
Canceled (265,741) .80 - 5.75
---------------------------------------------
Balance at May 31, 1996 1,521,556 .67 - 6.25
Granted 113,000 5.88 - 7.875
Exercised (62,239) .67 - 6.25
Canceled (47,313) 3.63 - 6.25
---------------------------------------------
Balance at May 31, 1997 1,525,004 $ .67 - 7.875
Granted 530,500 6.75 - 8.00
Exercised (224,307) .67 - 6.25
Canceled (170,540) 3.625 - 8.00
---------------------------------------------
Balance at May 31, 1998 1,660,657 $ 67 - $ 8.00
=============================================
</TABLE>
8. Commitments
The Company is the lessee under operating leases covering real estate in Tulsa,
Oklahoma; Bristol, Pennsylvania; Anaheim, California; Bay Point, California;
Paso Robles, California; Bellingham, Washington; and Carson, California. The
Paso Robles lessors are former stockholders of San Luis. The Company is also the
lessee under operating leases covering office equipment. Future minimum lease
payments are as follows (in thousands): 1999 - $549; 2000 - $455; 2001 - $428;
2002 - $284; 2003 - $47 and thereafter - $115. Rental expense was $710,000,
$516,000 and $646,000 for the years ended May 31, 1998, 1997 and 1996,
respectively. Rental expense related to the Paso Robles lease was $157,000,
$149,000 and $149,000 for the years ended May 31, 1998, 1997 and 1996.
9. Other Financial Information
The Company provides specialized on-site maintenance and construction services
for petrochemical processing and petroleum refining and storage facilities. The
Company grants credit without requiring collateral to customers consisting of
the major integrated oil companies, independent refiners and marketers, and
petrochemical companies.
19
<PAGE>
Matrix Service Company
Notes to Consolidated Financial Statements (continued)
9. Other Financial Information (continued)
Although this potentially exposes the Company to the risks of depressed cycles
in oil and petrochemical industries, the Company's receivables at May 31, 1998
have not been adversely affected by such conditions and historical losses have
been minimal.
Sales to one customer accounted for approximately 11% of the Company's revenues
for the year ended May 31, 1998 and 1996. There were no sales to one customer in
excess of 10% of revenues for the year ended May 31, 1997.
10. Employee Benefit Plan
The Company sponsors a defined contribution 401(k) savings plan (the "Plan") for
all employees meeting length of service requirements. Participants may
contribute an amount up to 15% of pretax annual compensation as defined in the
Plan, subject to certain limitations in accordance with Section 401(k) of the
Internal Revenue Code. The Company may match contributions at a percentage
determined by the Company, but not to exceed 100% of the elective deferral
contributions made by participants during the Plan year. The Company has made no
matching contributions to the Plan for the years ended May 31, 1998, 1997, and
1996. Beginning July 1, 1998, the Company will match contributions at a rate of
25% of employee contributions, not to exceed 6% of participating employee's
salary.
11. Contingent Liabilities
The Company is self-insured for worker's compensation, auto, and general
liability claims with stop loss protection at $250,000, $100,000, and $50,000
per incident, respectively. Management estimates the reserve for such claims
based on knowledge of the circumstances surrounding the claims, the nature of
any injuries involved, historical experience, and estimates of future costs
provided by certain third parties. Accrued insurance at May 31, 1998 represents
management's estimate of the Company's liability at that date. Changes in the
assumptions underlying the accrual could cause actual results to differ from the
amounts reported in the financial statements.
The Company is a defendant in various legal actions and is vigorously defending
against each of them. It is the opinion of management that none of such legal
actions will have a material effect on the Company's financial position.
20
<PAGE>
Matrix Service Company
Quarterly Financial Data (Unaudited)
Summarized quarterly financial data are as follows:
<TABLE>
<CAPTION>
First Second Third Fourth
1998 Quarter Quarter Quarter Quarter
- --------------------------------------------------------------------------------------------------------------
(In Thousands except per share amounts)
<S> <C> <C> <C> <C>
Revenues 49,519 62,017 55,449 58,443
Gross profit 4,742 5,142 3,298 5,407
Net income (loss) 769 953 (14,657) 1,297
Net income (loss) per common
share data:
Basic - net income (loss) .09 .11 (1.55) .13
Diluted - net income (loss) .09 .11 (1.55) .13
1997
- ------------------------------------------------
Revenues 39,630 48,212 42,242 53,060
Gross profit 3,965 4,638 4,018 4,819
Net income 632 954 644 754
Net income per common
share data:
Basic - net income .07 .10 .07 .08
Diluted - net income .07 .10 .07 .07
</TABLE>
Note: The summarized quarterly financial data for both 1998 and 1997 has been
restated from previously reported amounts in the Company's originally
filed Form 10-K and quarterly reports on Form 10-Q for the third quarter
of fiscal 1998 to reflect Midwest's operating activities as continuing
operations. (See Note 3 to the accompanying financial statements)
<PAGE>
EXHIBIT 11.1
STATEMENTS RE COMPUTATION OF EARNINGS PER SHARE
[ARTICLE] 5
[MULTIPLIER] 1,000
<TABLE>
<S> <C>
[PERIOD-TYPE] 3-MOS
[FISCAL-YEAR-END] MAY-31-1998
[PERIOD-START] MAR-01-1998
[PERIOD-END] MAY-31-1998
[COMMON] 9,987
[NET-INCOME] 1,297
[EPS-BASIC] 0.13
[COMMON] 10,008
[NET-INCOME] 1,297
[EPS-DILUTED] 0.13
[FISCAL-YEAR-END] MAY-31-1997
[PERIOD-START] MAR-01-1997
[PERIOD-END] MAY-31-1997
[COMMON] 9,358
[NET-INCOME] 754
[EPS-BASIC] 0.08
[COMMON] 9,938
[NET-INCOME] 754
[EPS-DILUTED] 0.07
[PERIOD-TYPE] 12-MOS
[FISCAL-YEAR-END] MAY-31-1998
[PERIOD-START] JUN-01-1997
[PERIOD-END] MAY-31-1998
[COMMON] 9,546
[NET-INCOME] (11,638)
[EPS-BASIC] (1.22)
[COMMON] 9,546
[NET-INCOME] (11,638)
[EPS-DILUTED] (1.22)
[FISCAL-YEAR-END] MAY-31-1997
[PERIOD-START] JUN-01-1996
[PERIOD-END] MAY-31-1997
[COMMON] 9,330
[NET-INCOME] 2,984
[EPS-BASIC] 0.32
[COMMON] 9,699
[NET-INCOME] 2,984
[EPS-DILUTED] 0.31
</TABLE>
<PAGE>
EXHIBIT 21.1
MATRIX SERVICE COMPANY
Subsidiaries
Matrix Service, Inc., an Oklahoma corporation
Matrix Service Mid-Continent, Inc., an Oklahoma corporation
Petrotank Equipment, Inc., an Oklahoma corporation
San Luis Tank Piping Construction Co., Inc., a Delaware corporation
Tank Supply, Inc., an Oklahoma corporation
West Coast Industrial Coatings, Inc., a California corporation
Colt Construction Company, a Delaware corporation
Heath Engineering, Ltd., an Ontario, Canada corporation
Midwest International, Ltd., a Delaware corporation
Brown Steel Contractors, Inc., a Georgia corporation
General Service Corporation, a Delaware corporation
<PAGE>
Exhibit 23.1
Consent of Ernst & Young LLP.
We consent to the incorporation by reference of our report dated August 14,
1998, with respect to the consolidated financial statements of Matrix Service
Company included in this Annual Report (Form 10-K/A) for the year ended May 31,
1998, in the following registration statements.
Matrix Service Company 1990 Incentive Form S-8 File No. 33-36081
Stock Option Plan
Matrix Service Company 1991 Stock Option Form S-8 File No. 333-56945
Plan, as amended
Matrix Service Company 1995 Nonemployee Form S-8 File No. 333-2771
Directors' Stock Option Plan
Ernst & Young LLP
Tulsa, Oklahoma
August 23, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> MAY-31-1998
<PERIOD-END> MAY-31-1998
<CASH> 2,606
<SECURITIES> 0
<RECEIVABLES> 37,165
<ALLOWANCES> 0
<INVENTORY> 6,352
<CURRENT-ASSETS> 70,518
<PP&E> 50,969
<DEPRECIATION> 22,533
<TOTAL-ASSETS> 112,741
<CURRENT-LIABILITIES> 29,434
<BONDS> 0
0
0
<COMMON> 96
<OTHER-SE> 65,156
<TOTAL-LIABILITY-AND-EQUITY> 112,741
<SALES> 225,428
<TOTAL-REVENUES> 225,428
<CGS> 206,839
<TOTAL-COSTS> 206,839
<OTHER-EXPENSES> 34,880
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,275
<INCOME-PRETAX> (17,353)
<INCOME-TAX> (5,715)
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (11,638)
<EPS-BASIC> (1.22)
<EPS-DILUTED> (1.22)
</TABLE>
