ARRAY TECHNOLOGIES, INC. Management's Discussion and Analysis of Financial Condition and Results of Operations
This Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our unaudited condensed financial statements and the related notes and other financial information included in the Quarterly Report on Form 10-Q and our audited financial statements and notes thereto as of and for the years endedDecember 31, 2018 and 2019 and the related Management's Discussion and Analysis of Financial Condition and Results of Operations, including Contractual Obligations and Critical Accounting Policies and Significant Judgements and Estimates, included in our final prospectus, or the Prospectus filed with theSecurities and Exchange Commission , or theSEC , onOctober 14, 2020 relating to our Registration Statement on Form S-1 (File No 333-248969). In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results and timing of selected events may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those discussed under the sections of this Form 10-Q captioned "Forward-Looking Statements" and "Risk Factors." This Management's Discussion and Analysis of Financial Condition and Results of Operations contains the presentation of Adjusted EBITDA and Adjusted Net Income, which are not presented in accordance with GAAP. Adjusted EBITDA and Adjusted Net Income are being presented because they provide the Company and readers of this Form 10-Q with additional insight into our operational performance relative to earlier periods and relative to our competitors. We do not intend Adjusted EBITDA and Adjusted Net Income to be substitutes for any GAAP financial information. Readers of this Form 10-Q should use Adjusted EBITDA and Adjusted Net Income only in conjunction with Net Income, the most comparable GAAP financial measure. Reconciliations of Adjusted EBITDA and Adjusted Net Income to Net Income, the most comparable GAAP measure to each, are provided in "-Non-GAAP Financial Measure." Overview We are one of the world's largest manufacturers of ground-mounting systems used in solar energy projects. Our principal product is an integrated system of steel supports, electric motors, gearboxes and electronic controllers commonly referred to as a single-axis "tracker." Trackers move solar panels throughout the day to maintain an optimal orientation to the sun, which significantly increases their energy production. Solar energy projects that use trackers generate up to 25% more energy than projects that use "fixed tilt" mounting systems, which do not move. Our trackers use a patented design that allows one motor to drive multiple rows of solar panels through articulated driveline joints. To avoid infringing on ourU.S. patent, our competitors must use designs that we believe are inherently less efficient and reliable. For example, our largest competitor's design requires one motor for each row of solar panels. As a result, we believe our products have greater reliability, lower installation costs, reduced maintenance requirements and competitive manufacturing costs. Our coreU.S. patent on a linked-row, rotating gear drive system does not expire untilFebruary 5, 2030 .
We sell our products to engineering, procurement and construction firms ("EPCs")
that build solar energy projects and to large solar developers, independent
power producers and utilities, often under master supply agreements or
multi-year procurement contracts. In 2019, we derived 87%, 8% and 5% of our
revenues from customers in the
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We are a U.S. company and our headquarters and principal manufacturing facility
are in Albuquerque, New Mexico . As of September 30, 2020 , we had 369 full-time
employees.
Impact of COVID-19
In December 2019 , a novel strain of coronavirus, SARS-CoV-2, which causes
coronavirus disease 2019, or COVID-19, surfaced in Wuhan, China . Since then,
COVID-19 has spread to multiple countries, including the United States . On March
11, 2020 , the World Health Organization declared COVID-19 a pandemic. To date,
we have maintained uninterrupted business operations with normal turnaround
times for its delivery of solar tracking systems. We have implemented
adjustments to our operations designed to keep employees safe and comply with
federal, state and local guidelines, including those regarding social
distancing. The extent to which COVID19 may further impact the Company's
business, results of operations, financial condition and cash flows will depend
on future developments, which are highly uncertain and cannot be predicted with
confidence. In response to COVID-19, the United States government has passed
legislation and taken other actions to provide financial relief to companies and
other organizations affected by the pandemic.
Performance Measures
In managing our business and assessing financial performance, we supplement the
information provided by the financial statements with other operating metrics.
These operating metrics are utilized by our management to evaluate our business,
measure our performance, identify trends affecting our business and formulate
projections. The primary operating metric we use to evaluate our sales
performance and to track market acceptance of our products from year to year is
megawatts ("MWs") shipped generally and the change in MW shipped from period to
period specifically. MWs is measured for each individual project and is
calculated based on the expected output of that project once installed and fully
operational.
We also utilize metrics related to price and cost of goods sold per MW,
including average selling price ("ASP") and cost per watt ("CPW"). ASP is
calculated by dividing total applicable revenues by total applicable MWs,
whereas CPW is calculated by dividing total applicable costs of goods sold by
total applicable MWs. These metrics enable us to evaluate trends in pricing,
manufacturing cost and customer profitability.
Key Components of Our Results of Operations
The following discussion describes certain line items in our consolidated statements of operations.
Revenue
We generate revenue from the sale of solar tracking systems and parts. Our customers include EPCs, utilities, solar developers and independent power producers. For each individual solar project, we enter into a contract with our customers covering the price, specifications, delivery dates and warranty for the products being purchased, among other things. Our contractual delivery period for the tracker system and parts can vary from days to several months. Contracts can range in value from hundreds of thousands to tens of millions of dollars. Our average contract value and duration was approximately$6 million and three months, respectively, in 2019. Our revenue is affected by changes in the volume and ASPs of solar tracking systems purchased by our customers. The quarterly volume and ASP of our systems is driven by the supply of, and demand for, our products, changes in product mix between module type and wattage, geographic mix of our customers, strength of competitors' product offerings, and availability of government incentives to the end-users of our products. 22 -------------------------------------------------------------------------------- Our revenue growth is dependent on continued growth in the amount of solar energy projects installed each year as well as our ability to increase our share of demand in each of the geographies where we compete, expand our global footprint to new evolving markets, grow our production capabilities to meet demand and to continue to develop and introduce new and innovative products that address the changing technology and performance requirements of our customers. Cost of Revenue and Gross Profit Cost of revenue consists primarily of product costs, including purchased components, as well as costs related to shipping, tariffs, customer support, product warranty, personnel and depreciation of test and manufacturing equipment. Personnel costs in cost of revenue includes both direct labor costs as well as costs attributable to any individuals whose activities relate to the transformation of raw materials or component parts into finished goods or the transportation of materials to the customer. Our product costs are affected by the underlying cost of raw materials, including steel and aluminum; component costs, including electric motors and gearboxes; technological innovation; economies of scale resulting in lower component costs, and improvements in production processes and automation. We do not currently hedge against changes in the price of raw materials. Some of these costs, primarily personnel and depreciation of test and manufacturing equipment, are not directly affected by sales volume.
Gross profit may vary from quarter to quarter and is primarily affected by our ASPs, product costs, product mix, customer mix, geographical mix, shipping method, warranty costs and seasonality.
Operating Expenses Operating expenses consist of general and administrative costs, contingent consideration, as well as depreciation and amortization expense. Personnel-related costs are the most significant component of our operating expenses and include salaries, benefits, payroll taxes and commissions. Our full-time employee headcount in our general and administrative departments has grown from approximately 110 as ofDecember 31, 2018 to approximately 150 as ofDecember 31, 2019 and 170 atSeptember 30, 2020 , and we expect to continue to hire new employees to support our growth. The timing of these additional hires could materially affect our operating expenses in any particular period, both in absolute dollars and as a percentage of revenue. We expect to continue to invest substantial resources to support our growth and anticipate that each of the following categories of operating expenses will increase in absolute dollar amounts for the foreseeable future. General and administrative expenses General and administrative expenses consist primarily of salaries, share based compensation expense, employee benefits and payroll taxes related to our executives, sales, finance, human resources, information technology, engineering and legal organizations, travel expenses, facilities costs, marketing expenses, bad debt expense and fees for professional services. Professional services consist of audit, legal, tax, insurance, information technology and other costs. We expect an increase in the number of sales and marketing personnel in connection with the expansion of our global sales and marketing footprint, enabling us to penetrate new markets. The majority of our sales in 2019 were in theU.S. ; however, during the year we expanded our international presence with additional global sales staff. We currently have a sales presence in theU.S. ,Australia , theU.K. andBrazil . We intend to continue to expand our sales presence and marketing efforts to additional countries. We also expect that as a public company we will incur additional audit, tax, accounting, legal and other costs related to compliance with applicable securities and other regulations, as well as additional insurance, investor relations and other costs associated with being a public company. Contingent Consideration Contingent consideration consists of the changes in fair value of the earn-out and the TRA entered into withRon P. Corio , our indirect stockholder, concurrent with Parent's acquisition ofPatent LLC . 23 -------------------------------------------------------------------------------- The earn-out liability was recorded at fair value at the acquisition date and subsequent changes in the fair value are recognized in earnings. Fair value of the earn-out liability is measured based upon the expected return of investment of Parent, among other things. Cash payments related to the earn-out liability are required upon the occurrence of certain events, including the consummation of an IPO; the sale, transfer, assignment, pledge, encumbrance, distribution or disposition of shares of Parent held byOaktree Power andOaktree Investors to a third party; the sale of equity securities or assets of Parent,ATI Investment Sub, Inc. orArray Technologies, Inc. to a third-party; or a merger, consolidation, recapitalization or reorganization of Parent,ATI Investment Sub, Inc. or the Company. The IPO and the Special Distribution required the Company was required to make a cash payment of$9.1 million inOctober 2020 . The TRA liability was recorded at fair value at the acquisition date and subsequent changes in the fair value are recognized in earnings. The TRA will generally provide for the payment byArray Technologies, Inc. toRon P. Corio for certain federal, state, local and non-U.S. tax benefits deemed realized in post-closing taxable periods byArray Technologies, Inc. from the use of certain deductions generated by the increase in the tax value of the developed technology. Estimating fair value of the TRA is by nature imprecise. The significant fair value inputs used to estimate the future expected TRA payments toRon P. Corio include the timing of tax payments, a discount rate, book income projections, timing of expected adjustments to calculate taxable income and the projected rate of use for attributes defined in the TRA.
Depreciation
Depreciation in our operating expense consists of costs associated with
property, plant and equipment ("PP&E") not used in manufacturing of our
products. We expect that as we continue to grow both our revenue and our general
and administrative personnel we will require some additional PP&E to support
this growth resulting in additional depreciation expense.
Amortization
Amortization of intangibles consist of developed technology, customer relationships and internal-use software modifications over their expected period of use.
Non-Operating Expenses Interest Expense Interest expense consists of interest and other charges paid in connection with our SeniorABL Facility , interest on the Senior Secured Promissory Note, and interest on our Term Loan Facility (as defined below), which was fully repaid onFebruary 2, 2020 . Income Tax Expense We are subject to federal and state income taxes inthe United States . 24 --------------------------------------------------------------------------------
Results of Operations
The following tables set forth our consolidated statement of operations (in
thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Revenues $ 139,462 $ 197,772 $ 692,096 $ 423,189
Cost of Revenue 112,731 150,845 524,747 333,024
Gross profit 26,731 46,927 167,349 90,165
Operating Expenses
General and administrative 11,873 10,239 34,772 27,939
Contingent consideration 13,591 1,968 16,008 178
Depreciation and amortization 6,374 6,371 19,117 19,133
Total Operating Expenses 31,838 18,578 69,897 47,250
Income (Loss) from Operations (5,107) 28,349
97,452 42,915
Other Expense Other income (expense), net (29) (8) (2,163) 106 Interest expense (673) (4,492) (8,313) (13,879) Total Other Expense (702) (4,500) (10,476) (13,773) Income (Loss) Before Income Tax Expense (5,809) 23,849 86,976 29,142 Income Tax Expense 1,423 5,658 18,131 16,177 Net Income (Loss)$ (7,232) $ 18,191 $ 68,845 $ 12,965 Other Non-GAAP Financial Information: Adjusted EBITDA$ 16,638 $ 39,284 $ 140,490 $ 71,843 Adjusted Net Income$ 8,771 $ 26,137 $ 93,365 $ 43,152 Non-GAAP Financial Measures
Adjusted EBITDA and Adjusted Net Income (Non-GAAP)
We present Adjusted EBITDA and Adjusted Net Income as supplemental measures of
our performance. We define Adjusted EBITDA as net income (loss) plus (i)
interest expense, (ii) other (income) expense, (iii) income tax expense
(benefit), (iv) depreciation expense, (v) amortization of intangibles, (vi)
equity based compensation, (vii) remeasurement of the fair value of contingent
consideration, (viii) ERP implementation costs, (ix) certain legal expense, and
(x) other costs. We define Adjusted Net Income as net income (loss) plus (i)
amortization of intangibles, (ii) equity based compensation, (iii) remeasurement
of the fair value of contingent consideration, (iv) ERP implementation costs,
(v) certain legal expense, (vi) other costs, and (vii) income tax expense
(benefit) of adjustments.
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Adjusted EBITDA and Adjusted Net Income are intended as supplemental measures of
performance that are neither required by, nor presented in accordance with,
GAAP. We present Adjusted EBITDA and Adjusted Net Income because we believe they
assist investors and analysts in comparing our performance across reporting
periods on a consistent basis by excluding items that we do not believe are
indicative of our core operating performance. In addition, we use Adjusted
EBITDA and Adjusted Net Income: (i) as factors in evaluating management's
performance when determining incentive compensation; (ii) to evaluate the
effectiveness of our business strategies; and (iii) because our credit agreement
uses measures similar to Adjusted EBITDA and Adjusted Net Income to measure our
compliance with certain covenants.
Among other limitations, Adjusted EBITDA and Adjusted Net Income do not reflect
our cash expenditures, or future requirements, for capital expenditures or
contractual commitments; do not reflect the impact of certain cash charges
resulting from matters we consider not to be indicative of our ongoing
operations; do not reflect income tax expense or benefit; and other companies in
our industry may calculate Adjusted EBITDA and Adjusted Net Income differently
than we do, which limits their usefulness as comparative measures.
Because of these limitations, Adjusted EBITDA and Adjusted Net Income should not
be considered in isolation or as substitutes for performance measures calculated
in accordance with GAAP. We compensate for these limitations by relying
primarily on our GAAP results and using Adjusted EBITDA and Adjusted Net Income
on a supplemental basis. You should review the reconciliation of net income
(loss) to Adjusted EBITDA and Adjusted Net Income below and not rely on any
single financial measure to evaluate our business.
The following table reconciles net income (loss) to Adjusted EBITDA (in
thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Net income (loss) $ (7,232) $ 18,191 $ 68,845 $ 12,965
Interest expense 673 4,492 8,313 13,879
Other (income) expense, net 29 8 2,163 (106)
Income tax expense 1,423 5,658 18,131 16,177
Depreciation expense 551 518 1,650 1,550
Amortization of intangibles 6,312 6,312 18,937 18,937
Equity based compensation 852 - 3,264 -
Contingent consideration 13,591 1,968 16,008 178
ERP implementation costs(a) 375 888 1,946 2,225
Legal expense(b) 64 1,103 899 3,240
Other costs(c) - 146 334 2,798
Adjusted EBITDA $ 16,638 $ 39,284 $ 140,490 $ 71,843 (a) Represents consulting costs associated with our enterprise resource planning system implementation.
(b) Represents certain legal fees and other related costs associated with (i) a
patent infringement action against a competitor for which a judgement has been
entered in our favor and successful defense of a related matter and (ii) a
pending action against a competitor in connection with violation of a
non-competition agreement and misappropriation of trade secrets. We consider
these costs not representative of legal costs that we will incur from time to
time in the ordinary course of our business.
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(c) For the three months ended September 30, 2020 and 2019, other costs
represent (i) consulting fees for certain accounting, finance and IT services of
$0.1 million in 2019, that we do not expect to re-occur in the future. For the
nine month periods, other costs represent (i) consulting fees for certain
accounting, finance and IT services of $2.6 million in the nine months ended
September 30, 2019 . (ii) $0.2 million in the nine months ended September 30,
2019 for the executive consulting costs, and (iii) $0.3 million during the nine
months ended September 30, 2020 for costs incurred in preparation for an IPO.
The following table reconciles net income (loss) to Adjusted Net Income (in
thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
2020 2019 2020 2019
Net Income (loss) $ (7,232) $ 18,191 $ 68,845 $ 12,965
Amortization of Intangibles 6,312 6,312 18,937 18,937
Equity Based Compensation 852 - 3,264 -
Contingent consideration 13,591 1,968 16,008 178
ERP Implementation Costs(a) 375 888 1,946 2,225
Legal Expense(b) 64 1,103 899 3,240
Other Costs(c) - 146 2,566 2,798
Income Tax Expense (Benefit) of
Adjustments(d) (5,191) (2,471) (12,492) (6,475)
Non-recurring income tax adjustments
related to the IRS settlement and CARES
Act(e) - - (6,608) 9,284
Adjusted Net Income $ 8,771 $ 26,137 $ 93,365 $ 43,152
Adjusted Effective Tax Rate(e) 24.5 % 23.7 % 28.4 % 23.7 %
(a) Represents consulting costs associated with our enterprise resource planning system implementation.
(b) Represents certain legal fees and other related costs associated with (i) a patent infringement action against a competitor for which a judgement has been entered in our favor and successful defense of a related matter and (ii) a pending action against a competitor in connection with violation of a non-competition agreement and misappropriation of trade secrets. We consider these costs not representative of legal costs that we will incur from time to time in the ordinary course of our business. (c) For the three months endedSeptember 30, 2020 and 2019, other costs represent (i) consulting fees for certain accounting, finance and IT services of$0.1 million in 2019 that we do not expect to re-occur in the future. For the nine month periods, other costs represent (i) consulting fees for certain accounting, finance and IT services of$2.6 million in the nine months endedSeptember 30, 2019 (ii)$0.2 million in the nine months endedSeptember 30, 2019 for the executive consulting costs, (iii)$0.3 million during the nine months endedSeptember 30, 2020 for costs incurred in preparation for an IPO and, (iv)$2.2 million in the nine months endedSeptember 30, 2020 for amounts owed to the former majority shareholder in connection with tax benefits received as part of the CARES act.
(d) Represents incremental tax expense from adjustments assuming the adjusted effective tax rate.
(e) Represents the Effective Tax Rate for the periods presented, adjusted for
the following items (i) for the nine months ended
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and, (ii) for the nine months ended
Comparison of three months ended
Revenues
Revenues decreased by$58.3 million , or 29%, for the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 . Total MW delivered decreased by approximately 28% for the three months endedSeptember 30, 2020 driven by a higher proportion of our volume occurring in the first half of the year in 2020 versus 2019, primarily due to certain customers electing to take deliveries ahead of build schedules to take advantage of the ITC. Cost of Revenue and Gross Profit Cost of revenue decreased by$38.1 million , or 25%, for the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 primarily due to the decrease in the number of MW delivered. Gross profit as a percentage of revenue decreased from 23.7% for the three months endedSeptember 30, 2019 to 19.2% for the three months endedSeptember 30, 2020 . The decrease in Gross Profit as percentage of revenue reflects an increase in our logistics costs as a percent of revenue as well as lower product gross margins due to the mix of projects delivered in 2020 versus in 2019.
Operating Expenses:
General and Administrative General and administrative expenses increased by$1.6 million , or 16%, for the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 . The increase in expense was primarily due to additional consulting and professional fees incurred in the third quarter of 2020 associated with our public offering. The increase in expense also represents additional headcount driven by the growth of the company over the last twelve months and a charge for share-based compensation expense in 2020 with no comparable expense in 2019. Contingent Consideration Contingent consideration expense increased by$11.6 million , or 591%, for the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 . The increase was primarily due to an increase in the fair value of our earn-out obligation as a result of our anticipated IPO valuation and a slight decrease in the fair value of our Tax Receivable Agreement. The earn-out value is based upon the anticipated return of investment our sponsor expects to receive upon liquidation of its investment in Array. AtSeptember 30, 2020 we used the anticipated IPO valuation at the mid-point of the range, or$19.00 per share, to fair value the earn-out. Based upon the current trading price of our common stock we expect another increase in the fair value of the earn-out in the fourth quarter of 2020. The earn-out maximum is$25 million of which we have accrued$15.9 million atSeptember 30, 2020 .
Depreciation
Depreciation expense for the three months endedSeptember 30, 2020 was similar to the three months endedSeptember 30, 2019 as we did not add any significant capital assets. Amortization of Intangibles Amortization of intangibles for the three months endedSeptember 30, 2020 was similar to the three months endedSeptember 30, 2019 as we did not add any significant intangible assets. 28 -------------------------------------------------------------------------------- Interest Expense Interest expenses decreased by$3.8 million , or 85%, for the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 , primarily due to lower interest on our Term Loan Facility as it was paid in full inFebruary 2020 and our Senior Secured Loan as it was paid in full inJuly 2020 . DuringOctober 2020 we entered into our new Senior Secured Credit Facility and borrowed$575 million . We used IPO proceeds to repay$105 million resulting in a balance of$470 million outstanding. We anticipate an increase in interest expense as a result of our New Senior Secured Credit Facility. Income Tax Expense Income tax expense decreased by$4.2 million , or 75% for the three months endedSeptember 30, 2020 compared to the three months endedSeptember 30, 2019 , due to the decrease in earnings. Our effective tax rate was 24.5% for the three months endedSeptember 30, 2020 and 23.7% for the three months endedSeptember 30, 2019 .
Comparison of the nine months ended
Revenue
Revenue increased by$268.9 million , or 64%, for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 . Total MW delivered increased by approximately 63% for the nine months endedSeptember 30, 2020 driven by higher volumes domestically and partially reflects a heavier first half weighting to our volume due to certain customers electing to take deliveries ahead of build schedules to take advantage of the ITC. Cost of Revenue and Gross Profit Cost of revenue increased by$191.7 million , or 58%, for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 primarily due to the increase in the number of MW delivered. Gross profit as a percentage of revenue increased from 21.3% for the nine months endedSeptember 30, 2019 to 24.2% for the nine months endedSeptember 30, 2020 . The increase in Gross Profit as percentage of revenue reflects improved project mix coupled with continued improvements in our global supply chain efficiencies and improvements in material and logistics planning and execution.
Operating Expenses:
General and Administrative General and administrative expenses increased by$6.8 million , or 24%, for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 . The increase in expense was primarily due to a$4.1 million recovery of an account receivable that was previously reserved during the nine months endedSeptember 30, 2019 . The increase in general and administrative expense also relates to a$3.3 million expense in the nine months endedSeptember 30, 2020 for equity-based compensation with no comparable expense in 2019. Finally, in 2020 we increased our internal headcount leading to higher payroll and related costs but we were able to partially offset those increases with a reduction in third-party spend related to business process outsourcing, consulting costs, and other professional fees. Contingent Consideration Contingent consideration expense increased by$15.8 million , or 8,893%, for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 . The increase was primarily due to an increase in the fair value of our earn-out obligation as a result of our anticipated IPO valuation and a slight increase in the fair value of our Tax Receivable Agreement. The earn-out value is based upon the anticipated return of investment our sponsor expects to receive upon liquidation of its investment in Array. AtSeptember 30, 2020 we used the anticipated IPO valuation at the mid-point of the range, or$19.00 per share, 29 -------------------------------------------------------------------------------- to fair value the earn-out. Based upon the current trading price of our common stock we expect another increase in the fair value of the earn-out in the fourth quarter of 2020. The earn-out maximum is$25 million of which we have accrued$15.9 million atSeptember 30, 2020 .
Depreciation
Depreciation expense for the nine months ended
Amortization of Intangibles Amortization of intangibles for the nine months endedSeptember 30, 2020 was similar to the nine months endedSeptember 30, 2019 as we did not add any significant intangible assets. Interest Expense Interest expenses decreased by$5.6 million , or 40%, for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 , primarily due to lower interest on our Term Loan Facility as it was paid in full inFebruary 2020 and our Senior Secured Loan as it was paid in full inJuly 2020 . DuringOctober 2020 we entered into our new Senior Secured Credit Facility and borrowed$575 million . We used IPO proceeds to repay$105 million resulting in a balance of$470 million outstanding. We anticipate an increase in interest expense as a result of our New Senior Secured Credit Facility. Income Tax Expense Income tax expense increased by$2.0 million , or 12% for the nine months endedSeptember 30, 2020 compared to the nine months endedSeptember 30, 2019 , due to the increase in earnings. Our effective tax rate was 20.8% for nine months endedSeptember 30, 2020 and 55.5% for the nine months endedSeptember 30, 2019 . The 55.5% effective tax rate for the nine months endedSeptember 30, 2019 was related to a$9.3 million permanent difference from the settlement of anIRS examination which reduced the value of the developed technology from$210.0 million to$188.0 million for federal income tax purposes. The reduction in value increased our deferred tax liability related to the developed technology by$4.6 million . The settlement with theIRS also resulted in payments related to the Tax Receivable Agreement being non-deductible for tax purposes, resulting in the write-off of the deferred tax asset related to the Tax Receivable Agreement totaling$4.7 million . The 20.8% effective tax rate for the nine months endedSeptember 30, 2020 was related to a$6.6 million income tax benefit received from the NOL carryback provision provided by the CARES Act.
Liquidity and Capital Resources
Historical Cash Flow
The following table compares the historical cash flow (in thousands):
Nine Months Ended
2020 2019
Net Cash Used in Operating Activities$ (226,500) $ (11,520) Net Cash Used in Investing Activities (610)
(784)
Net Cash Used in Financing Activities (107,003)
(25,674)
Net Decrease in Cash and Restricted Cash$ (334,113)
We have historically financed our operations primarily with the net proceeds
from Parent contributions, operating cash flows and short and long-term
borrowings. Our ability to generate positive cash flow from operations is
dependent on the strength our gross margins as well as our ability to quickly
turn our working capital. Based on our past performance and current
expectations, we believe that operating cash flows will be
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As of
As of
Operating Activities For the nine months endedSeptember 30, 2020 , cash used by operating activities was$226.5 million primarily due to payments to our suppliers for products that were paid for by customers in 2019, but that we did not ship until 2020. In order for our customers to take advantage of the ITC credit, we received payment on these projects in the fourth quarter of 2019. For the nine months endedSeptember 30, 2019 cash used in operating activities was$11.5 million , due to an increase in accounts receivable of$63.2 million , an increase in inventory of$40.1 million , and a decrease in accrued expenses and other of$13.2 million . These were partially offset by net income in the period of$13.0 million and non-cash addbacks to net income of$38.9 million . Additionally, accounts payable increased$33.1 million , income tax receivables decreased$8.4 million , and prepaid expenses and other decreased$9.8 million . Investing Activities For the nine months endedSeptember 30, 2020 and 2019, net cash used in investing activities was$0.6 million and$0.8 million , respectively, primarily attributable to the purchase of property and equipment. Financing Activities For the nine months endedSeptember 30, 2020 , net cash used by financing activities was$107.0 million , of which$57.7 million and$45.6 million was attributable to the payment of the Term Loan Facility and Related Party Loans, respectively.
For the nine months ended
Debt Obligations
Term Loan Facility OnJune 23, 2016 , we entered into a term loan agreement withJefferies Finance LLC , providing for a term loan in an aggregate amount of$200 million (the "Term Loan Facility"). As ofDecember 31, 2019 , the Term Loan Facility had a balance of$57.7 million . The balance of the Term Loan Facility is presented in the accompanying consolidated balance sheet net of debt discount and issuance costs of$1.8 million atDecember 31, 2019 . The Term Loan Facility contains a provision under which a percentage of excess cash flow must be used to pay down the loan. As ofDecember 31, 2019 , the excess cash flow provision resulted in the Term Loan Facility being classified as current on the accompanying consolidated balance sheet. OnFebruary 7, 2020 , the Company repaid the Term Loan Facility in full and settled all obligations with respect to the Term Loan Facility. 31 -------------------------------------------------------------------------------- SeniorABL Facility The Company had a SeniorABL Facility which, as amended onMarch 23, 2020 , had maximum availability of$100.0 million and matures onMarch 23, 2025 . The amount available to be borrowed under the SeniorABL Facility was determined by a borrowing base consisting of our eligible inventory, eligible accounts receivable and cash. As ofSeptember 30, 2020 , the SeniorABL Facility had an outstanding balance of$0.1 million . The SeniorABL Facility had$30.7 million in letters of credit outstanding and availability of$68.9 million atSeptember 30, 2020 . OnOctober 14, 2020 , we repaid the entire outstanding balance of the SeniorABL Facility . The interest rates applicable to the loans under the SeniorABL Facility are based on a fluctuating rate of interest determined by reference to a base rate plus an applicable margin ranging from 0.50% to 1.00% or a prime rate or Eurocurrency rate plus an applicable margin ranging from 1.50% to 2.00%. The applicable margin is adjusted after the completion of each full fiscal quarter based upon the pricing grid in the SeniorABL Facility . The SeniorABL Facility contains a number of customary affirmative and negative covenants, including covenants that restrict our ability to borrow money, grant liens, pay dividends or dispose of assets, and events of default. Specifically, we are required to maintain a fixed charge coverage ratio, measured as of the last day of each full fiscal quarter, of at least 1.10 to 1.00. Letter of Credit Facility OnDecember 16, 2019 , we entered into a letter of credit facility (the "LC Facility") to provide customers with additional credit support in the form of a standby letter of credit to secure our performance obligations under contracts for which certain customers elected to prepay for the design and manufacture of tracker systems. The LC Facility has a commitment of$100.0 million in standby letters of credit which expiredAugust 31, 2020 . Senior Secured Promissory Note OnAugust 22, 2018 ,High Desert Finance LLC , our wholly owned subsidiary, issued$38.6 million Senior Secured Promissory Note (the "Senior Secured Promissory Note") in favor ofRon P. Corio , our indirect stockholder, that was secured by the outstanding common stock ofATI Investment Holdings, Inc. The maturity due date of the Senior Secured Promissory Note was originallyFebruary 22, 2020 but was subsequently amended to extend the due date toSeptember 22, 2020 . The Company paid the remaining outstanding balance and accrued interest onJuly 31, 2020 to settle the obligation with respect to the Senior Secured Promissory Note. New Senior Secured Credit Facility OnOctober 14, 2020 , we entered into a new credit senior credit facility consisting of (i) a$575 million senior secured seven-year term loan facility (the "New Term Loan Facility") and (ii) a$150 million senior secured five-year revolving credit facility (the "New Revolving Credit Facility" and, together with the New Term Loan Facility, the "New Senior Secured Credit Facility"). Interest Rate The interest rates applicable to the loans under the New Term Loan Facility equal, at our option, either, (i) in the case of ABR borrowings, the highest of (a) the Federal Funds Rate as of such day plus 50 basis points, (b) the prime rate and (c) the adjusted LIBOR rate as of such day for a deposit inU.S. dollars with a maturity of one month plus 100 basis points, provided that in no event shall the ABR be less than 150 basis points, plus, in each case, the applicable margin of 300 basis points per annum; or (ii) in the case of Eurocurrency borrowings, the greater of (a) theLondon interbank offered rate for the relevant currency, adjusted for statutory reserve requirements, and (b) 100 basis points, plus, in each case, the applicable margin of 400 basis points per annum. 32 -------------------------------------------------------------------------------- The interest rates applicable to the loans under the New Revolving Facility equal, at our option, either, (i) in the case of ABR borrowings, the highest of (a) the Federal Funds Rate as of such day plus 50 basis points, (b) the prime rate and (c) the adjusted LIBOR rate as of such day for a deposit inU.S. dollars with a maturity of one month plus 100 basis points, provided that in no event shall the ABR be less than 150 basis points, plus, in each case, the applicable margin of 225 basis points per annum; or (ii) in the case of Eurocurrency borrowings, the greater of (a) theLondon interbank offered rate for the relevant currency, adjusted for statutory reserve requirements, and (b) 50 basis points, plus, in each case, the applicable margin of 325 basis points per annum. Guarantees and Security The obligations under the New Senior Secured Credit Facility are guaranteed byATI Investment Sub, Inc. and its wholly owned domestic subsidiaries other than certain immaterial subsidiaries and other excluded subsidiaries. The obligations under the New Senior Secured Credit Facility are secured by a first priority security interest in substantially all ofArray Tech, Inc.'s and the guarantors' existing and future property and assets, including accounts receivable, inventory, equipment, general intangibles, intellectual property, investment property, other personal property, material owned real property, cash and proceeds of the foregoing, subject to customary exceptions. Prepayments and Amortization Loans under the New Revolving Credit Facility may be voluntarily prepaid in whole, or in part, in each case without premium or penalty. Loans under the New Term Loan Facility may be voluntarily prepaid in whole, or in part, in each case without premium or penalty (other than a 1% premium with respect to prepayments on account of certain "repricing events," subject to exceptions, occurring within 12 months of the closing date of the New Senior Secured Credit Facility), subject to certain customary conditions.
Subject to certain customary exceptions, the New Senior Secured Credit Facility requires mandatory prepayments, but not permanent reductions of commitments thereunder, for excess cash flow, asset sales, subject to a right of reinvestment, and refinancing facilities.
The New Term Loan Facility amortizes in equal quarterly installments in aggregate annual amounts equal to 1.00% per annum of the original principal amount of the loans funded thereunder. There is no scheduled amortization under the New Revolving Credit Facility.
Restrictive Covenants and Other Matters The New Senior Secured Credit Facility contains affirmative and negative covenants that are customary for financings of this type, including covenants that restrict our incurrence of indebtedness, incurrence of liens, dispositions, investments, acquisitions, restricted payments, transactions with affiliates, as well as other negative covenants customary for financings of this type. The New Revolving Credit Facility also includes a springing financial maintenance covenant that is tested on the last day of each fiscal quarter if the outstanding loans and certain other credit extensions under the New Revolving Credit Facility exceed 35% of the aggregate amount of commitments thereunder, subject to customary exclusions and conditions. If the financial maintenance covenant is triggered, the first lien net leverage ratio will be tested for compliance not to exceed 7.10 to 1.00.
The New Senior Secured Credit Facility also includes customary events of default, including the occurrence of a change of control.
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Special Distribution to Parent
On October 14, 2020 , the Company issued the Special Distribution of $589 million
to Parent. Proceeds for the New Senior Secured Credit facility and cash on hand
were used to fund the Special Distribution.
IPO
OnOctober 19, 2020 , we closed our IPO and sold 7,000,000 shares of common stock at a public offering price of$22.00 per share. We received net proceeds of$140.2 million after deducting underwriting discounts and commissions of$8.5 million and other offering costs of$5.3 million . We used$105 million of the IPO proceeds to pay down the balance of the New Term Loan Facility to$470 million .
Off-Balance Sheet Arrangements
As of
Critical Accounting Policies and Significant Management Estimates
We prepare our consolidated financial statements in accordance with GAAP. The
preparation of consolidated financial statements also requires us to make
estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues, costs and expenses and related disclosures. We base our
estimates on historical experience and on various other assumptions that we
believe to be reasonable under the circumstances. Actual results could differ
significantly from the estimates made by our management. To the extent that
there are differences between our estimates and actual results, our future
financial statement presentation, financial condition, results of operations and
cash flows will be affected. We believe that the accounting policies discussed
below are critical to understanding our historical and future performance, as
these policies relate to the more significant areas involving management's
judgments and estimates. Critical accounting policies and estimates are those
that we consider the most important to the portrayal of our financial condition
and results of operations because they require our most difficult, subjective or
complex judgments, often as a result of the need to make estimates about the
effects of matters that are inherently uncertain.
Revenue Recognition
The Company recognized revenues from the sale of solar tracking systems and
parts and determines its revenue recognition through the following steps: (i)
identification of the contract or contracts with a customer; (ii) identification
of the performance obligations within the contract; (iii) determination of the
transaction price; (iv) allocation of the transaction price to the performance
obligations within the contract; and (v) recognition of revenue when, or as the
performance obligation has been satisfied.
Performance Obligations
The Company's contracts with customers are predominately accounted for as one
performance obligation, as the majority of tasks and services is part of a
single project or capability. As these contracts are typically a customized
assembly for a customer-specific solution, the Company uses the expected
cost-plus margin approach to estimate the standalone selling price of each
performance obligation. For contracts with multiple performance obligations, the
Company allocates the contract's transaction price to each performance
obligation using its best estimate of the standalone selling price of each
distinct good or service in the contract. In assessing the recognition of
revenue, the Company also evaluates whether two or more contracts should be
combined and accounted for as one contract and if the combined or single
contract should be accounted for as multiple performance obligations which could
change the amount of revenue and profit (loss) recorded in a period. Change
orders may include changes in specifications or design, manner of performance,
equipment, materials, scope of work, and/or the period of completion of the
project. The Company analyzes its changed orders to determine if they should be
accounted for as a modification to an existing contract or a new stand-alone
contract. The Company's change orders are generally modifications to existing
contracts and are
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included in the total estimated contract revenue when it is probable that the
change order will result in additional value that can be reliably estimated and
realized. The majority of the Company's contracts do not contain variable
consideration provisions as a continuation of the original contract.
The Company's performance obligations are satisfied predominately over-time as
work progresses for its custom assembled solar systems, utilizing an output
measure of completed products and based on the timing of the product's shipments
considering the shipping terms described in the contract.
Revenue recognized for the Company's part sales are recorded at a point in time
and recognized when obligations under the terms of the contract with our
customer are satisfied. Generally, this occurs with the transfer of control of
the asset, which is in line with shipping terms.
Contract Estimates
Accounting for contracts utilizing the over-time method and their expected
cost-plus margins is based on various assumptions to project the outcome of
future events that can exceed a year. These assumptions include labor
productivity and availability; the complexity of the work to be performed; the
cost and availability of materials; and the availability and timing of funding
from the customer. The Company reviews and updates its contract-related
estimates each reporting period. The Company recognizes adjustments in estimated
expected cost-plus on contracts under the cumulative catch-up method. Under this
method, the impact of the adjustment on profit recorded to date is recognized in
the period the adjustment is identified. Revenue and profit in future periods of
contract performance is recognized using the adjusted estimate. If at any time
the estimate of contract profitability indicates an anticipated loss on the
contract, the Company recognizes the total loss in the period it is identified.
Contract Balances
The timing of revenue recognition, billings and cash collections results in
billed accounts receivable, unbilled receivables (contract assets), and deferred
revenue (contract liabilities) on the consolidated balance sheet, recorded on a
contract-by-contract basis at the end of each reporting period. The majority of
the Company's contract amounts are billed as work progresses in accordance with
agreed-upon contractual terms, which generally coincide with the shipment of one
or more phases of the project. Billing sometimes occurs subsequent to revenue
recognition, resulting in contract assets. The changes in contract assets (i.e.
unbilled receivables) and the corresponding amounts recorded in revenue relate
to fluctuations in the timing and volume of billings for the Company's revenue
recognized over-time. As of September 30, 2020 and December 31, 2019 , contract
assets consisting of unbilled receivables totaling $34.8 million and
$16.1 million , respectively, were recorded within accounts receivable on the
consolidated balance sheet. The Company also receives advances or deposits from
its customers, before revenue is recognized, resulting in contract liabilities.
The changes in contract liabilities (i.e. deferred revenue) relate to advanced
orders and payments received by the Company and are the result of customers
looking to take advantage of certain U.S. federal tax incentives set to decrease
at the end of 2019. Based on the terms of the tax incentives the customer must
pay for the goods prior to December 31, 2019 which accounts for the increase in
the advanced orders and payments and the resulting deferred revenue. As of
September 30, 2020 and December 31, 2019 , contract liabilities consisting of
deferred revenue was presented separately on the consolidated balance sheets.
Product Warranty
The Company offers an assurance type warranty for its products against defects
in design, materials and workmanship for a period ranging from five to twenty
years from customer acceptance. For these assurance type warranties, a provision
for estimated future costs related to warranty expense is recorded when they are
probable and reasonably estimable, which is typically when products are
delivered. This provision is based on historical information on the nature,
frequency and average cost of claims for each product line. When little or
35
--------------------------------------------------------------------------------no experience exists for an immature product line, the estimate is based on comparable product lines. These estimates are re-evaluated on an ongoing basis using best-available information and revisions to estimates are made as necessary.
Inventory Valuation Inventories consist of raw materials and finished goods. Inventories are stated at the lower of cost or estimated net realizable value using the weighted average method. Provisions are made to reduce excess or obsolete inventories to their estimated net realizable values which require estimates by management. Contingent Consideration Tax Receivable Agreement Concurrent with Parent's acquisition ofPatent LLC ,Array Tech, Inc. (f/k/aArray Technologies, Inc. ) entered into the TRA withRon P. Corio , our indirect stockholder. The TRA is accounted for as contingent consideration and subsequent changes in fair value of the contingent liability are recognized in general and administrative in the Company's consolidated statement of operations. The TRA obligations were recorded at acquisition-date fair value at inception and is classified as a liability. The TRA will generally provide for the payment byArray Tech, Inc. (f/k/aArray Technologies, Inc. ) toRon P. Corio , our indirect stockholder, for certain federal, state, local and non-U.S. tax benefits deemed realized in post-closing taxable periods byArray Technologies, Inc. from the use of certain deductions generated by the increase in the tax value of the developed technology. Estimating the amount of payments that may be made under the TRA is by nature imprecise. The significant fair value inputs used to estimate the future expected TRA payments toRon P. Corio include the timing of tax payments, a discount rate, book income projections, timing of expected adjustments to calculate taxable income and the projected rate of use for attributes defined in the TRA. As ofSeptember 30, 2020 andDecember 31, 2019 , the estimated fair value of the TRA is$18.3 million and$17.8 million , respectively, which has been recorded as a liability. Subsequent changes in fair value of the TRA will be recognized in earnings. Earn-Out Obligations Under the Earn-Out Agreement, datedJune 23, 2016 , by and amongATI Investment Parent, LLC ,ATI Investment Sub, Inc. ,Array Technologies, Inc. , and the seller parties thereto (the "Earn-Out Agreement"), the Company is required to pay the former stockholders ofArray Technologies, Inc. , includingRon P. Corio , an indirect stockholder, future contingent consideration consisting of earn-out payments in the form of cash upon the occurrence of certain events, including the consummation of an IPO; the sale, transfer, assignment, pledge, encumbrance, distribution or disposition of shares of Parent held byOaktree Power andOaktree Investors to a third party; the sale of equity securities or assets of Parent,ATI Investment Sub, Inc. orArray Technologies, Inc. to a third-party; or a merger, consolidation, recapitalization or reorganization of Parent,ATI Investment Sub, Inc. or the Company. The maximum aggregate earn-out consideration is$25.0 million . As ofSeptember 30, 2020 andDecember 31, 2019 , the estimated fair value of the earn-out obligations is$15.9 million and$0.4 million , respectively, which has been recorded as a liability. Subsequent changes in fair value of the earn-out liability will be recognized in earnings. Equity-Based Compensation Expense The Company accounts for equity grants to employees (Class B units of Parent) as stock-based compensation under ASC 718, Compensation-Stock Compensation. The Class B units contain vesting provisions as defined in the agreement. Vested units do not forfeit upon termination and represent a residual interest in Parent. Equity based compensation cost is measured at the grant date fair value and is recognized on a straight-line basis over the requisite service period, including those units with graded vesting with a corresponding credit to additional paid-in capital as a capital contribution from Parent. However, the amount of equity-based compensation at any date is equal to the portion of the grant date value of the award that is vested. 36 -------------------------------------------------------------------------------- The Class B units issued to employees are measured at fair value on the grant date using an option pricing model. The Company utilizes the estimated weighted average of the Company's expected fund life dependent on various exit scenarios to estimate the expected term of the awards. Expected volatility is based on the average of historical and implied volatility of a set of comparable companies, adjusted for size and leverage. The risk-free rates are based on the yields ofU.S. Treasury instruments with comparable terms. Actual results may vary depending on the assumptions applied within the model. OnNovember 19, 2019 andMay 19, 2020 , Parent issued 22,326,653 and 4,344,941, respectively, Class B units to certain employees of the Company. OnMarch 28, 2020 , Parent issued 1,000 Class C units to a member of the board of directors ofArray Technologies, Inc. For the three and nine months endedSeptember 30, 2020 , the Company recognized$0.9 million and$3.3 million , respectively, in equity-based compensation. AtSeptember 30, 2020 , the Company had$7.5 million of unrecognized compensation costs related to Class B units which is expected to be recognized over a period of 3.25 years. There were no forfeitures during 2019 or 2020. Following the Corporate Conversion, the ClassB Units in Parent remained outstanding and were not converted into shares of common stock of the Company. Recent Accounting Pronouncements Refer to Note 2 - Summary of Significant Accounting Policies,'' in the accompanying notes to our condensed consolidated financial statements included in this Quarterly Report on Form 10-Q for a discussion of recent accounting pronouncements, as well as our audited financial statements and notes thereto as of and for the years endedDecember 31, 2018 and 2019 included in our Prospectus. JOBS Act Accounting Election We qualify as an "emerging growth company" as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. An emerging growth company may take advantage of relief from certain reporting requirements and other burdens that are otherwise applicable generally to public companies. These provisions include: •a requirement to present only two years of audited financial statements and only two years of selected financial data; •an exemption from compliance with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act; •reduced disclosure about our executive compensation arrangements in our periodic reports, proxy statements, and registration statements; and •exemptions from the requirements of holding non-binding advisory votes on executive compensation or golden parachute arrangements. In addition, under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have elected to avail ourselves of this exemption from new or revised accounting standards, and, therefore, we will not be subject to the same new or revised accounting standards at the same time as other public companies that are not emerging growth companies or those that have opted out of using such extended transition period, which may make comparison of our financial statements with such other public companies more difficult. We may take advantage of these reporting exemptions until we no longer qualify as an emerging growth company, or, with respect to adoption of certain new or revised accounting standards, until we irrevocably elect to opt out of using the extended transition period. We will remain an emerging growth company until the earliest of (i) the last day of the fiscal year in which we have total annual gross revenues of$1.07 billion or more; (ii) the last day of our fiscal year following the fifth 37
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anniversary of the date of our IPO; (iii) the date on which we have issued more than$1 billion in nonconvertible debt during the previous three years; and (iv) the date on which we are deemed to be a large accelerated filer under the rules of theSEC . We may choose to take advantage of some but not all of these reduced reporting burdens.
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