Primoris Services Corporation
Primoris Services CORP (Form: 10-Q, Received: 11/14/2008 06:26:21)

Table of Contents

 

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

 

 

 

For the quarterly period ended September 30, 2008

 

 

OR

 

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

 

 

 

For the transition period from               to               .

 

Commission file number 0001-34145

 

Primoris Services Corporation

(Exact name of registrant as specified in its charter)

 

Delaware

 

20-4743916

(State or Other Jurisdiction of

 

(I.R.S. Employer

Incorporation or Organization)

 

Identification No.)

 

 

 

26000 Commercentre Drive, Lake Forest, California

 

92630

(Address of Principal Executive Offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code: (949) 598-9242

 

Former Name, Former Address and Former Fiscal Year, if changed since last report.

Former Name:  Rhapsody Acquisition Corp.

Former Address: 825 Third Avenue, 40 th Floor New York, NY 10022

Former Fiscal Year: March 31

 

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 o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer o

 

Accelerated filer o

 

Non-accelerated filer x

 

Smaller reporting company o

 

 

(Do not check if a smaller reporting company)

 

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

 

As of October 31, 2008, 29,977,339 shares of the registrant’s common stock were outstanding.

 

 

 



Table of Contents

 

PRIMORIS SERVICES CORPORATION AND SUBSIDIARIES

INDEX

 

 

Page  No

Part I. Financial Information

 

 

Item 1 Condensed Consolidated Financial Statements (unaudited):

 

Condensed Consolidated Balance Sheets as of September 30, 2008 and December 31, 2007

3

Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2008 and September 30, 2007

4

Condensed Consolidated Statements of Cash Flows for the three and nine months ended September 30, 2008 and September 30, 2007

5

Notes to Condensed Consolidated Financial Statements

7

Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations

25

Item 3 Quantitative and Qualitative Disclosures About Market Risk

45

Item 4 Controls and Procedures

46

 

 

Part II. Other Information

 

 

Item 1 Legal Proceedings

46

Item 1A Risk Factors

47

Item 2 Unregistered Sales of Equity Securities and Use of Proceeds

47

Item 3 Defaults Upon Senior Securities

47

Item 4 Submission of Matters to a Vote of Security Holders

48

Item 5 Other Information

48

Item 6 Exhibits

49

Signatures

51

 

2



Table of Contents

 

PRIMORIS SERVICES CORPORATION

 

PART 1. FINANCIAL INFORMATION

 

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

CONDENSED CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

 

 

 

September 30,

 

December 31,

 

 

 

2008

 

2007

 

 

 

(Unaudited)

 

 

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

76,695

 

$

62,966

 

Restricted cash

 

13,022

 

9,984

 

Accounts receivable, net

 

83,485

 

113,307

 

Costs and estimated earnings in excess of billings

 

22,837

 

11,085

 

Deferred income taxes

 

4,528

 

 

Inventory, prepaid expenses and other current assets

 

3,585

 

4,251

 

Total current assets

 

204,152

 

201,593

 

 

 

 

 

 

 

Property and equipment, net

 

27,300

 

16,143

 

Other assets

 

364

 

922

 

Investment in non-consolidated joint ventures

 

531

 

 

Goodwill and other intangible assets

 

2,932

 

2,315

 

Total assets

 

$

235,279

 

$

220,973

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

50,384

 

$

66,792

 

Billings in excess of costs and estimated earnings

 

72,743

 

54,143

 

Accrued expenses and other current liabilities

 

25,202

 

18,215

 

Distributions payable

 

7,025

 

6,115

 

Current portion of capital leases

 

1,915

 

892

 

Current portion of long-term debt

 

4,756

 

3,966

 

Total current liabilities

 

162,025

 

150,123

 

 

 

 

 

 

 

Long-term debt, net of current portion

 

22,024

 

21,433

 

Long-term capital leases, net of current portion

 

1,092

 

1,208

 

Deferred tax liabilities

 

1,759

 

 

Other long-term liabilities

 

 

1,286

 

Total liabilities

 

186,900

 

174,050

 

 

 

 

 

 

 

Stockholders’ equity

 

 

 

 

 

Preferred stock - $.0001 par value, 1,000,000 shares authorized, 0 outstanding

 

 

 

Common stock - $.0001 par value;
authorized: 60,000,000 shares; 29,977,339 and 23,587,200 issued and outstanding at September 30, 2008 and December 31, 2007

 

3

 

2

 

Additional paid-in capital

 

36,121

 

1,305

 

Retained earnings

 

12,152

 

45,513

 

Accumulated other comprehensive income

 

103

 

103

 

Total stockholders’ equity

 

48,379

 

46,923

 

Total liabilities and stockholders’ equity

 

$

235,279

 

$

220,973

 

 

See Accompanying Notes to Condensed Consolidated Financial Statements

 

3



Table of Contents

 

PRIMORIS SERVICES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

 

 

 

Three months
ended September 30,

 

Nine months
ended September 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

(Unaudited)

 

(Unaudited)

 

Revenues

 

$

146,737

 

$

158,054

 

$

458,572

 

$

382,102

 

Cost of revenues

 

125,634

 

137,489

 

406,622

 

339,406

 

Gross profit

 

21,103

 

20,565

 

51,950

 

42,696

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative expenses

 

7,039

 

8,531

 

21,662

 

21,930

 

Merger related stock expense

 

3,675

 

 

3,675

 

 

Operating income

 

10,389

 

12,034

 

26,613

 

20,766

 

 

 

 

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

 

 

 

 

Income from non-consolidated entities

 

1,474

 

313

 

4,501

 

1,083

 

Foreign exchange gain (loss)

 

89

 

(399

)

67

 

(439

)

Interest income (expense) net

 

(132

)

(115

)

(356

)

(216

)

Income before provision for income taxes

 

11,820

 

11,833

 

30,825

 

21,194

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

(1,734

)

(339

)

(2,188

)

(713

)

Net income

 

$

10,086

 

$

11,494

 

$

28,637

 

$

20,481

 

 

 

 

 

 

 

 

 

 

 

Dividends per common share

 

$

0.025

 

$

 

$

0.025

 

$

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share

 

$

0.36

 

$

0.49

 

$

1.15

 

$

0.87

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per share

 

$

0.32

 

$

0.49

 

$

1.10

 

$

0.87

 

Weighted average common shares outstanding

 

 

 

 

 

 

 

 

 

Basic

 

27,824

 

23,587

 

25,010

 

23,415

 

Diluted

 

31,063

 

23,587

 

26,093

 

23,415

 

Pro forma net income data:

 

 

 

 

 

 

 

 

 

Income before provision for income tax, as reported

 

$

11,820

 

$

11,833

 

30,825

 

$

21,194

 

Adjustments for provision for income tax

 

(4,706

)

(4,711

)

(12,271

)

(8,437

)

Pro forma adjusted net income

 

$

7,114

 

$

7,122

 

$

18,554

 

$

12,757

 

Pro forma earnings per share

 

 

 

 

 

 

 

 

 

Basic

 

$

0.26

 

$

0.30

 

$

0.74

 

$

0.54

 

Diluted

 

$

0.23

 

$

0.30

 

$

0.71

 

$

0.54

 

 

See Accompanying Notes to Condensed Consolidated Financial Statements

 

4



Table of Contents

 

PRIMORIS SERVICES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

 

 

 

Three months ended
September 30,

 

Nine months ended
September 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

(Unaudited)

 

(Unaudited)

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

 

Net income

 

$

10,086

 

$

11,494

 

$

28,637

 

$

20,481

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

 

Depreciation and amortization

 

1,796

 

1,177

 

4,763

 

3,529

 

Amortization of other intangible assets

 

9

 

33

 

27

 

98

 

Merger related stock expense

 

3,675

 

 

3,675

 

 

Gain on sale of property and equipment

 

(344

)

(21

)

(724

)

(173

)

Income from non-consolidated joint ventures

 

(1,474

)

(313

)

(4,502

)

(1,083

)

Changes in assets and liabilities:

 

 

 

 

 

 

 

 

 

Restricted cash

 

(3,819

)

1,821

 

(3,038

)

(1,279

)

Accounts receivable

 

(210

)

(11,216

)

29,822

 

(3,198

)

Costs and estimated earnings in excess of billings

 

(3,923

)

3,112

 

(11,752

)

(149

)

Inventory, prepaid expenses and other current assets

 

597

 

(597

)

667

 

(718

)

Other assets

 

(320

)

(405

)

564

 

(940

)

Accounts payable

 

(2,880

)

9,163

 

(16,408

)

9,301

 

Billings in excess of costs and estimated earnings

 

6,520

 

7,495

 

18,600

 

12,068

 

Accrued expenses and other current liabilities

 

6,713

 

2,388

 

6,986

 

840

 

Deferred income taxes

 

(2,769

)

 

(2,769

)

 

Other long-term liabilities

 

(1,315

)

187

 

(1,286

)

331

 

Net cash provided by operating activities

 

12,342

 

24,318

 

53,262

 

39,108

 

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

 

Purchase of property and equipment

 

(5,576

)

(365

)

(9,241

)

(871

)

Proceeds from sale of property and equipment

 

437

 

46

 

1,120

 

253

 

Non-consolidated entity distributions

 

2,754

 

 

3,320

 

 

Net cash used in investing activities

 

(2,385

)

(319

)

(4,801

)

(618

)

 

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

 

Repayment of long-term debt

 

(1,607

)

(939

)

(4,787

)

(2,438

)

Repurchase of common stock

 

(3,331

)

(1,064

)

(3,331

)

(1,064

)

Proceeds from issuance of common stock

 

34,472

 

1,567

 

34,472

 

1,567

 

Cash distributions to stockholders

 

(43,068

)

(7,143

)

(61,086

)

(14,032

)

Net cash used in financing activities

 

(13,534

)

(7,579

)

(34,732

)

(15,967

)

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

(3,577

)

16,420

 

13,729

 

22,523

 

Cash and cash equivalents at beginning of period

 

80,272

 

19,218

 

62,966

 

13,115

 

Cash and cash equivalents at end of the period

 

$

76,695

 

$

35,638

 

$

76,695

 

$

35,638

 

 

See Accompanying Notes to Condensed Consolidated Financial Statements

 

5



Table of Contents

 

PRIMORIS SERVICES CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(IN THOUSANDS)

 

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION

 

 

 

Three months ended
September 30,

 

Nine months ended
September 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

(Unaudited)

 

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

Non-Cash Activities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Obligations incurred for the acquisition of property and equipment

 

$

 

$

 

$

7,075

 

$

4,470

 

 

See Accompanying Notes to Condensed Consolidated Financial Statements

 

6



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(In thousands, except share amounts)

(Unaudited)

 

Note 1—Nature of Business

 

Organization and operations

 

Primoris Services Corporation and its wholly-owned subsidiaries ARB, Inc., ARB Structures, Inc., Onquest, Inc., Born Heaters Canada, ULC, Cardinal Contractors, Inc., Cardinal Mechanical, L.P., Pipeline Trenching LLC, Stellaris, LLC and ARB Ecuador, Ltda., collectively “Primoris” or “the Company” is engaged in various construction and engineering activities.  The Company’s underground and directional drilling operations install, replace and repair natural gas, petroleum, telecommunications and water pipeline systems.  The Company’s industrial, civil and engineering operations construct and provide maintenance services to industrial facilities including power plants, petrochemical facilities, and other processing plants, and construct multi-level parking structures.  The Company is incorporated in the State of Delaware and has its corporate headquarters in Lake Forest, California.

 

On February 19, 2008, Primoris Corporation (the “Former Primoris”), a privately held company, entered into an Agreement and Plan of Merger (“Merger Agreement”) with Rhapsody Acquisition Corp. (“Rhapsody”), a publicly held company trading on the OTC Bulletin Board under the symbols “RPSD”, “RPSDW” and “RPSDU” for its common stock, warrants to purchase common stock (“Warrants”) and Units (each unit consisting of one share of common stock and one Warrant), respectively.  On July 31, 2008, with the approval of the stockholders of each of Former Primoris and Rhapsody, the merger was completed.  While Rhapsody was the surviving legal entity, Former Primoris was deemed the acquiring entity for accounting purposes (See Note 4, “ Completed Merger ”).  As part of the merger, Rhapsody changed its name to “Primoris Services Corporation.”  The Company’s common stock, Warrants and units now trade on the Nasdaq Global Market under the symbols “PRIM”, “PRIMW” and “PRIMU”, respectively.  The audited financial statements of Rhapsody for the period ended March 31, 2007 and the year ended March 31, 2008, and the audited financial statements for Former Primoris for each of the three years ended December 31, 2005, 2006 and 2007 are included in Rhapsody’s Form S-4/A filed with the Securities and Exchange Commission (the “SEC”) on July 9, 2008. The unaudited financial statements for Former Primoris for the three and six months ended June 30, 2008, are included in Rhapsody’s Current Report on Form 8-K/A filed with the SEC on August 11, 2008.

 

Unless specifically noted otherwise, as used throughout these Condensed Consolidated Financial Statements, “Primoris”, or the “Company” or “we,” “our,” “us” or “its” refers to the business, operations and financial results of Former Primoris prior to; and Primoris Services Corporation and its wholly-owned subsidiaries subsequent to; the closing of the merger between Rhapsody and Former Primoris; as the context requires.  “Rhapsody” refers to the operations or financial results of Rhapsody Acquisition Corp. prior to the closing of the merger transaction.

 

7



Table of Contents

 

PRIMORIS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Seasonality - Primoris’ results of operations can be subject to seasonal variations.  Weather, particularly rain, can impact Primoris’ ability to work off backlog. In addition, demand for new projects is generally lower during the early part of the year due to reduced construction activity based on weather concerns. Since the majority of the Company’s work is in California, these seasonal impacts are not as dramatic for the Company as may be experienced by companies in some other states or countries.  However, a s a result, there is a possibility that the Company may experience higher revenues and earnings in the third and fourth quarters of the year as compared to the first two quarters.  Additionally, because of the cyclical nature of its business, the financial results for any period may fluctuate depending on whether and when the Company is awarded projects. The Company’s clients’ budget cycles can have an impact on the timing of these awards. Accordingly, the Company’s financial condition and operating results may vary from quarter-to-quarter and may not be indicative of its financial condition or operating results for any other quarter or for an entire year .

 

Note 2 - Basis of Presentation and Significant Accounting Policies

 

The accompanying unaudited interim Condensed Consolidated Financial Statements were prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and the interim financial statement rules and regulations of the SEC. In the opinion of management, these statements include all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the Condensed Consolidated Financial Statements. The interim operating results are not necessarily indicative of the results for a full year or for any other interim period.

 

Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations relating to interim financial statements. The Consolidated Condensed Financial Statements should be read in conjunction with the audited consolidated financial statements and related notes included in Rhapsody’s Form S-4/A, filed with the SEC on July 9, 2008.

 

Principles of consolidation - The Condensed Consolidated Financial Statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

 

Use of Estimates - The preparation of the Company’s Condensed Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the consolidated financial statements, and the reported amounts of revenues and expenses during the reporting periods. Actual results could materially differ from those estimates. Significant estimates used in preparing these consolidated financial statements include estimated costs to complete contracts, which have a direct effect on gross profit.

 

Goodwill - During 2005, the Company acquired the net assets of Born Heaters Canada Ltd. and Born Canada Services Ltd (“the Born Acquisition”). The Born Acquisition was recorded pursuant to the purchase method of accounting in accordance with Statement of Financial Accounting Standards, (“SFAS”) No. 141 “ Business Combinations ”. The seller is entitled to earn-out payments of up to $2,481 over a five year term, the determination of which is based on the acquired company exceeding pre-established hurdle rates. Amounts paid to the seller under the earn-out agreement increase the total cost of the Born Acquisition. The excess of the Born Acquisition cost over the fair value of the net identifiable tangible assets acquired has been assigned to goodwill, and other intangible assets as appropriate.  Additional earn-out payments accrued or paid are recorded as an increase to goodwill. During the period ended September 30, 2008 an additional

 

8



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

$644 was payable under the earn-out agreement, which increased the balance of goodwill to $2,871 as of September 30, 2008 from $2,227 as of December 31, 2007.  There was $80 remaining of potential additional earn-out for the seller as of September 30, 2008.

 

Foreign operations - Through its subsidiaries, the Company maintains foreign operations in Canada and Ecuador.   In addition , the Company has an investment in ARB Arendal (see Note 8 “ Equity Method Investments ”), which has operations in Mexico.   At September 30, 2008, the Company had operations with assets aggregating approximately $9,200 and $14,100 in Ecuador and Canada, respectively.  At December 31, 2007, the Company had operations with assets aggregating $3,100 and $14,800 in Ecuador and Canada, respectively.

 

Worker’s compensation insurance - The Company self-insures worker’s compensation claims to a certain level.  The Company maintained a self-insurance reserve totaling approximately $4,800 and $4,400 at September 30, 2008 and December 31, 2007, respectively.  The amount is included in “accrued expenses and other current liabilities” on the accompanying consolidated balance sheets.  Actual payments that may be made in the future could materially differ from such reserves.

 

Functional currencies and foreign currency translation - The United States dollar is the functional currency in Canada and Ecuador, as substantially all monetary transactions are made in that currency, and other significant economic facts and circumstances currently support that position.  As these factors may change in the future, the Company periodically assesses its position with respect to the functional currency of foreign subsidiaries.  Included in other income is a foreign exchange gain of $67 for the nine months ended September 30, 2008 and losses of $439 for the nine months ended September 30, 2007.

 

Fixed-price contracts - Historically, substantial portions of the Company’s revenues have been generated under fixed-price contracts. Fixed-price contracts carry certain inherent risks, including underestimation of costs, problems with new technologies and economic and other changes that may occur over the contract period. The Company recognizes revenues using the percentage-of-completion method for fixed-price contracts, which may result in uneven and irregular results. Unforeseen events and circumstances can alter the estimate of the costs and potential profit associated with a particular contract. To the extent that original cost estimates are modified, estimated costs to complete increase, delivery schedules are delayed, or progress under a contract is otherwise impeded, cash flow, revenue recognition and profitability from a particular contract may be adversely affected.

 

Revenue recognition - A number of factors relating to the business of the Company affect the recognition of contract revenue. The Company typically structures contracts as unit-price, time and material, fixed-price or cost plus fixed fee. Revenue is recognized on the percentage-of-completion method for all of the types of contracts described in the paragraph above. Under the percentage-of-completion method, estimated contract income and resulting revenue is generally accrued based on costs incurred to date as a percentage of total estimated costs. Total estimated costs, and thus contract income, are impacted by changes in productivity, scheduling, and the unit cost of labor, subcontracts, materials and equipment. Additionally, external factors such as weather, client needs, client delays in providing permits and approvals, labor availability, governmental regulation and politics may affect the progress of a project’s completion and thus the timing of revenue recognition. If a current estimate of total contract cost indicates a loss on a contract, the projected loss is recognized in full when determined.

 

9



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

The Company considers unapproved change orders to be contract variations on which Primoris has customer approval for scope change but not for price changes associated with such scope change. Costs associated with unapproved change orders are included in the estimated cost to complete the contracts and are expensed as incurred. The Company recognizes revenue equal to costs incurred on unapproved change orders when realization of price approval is probable and the estimated amount is equal to or greater than its costs related to the unapproved change order. Revenue recognized on unapproved change orders is included in “costs and estimated earnings in excess of billings” on the consolidated balance sheets.

 

Unapproved change orders involve the use of estimates, and it is reasonably possible that revisions to the estimated costs and recoverable amounts may be required in future reporting periods to reflect changes in estimates or final agreements with customers.

 

The Company considers claims to be amounts Primoris seeks or will seek to collect from customers or others for customer-caused changes in contract specifications or design, or other customer-related causes of unanticipated additional contract costs on which there is no agreement with customers on both scope and price changes. Revenue from claims is recognized when agreement is reached with customers as to the value of the claims, which in some instances may not occur until after completion of work under the contract. Costs associated with claims are included in the estimated costs to complete the contracts and are expensed when incurred.

 

Merger related stock expense –  In connection with the Merger Agreement, Rhapsody, the Former Primoris and two foreign managers of Former Primoris entered into termination agreements related to the fulfillment of obligations under a Put/Call Agreement and a Phantom Stock Agreement (collectively the “Deferred Compensation Agreements”) discussed in Note 17, “Deferred Compensation Agreements”.  Upon consummation of the merger, (see Note 4 “ Completed Merger ”), the termination agreements cancelled the obligations of the parties under the Deferred Compensation Agreements and called for the issuance to the foreign managers of an aggregate of 507,600 shares of the Company’s common stock and for the cash payment of the amounts already accrued under the Deferred Compensation Agreements.

 

As a result of the issuance of the shares and in accordance with SFAS No 123 (revised 2004)  “Share-based Payments” the Company recognized a one-time charge of $3,675 of non-cash expenses related to the termination of the Deferred Compensation Agreements.  The same amounts were recorded as an increase to additional paid-in capital and, therefore, had no effect on the Company’s net asset value.  The issuance of the shares was a one-time, non-recurring event directly related to the consummation of the merger, therefore the entire value of the shares was taken as a charge to earnings at the time of issuance, which was the closing of the merger.

 

Derivative instruments and hedging activities - From time to time the Company utilizes foreign currency hedge agreements to manage foreign currency exchange exposures, which is accounted for in accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” and SFAS No. 138, “Accounting for Certain Derivative Instruments and Certain Hedging Activities - an Amendment of SFAS No. 133.”

 

In January 2008, the Company purchased two derivative financial instruments for the purpose of hedging future currency exchange in Canadian dollars.  The contracts enabled the Company to purchase Canadian dollars before certain dates in 2008 at certain exchange rates.  The fair values of these contracts were $3,000 and $2,000 in U.S. dollars, respectively, and the related Canadian dollars sold were $3,005CAD and $2,004CAD, respectively.  These contracts expired in March and June 2008, respectively. The related gain or loss on these contracts was not significant.  At September 30, 2008 the Company had no foreign currency hedge agreements outstanding.

 

10



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Note 3 - Recent Accounting Pronouncements –

 

In March, 2008, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 161 “Disclosures about Derivative Instruments and Hedging Activities an amendment of FASB Statement No.  133.”   This statement requires enhanced disclosures about an entity’s derivative and hedging activities in an effort to improve the transparency of financial reporting.   It also changes the disclosure requirements for derivative instruments and hedging activities.    Under the statement, entities will be required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. This statement encourages, but does not require, comparative disclosures for earlier periods at initial adoption.  The statement is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged.  The Company will adopt the provisions of SFAS No. 161 in the fourth quarter of 2008 as required.

 

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “ Business Combinations,” (“SFAS No. 141R”) and SFAS No. 160, “ Accounting and Reporting Non-controlling Interest in Consolidated Financial Statements, an amendment of ARB No. 51 .” These new standards significantly change the accounting for and reporting of business combination transactions and non-controlling interests (previously referred to as minority interests) in consolidated financial statements. Both standards are effective for the Company beginning January 1, 2009 and are applicable only to transactions occurring after the effective date.  Therefore, the adoption of these standards will not affect the accounting for the merger between Rhapsody and Former Primoris. (See Note 4 “ Completed Merger ”).  Management does not expect the adoption of SFAS No. 141R or SFAS No. 160 to have a material effect on its operations, financial position or cash flows.

 

In February 2007, the FASB issued SFAS No. 159, “ The Fair Value Option for Financial Assets and Financial Liabilities.” This statement permits entities to choose to measure many financial assets and financial liabilities at fair value. Unrealized gains and losses on items for which the fair value option has been elected are reported in earnings. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. Primoris has adopted SFAS No. 159 as of January 1, 2008, and the adoption did not have a material effect on its results of operations, financial position or cash flows.

 

In September 2006, the FASB issued SFAS No. 157, “ Fair Value Measures .” This statement defines fair value, establishes a framework for measuring fair value in GAAP, expands disclosures about fair value measurements, and applies under other accounting pronouncements that require or permit fair value measurements. SFAS No. 157 does not require any new fair value measurements.   However, the FASB anticipates that for some entities, the application of SFAS No. 157 will change current practices. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007. Primoris has adopted SFAS No. 157 as of January 1, 2008, and the adoption did not have a material effect on its results of operations, financial position or cash flows.

 

11



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Note 4 – Completed Merger

 

Rhapsody was founded as a “blank check” company on April 24, 2006, to effect a merger, capital stock exchange, asset acquisition or other similar business combination with an operating business no later than October 3, 2008.  As discussed above, on July 31, 2008 the merger was completed.   In the merger, Rhapsody was the surviving legal entity; however, the merger was accounted for as a reverse acquisition and recapitalization. Under this method of accounting, Rhapsody was treated as the “acquired” company for financial reporting purposes. This determination was primarily based on the Former Primoris comprising the ongoing operations and management of the combined company. In accordance with guidance applicable to these circumstances, the merger was considered to be a capital transaction in substance. Accordingly, for accounting purposes, the merger was treated as the equivalent of Former Primoris issuing stock for the net assets of Rhapsody, accompanied by a recapitalization.  The net assets of Rhapsody are stated at historical cost, with no goodwill or other intangible assets recorded. Operations prior to the merger are for those of Former Primoris.

 

The Former Primoris stockholders and two foreign managers of Former Primoris (collectively, the “Former Primoris Holders”), pursuant to certain termination agreements, and in exchange for all of their shares of common stock of Former Primoris that were outstanding immediately prior to the merger, received in the aggregate 24,094,800 shares of the Company’s common stock.  To secure the indemnity rights of Rhapsody under the Merger Agreement, 1,807,110 of the 24,094,800 shares of the Company’s common stock issued to the Former Primoris Holders at the time of the merger were placed into escrow and are governed by the terms of an Escrow Agreement. The Merger Agreement also provided that the Former Primoris Holders would receive up to an additional 5,000,000 shares of the Company’s common stock, contingent upon the combined company attaining certain defined performance targets in 2008 and 2009.

 

In connection with the merger, certain Rhapsody stockholders elected to convert their Rhapsody shares into cash as permitted by Rhapsody’s certificate of incorporation.  Holders of 417,461 shares of Rhapsody’s common stock who voted against the merger with Former Primoris elected to exercise their conversion rights with respect to their shares.  Each of the holders of those 417,461 shares received $7.98 per share, or an aggregate of $3,331 from the funds that had been placed in Rhapsody’s trust by Rhapsody.

 

As a result of the closing of the merger, the Former Primoris Holders owned approximately 80.4% of the outstanding shares of the Company’s common stock at the closing of the merger, and the remaining Rhapsody stockholders owned the remaining approximately 19.6% of the Company’s outstanding shares of common stock.

 

At the closing of the merger, the Chief Executive Officer of the Company and eight other executives of the Company entered into employment agreements with either the Company or one of its subsidiaries.

 

12



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Pursuant to the Merger Agreement, prior to the merger, Former Primoris distributed approximately $48,947 to its stockholders as a distribution of prior earnings of Former Primoris and for payment of their individual income tax liabilities.  As a result of the merger, approximately $39,660 of cash and investments held in trust for Rhapsody was released and became part of the assets of the Company upon consummation of the merger.  No other assets were contributed by Rhapsody to the post-merger entity.  Expenses paid by the Company in connection with the merger amounted to $5,234.

 

Note 5 - Change in Tax Status

 

Through July 31, 2008 (the date of the merger), Former Primoris had elected to be taxed in accordance with Subchapter S of the Internal Revenue Code (“S-Corporation”) and similar codes in states in which the Company was subject to taxation. While this election was in effect, the income (whether distributed or not) was taxed for federal income tax purposes to the Former Primoris stockholders.  Accordingly, no provision for federal income tax was required.  The provision for income taxes for Former Primoris in 2007 was primarily related to Canadian income taxes.

 

As of the date of the merger, the Company effectively became taxable in accordance with Subchapter C of the Internal Revenue Code (“ C-Corporation”), which changed the level of taxation from the stockholders to the Company.  With the change in tax status, the Company completed an analysis of the effect of the provisions of SFAS No. 109 and FIN 48 (See Note 12 “Income Taxes” ).

 

The unaudited pro forma net income taxes and the pro forma net income reflect federal and state income taxes assuming a combined federal and state statutory rate of 39.8%, as if the Company had been taxed as a C-Corporation for the three and nine months ended September 30, 2008 and 2007.  This rate is higher than our 2008 effective tax rate for the three months ended September 30, 2008 as discussed in Note 12 “ Income Taxes ,” because the pro forma numbers do not consider the reduction in tax rate due to the Company’s S-Corporation status through July 31, 2008.

 

As of September 30, 2008, the Company had $7,025 of undistributed Former Primoris S-Corporation earnings as provided for in the Merger Agreement based on the estimated 2008 S-Corporation tax liability of the Former Primoris stockholders.  These amounts will be distributed to the stockholders of Former Primoris and are reflected as a liability on the balance sheet as of September 30, 2008.

 

Note 6 - Accounts Receivable

 

The following is a summary of accounts receivable:

 

 

 

September 30,
2008
(Unaudited)

 

December 31,
2007

 

 

 

(in thousands)

 

Contracts receivable, net of allowance for doubtful accounts of $200

 

$

69,813

 

$

96,576

 

Retention

 

13,151

 

14,872

 

 

 

82,964

 

111,448

 

 

 

 

 

 

 

Due from affiliates

 

34

 

502

 

Other accounts receivable

 

487

 

1,357

 

 

 

$

83,485

 

$

113,307

 

 

13



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Amounts “due from affiliates” primarily relate to amounts due from related parties (Note 8 “ Equity Method Investments ” and Note 11 “ Related Party Transactions ”) for the performance of construction contracts.  Contract revenues earned from related parties were $15,144 and $5,918 for the nine months ended September 30, 2008 and 2007, respectively.  Contract revenues earned from related parties for the three months ended September 30, 2008 and 2007 were $5,803 and $4,650, respectively.  At September 30, 2008 and December 31, 2007 amounts due from OMPP totaling $5,708 and $535, respectively, are included in contracts receivable (see Note 8, “ Equity Method Investments ”).

 

Note 7 - Costs and Estimated Earnings on Uncompleted Contracts

 

Costs and estimated earnings on uncompleted contracts consist of the following at:

 

 

 

September 30,
2008

 

December 31,
2007

 

 

 

(Unaudited)

 

 

Costs incurred on uncompleted contracts

 

$

1,136,111

 

$

988,472

 

Provision for estimated loss on uncompleted contracts

 

1,097

 

632

 

Gross profit recognized

 

79,070

 

84,606

 

 

 

1,216,278

 

1,073,710

 

Less: billings to date

 

(1,266,184

)

(1,116,768

)

 

 

$

(49,906

)

$

(43,058

)

 

This net amount is included in the accompanying Condensed Consolidated Balance Sheet under the following captions:

 

 

 

September 30,

 

December 31,

 

 

 

2008

 

2007

 

 

 

(Unaudited)

 

 

 

Costs and estimated earnings in excess of billings

 

$

22,837

 

$

11,085

 

Billings in excess of cost and estimated earnings

 

(72,743

)

(54,143

)

 

 

$

(49,906

)

$

(43,058

)

 

14



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Note 8 - Equity Method Investments

 

During 2007, the Company established a joint-venture, “Otay Mesa Power Partners” (“OMPP”), for the sole purpose of constructing a power plant near San Diego, California.  The Company has a 40% interest in OMPP and accounts for its investment in OMPP using the equity method.  ARB, Inc. (“ARB”), the Company’s wholly-owned subsidiary, acts as one of OMPP’s primary subcontractors.  ARB has contracts totaling $25,114 with OMPP and recognized $5,501 and $14,842, respectively, in related revenues for the three and nine months ended September 30, 2008 and $4,064 and $5,332, respectively, for the three and nine months ended September 30, 2007, which is included in the contract revenues earned from related parties as stated in Note 6 “ Accounts Receivable ”.  At September 30, 2008 and December 31, 2007, $535 and $5,708, respectively, was due from OMPP under these contracts and is included in accounts receivable.  The following is a summary of the financial position of OMPP as of September 30, 2008 and December 31, 2007 and results of operations for the nine months ended September 30, 2008 and September 30, 2007:

 

 

 

 

 

 

 

September 30,
2008

 

December 31,
2007

 

 

 

 

 

 

 

(Unaudited)

 

 

 

Otay Mesa Power Partners

 

 

 

 

 

 

 

 

 

Balance sheet data

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

$

51,258

 

$

37,143

 

Liabilities

 

 

 

 

 

49,931

 

38,769

 

Net assets

 

 

 

 

 

$

1,327

 

$

(1,626

)

 

 

 

 

 

 

 

 

 

 

Company’s equity investment in affiliate

 

 

 

 

 

$

531

 

$

(651

)

 

 

 

Three months ended September 30

 

Nine months ended September 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

(Unaudited)

 

(Unaudited)

 

Earnings data:

 

 

 

 

 

 

 

 

 

Revenue

 

$

29,261

 

$

19,346

 

$

77,437

 

$

28,771

 

Gross profit

 

$

3,622

 

$

2,187

 

$

10,946

 

$

3,142

 

Earnings before taxes

 

$

3,686

 

$

2,134

 

$

11,254

 

$

3.131

 

Company’s equity in earnings

 

$

1,474

 

$

1,225

 

$

4,501

 

$

1,225

 

 

OMPP distributed $8,300 to its equity holders during the nine months ended September 30, 2008, of which the Company’s share was $3,320.  The OMPP agreement states that distributions made prior to the completion of the contract are considered advances on account of the related partner’s share as determined at the completion of the underlying contract.  The deficit shown in the table above due to the excess distributions received has been included in accrued expenses on the Company’s balance sheet.

 

15



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Note 8 - Equity Method Investments (continued)

 

The Company has a 49% interest in ARB Arendal, SRL de CV (“ARB Arendal”), and accounts for this investment under the equity method.  ARB Arendal engages in construction activities in Mexico.  The following is a summary of the financial position as of September 30, 2008 and December 31, 2007 and results of operations for the nine months ended September 30, 2008 and September 30, 2007:

 

 

 

 

 

 

 

September 30,
2008

 

December 31,
2007

 

 

 

 

 

 

 

(Unaudited)

 

 

 

ARB Arendal, SRL de CV

 

 

 

 

 

 

 

 

 

Balance sheet data

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

$

32,913

 

$

32,358

 

Liabilities

 

 

 

 

 

32,913

 

35,659

 

Net assets

 

 

 

 

 

$

 

$

(3,301

)

 

 

 

 

 

 

 

 

 

 

Company’s equity investment in affiliate

 

 

 

 

 

$

 

$

 

 

 

 

Three months ended September 30,

 

Nine months ended September 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

 

 

 

 

 

 

(Unaudited)

 

Earnings data:

 

 

 

 

 

 

 

 

 

Revenue

 

$

7,771

 

$

11,423

 

$

47,862

 

$

57,420

 

Gross profit

 

$

876

 

$

(815

)

$

6,768

 

$

3,648

 

Earnings before taxes

 

$

 

$

(1,861

)

$

 

$

(289

)

Company’s equity in earnings

 

$

 

$

(912

)

$

 

$

(142

)

 

Because of the uncertainty on the outcome of the negotiations of ARB Arendal with a major customer in Mexico, the Company determined there was an other than temporary impairment of its investment in ARB Arendal and wrote down its investment to $0 as of December 31, 2007, and has not recognized any earnings for the nine months ended September 30, 2008.

 

Note 9 - Accounts Payable and Accrued Liabilities

 

At September 30, 2008 and December 31, 2007, accounts payable includes retentions of approximately $8,717 and $9,527, respectively, due to subcontractors, which have been retained pending contract completion and customer acceptance of jobs.

 

16



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

The following is a summary of accrued expenses and other current liabilities at:

 

 

 

September 30,
2008 

 

December 31,
2007

 

 

 

(Unaudited)

 

 

 

 

 

 

 

 

 

Payroll and related employee benefits

 

$

9,709

 

$

6,339

 

Insurance, including self-insurance reserves

 

7,009

 

6,301

 

Income taxes

 

1,888

 

651

 

Foreign income taxes and other taxes

 

2,262

 

278

 

Provision for estimated losses on uncompleted contracts

 

1,097

 

632

 

Accrued leases and rents

 

1,021

 

1,045

 

Short-term borrowing

 

 

1,221

 

OMPP liability

 

 

651

 

Other

 

2,216

 

1,097

 

 

 

$

25,202

 

$

18,215

 

 

Note 10 - Credit Arrangements

 

In March 2007, the Company entered into a revolving line of credit agreement payable to a bank group with an interest rate of prime or at LIBOR plus an applicable margin.  The revolving line is secured by substantially all the assets of the Company.  The Company can borrow up to $30,000 based on a set advanced rate on qualified collateral, and all amounts borrowed under the line of credit are due March 31, 2010.  There were no amounts outstanding under the line of credit at September 30, 2008 or December 31, 2007.

 

The line of credit agreement contains substantial restrictive covenants, including, among others, restrictions on investments, minimum working capital and tangible net worth requirements.  The Company was in compliance with all restrictive covenants as of September 30, 2008 and December 31,  2007.

 

Note 11 - Related Party Transactions

 

Primoris has entered into various transactions with Stockdale Investment Group, Inc. (“SIGI”). The majority stockholder, chief executive officer, president and chairman of the board of directors of Primoris, Brian Pratt, also holds a majority interest in SIGI. In addition, the following officers and directors of Primoris also serve as officers and/or directors of SIGI (with their respective positions with SIGI reflected in parentheses): Brian Pratt (chairman and director), John P. Schauerman (president and director), and John M. Perisich (secretary).

 

Primoris leases some of its facilities and certain construction and transportation equipment from SIGI. All of these leases are at market rates and are on similar terms as would be negotiated with an independent third party in an arms-length transaction.

 

Primoris leases properties from SIGI located in Bakersfield, Pittsburg and San Dimas, California, as well as a property in Pasadena, Texas. During the nine months ended September 30, 2008 and 2007, the Company paid $561 and $334, respectively, in lease payments to SIGI for the use of these properties, respectively.

 

17



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Primoris leases certain construction equipment from SIGI. During the nine months ended September 30, 2008 and 2007, the Company paid $200 and $241, respectively, in lease payments and $200 and $50, respectively, in rental payments to SIGI for the use of this equipment. The Company purchased the equipment from SIGI on the closing date of the merger for a purchase price of $1,135. The purchase price was determined using a fair market value appraisal by Ritchie Bros. Auctioneers.

 

SIGI leases to the Company an airplane for business use. During the nine months ended September 30, 2008 and 2007, the Company paid $179 and $159, respectively, in lease payments to SIGI for the use of the airplane. This lease commenced on May 1, 2004 and terminates on April 30, 2012.

 

Primoris leases a property from Roger Newnham, a manager at the subsidiary Born Heaters Canada. The property is located in Calgary, Canada. During the nine months ended September 30, 2008 and 2007 Primoris paid $224 and $224, respectively, in lease payments to Mr. Newnham for the use of this property. The lease for the Calgary property commenced in 2005 and terminates in 2008, with Primoris having an option to extend for three (3) years thereafter.  In October 2008, the Company extended this lease until September 2009. 

 

Note 12 — Income Taxes

 

Through July 31, 2008 (the date of the merger) Former Primoris had elected to be taxed as an S-Corporation under the Internal Revenue Code and. similar codes in states in which the Company was subject to taxation.  While this election was in effect, the income (whether distributed or not) was taxed for federal income tax purposes to Former Primoris stockholders.  Accordingly, no provision for federal income tax was required.  The provision for income taxes for Former Primoris in 2007 was related primarily to Canadian income taxes.

 

As of the date of the merger, the Company effectively became a C-Corporation, which changed the level of taxation from the stockholders to the Company.  With the change in tax status, the Company completed an analysis of the effect of the provisions of SFAS No. 109 and FIN 48.  In accordance with APB Opinion No. 28, Interim Financial Reporting , the Company has computed its provision for income taxes for the three months ended September 30, 2008 using a 38.0% tax rate, which reflects the rate necessary to bring the Company’s year-to-date provision for income taxes in line with its estimated annual effective tax rate of 14.8%.  The Company’s deferred income tax provision below includes $2,769 of deferred tax benefit resulting from the recognition of its beginning deferred tax asset.

 

Effective July 31, 2008, the Company adopted FASB Interpretation No. 48 (“FIN 48”), “ Accounting for Uncertainty in Income Taxes, an interpretation of SFAS 109” , which clarifies the accounting for uncertainty in income taxes recognized in the financial statements in accordance with FASB Statement No. 109, “ Accounting for Income Taxes” .  FIN 48 provides guidance on the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  FIN 48 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosures, and transition.  In accordance with FIN 48, a tax position is a position in a previously filed tax return or a position expected to be taken in a future tax filing that is reflected in measuring current or deferred income tax assets and liabilities.  Tax positions are recognized only when it is more likely than not (likelihood of greater than 50%), based on technical merits, that the position will be sustained upon examination.  Tax positions that meet the more likely than not threshold should be measured using a probability weighted approach as the largest amount of tax benefit that is greater than 50% likely of being realized upon settlement. 

 

As of July 31 and September 30, 2008, there are no unrecognized tax benefits and the Company does not anticipate that there will be a material change in the balance of the unrecognized tax benefits within the next 12 months. 

 

The components of the income tax provision are as follows:

 

 

 

Three months
ended

 

Nine months
ended

 

 

 

September 30, 2008

 

 

 

(Unaudited)

 

Current provision (benefit)

 

 

 

 

 

Federal

 

$

3,584

 

$

3,584

 

State

 

600

 

923

 

Foreign

 

319

 

450

 

 

 

$

4,503

 

$

4,957

 

Deferred provision (benefit)

 

 

 

 

 

Federal

 

$

(2,448

)

$

(2,448

)

State and local

 

(595

)

(595

)

Foreign

 

274

 

274

 

 

 

$

(2,769

)

$

(2,769

)

 

 

 

 

 

 

Total

 

$

1,734

 

$

2,188

 

 

18



Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Deferred income taxes are recognized for temporary differences between the financial reporting basis of the assets and liabilities and their respective tax basis and operating losses, capital losses and tax credit carry-forwards based on enacted tax rates expected to be in effect when such amounts are realized or settled.  However, deferred tax assets are recognized only to the extent that it is more likely than not that they will be realized based on consideration of available evidence, including future reversals of existing taxable temporary differences, future projected taxable income and tax planning strategies.  No valuation allowance has been provided to the deferred tax assets as the Company believes it is more likely than not that these deferred tax assets will be realized.

 

The tax effect of temporary differences that give rise to deferred income taxes are as follows (unaudited):

 

Net current deferred income taxes

 

 

 

Accrued workers compensation

 

$

1,978

 

Insurance reserves

 

1,537

 

Other accrued liabilities

 

1,308

 

State income taxes

 

(295

)

 

 

$

4,528

 

Net non-current deferred income taxes

 

 

 

Depreciation and amortization

 

$

(2,147

)

Other

 

388

 

Foreign

 

 

 

 

$

(1,759

)

 

 

 

 

Total

 

$

2,769

 

 

The Company recognizes interest and penalties related to uncertain tax positions, if any, in income tax expense.

 

The Company’s tax returns were audited by the Internal Revenue Service (“IRS”) for the tax years 2004 – 2005.  There were no material adjustments found. The tax years 2005 – 2007 remain open to IRS examination.  The tax years 2004 through 2007 remain open to examination by the other major taxing jurisdictions to which the Company is subject.  The Company’s Canadian subsidiary is currently under audit by Revenue Canada, Canada’s federal taxing authority, for the years ended 2005, 2006 and 2007.  There have been no findings thus far with respect to such audit and the Company is not expecting any material adjustments.

 

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PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Note 13 — Earnings Per Share

 

The table below presents the computation of basic and diluted earnings per share for the three and nine months ended September 30, 2008 and 2007 :

 

 

 

Three months
ended September 30,

 

Nine months
ended September 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

(Unaudited)

 

(Unaudited)

 

 

 

(In thousands except per share amounts)

 

Numerator:

 

 

 

 

 

 

 

 

 

Net income

 

$

10,086

 

$

11,494

 

$

28,637

 

$

20,481

 

Pro forma net income (1)

 

$

7,114

 

$

7,122

 

$

18,554

 

$

12,757

 

Denominator:

 

 

 

 

 

 

 

 

 

Weighted average shares for computation of basic earnings per share

 

27,824

 

23,587

 

25,010

 

23,415

 

 

 

 

 

 

 

 

 

 

 

Dilutive effect of warrants and units

 

1,581

 

 

531

 

 

 

 

 

 

 

 

 

 

 

 

Dilutive effect of contingently issuable shares

 

1,658

 

 

552

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average shares for computation of diluted earnings per share

 

31,063

 

23,587

 

26,093

 

23,415

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share

 

$

0.36

 

$

0.49

 

$

1.15

 

$

0.87

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per share

 

$

0.32

 

$

0.49

 

$

1.10

 

$

0.87

 

 

 

 

 

 

 

 

 

 

 

Pro forma basic earnings per share

 

$

0.26

 

$

0.30

 

$

0.74

 

$

0.54

 

 

 

 

 

 

 

 

 

 

 

Pro forma diluted earnings per share

 

$

0.23

 

$

0.30

 

$

0.71

 

$

0.54

 

 


(1) As discussed in Note 5 – “ Change in Tax Status ”, Pro forma net income reflects an adjustment for income tax at the applicable statutory blended federal and state income tax rate (39.8%) as if we had been taxed as a C-Corporation since the beginning of each respective period .

 

Note 14 - Commitments and Contingencies

 

Leases - The Company leases certain property and equipment under non-cancellable operating leases, which expire at various dates through 2019.  The leases require the Company to pay all taxes, insurance, maintenance, and utilities with respect to such property and equipment.

 

Certain of these leases are with related entities, which share similar ownership by stockholders, officers, and directors of the Company.  The leases are classified as operating leases in accordance with SFAS No. 13, “Accounting for Leases.”

 

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Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

Total lease expense during the nine months ended September 30, 2008 and 2007 amounted to approximately $5,965 and $5,916, respectively, including amounts paid to related parties of $1,364 and $1,008, respectively.

 

Letters of credit - At December 31, 2007, the Company had a letter of credit of $1,200 pledged as collateral on a line of credit for ARB Ecuador, Ltda.  The line had $1,200 outstanding at December 31, 2007, which is included in “accrued expenses and other current liabilities” on the accompanying consolidated balance sheet. This letter of credit was no longer outstanding as of September 30, 2008.

 

The Company had a letter of credit of $1,000 pledged as collateral on lines of credit of ARB Arendal (See Note 8 “ Equity Method Investments ”).  The letter of credit was retired on December 31, 2007.

 

Furthermore, at September 30, 2008 and December 31, 2007, the Company had additional letters of credit outstanding of approximately $6,149 and $6,276, respectively.

 

Litigation - The Company is subject to claims and legal proceedings arising out of its business.  Management believes that the Company has meritorious defenses to the claims.  Although management is unable to ascertain the ultimate outcome of such matters, after review and consultation with counsel and taking into consideration relevant insurance coverage and related deductibles, management believes that the outcome of these matters will not have a materially adverse effect on the consolidated financial position of the Company.

 

Bonding - As of September 30, 2008 and December 31, 2007, the Company had bid and payment/performance bonds issued and outstanding totaling approximately $380,600 and $427,500, respectively.

 

Note 15 - Reportable Operating Segments

 

The Company operates in two reportable segments: Construction Services and Engineering. The accounting policies of the segments are the same as those described in the Note 2 – “ Basis of Presentation and Significant Accounting Policies”.   The Company evaluates performance based on gross profit before allocations of selling, general and administrative expenses, other income and expense items and income taxes.  The Company accounts for intersegment sales and transfers as if the sales or transfers were to third parties, that is, at current market prices.  The Company’s segments are as follows:

 

Construction Services

 

The Underground group installs, replaces, repairs and rehabilitates natural gas, refined product, and water and wastewater pipelines. Substantially all of the Company’s pipeline and distribution projects involve underground installation of pipe with diameters ranging from one-half to 102 inches.

 

The Industrial group provides a comprehensive range of services, from turnkey construction to retrofits, upgrades, repairs, and maintenance of industrial plants and facilities. It executes contracts as the prime contractor or as a subcontractor utilizing a variety of delivery methods including fixed price competitive bids, fixed fee, cost plus and a variety of negotiated incentive based contracts.

 

The Structures group designs and constructs complex commercial and industrial cast-in-place concrete structures and specializes in construction of concrete parking structures.

 

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PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

The Water and Wastewater group specializes in design-build, general contracting and construction management of facilities and plants dedicated to reverse osmosis, desalinization, conventional water treatment, water reclamation, wastewater treatment, sludge processing, solid waste, pump stations, lift stations, power generation cooling, cogeneration, flood control, wells and pipeline projects, primarily in the Southeastern United States.

 

Engineering

 

The Engineering group specializes in designing, supplying, and installing high-performance furnaces, heaters, burner management systems, and related combustion and process technologies for clients in the oil refining, petrochemical, and power generation industries. It furnishes turnkey project management with technical expertise and the ability to deliver custom engineering solutions worldwide.

 

In the following tables, all intersegment revenues and gross profit have been eliminated.

 

The following table sets forth the Company’s revenue by segment for the three months ended September 30, 2008 and September 30, 2007:

 

 

 

For the three months ended September 30,

 

 

 

2008

 

2007

 

Segment

 

Revenue

 

% of
Segment
Revenue

 

Revenue

 

% of
Segment
Revenue

 

 

 

(Unaudited)

 

Construction Services

 

$

116,807

 

79.6

%

$

138,019

 

87.3

%

Engineering

 

29,930

 

20.4

 

20,035

 

12.7

 

Total

 

$

146,737

 

100.0

%

$

158,054

 

100.0

%

 

The following table sets forth the Company’s revenue by segment for the nine months ended September 30, 2008 and 2007:

 

 

 

For the nine months ended September 30,

 

 

 

2008

 

2007

 

Segment

 

Revenue

 

% of
Segment
Revenue

 

Revenue

 

% of
Segment
Revenue

 

 

 

(Unaudited)

 

Construction Services

 

$

383,504

 

83.6

%

$

331,008

 

86.6

%

Engineering

 

75,068

 

16.4

 

51,094

 

13.4

 

Total

 

$

458,572

 

100.0

%

$

382,102

 

100.0

%

 

The following table sets forth the Company’s gross profit by segment for the three months ended September 30, 2008 and 2007:

 

 

 

For the three months ended September 30,

 

 

 

2008

 

2007

 

Segment

 

Gross Profit

 

% of
Segment
Revenue

 

Gross Profit

 

% of
Segment
Revenue

 

 

 

(Unaudited)

 

Construction Services

 

$

19,333

 

16.6

%

$

18,789

 

13.6

%

Engineering

 

1,770

 

5.9

 

1,776

 

8.9

 

Total

 

$

21,103

 

14.4

%

$

20,565

 

13.0

%

 

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Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

The following table sets forth the Company’s gross profit by segment for the nine months ended September 30, 2008 and 2007:

 

 

 

For the nine months ended September 30,

 

 

 

2008

 

2007

 

Segment

 

Gross Profit

 

% of
Segment
Revenue

 

Gross Profit

 

% of
Segment
Revenue

 

 

 

(Unaudited)

 

Construction Services

 

$

47,332

 

12.3

%

$

38,143

 

11.5

%

Engineering

 

4,618

 

6.2

 

4,553

 

8.9

 

Total

 

$

51,950

 

11.3

%

$

42,696

 

11.2

%

 

Third-party revenues as presented below are based on the geographic region in which the contracting subsidiary is located and not the location of the client or job site:

 

 

 

External Revenues

 

 

 

 

 

For the nine months ended September 30,

 

 

 

 

 

 

 

2008

 

2007

 

 

 

 

 

 

 

(Unaudited)

 

Total Assets

 

 

 

 

 

% of

 

 

 

% of

 

September 30,

 

December 31,

 

Country:

 

Revenue

 

Revenue

 

Revenue

 

Revenue

 

2008

 

2007

 

 

 

 

 

 

 

 

 

 

 

(Unaudited)

 

 

 

United States

 

$

441,417

 

96.3

%

$

363,616

 

95.2

%

$

211,976

 

$

203,047

 

Canada

 

14,207

 

3.1

 

14,619

 

3.8

 

14,121

 

14,818

 

Ecuador

 

2,948

 

0.6

 

3,867

 

1.0

 

9,182

 

3,108

 

 

 

$

458,572

 

100.0

%

$

382,102

 

100.0

%

$

235,279

 

$

220,973

 

 

Note 16 - Retirement Plans

 

Union plans - The Company contributes to multi-employer benefit plans for its union employees at rates determined by the various collective bargaining agreements.  Eligibility and allocations of contributions and benefits are determined by the trustees and administered by the multi-employer benefit plans.  The Company contributed $9,797 and $5,831 under these plans for the nine months ended September 30, 2008 and 2007, respectively.  These costs are charged directly to the related construction contracts in process.

 

Under U.S. legislation regarding such pension plans, a company is required to continue funding its proportionate share of the plan’s unfunded vested benefits in the event of a withdrawal (as defined by the legislation) from a plan or plan termination. As the Company participates in a number of these pension plans, the potential obligation may be significant. The information required to determine the total amount of this contingent obligation, as well as the total amount of the accumulated benefits and net assets of such plans, is not readily available. Any adjustment for withdrawal liability will be recorded when it is probable that a liability exists, and can be reasonably estimated, in accordance with GAAP.  The Company has no plans to withdraw from any of these agreements.

 

401(k) plan - The Company provides a 401(k) plan (“the Plan”)for its employees not covered by collective bargaining agreements.  Under the Plan, employees are allowed to contribute up to 100% of their compensation, up to the IRS prescribed annual limit.  The Company makes employer match

 

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Table of Contents

 

PRIMORIS SERVICES CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – (continued)

(Dollars in thousands, except per share amounts)

(Unaudited)

 

contributions of 100% of the first 3% and 50% of the next 2% of employee contributions.  The Company may, at the discretion of the Board of Directors, make an additional profit share contribution to the Plan.  The Company’s contribution to the Plan for the nine months ended September 30, 2008 and 2007 aggregated $611 and $599, respectively.

 

Born Heaters Canada, ULC RRSP-DPSP Plan - Beginning on January 1, 2008, the Company provides a RRSP-DPSP plan (Registered Retirement Saving Plan - Deferred Profit Sharing Plan) for those employees of Born Heaters Canada, ULC, not covered by collective bargaining agreements.  There are two components to the plan.  The RRSP portion is contributed by the employee, whereas the Company pays the portion related to DPSP.  Under the plan, the Company makes employer match contributions of 100% of the first 3% and 50% of the next 2% of employee contributions.  Vesting in the DPSP portion is one year of employment. The Company’s contribution to the DPSP during the nine months ended September 30, 2008 was $54. The Company has no post-retirement benefits other than those discussed above.

 

Note 17 - Deferred Compensation Agreements

 

Put/Call Agreement – Prior to the closing of the merger as discussed in Note 4 – “ Completed Merger”, the Former Primoris had a Put/Call Agreement with a foreign manager.  The Put/Call Agreement was accounted for as a liability under SFAS No. 150 (as amended), “ Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity ,” where the amount is presented as a liability and changes in fair value are recorded as expense.  In conjunction with the Merger Agreement the foreign manager and the Company entered into a termination agreement, which terminated the Put/Call Agreement.  Under the termination agreement the Company paid the foreign manager $826.  As of September 30, 2008 there was no liability remaining related to the Put/Call Agreement.

 

Phantom Stock Agreement - Prior to the closing of the merger, Former Primoris had a Phantom Stock Agreement with a foreign manager. In conjunction with the Merger Agreement the foreign manager and the Company entered into a termination agreement, which terminated the Phantom Stock Agreement (See Note 4 “ Completed Merger ”).  Under the termination agreement the Company owes the foreign manager an amount equal to $294.  A liability for this amount is reflected in accounts payable as of September 30, 2008.

 

Note 18 — Subsequent Events

 

Note payable to bank - On October 17, 2008 the Company, through its subsidiary Stellaris, LLC, entered into a note agreement (the “Note”) for $3,800 with a bank to finance an airplane purchased for business use.  The Note is secured by the airplane and all related parts and equipment.  The terms of the Note call for 59 monthly payments of principal and interest of $43 each beginning November 10, 2008, followed by one installment payment of $2,145 in addition to any accrued and outstanding interest due.  The Note accrues interest at a rate of 5.6% annually. The Note allows for prepayment with certain prepayment penalties if exercised in less than 36 months.  After 36 months the loan can be paid in full without penalty.

 

Equipment Note - In October, 2008, the Company borrowed $3,020 from a bank (the “Equipment Note”) at an interest rate of 5.5%. The terms of the Equipment Note call for 60 consecutive monthly payments of principal and interest in the amount of $58, commencing November 3, 2008, with a maturity date of October 3, 2013.  The Equipment Note is secured by certain construction equipment. The Equipment Note is guaranteed by Primoris’ largest subsidiary, ARB.

 

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Table of Contents

 

PRIMORIS SERVICES CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Introduction and Safe Harbor Disclosure

 

The following discussion and analysis should be read in conjunction with the unaudited Condensed Consolidated Financial Statements and notes thereto included in Part I — Item 1 of this Quarterly Report on Form 10-Q, and the audited consolidated financial statements and notes thereto reported on Form S-4/A as filed with the Securities and Exchange Commission (“SEC”) by Rhapsody Acquisition Corp. on July 9, 2008.

 

This discussion contains forward-looking statements based on our current expectations. There are various factors — many beyond our control — that could cause our actual results or the occurrence or timing of expected events to differ materially from those anticipated in these forward-looking statements. Some of these factors are described below and other factors are described elsewhere in this Quarterly Report on Form 10-Q. In addition, there are factors not described in this Quarterly Report on Form 10-Q that could cause our actual results or the occurrence or timing of expected events to differ materially from those anticipated in these forward-looking statements. All forward-looking statements included in this Quarterly Report on Form 10-Q are based on information available to us as of the date hereof, and we assume no obligation to update any such forward-looking statements.

 

Overview

 

Business overview

 

Primoris Services Corporation (“we,” “us,” “our,” “Primoris” or the “Company”) is a holding company with various subsidiaries that , cumulatively form a diversified engineering and construction company providing a wide range of construction, fabrication, maintenance, replacement and engineering services to major public utilities, petrochemical companies, energy companies, municipalities and other customers.

 

Primoris installs, replaces, repairs and rehabilitates natural gas, refined product, water and wastewater pipeline systems, and also constructs mechanical facilities and other structures, including power plants, petrochemical facilities, refineries and parking structures. In addition, we provide maintenance services, including inspection, overhaul and emergency repair services, to cogeneration plants, refineries and similar mechanical facilities. Through our subsidiary Onquest, Inc., we provide engineering and design services for fired heaters and furnaces primarily used in refinery applications. Through our subsidiary Cardinal Contractors, Inc., we construct water and wastewater facilities in Florida. A substantial portion of our activities are performed in the Western United States, and more specifically in California. In addition, we have strategic presences in Florida, Texas, Latin America and Canada.

 

As discussed elsewhere in this Quarterly Report on Form 10-Q, on February 19, 2008 , Primoris Corporation, a privately held Nevada corporation (“Former Primoris”), and certain stockholders of Former Primoris, entered into an Agreement and Plan of Merger (“Merger Agreement”) with Rhapsody Acquisition Corp. (“Rhapsody”), a public company trading on the OTC Bulletin Board under the symbols “RPSD”, “RPSDW” and “RPSDU” for its common stock, warrants to purchase common stock (“Warrants”) and Units (each unit consisting of one share of common stock and one Warrant) , respectively.  On July 31, 2008, with the approval of the stockholders of Former Primoris and Rhapsody, the merger was completed.  Rhapsody was the surviving legal entity in the merger and Former Primoris was deemed the acquiring entity for accounting purposes (See Note 4, “ Completed Merger in the Notes to the Condensed Consolidated Financial Statements presented above as Part I — Item 1 of this Quarterly Report).  As part of the merger, Rhapsody changed its name to “Primoris Services Corporation” which became the name of the new legal entity.  Our common stock, Warrants and Units now trade on the Nasdaq Global

 

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Table of Contents

 

Market under the symbols “PRIM”, “PRIMW” and “PRIMU”, respectively.  The audited financial statements of Rhapsody for the period ended March 31, 2007 and the year ended March 31, 2008, and the audited financial statements for Former Primoris for each of the three years ended December 31, 2005, 2006 and 2007, are included in our Registration Statement on Form S-4/A filed with the SEC on July 9, 2008. (“Form S-4/A”). The unaudited financial statements for Former Primoris for the three and six months ended June 30, 2008, are included in our Current Report on Form 8-K/A filed with the SEC on August 11, 2008.

 

As part of the merger, holders of all the issued and outstanding shares of common stock of Former Primoris and two foreign managers of Former Primoris became entitled to receive an aggregate of (i) 24,094,800 shares of our common stock at the closing of the merger plus (ii) the right to receive up to 2,500,000 additional shares of our common stock for each of the fiscal years ending December 31, 2008 and 2009 for a total of 5,000,000 additional shares, provided that we achieve specified EBITDA (as defined in the Merger Agreement) milestones as discussed in our Form S-4 /A under the heading “The Merger Proposal — Structure of the Merger.” Of the 24,094,800 shares of common stock issued at the closing of the merger, 1,807,110 were required to be placed into escrow to provide funds to satisfy Rhapsody’s rights to indemnification under the Merger Agreement.

 

The merger was accounted for as a reverse acquisition in accordance with accounting principles generally accepted in the United States (“GAAP”). Under this method of accounting, Rhapsody was treated as the “acquired” company for financial reporting purposes. This determination was primarily based on the operations and management of Former Primoris comprising the ongoing operations and management of the Company after the merger. In accordance with guidance applicable to these circumstances, the merger was considered to be a capital transaction in substance. Accordingly, for accounting purposes, the merger was treated as the equivalent of Former Primoris issuing stock for the net assets of Rhapsody, accompanied by a recapitalization. The net assets of Rhapsody are stated at historical cost, with no goodwill or other intangible assets recorded. Operations prior to the merger are those of Former Primoris.

 

Unless specifically noted otherwise, as used throughout this Management’s Discussion and Analysis, “Primoris”, the “Company” or “we,” “our,” or “us” refers to the business, operations and financial results of Former Primoris prior to, and Primoris Services Corporation subsequent to, the closing of the merger on July 31, 2008, between Rhapsody and Former Primoris as the context requires.  “Rhapsody” refers to the operations or financial results of Rhapsody Acquisition Corp. prior to the closing of the merger.

 

Services

 

Primoris provides services in the following two segments:

 

Construction Services:

 

Underground - The Underground group installs, replaces, repairs and rehabilitates natural gas, refined product, water and wastewater pipelines. Substantially all of our pipeline and distribution projects involve underground installation of pipe with diameters ranging from one-half to 102 inches.

 

Industrial - The Industrial group provides a comprehensive range of services, from turnkey construction to retrofits, upgrades, repairs and maintenance of industrial plants and facilities. It executes contracts as the prime contractor or as a subcontractor utilizing a variety of delivery methods, including fixed price competitive bids, fixed fee, cost plus and a variety of negotiated incentive based contracts.

 

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Table of Contents

 

Structures - The Structures group designs and constructs complex commercial and industrial cast-in-place concrete structures.

 

Water and wastewater - This group specializes in design-build, general contracting and construction management of facilities and plants dedicated to reverse osmosis, desalinization, conventional water treatment, water reclamation, wastewater treatment, sludge processing, solid waste, pump stations, lift stations, power generation cooling, cogeneration, flood control, wells and pipeline projects, primarily in the Southeastern United States.

 

Engineering :

 

The Engineering group specializes in designing, supplying and installing high-performance furnaces, heaters, burner management systems, and related combustion and process technologies for clients in the oil refining, petrochemical, and power generation industries. It also furnishes turnkey project management with the technical expertise and the ability to deliver custom engineering solutions worldwide.

 

Strategy

 

Our strategy emphasizes the following key elements:

 

·                   Diversification through Controlled Expansion We continue to emphasize both the expansion of services beyond our traditional focus and the addition of new customers. We intend to continue to evaluate acquisitions that offer growth opportunities and the ability to leverage our resources as a leading service provider to the oil and gas, power, refining and water industries. The current strategy also includes selective expansion to new geographic regions.

 

·                   Emphasis on Retention of Existing Customers and Recurring Revenue .  In order to fully leverage our relationships with our existing customer base, we believe it is important to maintain strong customer relationships and to expand our base of recurring revenue sources and recurring customers.

 

·                   Ownership of Equipment .  Many of our services are equipment intensive. The cost of construction equipment provides a significant barrier to entry into several of our businesses. We believe that our ownership of a large and varied construction fleet and our maintenance facilities enhances our access to reliable equipment at a favorable cost.

 

·                   Stable Work Force We maintain a stable work force of skilled, experienced laborers, many of whom are cross-trained in projects such as pipeline and facility construction, refinery maintenance, and piping systems.

 

·                   Selective Bidding We selectively bid on projects that we believe offer an opportunity to meet our profitability objectives, or that offer the opportunity to enter promising new markets. In addition, we review our bidding opportunities to attempt to minimize concentration of work with any one customer, in any one industry, or in stressed labor markets.

 

·                   Concentration on Private Sector Work We focus on private sector work, which we believe is generally more profitable than public sector work. In 2007, revenue of approximately $405.9 million, or 74.1% of our revenue, was derived from private sector projects. Through the nine months ended September 30, 2008, approximately $345.5 million or 75.3% of our revenue was derived from private sector projects.

 

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Table of Contents

 

Backlog

 

We refer to “backlog” as anticipated revenue from the uncompleted portions of existing contracts, including new contractual agreements on which work has not yet begun.  Backlog is difficult to determine accurately and different companies within this industry may define backlog differently.

 

We calculate backlog differently for different types of contracts. For our fixed price contracts, we include the full remaining portion of the contract in our calculation of backlog.  For unit-price, time-and-equipment, time-and-materials, cost-plus contracts, and master service agreements (“MSAs”), no projected revenue is included in backlog, regardless of the duration of the contract.  These MSA and reimbursable types of contracts, while not included in backlog, still represent a material component of our annual revenue.  In addition, certain types of projects will typically have a low level of backlog due to a shorter duration of their average projects.

 

Most contracts may be terminated by Primoris customers on short notice, typically 30 to 90 days, but sometimes less.  Reductions in backlog due to cancellation by a customer or for other reasons could significantly reduce our revenue and profit we realize from contracts in backlog. In the event of a project cancellation, we may be reimbursed for certain costs but typically we have no contractual right to the total revenues reflected in backlog.  Projects may remain in backlog for extended periods of time.  Given these factors and our method of calculating backlog, our backlog at any point in time may not accurately represent the revenue that we expect to realize during any period.  Additionally, our backlog may not be indicative of the revenue we expect to earn in the following twelve month period.

 

At September 30, 2008 and 2007, our backlog was $411.5 million, and $382.0 million respectively.  At December 31, 2007, our backlog was $463.1 million.

 

Critical Accounting Policies and Estimates

 

General - The discussion and analysis of our financial condition and results of operations are based on our Condensed Consolidated Financial Statements, which have been prepared in accordance with GAAP. The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the financial statements, and also affect the amounts of revenues and expenses reported for each period. These estimates and assumptions must be made because certain information that is used in the preparation of our financial statements cannot be calculated with a high degree of precision from data available, is dependent on future events, or is not capable of being readily calculated based on generally accepted methodologies. Often times, these estimates are particularly difficult to determine and we must exercise significant judgment. Estimates may be used in our assessments of revenue recognition under percentage-of-completion accounting, the allowance for doubtful accounts, useful lives of property and equipment, fair value assumptions in analyzing goodwill and long-lived asset impairments, self-insured claims liabilities and deferred income taxes. Actual results could differ from those that result from using the estimates.

 

Income taxes - Through July 31, 2008 (the date of the merger) , Former Primoris had elected to be taxed in accordance with Subchapter S of the Internal Revenue Code (“S-Corporation”) and similar codes in states in which Former Primoris was subject to taxation. While this election was in effect, the income (whether distributed or not) was taxed for federal income tax purposes to Former Primoris stockholders.  Accordingly, no provision for federal income tax was required.  The provision for income taxes for Former Primoris in 2007 was related primarily to Canadian income taxes.

 

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As of the date of the merger, Primoris became taxable in accordance with Subchapter C of the Internal Revenue Code (“ C-Corporation”), which changed the level of taxation from that of the stockholders to that of the Company.  With the change in tax status, we completed an analysis of the effect of the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 109 “ Accounting for Income Taxes ”  and Financial Accounting Standards Board (FASB) Interpretation 48 “Accounting for Uncertainty in Income Taxes an Interpretation of SFAS 109” (See Note 12, “Income Taxes” in the Notes to the Condensed Consolidated Financial Statements).  In accordance with Accounting Principles Board Opinion No. 28, “ Interim Financial Reporting” , we have computed our provision for income taxes for the three months ended September 30, 2008 using a 38.0% tax rate, which reflects the rate necessary to bring our year-to-date provision for income taxes in line with our estimated annual effective tax rate of 14.8%.  Our deferred income tax provision includes approximately $2.8 million of deferred tax benefit resulting from the recognition of our beginning deferred tax asset.

 

As of September 30, 2008, we had $7.0 million of undistributed Former Primoris S-Corporation earnings as provided for in the Merger Agreement based on the estimated 2008 S-Corporation tax liability of the Former Primoris stockholders. These amounts will be distributed to the stockholders of Former Primoris and are reflected as a liability on our balance sheet as of September 30, 2008.

 

Goodwill - During 2005, we acquired the net assets of Born Heaters Canada Ltd. and Born Canada Services Ltd (the “Born Acquisition”). The Born Acquisition was recorded pursuant to the purchase method of accounting in accordance with SFAS 141 “ Business Combinations ”. The seller is entitled to earn-out payments of up to $2.5 million over a five year term, the determination of which is based on exceeding pre-established hurdle rates. Amounts paid to the seller under the earn-out agreement increase the total cost of the Born Acquisition. The excess of the Born Acquisition cost over the fair value of the net identifiable tangible assets acquired has been assigned to goodwill, and other intangible assets as appropriate.  Any additional earn-out payment accrued or paid are recorded as an increase to goodwill. During the period ended September 30, 2008 an additional $644,000 was payable under the earn-out agreement, which increased the balance of goodwill to $2.9 million as of September 30, 2008 from $2.2 million as of December 31, 2007.   There was $80,000 remaining of potential additional earn-out for the seller at September 30, 2008.

 

Fixed-price contract s - Historically, substantial portions of our revenues have been generated under fixed-price contracts. Fixed-price contracts carry certain inherent risks, including underestimation of costs, problems with new technologies and economic and other changes that may occur over the contract period. We recognize revenues using the percentage-of-completion method for fixed-price contracts, which may result in uneven and irregular results. Unforeseen events and circumstances can alter the estimate of the costs and potential profit associated with a particular contract. To the extent that original cost estimates are modified, estimated costs to complete increase, delivery schedules are delayed, or progress under a contract is otherwise impeded, cash flow, revenue recognition and profitability from a particular contract may be adversely affected.

 

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Revenue recognition - A number of factors relating to our business affect the recognition of contract revenue. We typically structure contracts as unit-price, time and material, fixed-price or cost plus fixed fee. We believe that our operating results should be evaluated over a time horizon during which major contracts in progress are completed and change orders, extra work, variations in the scope of work and cost recoveries and other claims are negotiated and realized.

 

We recognize revenue on the percentage-of-completion method for all of the types of contracts described in the paragraph above. Under the percentage-of-completion method, estimated contract income and resulting revenue is generally accrued based on costs incurred to date as a percentage of total estimated costs. Total estimated costs, and thus contract income, are impacted by changes in productivity, scheduling, and the unit cost of labor, subcontracts, materials and equipment. Additionally, external factors such as weather, client needs, client delays in providing permits and approvals, labor availability, governmental regulation and politics may affect the progress of a project’s completion and thus the timing of revenue recognition. If a current estimate of total contract cost indicates a loss on a contract, the projected loss is recognized in full when determined.

 

We consider unapproved change orders to be contract variations on which we have customer approval for scope change, but not for price