Mfri Inc (MFRI) SEC Quarterly Report (10-Q) for Q2 2017

For the quarterly period ended April 30, 2017

(Exact name of registrant as specified in its charter)

Delaware	36-3922969
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
6410 W. Howard Street, Niles, Illinois	60714
(Address of principal executive offices)	(Zip Code)

(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.

Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T(232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer", "accelerated filer", "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act. Large accelerated filer o Accelerated filer o Non-accelerated filer o (Do not check if a smaller reporting company) Smaller reporting company x Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

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

On June 8, 2017 , there were 7,621,839 shares of the registrant's common stock outstanding.

(In thousands, except per share data)

See accompanying notes to consolidated financial statements.

Note: Earnings per share calculations could be impacted by rounding.

(In thousands)

See accompanying notes to consolidated financial statements.

PERMA-PIPE INTERNATIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

See accompanying notes to consolidated financial statements.

See accompanying notes to consolidated financial statements.

PERMA-PIPE INTERNATIONAL HOLDINGS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

See accompanying notes to consolidated financial statements.

(Tabular amounts presented in thousands, except per share amounts)

In February 2017, the Company announced that the board of directors had authorized Company management to move forward with the re-naming and re-branding of MFRI, Inc. under the Perma-Pipe name now that the Company operates in a single business segment under the Perma-Pipe brand, and the Company believes this decision will better serve its strategy, position it well in the industry and global market, and better reflect the Company's mission and strategy, and positions it to leverage the strong reputation Perma-Pipe has established since beginning operations.  The name change to Perma-Pipe International Holdings, Inc. was effective March 20, 2017.  The Company's common stock has been and will continue to be reported under its new ticker symbol "PPIH" since March 21, 2017.

Prior to January 29, 2016, the Company had a Filtration Products segment. This business is reported as discontinued operations in the consolidated financial statements. For further information, see "Notes to Consolidated Financial Statements Note 3 Discontinued operations".

For the three months ended April 30, 2017 , one customer accounted for 11% of the Company's consolidated net sales, and for the three months ended April 30, 2016 , one customer accounted for 15.2% of the Company's consolidated net sales.

At April 30, 2017 , one customer accounted for 28% of accounts receivable. Two customers accounted for 33% of accounts receivable at January 31, 2017 .

Components of assets and liabilities from discontinued operations consist of the following:

Cash flows from discontinued operations:

deferred tax assets. Income earned in the United Arab Emirates ("U.A.E.") is not subject to local country income tax. Additionally, the relative proportion of taxable income earned domestically versus internationally can fluctuate significantly from period to period. Changes in the estimated level of annual pre-tax income, tax laws and the results of tax audits can affect the overall effective income tax rate, which impacts the level of income tax expense and net income. Judgments and estimates related to the Company's projections and assumptions are inherently uncertain; therefore, actual results could differ materially from projections.

The Company's effective tax rate ("ETR") from continuing operations was 12% and 4.0% for the three months ended April 30, 2017 and 2016, respectively. The change in the ETR from the prior year to the current year was mainly due to the foreign income activity.

The amount of unrecognized tax benefits, including interest and penalties, at April 30, 2017 , recorded in other long-term liabilities was $0.2 million , all of which would impact the Company's ETR if recognized.  The Company includes accrued interest and penalties related to uncertain tax positions in income tax expense, with $1,200 included in expense for the current quarter.  The amount of accrued interest and penalties at April 30, 2017 associated with unrecognized tax benefits was $46,800 .

The Company files income tax returns in U.S. federal and state jurisdictions. The Internal Revenue Service, ("IRS") began an audit of the fiscal year ended January 31, 2015 in August 2016. In March 2017, the Company received an informal notice from the IRS that it had concluded the tax audit for the year ended January 31, 2015. No changes were made to the reported tax.

In January 2017, the Financial Accounting Standards Board ("FASB") issued authoritative guidance that simplifies the assessment of goodwill for impairment when the estimated fair value of a reporting unit is less than its carrying value by eliminating the requirement to determine the fair value of goodwill. Under the new guidance, the amount of goodwill impairment will be determined by the amount the carrying value of the reporting unit exceeds its fair value. The new guidance is effective for the Company beginning January 1, 2020, with early adoption permitted. The Company adopted this new guidance in the fourth quarter of 2016.

The Company performs an impairment assessment of goodwill annually as of January 31 , or more frequently if triggering events occur, based on the estimated fair value of the related reporting unit or intangible asset. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. There was no impairment to goodwill as of April 30, 2017.

Stock-based compensation was a benefit due to cancellations. The decrease in the restricted stock based compensation expense relates to grants vested in January 2017.

As of April 30, 2017 , there was $0.2 million of total unrecognized compensation expense related to unvested stock options. The expense is expected to be recognized over a period of 1.8 years.

As of April 30, 2017 , there was $1.0 million of unrecognized compensation expense related to unvested restricted stock granted under the plans. The cost is expected to be recognized over the weighted-average period of 2.0 years .

10.     Debt. Debt totaled $13.1 million at April 30, 2017 , a net increase of $1.3 million since January 31, 2017 .

Interest rates vary based on the average availability in the preceding fiscal quarter and are: (a) a margin in effect plus a base rate, if below certain availability limits; or (b) a margin in effect plus the Eurodollar rate for the corresponding interest period. On April 30, 2017 , the Company had borrowed $5.8 million at 5.25% , 3.99% and 3.95% and had $4.2 million available to it under the revolving line of credit. In addition, $0.2 million of availability was used under the Credit Agreement primarily to support letters of credit to guarantee amounts committed for inventory purchases. Cash required for operations, as needed, is provided by draw downs on the line of credit.

12.     Fair Value. In relation to the acquisition of Perma-Pipe Canada, Ltd. ("PPC"), the Company estimated the fair value of the assets acquired and liabilities assumed at acquisition date. See "Notes to Consolidated Financial Statements Note 13 Acquisition", for a further discussion of this purchase. The carrying values of cash and cash equivalents, accounts receivable and accounts payable are reasonable estimates of their fair value due to their short-term nature. The carrying amount of the Company's short-term debt, revolving line of credit and long-term debt approximate fair value, because the majority of the amounts outstanding accrue interest at variable rates.

The Company held a marketable equity security of approximately $0.1 million at April 30, 2017 , which it classified as available-for-sale and recorded in other non-current assets on the consolidated balance sheets. This security is carried at estimated fair value with unrealized gains and losses reflected in Accumulated Other Comprehensive Income and classified as Level 1 in the fair value hierarchy. The assessment for impairment of marketable equity securities as available-for-sale is based on established financial methodologies, including quoted market prices for publicly traded securities. If the Company determines that a loss in the value of the investment is other than temporary, any such losses are recorded in other expense (income), net.

The acquisition resulted in $2.3 million of goodwill. Goodwill is not deductible for income tax purposes. The Company incurred legal, professional and other costs related to this acquisition. These one-time costs of $0.2 million were recognized as general and administrative expenses.

In the first quarter of 2016, the Company recognized a non-cash loss of $1.6 million , which represents the difference between the pre-existing book value interest in PPC immediately prior to the acquisition remeasured to its fair value upon the acquisition date.

In August 2016, the FASB issued Accounting Standards Update ("ASU") 2016-15, Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments. The new standard provides guidance on eight targeted areas and how they are presented and classified in the statement of cash flows. The guidance is effective for fiscal years beginning after December 15, 2017. The Company adopted this new guidance in the first quarter of 2017, and it did not have a material impact on the Company's operating results, financial position or cash flows.

In March 2016, the FASB issued guidance relating to the accounting for share-based payment transactions. This guidance involves several aspects of the accounting for share-based payment transactions, including the income tax consequences, classifications of awards as either equity or liabilities and classification on the statement of cash flows. The standard is effective for the Company beginning in its fiscal year 2017, including interim periods within those fiscal years, and early adoption is permitted. The Company adopted this new guidance in the first quarter of 2017, and it did not have a material impact on the Company's operating results, financial position or cash flows.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). This ASU requires entities to recognize assets and liabilities for most leases on their balance sheets. It also requires additional qualitative and quantitative disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. ASU No. 2016-02 is effective for fiscal years, and interim periods

within those fiscal years, beginning after December 15, 2018, with early adoption permitted.  The Company is currently evaluating the effect that this standard will have on the consolidated financial statements and related disclosures.

In May 2014, FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers ("Topic 606")", with several clarifying updates issued during 2016. This new standard will replace all current GAAP guidance on this topic and eliminate all industry-specific guidance. The new revenue recognition guidance provides a unified model to determine when and how revenue is recognized. The core principle is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration for which the entity expects to be entitled in exchange for those goods or services. The mandatory adoption will require new qualitative and quantitative disclosures about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments, information about contract balances and performance obligations, and assets recognized from costs incurred to obtain or fulfill a contract. This guidance is effective for the Company beginning February 1, 2018, with early adoption permitted. The new revenue standards may be applied retrospectively to each prior period presented or retrospectively with the cumulative effect recognized as of the date of adoption. The Company has not yet selected the transition method. The Company currently expects to adopt the new revenue standards in the first quarter of 2018.

The Company is currently evaluating the impact of adopting the standard on the Company's financial position, results of operations, cash flows and related disclosures and has not concluded on its adoption methodology. Although it is early in the evaluation process, the Company does not expect Topic 606 to have a material impact on the financial statements, though internal processes, record keeping and disclosures may be significantly impacted. As a portion of the Company's sales are generated from the sale of finished products to customers, these sales predominantly contain a single delivery element, and revenue is recognized at a single point in time when ownership, risks, and rewards transfer. These are largely un-affected by the new standard. The remaining sales are not believed to be material, because Topic 606 generally supports the recognition of revenue over time under the cost-to-cost method for the majority of the contracts, which is consistent with the current percentage of completion revenue recognition model.

The Company evaluated other recent accounting pronouncements and does not expect them to have a material impact on the consolidated financial statements.

15.     Reclassifications. Reclassifications were made to the prior-year cashflow to conform to the current-year presentations which was not material to the financial statements.

The statements contained under the caption MD&A and other information contained elsewhere in this quarterly report, which can be identified by the use of forward-looking terminology such as "may," "will," "expect," "continue," "remains," "intend," "aim," "should," "prospects," "could," "future," "potential," "believes," "plans," "likely" and "probable" or the negative thereof or other variations thereon or comparable terminology, constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the safe harbors created thereby. These statements should be considered as subject to the many risks and uncertainties that exist in the Company's operations and business environment. Such risks and uncertainties could cause actual results to differ materially from those projected as a result of many factors, including, but not limited to, those under the heading Item 1A. Risk Factors included in the Company's latest Annual Report on Form 10-K.

Perma-Pipe International Holdings, Inc. is engaged in the manufacture and sale of products in one reportable segment: Piping Systems. The Company's website is www.permapipe.com . Since the Piping Systems segment includes large discrete projects, operating results could be negatively impacted in the future as a result of large variations in the level of market demand in reporting periods.

This discussion should be read in conjunction with the consolidated financial statements, including the notes thereto, contained elsewhere in this report.

Three months ended April 30, 2017 ( " current quarter " ) vs. Three months ended April 30, 2016 ( " prior-year quarter " )

Net sales increased 2% to $23.5 million in the current quarter from $23.1 million in the prior-year quarter. Weak demand for insulated pipe used in infrastructure projects in the Middle East negatively impacted the year-over-year revenue comparison. This was more than offset by higher volumes, most prominently in our Canadian operations, of which we acquired full equity ownership a year ago.

Gross margin decreased to 8% of net sales in the current quarter from 9% of net sales in the prior-year quarter. Project bids in markets with weak demand are increasingly competitive with respective pressure on intake margins, which caused the decrease in gross margin. Further reductions in plant expenses helped to mitigate some of the impact.

General and administrative expenses decreased to $1.9 million from $2.3 million . Savings from management changes and retirements were partly offset by $0.4 million in exchange rate losses realized in the first quarter on the payback of intercompany loans extended to a foreign subsidiary.

Current quarter vs. prior-year quarter

Corporate operating expenses include general and administrative expenses that are not allocated to the segment. General and administrative expenses decreased to $2.4 million in the current quarter from $2.8 million in the prior-year quarter. This decrease was due to reduced staffing partially offset by the effects from the reversal of accrued management incentives in the first quarter of the prior year.

Net interest expense decreased to $157 thousand in the current quarter from $226 thousand in the prior-year quarter due to lower borrowings, both domestic and foreign.

The Company's ETR from continuing operations for the current quarter was 12.2% compared to 4.0% during the respective prior-year quarter. The change in the ETR from the prior year to the current year was mainly due to the foreign income activity. The Company remains in a domestic net operating loss carryforward position. For additional information, see "Notes to Consolidated Financial Statements, Note 4 Income taxes".

For the three months ended April 30, 2017 , one customer accounted for 11% of the Company's consolidated net sales, and for the three months ended April 30, 2016 , one customer accounted for 15.2% of the Company's consolidated net sales.

At April 30, 2017 , one customer accounted for 28% of accounts receivable. Two customers accounted for 33% of accounts receivable at January 31, 2017 .

Cash and cash equivalents as of April 30, 2017 were $9.1 million compared to $7.6 million on January 31, 2017 . On April 30, 2017 , $0.2 million was held in the U.S., and $8.9 million was held at the foreign subsidiaries. The Company's working capital was $25.4 million on April 30, 2017 compared to $27.8 million on January 31, 2017 . Of the working capital components, accounts receivable decreased $7.5 million, inventory increased $1.7 million and accounts payable decreased $0.9 million. Net cash used in operating activities during the first three months of 2017 was $1.0 million compared to $3.8 million provided by operating activities during the first three months of 2016 .

Foreign earnings in the Middle East are considered to be indefinitely reinvested outside the U.S. The Company has not provided Federal tax on unremitted earnings of its Middle East subsidiaries. The Company does not believe that it will be necessary to repatriate investments from these subsidiaries. The $8.9 million held at the foreign subsidiaries are designated for working capital expansion and other operational investments outside the U.S.

Net cash provided by investing activities for the three months ended April 30, 2017 was $0.3 million .

Debt totaled $13.1 million on April 30, 2017 , a net increase of $1.3 million compared to the beginning of the current fiscal year. For additional information, see "Notes to Consolidated Financial Statements, Note 10 Debt". Net cash used in financing activities was $1.9 million for the three months ended April 30, 2017 .

On September 24, 2014, the Company entered into a Credit Agreement. Under the terms of the Credit Agreement, which matures on September 24, 2018 , the Company can borrow up to a combined $15.0 million in the U.S. and Canada, subject to borrowing base availability from secured domestic and certain Canadian assets, such as accounts receivable and inventory, and other requirements, under a revolving line of credit. The Credit Agreement covenants restrict debt, liens, share repurchases and investments, and require attainment of specific levels of profitability and cash flows . On April 30, 2017 , the Company was in compliance with loan covenants under the Credit Agreement. The North American revolving line balances as of April 30, 2017 and January 31, 2017 were included as current liabilities in the consolidated balance sheets, because the Credit Agreement has a subjective acceleration clause.

Interest rates vary based on the average availability in the preceding fiscal quarter and are: (a) a margin in effect plus a base rate, if below certain availability limits; or (b) a margin in effect plus the Eurodollar rate for the corresponding interest period. On April 30, 2017 , the Company had borrowed $5.8 million at 5.25% , 3.99% and 3.95% and had $4.2 million available to it under the revolving line of credit. In addition, $0.2 million of availability was used under the Credit Agreement primarily to support letters of credit to guarantee amounts committed for inventory purchases. Cash required for operations, as needed, is provided by draw downs on the line of credit.

Fujairah Base Rate, minimum 3.5% per annum, and Emirates Inter Bank Offered Rate (EIBOR) plus 3.5% per annum. On April 30, 2017, the Company's interest rates ranged from 3.5% to 6.0%, and the Company could borrow $24.6 million under these credit arrangements. On April 30, 2017 , $5.5 million of availability was used to support letters of credit to guarantee amounts committed for inventory purchases, and as there were no borrowings under these credit arrangements, an additional $19.1 million remained unused. The foreign revolving lines balances as of January 31, 2017 were included as current maturities of long-term debt in the consolidated balance sheets.

The Company believes its current cash and cash flow from operations, together with borrowing capacity under the revolving credit facilities, will be sufficient to fund anticipated operations, working capital and capital spending needs for at least the next 12 months.

Critical accounting policies are described in Item 7. MD&A and in the Notes to the Consolidated Financial Statements for the year ended January 31, 2017 contained in the Company's most recent Annual Report on Form 10-K. Any new accounting policies or updates to existing accounting policies as a result of new accounting pronouncements have been discussed in the Notes to Consolidated Financial Statements in this Quarterly Report on Form 10-Q. The application of critical accounting policies may require management to make assumptions, judgments and estimates about the amounts reflected in the Consolidated Financial Statements. Management uses historical experience and all available information to make these estimates and judgments, and different amounts could be reported using different assumptions and estimates.

The Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) as of April 30, 2017 . Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective as of April 30, 2017 to ensure that information required to be disclosed in the reports that are filed or submitted under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and is accumulated and communicated to the Company's management, including the principal executive and financial officers, to allow timely decisions regarding required disclosure.

There was no change in internal control over financial reporting during the quarter ended April 30, 2017 that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.