Item 1A. Risk Factors
There are many important factors, including
those discussed below (and above as described under “Patents and Proprietary Information”), that have affected, and
in the future could affect Hudson’s business including, but not limited to, the factors discussed below, which should be
reviewed carefully together with the other information contained in this report. Some of the factors are beyond Hudson’s
control and future trends are difficult to predict.
Risks Related to Business Strategy and Operations
Our existing and future debt obligations
could impair our liquidity and financial condition.
Our existing credit facilities, consisting
of an asset-based lending facility of up to $60 million from Wells Fargo Bank, National Association (“Wells Fargo Bank”)
and a term loan of $85 million from funds advised by FS Investments, are secured by substantially all of our assets and the Wells
Fargo Bank facility contains formulas that limit the amount of our future borrowings under that facility. Moreover, the terms of
our credit facilities also include financial and negative covenants that, among other things, may limit our ability to incur additional
indebtedness. If we violate any loan covenants and do not obtain a waiver from our lenders, our indebtedness under the credit facilities
would become immediately due and payable, and the lenders could foreclose on their security, which could materially adversely affect
our business and future financial condition and could require us to curtail or otherwise cease our existing operations.
Our revenues, results of operations and cash flows could
be materially and adversely affected by changes in commodity prices.
Our revenues, results of operations and
cash flows are affected by market prices for refrigerant gases. Commodity prices generally are affected by a wide range of factors
beyond our control, including weather, seasonality, the availability and adequacy of supply, government regulation and policies
and general political and economic conditions. We are exposed to fluctuating commodity prices as the result of our inventory of
various refrigerant gases. At any time, our inventory levels may be substantial. During 2019, there were $9.2 million of non-cash
charges for inventory adjustments of our refrigerant gases due to a decline in refrigerant gas prices. Further declines in refrigerant
gas prices could result in additional inventory adjustments and impairment charges. We have processes in place to monitor exposures
to these risks and engage in strategies to manage these risks. If these controls and strategies are not successful in mitigating
our exposure to these fluctuations, we could be materially and adversely affected.
Our business has been impacted by the COVID-19 pandemic.
The public health crisis caused by the COVID-19
pandemic and the measures being taken by governments, businesses, including us, and the public at large to limit COVID-19's
spread may have certain negative impacts on our business including, without limitation, the following:
8
Any of the negative impacts of the COVID-19
pandemic, including those described above, alone or in combination with others, may have a material adverse effect on our results
of operations, financial condition and cash flows. The full extent to which the COVID-19 pandemic will negatively affect our
results of operations, financial condition and cash flows will depend on future developments that are highly uncertain and cannot
be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities and other third parties
in response to the pandemic.
We
may need additional financing to satisfy our future capital requirements, which may not be readily available to us.
Our capital requirements may be significant
in the future. We may incur additional expenses in the development and implementation of our operations. Due to fluctuations in
the price, demand and availability of new refrigerants, our existing credit facility with Wells Fargo Bank that expires in December 2022
may not in the future be sufficient to provide all of the capital that we need to acquire and manage our inventories of new refrigerant.
As a result, we may be required to seek additional equity or debt financing in order to develop our RefrigerantSide® Services
business, our refrigerant sales business and our other businesses. We have no current arrangements with respect to, or sources
of, additional financing other than our existing credit facility and term loan. There can be no assurance that we will be able
to obtain any additional financing on terms acceptable to us or at all. Our inability to obtain financing, if and when needed,
could materially adversely affect our business and future financial condition and could require us to curtail or otherwise cease
our existing operations.
Adverse weather or economic downturn
could adversely impact our financial results.
Our business could be negatively impacted
by adverse weather or economic downturns. Weather is a significant factor in determining market demand for the refrigerants sold
by us, and to a lesser extent, our RefrigerantSide® Services. Unusually cool temperatures in the spring and summer tend to
depress demand for, and price of, refrigerants we sell. Protracted periods of cooler than normal spring and summer weather could
result in a substantial reduction in our sales which could adversely affect our financial position as well as our results of operations.
An economic downturn could cause customers to postpone or cancel purchases of the Company’s products or services. Either
or both of these conditions could have severe negative implications to our business that may exacerbate many of the risk factors
we identified in this report but not limited, to the following:
Liquidity
These conditions could reduce our liquidity,
which could have a negative impact on our financial condition and results of operations.
Demand
These conditions could lower the demand
and/or price for our product and services, which would have a negative impact on our results of operations.
Financial Covenants
These conditions could impact our ability
to meet our loan covenants which, if we are unable to obtain a waiver from our lenders, could materially adversely affect our business
and future financial condition and could require us to curtail or otherwise cease our existing operations.
Our business
is impacted by customer concentration.
In July 2016, we were awarded, as
prime contractor, a five-year fixed price contract, including a five-year renewal option, by the United States Defense Logistics
Agency (“DLA”) for the management and supply of refrigerants, compressed gases, cylinders and related items to US
Military commands and installations, Federal civilian agencies and foreign militaries. Our contract with DLA expires in July 2021
unless the five-year renewal option is exercised by DLA. Although we expect that DLA will renew the agreement, there can be no
assurance that the agreement will be renewed. For the years ended December 31, 2020 and 2019, the DLA accounted for 14% of
our revenues. The loss of DLA as a customer could have a material adverse effect on our financial position and results of operations.
9
Risks Related to Regulatory and Environmental Matters
The nature of our business exposes
us to potential liability.
The refrigerant recovery and reclamation
industry involves potentially significant risks of statutory and common law liability for environmental damage and personal injury.
We, and in certain instances, our officers, directors and employees, may be subject to claims arising from our on-site or off-site
services, including the improper release, spillage, misuse or mishandling of refrigerants classified as hazardous or non-hazardous
substances or materials. We may be strictly liable for damages, which could be substantial, regardless of whether we exercised
due care and complied with all relevant laws and regulations. Our current insurance coverage may not be sufficient to cover potential
claims, and adequate levels of insurance coverage may not be available in the future at a reasonable cost. A partially or completely
uninsured claim against us, if successful and of sufficient magnitude would have a material adverse effect on our business and
financial condition.
Our business and financial condition
is substantially dependent on the sale and continued environmental regulation of refrigerants.
Our business and prospects are largely
dependent upon continued regulation of the use and disposition of refrigerants. Changes in government regulations relating to the
emission of refrigerants into the atmosphere could have a material adverse effect on us. Failure by government authorities to otherwise
continue to enforce existing regulations or significant relaxation of regulatory requirements could also adversely affect demand
for our services and products.
Our business is subject to significant
regulatory compliance burdens.
The refrigerant reclamation and management
business is subject to extensive, stringent and frequently changing federal, state and local laws and substantial regulation under
these laws by governmental agencies, including the EPA, the OSHA and DOT. Although we believe that we are in material compliance
with all applicable regulations material to our business operations, amendments to existing statutes and regulations or adoption
of new statutes and regulations that affect the marketing and sale of refrigerant could require us to continually alter our methods
of operation and/or discontinue the sale of certain of our products resulting in costs to us that could be substantial. We may
not be able, for financial or other reasons, to comply with applicable laws, regulations and permit requirements, particularly
as we seek to enter into new geographic markets. Our failure to comply with applicable laws, rules or regulations or permit
requirements could subject us to civil remedies, including substantial fines, penalties and injunctions, as well as possible criminal
sanctions, which would, if of significant magnitude, materially adversely impact our operations and future financial condition.
A number of factors could negatively
impact the price and/or availability of refrigerants, which would, in turn, adversely affect our business and financial condition.
Refrigerant sales continue to represent
a significant majority of our revenues. Therefore, our business is substantially dependent on the availability of both new and
used refrigerants in large quantities, which may be affected by several factors including, without limitation: (i) commercial
production and consumption limitations imposed by the Act and legislative limitations and ban on HCFC refrigerants; (ii) the
amendment to the Montreal Protocol, if ratified, and any legislation and regulation enacted to implement the amendment, could impose
limitations on production and consumption of HFC refrigerants; (iii) introduction of new refrigerants and air conditioning
and refrigeration equipment; (iv) price competition resulting from additional market entrants; (v) changes in government
regulation on the use and production of refrigerants; and (vi) reduction in price and/or demand for refrigerants. We do not
maintain firm agreements with any of our suppliers of refrigerants and we do not hold allowances permitting us to purchase and
import HCFC refrigerants from abroad. Sufficient amounts of new and/or used refrigerants may not be available to us in the future,
particularly as a result of the further phase down of HCFC production, or may not be available on commercially reasonable terms.
Additionally, we may be subject to price fluctuations, periodic delays or shortages of new and/or used refrigerants. Our failure
to obtain and resell sufficient quantities of virgin refrigerants on commercially reasonable terms, or at all, or to obtain, reclaim
and resell sufficient quantities of used refrigerants would have a material adverse effect on our operating margins and results
of operations.
Issues relating to potential global
warming and climate change could have an impact on our business.
Refrigerants are considered to be strong greenhouse gases that
are believed to contribute to global warming and climate change and are now subject to various state and federal regulations relating
to the sale, use and emissions of refrigerants. Current and future global warming and climate change or related legislation and/or
regulations may impose additional compliance burdens on us and on our customers and suppliers which could potentially result in
increased administrative costs, decreased demand in the marketplace for our products, and/or increased costs for our supplies and
products. In addition, an amendment to the Montreal Protocol has established timetables for all developed and developing countries
to freeze and then reduce production and use of HFCs by 85% by 2047, with the first reductions by developed countries in 2019.
The amendment became effective January 1, 2019. In December 2020, legislation was enacted in the United States that will
require the phasedown of virgin production of HFCs.
Risks Related to Our Common Stock and Other General Risks
As a result of competition, and the
strength of some of our competitors in the market, we may not be able to compete effectively.
The markets for our services and products
are highly competitive. We compete with numerous regional and national companies which provide refrigerant recovery and reclamation
services, as well as companies which market and deal in new and reclaimed alternative refrigerants, including certain of our suppliers,
some of which possess greater financial, marketing, distribution and other resources than us. We also compete with numerous manufacturers
of refrigerant recovery and reclamation equipment. Certain of these competitors have established reputations for success in the
service of air conditioning and refrigeration systems. We may not be able to compete successfully, particularly as we seek to enter
into new markets.
10
We have the ability to designate
and issue preferred stock, which may have rights, preferences and privileges greater than Hudson’s common stock and which
could impede a subsequent change in control of us.
Our Certificate of Incorporation authorizes
our Board of Directors to issue up to 5,000,000 shares of “blank check” preferred stock and to fix the rights, preferences,
privileges and restrictions, including voting rights, of these shares, without further shareholder approval. The rights of the
holders of our common stock will be subject to, and may be adversely affected by, the rights of holders of any additional preferred
stock that may be issued by us in the future. Our ability to issue preferred stock without shareholder approval could have the
effect of making it more difficult for a third party to acquire a majority of our voting stock, thereby delaying, deferring or
preventing a change in control of us.
If our common stock were delisted
from NASDAQ it could be subject to “penny stock” rules which would negatively impact its liquidity and our shareholders’
ability to sell their shares.
Our common stock is currently listed on
the NASDAQ Capital Market. We must comply with numerous NASDAQ Marketplace rules in order to continue the listing of our common
stock on NASDAQ. There can be no assurance that we can continue to meet the rules required to maintain the NASDAQ listing
of our common stock. If we are unable to maintain our listing on NASDAQ, the market liquidity of our common stock may be severely
limited.
Our management has significant control
over our affairs.
Currently, our officers and directors collectively
beneficially own approximately 14% of our outstanding common stock. Accordingly,
our officers and directors are in a position to significantly affect major corporate transactions and the election of our directors.
There is no provision for cumulative voting for our directors.
We may fail to successfully integrate
any additional acquisitions made by us into our operations.
As part of our business strategy, we may
look for opportunities to grow by acquiring other product lines, technologies or facilities that complement or expand our existing
business. We may be unable to identify additional suitable acquisition candidates or negotiate acceptable terms. In addition, we
may not be able to successfully integrate any assets, liabilities, customers, systems or management personnel we may acquire into
our operations and we may not be able to realize related revenue synergies and cost savings within expected time frames. There
can be no assurance that we will be able to successfully integrate any prior or future acquisition.
Our information technology systems,
processes, and sites may suffer interruptions, failures, or attacks which could affect our ability to conduct business.
Our information technology systems provide
critical data connectivity, information and services for internal and external users. These include, among other things, processing
transactions, summarizing and reporting results of operations, complying with regulatory, legal or tax requirements, storing project
information and other processes necessary to manage the business. Our systems and technologies, or those of third parties on which
we rely, could fail or become unreliable due to equipment failures, software viruses, cyber threats, terrorist acts, natural disasters,
power failures or other causes. Cybersecurity threats are evolving and include, but are not limited to, malicious software, cyber
espionage, attempts to gain unauthorized access to our sensitive information, including that of our customers, suppliers, and subcontractors,
and other electronic security breaches that could lead to disruptions in mission critical systems, unauthorized release of confidential
or otherwise protected information, and corruption of data. Although we utilize various procedures and controls to monitor and
mitigate these threats, there can be no assurance that these procedures and controls will be sufficient to prevent security threats
from materializing. If any of these events were to materialize, the costs related to cyber or other security threats or disruptions
may not be fully insured or indemnified and could have a material adverse effect on our reputation, operating results, and financial
condition.
11
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
The Company’s headquarters are located
in a multi-tenant building in Pearl River, New York, which houses the Company’ executive officers, its accounting and administrative
staff, and its information technology staff and equipment, and the Company also maintains administrative and sales offices in Long
Island City, New York. The Company’s key reclamation, processing and cylinder refurbishment facilities are located in Champaign, Illinois
and Smyrna, Georgia. The Company also sells industrial gases out of facilities located in Escondido, California and in Champaign, Illinois.
The Company maintains smaller reclamation and cylinder refurbishing facilities in Ontario, California. The Company also maintains
four smaller service depots for the performance of its RefrigerantSide® Services and maintains three sales and telemarketing
offices.
Hudson’s key operational facilities
are as follows:
Location Owned or Leased Description
Pearl River, New York Leased Company headquarters and administrative offices
Smyrna, Georgia Owned Refrigerant storage
Tulsa, Oklahoma Leased Energy services
Item 3. Legal Proceedings
None.
Item 4. Mine Safety Disclosures
Not Applicable.
12
Part II
Item 5. Market for Registrant’s
Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
The Company's common stock trades on the
NASDAQ Capital Market under the symbol “HDSN”.
The number of record holders of the Company's
common stock was approximately 110 as of March 12, 2021. The Company believes that there are approximately 4,000 beneficial
owners of its common stock.
To date, the Company has not declared or
paid any cash dividends on its common stock. The payment of dividends, if any, in the future is within the discretion of the Board
of Directors and will depend upon the Company's earnings, its capital requirements and financial condition, borrowing covenants,
and other relevant factors. The Company presently intends to retain all earnings, if any, to finance the Company's operations and
development of its business and does not expect to declare or pay any cash dividends on its common stock in the foreseeable future.
In addition, the Company has a credit facility with Wells Fargo Bank, National Association and a separate term loan that, among
other things, restrict the Company's ability to declare or pay any cash dividends on its capital stock.
Item 6. Selected Financial Data
Not required.
Item 7. Management’s Discussion
and Analysis of Financial Condition and Results of Operations
Certain statements, contained in this section
and elsewhere in this Form 10-K, constitute “forward-looking statements” within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements involve a number of known and unknown risks, uncertainties and other
factors which may cause the actual results, performance or achievements of the Company to be materially different from any future
results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, but are not
limited to, changes in the laws and regulations affecting the industry, changes in the demand and price for refrigerants (including
unfavorable market conditions adversely affecting the demand for, and the price of refrigerants), the Company's ability to source
refrigerants, regulatory and economic factors, seasonality, competition, litigation, the nature of supplier or customer arrangements
that become available to the Company in the future, adverse weather conditions, possible technological obsolescence of existing
products and services, possible reduction in the carrying value of long-lived assets, estimates of the useful life of its assets,
potential environmental liability, customer concentration, the ability to obtain financing, the ability to meet financial covenants
under our financing facilities, any delays or interruptions in bringing products and services to market, the timely availability
of any requisite permits and authorizations from governmental entities and third parties as well as factors relating to doing business
outside the United States, including changes in the laws, regulations, policies, and political, financial and economic conditions,
including inflation, interest and currency exchange rates, of countries in which the Company may seek to conduct business, and
integration of any other assets it acquires from third parties into its operations, and other risks detailed in this report and
in the Company’s other subsequent filings with the Securities and Exchange Commission (“SEC”). The words “believe”,
“expect”, “anticipate”, “may”, “plan”, “should” and similar expressions
identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date the statement was made.
13
Impact of COVID-19 Pandemic
During the year ended December 31,
2020, the effects of a novel strain of coronavirus ("COVID-19") pandemic and the related actions by governments around
the world to attempt to contain the spread of the virus have materially impacted the global economy.
In response to the COVID-19 outbreak and
business disruption, we have four primary priorities:
• To ensure the health and safety of Hudson employees
• To best position ourselves to emerge strong when this crisis ends
We operate in a “critical infrastructure
industry” and are an essential business as defined by the United States government as we procure, process, service and deliver
refrigerants to the government and wholesale and retail organizations, which also service both residential homes and commercial
institutions throughout the United States. While the conditions in the United States and the economy have worsened, we have been
effectively running our operations, including the following:
- Keeping all plants open, while maintaining proper safety standards
- Directing all office personnel to work remotely, efficiently and safely
As of the date of this filing, we have
activated our contingency plans. We have deployed national and regional teams to monitor the rapidly evolving situation and recommend
risk mitigation actions; we have implemented travel restrictions; and we are following social distancing practices. We are endeavoring
to follow guidance from authorities and health officials including, but not limited to, requiring associates to wear masks and
other protective clothing as appropriate, and implementing additional cleaning and sanitization routines at system facilities.
During times of crisis, business continuity
and adapting to the needs of our customers is critical. We have developed systemwide knowledge-sharing routines and processes which
include the management of any supply chain challenges. As of the date of this filing, there has been no material impact on our
ability to procure or distribute our products and services. We are moving with speed to best serve our customers impacted by COVID-19
and to ensure adequate inventory levels in key channels. We have shifted to more remote and paperless options for customer payments
and receipts, including ACH payments.
Critical Accounting Policies
The Company's discussion and analysis of
its financial condition and results of operations are based upon its consolidated financial statements, which have been prepared
in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial
statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues
and expenses and related disclosure of contingent assets and liabilities. Several of the Company's accounting policies involve
significant judgments, uncertainties and estimates. The Company bases its estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments
about the carrying values of assets and liabilities. Actual results may differ from these estimates under different assumptions
or conditions. To the extent that actual results differ from management's judgments and estimates, there could be a material adverse
effect on the Company. On a continuous basis, the Company evaluates its estimates, including, but not limited to, those estimates
related to its inventory reserves, valuation allowance for the deferred tax assets relating to its net operating loss carry forwards
(“NOLs”) and goodwill and intangible assets.
Inventory
For inventory, the Company evaluates both
current and anticipated sales prices of its products to determine if a write down of inventory to net realizable value is necessary.
Net realizable value represents the estimated selling price in the ordinary course of business, less reasonably predictable costs
of completion and disposal. The determination if a write-down to net realizable value is necessary is primarily affected by the
market prices for the refrigerant gases we sell. Commodity prices generally are affected by a wide range of factors beyond our
control, including weather, seasonality, the availability and adequacy of supply, government regulation and policies and general
political and economic conditions. At any time, our inventory levels may be substantial.
14
During 2019, the Company recorded a lower
of cost or net realizable value adjustment of $9.2 million to its inventory resulting from a challenging pricing environment affecting
the refrigerant gas industry. Further declines in refrigerant gas prices could result in additional inventory net realizable value
adjustments. Pricing has stabilized and increased in 2020 so no such adjustment was required in 2020.
Goodwill
The Company has made acquisitions that
included a significant amount of goodwill and other intangible assets. The Company applies the purchase method of accounting for
acquisitions, which among other things, requires the recognition of goodwill (which represents the excess of the purchase price
of the acquisition over the fair value of the net assets acquired and identified intangible assets). We test our goodwill for impairment
on an annual basis (the first day of the fourth quarter) and between annual tests if an event occurs or circumstances change that
would more likely than not reduce the fair value of an asset below its carrying value. Other intangible assets that meet certain
criteria are amortized over their estimated useful lives.
Beginning in 2017, the Company adopted,
on a prospective basis, ASU No. 2017-04, which simplifies the accounting for goodwill impairment by eliminating Step 2 of
the prior goodwill impairment test that required a hypothetical purchase price allocation to measure goodwill impairment. Under
the new standard, a company records an impairment charge based on the excess of a reporting unit’s carrying amount over
its fair value. An impairment charge would be recognized when the carrying amount exceeds the estimated fair value of a reporting
unit. These impairment evaluations use many assumptions and estimates in determining an impairment loss, including certain assumptions
and estimates related to future earnings. If the Company does not achieve its earnings objectives, the assumptions and estimates
underlying these impairment evaluations could be adversely affected, which could result in an asset impairment charge that would
negatively impact operating results.
In 2019, due to a significant selling price
correction leading to unfavorable market conditions, the Company performed a quantitative test by weighing the results of an income-based
valuation technique (the discounted cash flows method) and a market-based valuation technique to determine the fair value of its
reporting unit. The Company also performed a similar quantitative test for its annual impairment testing date in 2020.
The discounted cash flow methodology included:
(i) management's estimates, such as discount rates, terminal growth rates, and projections of revenue, operating margin and cash
flows and (ii) assumptions related to general economic and market conditions, including inherent uncertainties regarding the projected
impact of the COVID-19 pandemic. The Company initially established a forecast of the estimated future net cash flows, which were
then discounted to their present value. The market-based valuation technique utilizes market multiple assumptions for comparable
companies to estimate the fair value of the reporting unit.
There were no goodwill impairment losses
recognized in any of the two years ended December 31, 2020 and 2019.
Other Intangibles
Intangibles with determinable lives are
amortized over the estimated useful lives of the assets currently ranging from 3 to 13 years. The Company reviews these useful
lives annually to determine that they reflect future realizable value.
Income Taxes
The Company is taxed at statutory corporate
income tax rates after adjusting income reported for financial statement purposes for certain items. Current income tax expense
(benefit) reflects the tax results of revenues and expenses currently taxable or deductible. The Company utilizes the asset and
liability method of accounting for deferred income taxes, which provides for the recognition of deferred tax assets or liabilities,
based on enacted tax rates and laws, for the differences between the financial and income tax reporting bases of assets and liabilities.
15
The tax benefit associated with the Company’s
net operating loss carry forwards (“NOLs”) is recognized to the extent that the Company expects to realize future taxable
income. As a result of a prior “change in control”, as defined by the Internal Revenue Service, the Company’s
ability to utilize its existing NOLs is subject to certain annual limitations. To the extent that the Company utilizes its NOLs,
it will not pay tax on such income. However, to the extent that the Company’s net income, if any, exceeds the annual NOL
limitation, it will pay income taxes based on the then existing statutory rates. In addition, certain states either do not allow
or limit NOLs and as such the Company will be liable for certain state income taxes.
On March 27, 2020, the Coronavirus
Aid, Relief, and Economic Security Act (“CARES Act”) was enacted in response to the COVID-19 pandemic. The CARES Act,
among other things, permits NOL carryovers and carrybacks to offset 100% of taxable income for taxable years beginning before 2021.
In addition, the CARES Act allows NOLs incurred in 2018, 2019, and 2020 to be carried back to each of the five preceding taxable
years to generate a refund of previously paid income taxes. The Company has evaluated its options under the carryback provision
and filed a claim for refund, resulting in a cash benefit. Further, the CARES Act accelerates the refund of the alternative minimum
tax credits to allow a full refund of any remaining credit amount in taxable years beginning in 2019. The credits were originally
fully refundable in taxable years beginning in 2021. As a result, the Company has recorded a preliminary $47,000 tax benefit related
to the alternative minimum tax refund in the quarter ended March 31, 2020 and an additional $380,000 in the quarter ended
June 30, 2020. Finally, the CARES Act contains modifications on the limitation of business interest for tax years beginning
in 2019 and 2020. The modifications to Section 163(j) increase the allowable business interest deduction from 30% of
adjusted taxable income to 50% of adjusted taxable income. This modification results in a $2,154,000 increase in allowable interest
expense, which in turn results in an increase to our net operating losses of $2,154,000 in the year ended December 31, 2020.
However, the impact of the additional interest expense did not impact our income tax provision since the increase in the deferred
tax asset for net operating losses was offset by an increase to the valuation allowance.
As of December 31, 2020, the Company
had NOLs of approximately $46.1 million, of which $40.7 million have no expiration date and $5.4 million expire through 2023.
As of December 31, 2020, the Company had state tax NOLs of approximately $31.2 million expiring in various years. We review the
likelihood that we will realize the benefit of our deferred tax assets, and therefore the need for valuation allowances, on an
annual basis in the fourth quarter of the year, and more frequently if events indicate that a review is required. In determining
the requirement for a valuation allowance, the historical and projected financial results are considered, along with all other
available positive and negative evidence.
Concluding
that a valuation allowance is not required is difficult when there is significant negative evidence that is objective and verifiable,
such as cumulative losses in recent years. We utilize a rolling twelve quarters of pre-tax income or loss adjusted for significant
permanent book to tax differences, as well as non-recurring items, as a measure of our cumulative results in recent years. Based
on our assessment as of December 31, 2018 and 2019, we concluded that due to the uncertainty that the deferred tax assets
will not be fully realized in the future, we recorded a valuation allowance of approximately $11.3 million during 2018, and due
to additional losses, increased the valuation allowance through 2019 and December 31, 2020, with an ending balance of $19.0
million as of December 31, 2020.
The Company evaluates uncertain tax positions,
if any, by determining if it is more likely than not to be sustained upon examination by the taxing authorities. As of December
31, 2020 and December 31, 2019, the Company believes it had no uncertain tax positions.
Overview
Sales of refrigerants continue to represent
a significant majority of the Company’s revenues.
In July 2016 the Company was awarded,
as prime contractor, a five-year contract, including a five-year renewal option, by the United States Defense Logistics Agency
(“DLA”) for the management, supply, and sale of refrigerants, compressed gases, cylinders and related terms.
Results of Operations
Year ended December 31, 2020 as
compared to the year ended December 31, 2019
Revenues for the year ended December 31,
2020 were $147.6 million, a reduction of $14.5 million or 9% from the $162.1 million reported during the comparable 2019 period.
Most of the variance is due to a decline in volume. During the 2020 period, the COVID-19 virus pandemic and the associated effect
on our economy, including the closures to public venues, such as office buildings, gyms, schools and universities across the U.S.,
negatively impacted our end markets and overall demand for refrigerants.
Cost of sales for the year ended December 31,
2020 was $112.2 million or 76% of sales. Cost of sales for the year ended December 31, 2019 was $144.9 million or 89% of sales.
In 2020, the Company has reduced its inventory cost by selling off higher cost layers of inventory to achieve greater gross profit.
During the three month period ended June 30, 2019, the Company recorded a lower of cost or net realizable value adjustment
to its inventory of $9.2 million, mainly due to declines in selling prices of certain refrigerants at that time.
Selling, general and administrative (“SG&A”)
expenses for the year ended December 31, 2020 were $26.6 million, a reduction of $3.4 million from the $30.0 million reported
during the comparable 2019 period. The decrease in SG&A was due to reduced professional fees, stock compensation expense, sales
commission and payroll expense.
Amortization expense was $2.9 million during
both 2020 and 2019, respectively.
Other expense for 2020 was $11.3 million,
compared to the $9.5 million of other expense reported during the comparable 2019 period. Interest expense was $6.6 million lower
in 2020 when compared to 2019 primarily due to reduced debt resulting from the Company paying down $14 million of principal of
its term loan debt in December 2019. On June 23, 2020, Kevin J. Zugibe, Chairman of the Board and Chief Executive Officer
of the Company, passed away unexpectedly; during the third quarter of 2020, the Company received $1 million of key man life insurance
proceeds. In August 2019, the Company received $8.9 million of cash pursuant to the settlement of a working capital adjustment
dispute arising from the acquisition of Aspen Refrigerants, Inc. in October 2017.
Income tax benefit for 2020 was $0.2 million
compared to income tax expense of $0.7 million for 2019. For 2020 and 2019, income tax expense for federal and state income tax
purposes was determined by applying statutory income tax rates to pre-tax income after adjusting for certain items. As discussed
previously, we concluded that due to the uncertainty that the deferred tax assets will not be fully realized in the future, we
have recorded a full valuation allowance as of December 31, 2020.
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The net loss for the year ended December
31, 2020 was $5.2 million, compared to $25.9 million of net loss reported during the comparable 2019 period. The reduction in
net loss is primarily due to a lower of cost or net realizable value adjustment in 2019, improved gross margins, reduced SG&A
and interest expense, partially offset by reduced revenue and other income, as described above.
Liquidity and Capital Resources
At December 31, 2020, the Company
had working capital, which represents current assets less current liabilities, of $24.4 million, a decrease of $3.9 million from
the working capital of $28.3 million at December 31, 2019. The decrease in working capital is primarily attributable to reduced
inventory levels, as described above, offset by a $12 million paydown of revolving loans.
Inventory and trade receivables are principal
components of current assets. At December 31, 2020, the Company had inventory of $44.5 million, a decrease of $14.7 million
from $59.2 million at December 31, 2019. The decrease in the inventory balance is primarily due to the sale of refrigerants
and the timing and availability of inventory purchases. The Company’s ability to sell and replace its inventory on a timely
basis and the prices at which it can be sold are subject, among other things, to current market conditions and the nature of supplier
or customer arrangements and the Company’s ability to source CFC based refrigerants (which are no longer being produced),
HCFC refrigerants (which are currently being phased down leading to a full phase out of virgin production), or non-CFC based refrigerants.
At December 31, 2020, the Company had trade receivables, net of allowance for doubtful accounts, of $9.8 million, an increase
of $1.7 million from $8.1 million at December 31, 2019. The Company’s trade receivables are concentrated with various
wholesalers, brokers, contractors and end-users within the refrigeration industry that are primarily located in the continental
United States. The Company has historically financed its working capital requirements through cash flows from operations, the issuance
of debt and equity securities, and bank borrowings.
Net cash provided by operating activities
for the year ended December 31, 2020 was $11.7 million, a reduction of $22.1 million compared to the net cash provided by
operating activities of $33.8 million for the comparable 2019 period. As mentioned previously, in August 2019, the Company
received $8.9 million of cash pursuant to the settlement of a working capital adjustment dispute arising from the acquisition of
Aspen Refrigerants, Inc. in October 2017.
Net cash used in investing activities for
2020 and 2019 was $0.5 million and $1.0 million, respectively. As described above, key man life insurance proceeds of $1.0 million
were offset by capital expenditures incurred in the ordinary course of business, mainly in our plant facilities.
Net cash used in financing activities for
2020 and 2019 was $12.5 million and $32.5 million, respectively. The Company received a loan of approximately $2.5 million pursuant
to the PPP during the second quarter of 2020. The Company expects that almost the entire balance will be forgiven, but the process
is not expected to be finalized until the first half of 2021. As described above, the Company received an $8.9 million cash settlement
of a working capital adjustment, which it utilized to pay down debt in 2019.
At December 31, 2020, cash and cash
equivalents were $1.3 million, or approximately $1.3 million lower than the $2.6 million of cash and cash equivalents at December 31,
2019. The variance is mainly due to timing of payments, receipts and additional paydown of the revolver balance.
Revolving Credit Facility
On December 19, 2019, Hudson Technologies
Company (“HTC”), Hudson Holdings, Inc. (“Holdings”) and Aspen Refrigerants, Inc. (“ARI”),
as borrowers (collectively, the “Borrowers”), and Hudson Technologies, Inc. (the “Company”) as a guarantor,
became obligated under a Credit Agreement (the “Wells Fargo Facility”) with Wells Fargo Bank, as administrative agent
and lender (“Agent” or “Wells Fargo”) and such other lenders as may thereafter become a party to the Wells
Fargo Facility.
Under the terms of the Wells Fargo Facility,
the Borrowers may borrow, from time to time, up to $60 million at any time consisting of revolving loans in a maximum amount up
to the lesser of $60 million and a borrowing base that is calculated based on the outstanding amount of the Borrowers’ eligible
receivables and eligible inventory, as described in the Wells Fargo Facility. The Wells Fargo Facility also contains a sublimit
of $5 million for swing line loans and $2 million for letters of credit.
Amounts borrowed under the Wells Fargo
Facility were used by the Borrowers to repay existing revolving indebtedness under its prior revolving credit facility, repay certain
principal amounts under the Term Loan Facility (as defined below), and may be used for working capital needs, certain permitted
acquisitions, and to reimburse drawings under letters of credit.
Interest on loans under the Wells Fargo
Facility is payable in arrears on the first day of each month. Interest charges with respect to loans are computed on the actual
principal amount of loans outstanding during the month at a rate per annum equal to (A) with respect to Base Rate loans, the
sum of (i) a rate per annum equal to the higher of (1) the federal funds rate plus 0.5%, (2) one month LIBOR plus
1.0%, and (3) the prime commercial lending rate of Wells Fargo, plus (ii) between 1.25% and 1.75% depending on average
monthly undrawn availability and (B) with respect to LIBOR rate loans, the sum of the LIBOR rate plus between 2.25% and 2.75%
depending on average monthly undrawn availability.
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In connection with the closing of the Wells
Fargo Facility, the Company also entered into a Guaranty and Security Agreement, dated as of December 19, 2019 (the “Revolver
Guaranty and Security Agreement”), pursuant to which the Company and certain subsidiaries unconditionally guaranteed the
payment and performance of all obligations owing by Borrowers to Wells Fargo, as Agent for the benefit of the revolving lenders.
Pursuant to the Revolver Guaranty and Security Agreement, Borrowers, the Company and ten other subsidiaries granted to the Agent,
for the benefit of the Wells Fargo Facility lenders, a security interest in substantially all of their respective assets, including
receivables, equipment, general intangibles (including intellectual property), inventory, subsidiary stock, real property, and
certain other assets. The Revolver Guaranty and Security Agreement also provides that the Agent shall receive the right to dominion
over certain of the Borrowers’ bank accounts in the event of an Event of Default under the Wells Fargo Facility, or if undrawn
availability under the Wells Fargo Facility falls below $9 million at any time.
The Wells Fargo Facility contains a financial
covenant requiring the Company to maintain at all times minimum liquidity (defined as availability under the Wells Fargo Facility
plus unrestricted cash) of at least $5 million, of which at least $3 million must be derived from availability. The Wells Fargo
Facility also contains a springing covenant, which takes effect only upon a failure to maintain undrawn availability of at least
$7.5 million, requiring the Company to maintain a Fixed Charge Coverage Ratio (FCCR) of not less than 1.00 to 1.00, as of the end
of each trailing period of twelve consecutive fiscal months commencing with the month prior to the triggering of the covenant.
The FCCR (as defined in the Wells Fargo Facility) is the ratio of (a) EBITDA for such period, minus unfinanced capital expenditures
made during such period, to (b) the aggregate amount of (i) interest expense required to be paid (other than interest
paid-in-kind, amortization of financing fees, and other non-cash interest expense) during such period, (ii) scheduled principal
payments (but excluding principal payments relating to outstanding revolving loans under the Wells Fargo Facility), (iii) all
net federal, state, and local income taxes required to be paid during such period (provided, that any tax refunds received shall
be applied to the period in which the cash outlay for such taxes was made), (iv) all restricted payments paid (as defined
in the Wells Fargo Facility) during such period, and (v) to the extent not otherwise deducted from EBITDA for such period,
all payments required to be made during such period in respect of any funding deficiency or funding shortfall with respect to any
pension plan. The FCCR covenant ceases after the Borrowers have been in compliance therewith for two consecutive months.
The Wells Fargo Facility also contains
customary non-financial covenants relating to the Company and the Borrowers, including limitations on Borrowers’ ability
to pay dividends on common stock or preferred stock, and also includes certain events of default, including payment defaults, breaches
of representations and warranties, covenant defaults, cross-defaults to other obligations, events of bankruptcy and insolvency,
certain ERISA events, judgments in excess of specified amounts, impairments to guarantees and a change of control. The Wells Fargo
Facility also contains certain covenants contained in the Fourth Amendment to the Term Loan Facility described below.
On April 23, 2020, the Borrowers,
the Company and its subsidiaries entered into a First Amendment to Credit Agreement with Wells Fargo (the “First Amendment”).
The First Amendment authorized the Company and its subsidiaries to incur up to $2.5 million of indebtedness under the Coronavirus
Aid, Relief, and Economic Security Act (the “CARES Act”) and contained other provisions relating to the treatment of
such proceeds and any potential debt forgiveness, under the Wells Fargo Facility.
The commitments under the Wells Fargo Facility
will expire and the full outstanding principal amount of the loans, together with accrued and unpaid interest, are due and payable
in full on December 19, 2022, unless the commitments are terminated and the outstanding principal amount of the loans are
accelerated sooner following an event of default.
Term Loan Facility
On October 10, 2017, HTC, Holdings,
and ARI, as borrowers, and the Company, as guarantor, became obligated under a Term Loan Credit and Security Agreement (as amended,
the “Term Loan Facility”) with U.S. Bank National Association, as administrative agent and collateral agent (“Term
Loan Agent”) and funds advised by FS Investments and such other lenders as may thereafter become a party to the Term
Loan Facility (the “Term Loan Lenders”).
Under the terms of the Term Loan Facility,
the Borrowers immediately borrowed $105 million pursuant to a term loan (the “Term Loan”).
The Term Loan matures on October 10,
2023. Interest on the Term Loan is generally payable on the earlier of the last day of the interest period applicable to such
Eurodollar rate loan and the last day of the Term Loan Facility, as applicable. Interest is payable at the rate per annum of the
Eurodollar Rate (as defined in the Term Loan Facility) plus 10.25%. The Borrowers have the option of paying 3.00% interest
per annum in kind by adding such amount to the principal of the Term Loans during no more than five fiscal quarters during the
term of the Term Loan Facility.
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Borrowers and the Company granted to the
Term Loan Agent, for the benefit of the Term Loan Lenders, a security interest in substantially all of their respective assets,
including receivables, equipment, general intangibles (including intellectual property), inventory, subsidiary stock, real property,
and certain other assets.
The Term Loan Facility contains a financial
covenant requiring the Company to maintain a specified total leverage ratio (“TLR”), tested as of the last day of
the fiscal quarter. The TLR (as defined in the Term Loan Facility) is the ratio of (a) funded debt as of such day to (b) EBITDA
for the four consecutive fiscal quarters ending on the last day of such fiscal quarter. Funded debt (as defined in the Term Loan
Facility) includes amounts borrowed under the Wells Fargo Facility and the Term Loan Facility as well as capitalized lease obligations
and other indebtedness for borrowed money maturing more than one year from the date of creation thereof. As of December 31, 2020
and 2019, the TLR was approximately 5.84 to 1 and 11.22 to 1, respectively.
The Term Loan Facility also contains customary
non-financial covenants relating to the Company and the Borrowers, including limitations on their ability to pay dividends on common
stock or preferred stock, and also includes certain events of default, including payment defaults, breaches of representations
and warranties, covenant defaults, cross-defaults to other obligations, events of bankruptcy and insolvency, certain ERISA events,
judgments in excess of specified amounts, impairments to guarantees and a change of control.
In connection with the closing of the Term
Loan Facility, the Company also entered into a Guaranty and Suretyship Agreement, dated as of October 10, 2017 (the “Term
Loan Guarantee”), pursuant to which the Company affirmed its unconditional guarantee of the payment and performance of all
obligations owing by Borrowers to Term Loan Agent, as agent for the benefit of the Term Loan Lenders.
The Term Loan Agent and the Agent have
entered into an intercreditor agreement governing the relative priority of their security interests granted by the Borrowers and
the Guarantor in the collateral, providing that the Agent shall have a first priority security interest in the accounts receivable,
inventory, deposit accounts and certain other assets (the “Revolving Credit Priority Collateral”) and the Term Loan
Agent shall have a first priority security interest in the equipment, real property, capital stock of subsidiaries and certain
other assets (the “Term Loan Priority Collateral”).
On December 19, 2019, HTC, Holdings
and ARI as borrowers and the Company as a guarantor, entered into a Waiver and Fourth Amendment to Term Loan Credit and Security
Agreement (the “Fourth Amendment”) with U.S. Bank National Association, as collateral agent and administrative agent,
and the various lenders thereunder.
The Fourth Amendment waived financial covenant
defaults at June 30, 2019 and September 30, 2019 and amended the Term Loan Credit and Security Agreement dated October 10,
2017 (as previously amended, the “Term Loan Facility”) to reset the maximum Total Leverage Ratio covenant contained
in the Term Loan Facility at the indicated dates as follows: (i) September 30, 2019 - 15.67:1.00; (ii) December 31,
2019 – 14.54:1.00; (iii) March 31, 2020 – 16.57:1.00; (iv) June 30, 2020 – 10.87:1.00; (v) September 30,
2020 – 8.89:1.00; (vi) December 31, 2020 – 8.89:1.00; (vii) March 31, 2021 – 7.75:1.00; (viii) June 30,
2021 – 7.03:1.00; (ix) September 30, 2021 – 6.08:1.00; and (x) December 31, 2021 – 5.36:1.00.
The Fourth Amendment also reset the minimum liquidity requirement (consisting of cash plus undrawn availability on the Borrowers’
revolving loan facility) of $5 million, measured monthly. Furthermore, the Fourth Amendment added a minimum LTM Adjusted EBITDA
covenant as of the indicated dates as follows: (i) September 30, 2019 - $7.887 million; (ii) December 31, 2019
– $7.954 million; (iii) March 31, 2020 – $7.359 million; (iv) June 30, 2020 – $11.745 million;
(v) September 30, 2020 – $12.021 million; (vi) December 31, 2020 – $12.300 million; (vii) March 31,
2021 –$14.295 million; (viii) June 30, 2021 – $14.566 million; (ix) September 30, 2021 –
$15.431 million; and (x) December 31, 2021 – $16.267 million.
The Fourth Amendment also (i) continues
the limitation on acquisitions and dividends, (ii) required a principal repayment of $14,000,000 upon execution of the Fourth
Amendment and (iii) increases the scheduled quarterly principal repayments to $562,000 effective March 31, 2020 and $1,312,000
effective December 31, 2020.
The Fourth Amendment also terminated the
exit fee payable to the term loan lenders, which would have been payable in full in cash upon the earlier to occur of (x) repayment
in full of the term loans, or (y) any acceleration of the term loans. In lieu of the exit fee, the Fourth Amendment reinstated
a prepayment premium equal to the following percentages of the principal amount prepaid, depending upon the date of prepayment:
(i) through March 31, 2020 – 0.50%; (ii) from April 1, 2020 through March 31, 2021 – 2.50%;