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.
16
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.
17
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.
18
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%;
and (iii) from April 1, 2021 and thereafter – 5.00%.
The Fourth Amendment also added a new covenant
providing that in the event of a breach of a financial covenant contained in the Term Loan Facility or any failure to make a required
principal repayment (a “Trigger Event”), then on or prior to six months after a Trigger Event, the Company shall commence
a process to (x) sell its businesses and/or assets, and/or (y) consummate a refinancing transaction with respect to the
Term Loan Facility (a “Transaction”), in each case, subject to enumerated time milestones contained in the Fourth Amendment,
and which requires that Transaction shall, in any event, be consummated on or prior to the eighteen (18) month anniversary of the
Trigger Event.
19
As closing conditions to the execution
and delivery of the Fourth Amendment, the Company was required to: (i) amend its Bylaws in a manner acceptable to the Term
Loan Facility lenders; (ii) appoint two new independent directors to the board of directors (the “Special Directors”);
and (iii) pay an amendment fee of 0.50% of the amount of the outstanding loans under the Term Loan Facility.
On April 23, 2020, HTC, Holdings and
ARI as borrowers and the Company as a guarantor, entered into a Fifth Amendment to Term Loan Credit and Security Agreement (the
“Fifth Amendment”) with U.S. Bank National Association, as collateral agent and administrative agent, and the various
lenders thereunder. The Fifth Amendment authorized the Company and its subsidiaries to incur up to $2.5 million of indebtedness
under the CARES Act and contained other provisions relating to the treatment of such proceeds and any potential debt forgiveness,
under the Term Loan Facility.
The Company evaluated the Fourth and Fifth
Amendments in accordance with the provisions of Accounting Standards Codification (“ASC”) 470, Debt, to determine if
the Amendments were (1) a troubled debt restructuring, and if not, (2) a modification or an extinguishment of debt. The
Company concluded that the Fourth Amendment was a troubled debt restructuring for accounting purposes due to the removal of the
exit fee; as such, the Company capitalized an additional $0.5 million of deferred financing costs, which are being amortized over
the remaining term. The future undiscounted cash flows of the term loan, as amended, exceeded the carrying value, and accordingly,
no gain was recognized and no adjustment was made to the carrying value of the debt.
The Company was in compliance with all
covenants, under the Wells Fargo Facility and the Term Loan Facility, as amended, as of December 31, 2020.
The Company’s ability to comply with
these covenants in future quarters may be affected by events beyond the Company’s control, including general economic conditions,
weather conditions, regulations and refrigerant pricing. Therefore, we cannot make any assurance that we will continue to be in
compliance during future periods.
The Company believes that it will be able
to satisfy its working capital requirements for the foreseeable future from anticipated cash flows from operations and available
funds under the Wells Fargo Facility. Any unanticipated expenses, including, but not limited to, an increase in the cost of refrigerants
purchased by the Company, an increase in operating expenses or failure to achieve expected revenues from the Company’s RefrigerantSide®
Services and/or refrigerant sales or additional expansion or acquisition costs that may arise in the future would adversely affect
the Company’s future capital needs. There can be no assurance that the Company’s proposed or future plans will be successful,
and as such, the Company may require additional capital sooner than anticipated, which capital may not be available on acceptable
terms, or at all.
CARES Act Loan
On April 23, 2020 the Company received
a loan in the amount of $2.475 million from Meridian Bank under the Paycheck Protection Program (“PPP”) pursuant to
the CARES Act. The loan has a term of two years, is unsecured, and bears interest at a fixed rate of one percent per annum, with
the first six months of principal and interest deferred. As a result of the COVID-19 pandemic, in applying for the loan the Company
made a good faith assertion based upon the degree of uncertainty introduced to the capital markets and the industries affecting
the Company's customers and the Company's dependency to curtail expenses to fund ongoing operations. The PPP loan proceeds
have been used in part to help offset payroll costs as stipulated in the legislation. All or a portion of the PPP loan may be forgiven
by the U.S. Small Business Administration (“SBA”) upon application by the Company and upon documentation of expenditures
in accordance with the SBA requirements. Under the CARES Act, loan forgiveness is available for the sum of documented payroll costs
and other covered areas, such as rent payments, mortgage interest and utilities, as applicable. The Company has applied for loan
forgiveness and intends to comply with the loan forgiveness provisions in the legislation, however, there are no assurances that
the Company will obtain full forgiveness of the loan based on current guidelines.
Inflation
Inflation has not historically had a material
impact on the Company's operations.
Reliance on Suppliers and Customers
The Company participates in an industry
that is highly regulated, and changes in the regulations affecting our business could affect our operating results. Currently the
Company purchases virgin HCFC and HFC refrigerants and reclaimable, primarily HCFC and CFC, refrigerants from suppliers and its
customers. Under the Act the phase-down of future production of certain virgin HCFC refrigerants commenced in 2010 and has been
fully phased out by the year 2020, and production of all virgin HCFC refrigerants is scheduled to be phased out by the year 2030.
To the extent that the Company is unable to source sufficient quantities of refrigerants or is unable to obtain refrigerants on
commercially reasonable terms or experiences a decline in demand and/or price for refrigerants sold by it, the Company could realize
reductions in revenue from refrigerant sales, which could have a material adverse effect on the Company’s operating results
and financial position.
20
For the year ended December 31, 2020,
one customer accounted for 14% of the Company’s revenues; no other customer accounted for more than 10% of the Company’s
revenues. At December 31, 2020, there were $2.9 million of outstanding receivables from this customer. For the year ended
December 31, 2019, one customer accounted for 14% of the Company’s revenues; no other customer accounted for more than
10% of the Company’s revenues. At December 31, 2019, there were $1.8 million of outstanding receivables from this customer.
The loss of a principal customer or a decline
in the economic prospects of and/or a reduction in purchases of the Company's products or services by any such customer could have
a material adverse effect on the Company's operating results and financial position.
Seasonality and Weather Conditions and Fluctuations in Operating
Results
The Company's operating results vary from
period to period as a result of weather conditions, requirements of potential customers, non-recurring refrigerant and service
sales, availability and price of refrigerant products (virgin or reclaimable), changes in reclamation technology and regulations,
timing in introduction and/or retrofit or replacement of refrigeration equipment, the rate of expansion of the Company's operations,
and by other factors. The Company's business is seasonal in nature with peak sales of refrigerants occurring in the first nine
months of each year. During past years, the seasonal decrease in sales of refrigerants has resulted in losses particularly in
the fourth quarter of the year. In addition, to the extent that there is unseasonably cool weather throughout the spring and summer
months, which would adversely affect the demand for refrigerants, there would be a corresponding negative impact on the Company.
Delays or inability in securing adequate supplies of refrigerants at peak demand periods, lack of refrigerant demand, increased
expenses, declining refrigerant prices and a loss of a principal customer could result in significant losses. There can be no
assurance that the foregoing factors will not occur and result in a material adverse effect on the Company's financial position
and significant losses. The Company believes that to a lesser extent there is a similar seasonal element to RefrigerantSide®
Service revenues as refrigerant sales.
Off-Balance Sheet Arrangements
None.
Recent Accounting Pronouncements
In June 2016, the FASB issued ASU
No. 2016-13, Measurement of Credit Losses on Financial Instruments, which revises guidance for the accounting for credit
losses on financial instruments within its scope, and in November 2018, issued ASU No. 2018-19 and in April 2019,
issued ASU No. 2019-04 and in May 2019, issued ASU No. 2019-05, and in November 2019, issued ASU No. 2019-11,
which each amended the standard. The new standard introduces an approach, based on expected losses, to estimate credit losses on
certain types of financial instruments and modifies the impairment model for available-for-sale debt securities. The new approach
to estimating credit losses (referred to as the current expected credit losses model) applies to most financial assets measured
at amortized cost and certain other instruments, including trade and other receivables, loans, held-to-maturity debt securities,
net investments in leases and off-balance-sheet credit exposures. This ASU is effective for fiscal years beginning after December 15,
2022, including interim periods within those fiscal years, with early adoption permitted. Entities are required to apply the standard’s
provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the
guidance is adopted. The Company is still evaluating the impact of this ASU.
In March 2020, the FASB issued ASU
2020-04, which provides relief from accounting analysis and impacts that may otherwise be required for modifications to agreements
necessitated by reference rate reform. It also provides optional expedients to enable the continuance of hedge accounting where
certain hedging relationships are impacted by reference rate reform. This optional guidance is effective immediately, and available
to be used through December 31, 2022. We are assessing the impact that reference rate reform and the related adoption of this
guidance will have on our financial statements.
In August 2020, the FASB issued ASU
2020-06, "Debt-Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging-Contracts in Entity's
Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity's Own Equity", which is intended
to simplify the accounting for convertible instruments by removing certain separation models in Subtopic 470-20, Debt-Debt with
Conversion and Other Options, for convertible instruments. The pronouncement is effective for fiscal years, and for interim periods
within those fiscal years, beginning after December 15, 2021, with early adoption permitted. We are currently in the process
of evaluating the effects of the provisions of ASU 2020-06 on our financial statements.
21
Item 7A. Quantitative and Qualitative Disclosures about
Market Risk
Interest Rate Sensitivity
We are exposed to market risk from fluctuations
in interest rates on the Wells Fargo Facility and on the Term Loan Facility. The Wells Fargo Facility is a $60,000,000 secured
facility, and the Term Loan Facility provides for Term Loans of $85,114,500 as of December 31, 2020.
There was a $2,000,000 outstanding balance
on the Wells Fargo Facility as of December 31, 2020. Future interest rate changes on our borrowing under the Wells Fargo Facility
may have an impact on our consolidated results of operations.
There was an $85,114,500 outstanding balance
on the Term Loan Facility as of December 31, 2020. Future interest rate changes on our borrowing under the Term Loans may
have an impact on our consolidated results of operations.
If the loan bearing interest rate changed
by 1%, the annual effect on interest expense would be approximately $0.9 million as of December 31, 2020.
Refrigerant Market
We are also exposed to market risk from
fluctuations in the demand, price and availability of refrigerants. To the extent that the Company is unable to source sufficient
quantities of refrigerants or is unable to obtain refrigerants on commercially reasonable terms, or experiences a decline in demand
and/or price for refrigerants sold by the Company, the Company could realize reductions in revenue from refrigerant sales or write
downs of inventory, which could have a material adverse effect on our consolidated results of operations.
Item 8. Financial Statements and
Supplementary Data
The financial statements appear in a separate
section of this report following Part IV.
Item 9. Changes in and Disagreements
with Accountants on Accounting and Financial Disclosure
Not Applicable.
Item 9A. Controls and Procedures
Disclosure Controls and Procedures
The Company, under the supervision and
with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial
Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures, as defined in Rule 13a-15(e) of
the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this report.
Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer have concluded that the Company’s disclosure
controls and procedures were effective and provided reasonable assurance that information required to be disclosed in reports filed
under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and
forms of the Securities and Exchange Commission, and that such information is accumulated and communicated to the Company’s
management, including its principal executive officer and principal financial officer, as appropriate, to allow timely decisions
regarding required disclosure. Because of the inherent limitations in all control systems, any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management
necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
Furthermore, the Company’s controls and procedures can be circumvented by the individual acts of some persons, by collusion
of two or more people or by management override of the control and misstatements due to error or fraud may occur and not be detected
on a timely basis.
Changes in Internal Control over Financial
Reporting
As required by Rule 13a-15(d) of
the Exchange Act, our management, including our principal executive officer and our principal financial officer, conducted an evaluation
of the internal control over financial reporting to determine whether any changes occurred during the quarter ended December 31,
2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Based on that evaluation, our principal executive officer and principal financial officer concluded there were no such changes.
Management’s Report on Internal Control over Financial
Reporting
Management of the Company is responsible
for establishing and maintaining adequate internal control over financial reporting for the Company as defined in Rule 13a-15(f) under
the Exchange Act. The Company’s internal control over financial reporting is designed to provide reasonable assurance to
the Company’s management and board of directors regarding the preparation and fair presentation of published financial statements
and the reliability of financial reporting.
22
Because of its inherent limitations, internal
control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective
can provide only reasonable assurance with respect to financial statement preparation and presentation.
The Company’s Chief Executive Officer
and Chief Financial Officer have assessed the effectiveness of the Company’s internal control over financial reporting as
of December 31, 2020. In making this assessment, the Company’s Chief Executive Officer and Chief Financial Officer have
used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal
Control – Integrated Framework (2013). Based on our assessment, the Company’s Chief Executive Officer and Chief
Financial Officer believe that, as of December 31, 2020, the Company’s internal control over financial reporting is
effective based on those criteria.
Due to our filing status as a non-accelerated
filer, BDO USA, LLP, the independent registered public accounting firm which audits our financial statements, was not required
to provide an attestation report on our internal control over financial reporting as of December 31, 2020.
Item 9B. Other Information
None.
23
Part III
Item 10.
Directors, Executive Officers and Corporate Governance
Reference is made
to the disclosure required by Items 401, 405, 406, and 407(c)(3), (d)(4), and (d)(5) of Regulation S-K to be contained in
the Registrant's definitive proxy statement to be mailed to stockholders on or about April 28, 2021, and to be filed with
the Securities and Exchange Commission.
Item 11.
Executive Compensation
Reference is made
to the disclosure required by Items 402 and 407(e)(4) and (e)(5) of Regulation S-K to be contained in the Registrant's
definitive proxy statement to be mailed to stockholders on or about April 28, 2021, and to be filed with the Securities and
Exchange Commission.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Reference is made
to the disclosure required by Item 403 of Regulation S-K to be contained in the Registrant's definitive proxy statement to be mailed
to stockholders on or about April 28, 2021, and to be filed with the Securities Exchange Commission.
Equity Compensation Plans
The following table provides certain information
with respect to all of Hudson’s equity compensation plans as of December 31, 2020.
Plan Category (a) (b) (c)
Item 13. Certain Relationships and Related Transactions,
and Director Independence
Reference is made to the disclosure required
by Items 404 and 407(a) of Regulation S-K to be contained in the Registrant's definitive proxy statement to be mailed to stockholders
on or about April 28, 2021, and to be filed with the Securities and Exchange Commission.
Item 14. Principal Accountant Fees
and Services
Reference is made to the proposal regarding
the approval of the Registrant's independent registered public accounting firm to be contained in the Registrant's definitive proxy
statement to be mailed to stockholders on or about April 28, 2021, and to be filed with the Securities and Exchange Commission.
24
Part IV
Item 15. Exhibits and Financial Statement Schedules
(A)(1) Financial Statements
(A)(2) Financial Statement Schedules
None
(A)(3) Exhibits
3.1 Certificate of Incorporation and Amendment. (1)
3.2 Amendment to Certificate of Incorporation, dated July 20, 1994. (1)
3.3 Amendment to Certificate of Incorporation, dated October 26, 1994. (1)
3.9 Amendment to Certificate of Incorporation dated January 3, 2003. (5)
3.10 Amended and Restated By-Laws adopted December 18, 2019. (28)