ARC DOCUMENT SOLUTIONS, INC. Business Summary
•digital printing of general and specialized business documents such as those found in marketing and advertising, engineering and construction and other industries, as well as producing highly-customized display graphics of all types and sizes;
•acquiring, placing and managing ARC-certified office printing equipment with proprietary device tracking and print management software at our customers' offices and job sites;
•scanning documents, indexing them and adding digital search features for use in digital document management, document archives and facilities management, as well as providing other digital imaging services; and,
•reselling digital printing equipment and supplies.
Each of these services frequently include additional logistics services in the form of distributing and delivering finished documents, installing display graphics, or the digital storage of graphic files.
For a more complete description of our business, and product and service offerings, see Part I, Item 1 - "Business" - of this Annual Report on Form 10-K.
Costs and Expenses
Our cost of sales consists primarily of materials (paper, toner and other consumables), labor, and "indirect costs." Indirect costs consist primarily of equipment expenses related to our MPS locations (typically our customers' offices and job sites) and our service centers. Facilities and equipment expenses include maintenance, repairs, rents, insurance, and depreciation. Paper is the largest component of our material cost; however, paper pricing typically does not significantly affect our operating margins as they are often passed on to our customers. We closely monitor material cost as a percentage of net sales to measure volume and waste, and we maintain low levels of inventory. We also track labor utilization, or net sales per employee, to measure productivity and determine staffing levels. Historically, our capital expenditure requirements have varied based on our need for printing equipment in our MPS locations and service centers. Over the past several years, the pandemic has reduced the number of employees in our customers' locations, which has, in turn, reduced the need for equipment. We believe this equipment trend is likely to become permanent and, as a result, we think our future capital needs will remain muted. Because our relationships with credit providers allow us to obtain attractive lease rates, we chose to lease rather than purchase most of our equipment over the past two years. Research and development costs consist mainly of the salaries, leased building space, and computer equipment related to our data storage and development centers inSan Ramon, California andKolkata, India . Such costs are primarily recorded to cost of sales. 17
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COVID-19 Pandemic
The COVID-19 pandemic continued to affect our financial performance during 2022, but was felt most strongly in the first quarter of the year. Business momentum from that point forward, however, increased throughout the remainder of the year, and we believe the reduced office presence of employees where we deliver our MPS services will be permanent. The products and services we provided throughout the year were related to COVID-19 health and safety initiatives. While we saw a dramatic decline in pandemic-related sales, we more than offset the decline by serving the normal needs of our customers. Our MPS business continued to remain under pressure throughout the year as most employers left work-from-home policies in place. We expect that a hybrid work arrangement will remain the norm for our customers in 2023, but for print volumes to increase marginally as some employers bring their employees back into the office at higher rates than we saw in 2022. We believe work-from-home practices benefit our scanning business as employees need access to documents, regardless of where they are working, and document scanning is the first step in making them accessible in the Cloud. Uncertainty around the potential disruption to our business related to the COVID-19 pandemic and its effect on theU.S. economy and our clients' ongoing business operations has largely been mitigated, but we remain watchful and prepared to alter our business operations to protect employees and customers. The following discussions are subject to the future effects of the COVID-19 pandemic on our ongoing business operations.
Employee Safety
In response to the COVID-19 pandemic, we implemented significant changes to our operating environment to help our employees around the world remain safe. As the pandemic has waned throughout 2022, many of our corporate, financial and administrative staff continue to work entirely or partially from home, while our service center staff continues to work in our facilities. Safety and health protocols for each service center have been based on government-issued local health and safety procedures.
We still maintain many of the changes we put in place in our service center production and other high-traffic areas to ensure sufficient distancing, installed clear barriers at our customer counters and other high-density areas, limited visitor entry where appropriate, and dramatically increased virtual meetings in place of face-to-face meetings. It is our intention to continue employing these general safety protocols for the near future.
Market Review
We believe the expanding list of industries we serve are generally growing and offer ongoing sales opportunities for our services.
Demand for digital printing appears high across our customer base, and includes environmental graphics, marketing and promotional work. We believe the incorporation of hybrid work schedules and return-to-office initiatives across the economy due to the pandemic continue to create opportunities for our MPS services and software, and that work-from-home and other remote document access requirements are spurring demand for scanning and digital imaging services. We believe that the desire to communicate visually-and especially in color-is growing in all areas of commerce, in office environments, in educational venues, and in public spaces of all kinds. While office capacity has fluctuated with the progress of the COVID-19 pandemic, we believe there is minimal desire among our customers to completely abandon in office work. We believe employers want to make environments more inviting and engaging for the people who occupy them. Construction activity has been remarkably robust over the past two years. While constrained by labor and supply chain issues, we think building activity for both new buildings and retrofitting older structures continues to be driven by property developers and owners who are intent on keeping their real estate assets compelling to tenants and prospective tenants. Economic inflation in theU.S. ,Canada and abroad has materially affected our business over the past year, primarily in the form of higher labor and material costs. Price increases in materials continue to be passed on to our customers. Supply chain disruptions over the past year have been largely resolved, and we remain reasonably protected from them due to the wide variety of suppliers we have developed over our history. 18
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Results of Operations
2022 Versus 2021
Year Ended December 31, Increase (decrease)
(In millions, except percentages) 2022 (1) 2021 (1) $ (1) %
Digital Printing $ 174.8 $ 166.7 $ 8.1 4.8 %
MPS 75.8 72.4 3.3 4.6 %
Scanning and Digital Imaging 17.4 14.5 2.9 20.1 %
Total services sales $ 267.9 $ 253.6 $ 14.3 5.6 %
Equipment and Supplies sales 18.1 18.6 (0.5) (2.7) %
Total net sales $ 286.0 $ 272.2 $ 13.8 5.1 %
Gross profit $ 96.0 $ 87.7 $ 8.3 9.5 %
Selling, general and administrative expenses $ 77.5 $ 72.3 $ 5.2 7.2 %
Amortization of intangibles $ 0.1 $ 0.2 $ (0.1) (51.3) %
Interest expense, net $ 1.8 $ 2.1 $ (0.4) (16.3) %
Income tax provision $ 5.8 $ 4.2 $ 1.7 39.5 %
Net income attributable to ARC $ 11.1 $ 9.1 $ 2.0 21.3 %
Adjusted net income attributable to ARC (2)
$ 2.5 26.4 %
Cash flows provided by operating activities $ 37.2 $ 35.8 $ 1.5 4.1 %
EBITDA (2) $ 39.1 $ 40.0 $ (0.9) (2.2) %
Adjusted EBITDA (2) $ 40.9 $ 41.7 $ (0.8) (1.9) %
(1)Column does not foot due to rounding.
(2)See "Non-GAAP Financial Measures" following "Results of Operations" for definitions, reconciliations and more information related to our Non-GAAP disclosures.
The following table provides information on the percentages of certain items of
selected financial data as a percentage of net sales for the periods indicated:
As Percentage of Net Sales
Year Ended December 31,
2022 (1) 2021 (1)
Net Sales 100.0 % 100.0 %
Cost of sales 66.4 67.8
Gross profit 33.6 32.2
Selling, general and administrative expenses 27.1 26.6
Amortization of intangibles - 0.1
Income from operations 6.4 5.6
Interest expense, net 0.6 0.8
Income before income tax provision 5.8 4.8
Income tax provision 2.0 1.5
Net income 3.8 3.2
Loss attributable to the noncontrolling interest 0.1 0.1
Net income attributable to ARC 3.9 % 3.4 %
EBITDA (2) 13.7 % 14.7 %
Adjusted EBITDA (2) 14.3 % 15.3 %
(1)Column does not foot due to rounding. (2)See "Non-GAAP Financial Measures" following "Results of Operations" for definitions, reconciliations and more information related to our Non-GAAP disclosures.
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Fiscal Year Ended
Net Sales Net sales in 2022 increased 5.1%, compared to 2021. The increase in net sales was driven largely by our expansion in markets and industries we serve. This resulted in year-over-year quarterly net sales growth in the first three quarters of the year, offset by a slight decline in net sales in the fourth quarter largely caused by weak sales from our Chinese joint venture. Digital Printing. Sales of Digital Printing services in 2022 increased by$8.1 million , or 4.8%, compared to 2021. The increase in sales of Digital Printing services was primarily due to demand in the retail, office, education, and construction verticals as the economic constraints of the pandemic waned throughout the year. Digital Printing services represented 61% of total net sales for both 2022 and 2021. MPS. Sales of MPS services in 2022 increased by$3.3 million , or 4.6%, compared to 2021. The increase in annual MPS sales was driven by the increased return of employees in theU.S. andCanada to their offices in response to the lifting of restrictions by their employers, and thus increasing the volume of printing done in our customers' offices. MPS engagements on construction job sites remained active throughout the year as construction activity continued to be robust. Additionally, contributing to the sales increase were price increases implemented in 2022. Revenues from MPS sales represented approximately 27% of total net sales for both 2022 and 2021.
The number of MPS locations has remained relatively flat year-over-year at
approximately 10,720 as of
Scanning and Digital Imaging. Year-over-year sales of Scanning and Digital Imaging services increased by$2.9 million , or 20.1%, in 2022, compared to 2021. The increase in sales of our Scanning and Digital Imaging services was primarily attributable to demand from businesses interested in remote digital access to documents and removing paper documents from their premises. We continue to drive an expansion of our addressable market for Scanning and Digital Imaging services with increased marketing activity, as well as targeting building owners and facility managers that require on-demand access to their legacy documents to operate their assets efficiently. We believe that, with the expansion of the markets and industries we serve and the desire of our existing customers to have digital access to documents, our Scanning and Digital Imaging services will continue to grow in the future. Equipment and Supplies. Equipment and Supplies sales decreased by$0.5 million , or 2.7%, in 2022, compared to 2021. The decrease was primarily driven by the economic slowdown inChina related to the COVID-19 pandemic, which decreased sales fromUNIS Document Solutions Co. Ltd , or UDS, our Chinese joint venture. Equipment and Supplies sales derived from UDS, were$2.5 million in 2022, as compared to$3.9 million in 2021. Equipment and Supplies sales represented approximately 6% of total net sales for 2022 and approximately 7% for 2021.
Gross Profit
Gross profit increased to$96.0 million in 2022, compared to$87.7 million in 2021. Gross margin increased to 33.6% in 2022, compared to 32.2% in 2021, in conjunction with a net sales increase of$13.8 million . Gross margin improvement was largely driven by additional sales and our efforts to drive more work through our service centers to leverage our infrastructure, cross-trained workforce, and production-grade equipment. The improved gross margins driven by our ability to better leverage our costs, were partially offset by an increase in labor and material costs resulting from current inflationary pressures.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased by$5.2 million , or 7.2%, in 2022 compared to 2021. The increase was primarily due to increased labor costs and salary adjustments to improve employee retention, as well as higher commissions, bonuses and travel resulting from increased sales and profitability.
Amortization of Intangibles
Amortization of intangibles of$0.1 million in 2022 decreased compared to 2021, primarily due to the completed amortization of certain customer relationships related to historical acquisitions. In the years following our inception, our business grew through acquisitions, but for more than a decade acquisitions have not been a focal point for growth.
Interest Expense, Net
Net interest expense totaled$1.8 million in 2022, compared to$2.1 million in 2021. The decrease in 2022 compared to 2021 was due to the continuing reduction of our overall debt. 20 --------------------------------------------------------------------------------
Income Taxes
We recorded an income tax provision of$5.8 million in relation to a pretax income of$16.6 million for 2022, which resulted in an effective income tax rate of 35.1%. In addition to recurring state and foreign taxes and certain nondeductible expenses, our effective income tax rate for 2022 was impacted by a change in valuation allowances against certain deferred tax assets and stock based compensation forfeitures. Excluding the impact of valuation allowances, stock based compensation forfeitures and other discrete items, our effective income tax rate for the consolidated company would have been 29.4% and our effective income tax rate attributable toARC Document Solutions, Inc. would have been 29.1%. We recorded an income tax provision of$4.2 million in relation to a pretax income of$13.0 million for 2021, which resulted in an effective income tax rate of 32.1%. In addition to recurring state and foreign taxes and certain nondeductible expenses, our effective income tax rate for 2021 was primarily impacted by a change in valuation allowances against certain deferred tax assets and stock-based compensation forfeitures. Excluding the impact of valuation allowances, stock based compensation forfeitures and other discrete items, our effective income tax rate for the consolidated company would have been 29.2% and our effective income attributable toARC Document Solutions, Inc. would have been 28.7%. Noncontrolling Interest
Net income attributable to noncontrolling interest represents 35% of the income of our Chinese joint venture with UDS and its subsidiaries, which together comprise our Chinese joint-venture operations.
Net Income Attributable to ARC
Net income attributable to us was$11.1 million in 2022, as compared to$9.1 million in 2021. The increase in net income attributable to us in 2022 is driven by the increase in net sales and decrease in depreciation expense of$4.0 million , partially offset by the increase in selling, general and administrative expenses described above. As hybrid work schedules reduced office printing volumes, our need for printing equipment has significantly decreased and has reduced our depreciation expense.
EBITDA
EBITDA margin decreased slightly to 13.7% in 2022 from 14.7% in 2021. Excluding the effect of stock-based compensation adjusted EBITDA margin decreased slightly to 14.3% in 2022 from 15.3% in 2021. The decrease is largely attributable to higher labor and SG&A costs as noted above.
Impact of Inflation
Inflation has had a significant impact on our operations in 2022, but we believe inflationary pressures are largely behind us as we move into 2023. Price increases for raw materials, such as paper and fuel charges, typically have been, and we expect will continue to be, passed on to customers in the ordinary course of business, but we don't expect labor and related costs to decrease from 2022 levels. Non-GAAP Financial Measures EBITDA and related ratios presented in this report are supplemental measures of our performance that are not required by or presented in accordance with accounting principles generally accepted inthe United States of America or GAAP. These measures are not measurements of our financial performance under GAAP and should not be considered as alternatives to net income, net income margin, income from operations, or any other performance measures derived in accordance with GAAP or as an alternative to cash flows from operating, investing or financing activities as a measure of our liquidity.
EBITDA represents net income before interest, taxes, depreciation and amortization. EBITDA margin is a non-GAAP measure calculated by dividing EBITDA by net sales.
We have presented EBITDA and related ratios because we consider them important supplemental measures of our performance and liquidity. We believe investors may also find these measures meaningful, given how our management makes use of them. The following is a discussion of our use of these measures. We use EBITDA to measure and compare the performance of our operating divisions. Our operating divisions' financial performance includes all of the operating activities except debt and taxation which are managed at the corporate level forU.S. operating divisions. We use EBITDA to compare the performance of our divisions and to measure performance for determining consolidated-level compensation. In addition, we use EBITDA to evaluate potential acquisitions and potential capital expenditures. 21 -------------------------------------------------------------------------------- EBITDA and related ratios have limitations as analytical tools, and should not be considered in isolation, or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are as follows:
•They do not reflect our cash expenditures, or future requirements for capital expenditures and contractual commitments;
•They do not reflect changes in, or cash requirements for, our working capital needs;
•They do not reflect the significant interest expense, or the cash requirements necessary, to service interest or principal payments on our debt;
•Although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and EBITDA does not reflect any cash requirements for such replacements; and
•Other companies, including companies in our industry, may calculate these measures differently than we do, limiting their usefulness as comparative measures.
Because of these limitations, EBITDA and related ratios should not be considered
as measures of discretionary cash available to us to invest in business growth
or to reduce our indebtedness. We compensate for these limitations by relying
primarily on our GAAP results and using EBITDA and related ratios only as
supplements.
Our presentation of adjusted net income and adjusted EBITDA is an attempt to
provide meaningful comparisons to our historical performance for our existing
and future investors. The unprecedented changes in our end markets over the past
several years have required us to take measures that are unique in our history
and specific to individual circumstances. Comparisons inclusive of these actions
make normal financial and other performance patterns difficult to discern under
a strict GAAP presentation. Each non-GAAP presentation, however, is explained in
detail in the reconciliation tables below.
Specifically, we have presented adjusted net income attributable to ARC and
adjusted earnings per share attributable to ARC shareholders for 2022 and 2021
to reflect the exclusion of changes in the valuation allowances related to
certain deferred tax assets and other discrete tax items. This presentation
facilitates a meaningful comparison of our operating results for 2022 and 2021.
We believe these changes were the result of items which are not indicative of
our actual operating performance.
We have presented adjusted EBITDA for 2022 and 2021 to exclude stock-based
compensation expense. The adjustment of EBITDA for this item is consistent with
the definition of adjusted EBITDA in our Credit Agreement; therefore, we believe
this information is useful to investors in assessing our financial performance.
The following is a reconciliation of cash flows provided by operating activities
to EBITDA:
Year Ended December 31,
(In thousands) 2022 2021
Cash flows provided by operating activities $ 37,227 $ 35,775
Changes in operating assets and liabilities 1,128 3,331
Non-cash expenses (7,140) (5,708)
Income tax provision 5,832 4,181
Interest expense, net 1,796 2,147
Loss attributable to the noncontrolling interest 304 301
EBITDA $ 39,147 $ 40,027
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The following is a reconciliation of net income attributable to
Year Ended December 31,
(In thousands) 2022 2021
Net income attributable to
11,094$ 9,143 Interest expense, net 1,796 2,147 Income tax provision 5,832 4,181 Depreciation and amortization 20,425 24,556 EBITDA 39,147 40,027 Stock-based compensation 1,773 1,686 Adjusted EBITDA$ 40,920 $ 41,713
The following is a reconciliation of net income margin attributable to
Year Ended
2022 (1) 2021 (1)
Net income margin attributable to ARC Document Solutions, Inc. 3.9 % 3.4 %
shareholders
Interest expense, net 0.6 0.8
Income tax provision 2.0 1.5
Depreciation and amortization 7.1 9.0
EBITDA margin 13.7 14.7
Stock-based compensation 0.6 0.6
Adjusted EBITDA margin 14.3 % 15.3 %
(1)Column does not foot due to rounding.
The following is a reconciliation of net income attributable toARC Document Solutions, Inc. shareholders to adjusted net income and adjusted earnings per share attributable toARC Document Solutions, Inc. shareholders: Year Ended December 31, (In thousands, except per share data) 2022 2021
Net income attributable to
Deferred tax valuation allowance and other discrete tax items 905 352
Adjusted net income attributable to
$ 11,999 $ 9,495 Actual: Earnings per share attributable toARC Document Solutions, Inc. shareholders: Basic$ 0.26 $ 0.22 Diluted$ 0.26 $ 0.21 Weighted average common shares outstanding: Basic 42,214 42,164 Diluted 43,280 42,732 Adjusted: Earnings per share attributable toARC Document Solutions, Inc. shareholders: Basic$ 0.28 $ 0.23 Diluted$ 0.28 $ 0.22 Weighted average common shares outstanding: Basic 42,214 42,164 Diluted 43,280 42,732 23
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Liquidity and Capital Resources
Our principal sources of cash have been cash flows from operations and borrowings under our debt and lease agreements. Our recent historical uses of cash have been for ongoing operations, payment of principal and interest on outstanding debt obligations, capital expenditures, dividends and stock repurchases.
We continually assess our capital allocation strategy, including decisions relating to dividends, repurchase shares of our common stock, capital expenditures, and debt pay-downs. In the beginning of 2020 we suspended dividends due to uncertainties caused by the COVID-19 pandemic. InDecember 2020 , we recommenced our dividend program and subsequently increased the quarterly dividend amount to5 cents per share of our common stock. The timing, declaration and payment of future dividends, however, falls within the discretion of our Board of Directors and will depend upon many factors, including our financial condition and earnings, the capital requirements of our business, restrictions imposed by applicable law and the terms of any of our debt agreements and any other factors the Board of Directors deems relevant from time to time. InFebruary 2023 , our Board of Directors approved a stock repurchase program that authorized us to purchase up to$20.0 million of our outstanding common stock throughMarch 31, 2026 . Purchases may be made from time to time in the open market at prevailing market prices or in privately negotiated transactions. During the year endedDecember 31, 2022 we repurchased 0.6 million shares of our common stock for a total purchase price of$1.7 million . During the year endedDecember 31, 2021 , we repurchased 0.8 million shares of our common stock for a total purchase price of$1.9 million . Total cash and cash equivalents as ofDecember 31, 2022 was$52.6 million . Of this amount,$5.2 million was held in foreign countries, with$3.2 million held inChina . Repatriation of some of our cash and cash equivalents in foreign countries could be subject to delay for local country approvals and could have potential adverse tax consequences. As a result of holding cash and cash equivalents outside of theU.S. , our financial flexibility may be reduced. Supplemental information pertaining to our historical sources and uses of cash is presented as follows and should be read in conjunction with our Consolidated Statements of Cash Flows and notes thereto included elsewhere in this report. Year Ended December 31, (In thousands) 2022 2021 Net cash provided by operating activities$ 37,227 $
35,775
Net cash used in investing activities
Operating Activities
Cash flows from operations are primarily driven by sales and the net profit generated from these sales, excluding non-cash charges.
The increase in cash flows from operations in 2022 was primarily due to an improvement in our collectibles which resulted in an improvement in the aging of our receivables, partially offset by a decrease in EBITDA.
Days sales outstanding, or DSO was 51 days as of
DSO is calculated by taking the respective years
We have presented DSO because we consider it an important metric as it is a valuable indicator of the efficiency of the business and quality of our cash flows. We believe investors may also find this metric meaningful given the importance of cash flows from operations and management's ability to efficiently manage our working capital. Investing Activities Net cash used in investing activities was primarily related to capital expenditures. We incurred capital expenditures totaling$5.9 million and$3.6 million , in 2022 and 2021, respectively. The capital expenditure amount in 2022 is a normalized amount based on our current sales levels, as compared to 2021 that was purposely kept low as we came out of the COVID-19 pandemic. We have a concerted effort to reduce and closely manage our capital expenditures, as our need for printing equipment has significantly decreased over the past three years. Because our relationships with credit providers allow us to obtain attractive lease rates, we usually choose to lease rather than purchase equipment unless there is a compelling reason to do otherwise. 24 --------------------------------------------------------------------------------
Financing Activities
Net cash of$34.2 million used in financing activities in 2022 primarily relates to payments on our 2021 Credit Agreement, finance leases, dividends, and repurchases of shares of our common stock. As noted above, our need for printing equipment has significantly decreased over the past several years, resulting in a decrease of$5.5 million in our finance lease liability as ofDecember 31, 2022 compared to the balance in the prior year. This reduction in the finance lease liability will also drive a reduction in 2023 payments for financed leases. Our cash position, working capital, and debt obligations as ofDecember 31, 2022 and 2021 are shown below and should be read in conjunction with our Consolidated Balance Sheets and notes thereto contained elsewhere in this report. December 31, (In Thousands) 2022 2021 Cash and cash equivalents$ 52,561 $ 55,929 Working capital$ 34,906 $ 37,082 Borrowings from revolving credit facility$ 40,000 $ 46,250 Various finance leases 26,474 31,992 Total debt obligations$ 66,474 $ 78,242 The decrease of$2.2 million in working capital in 2022 was primarily driven by the decrease in cash of$3.4 million and$0.7 million decrease in accounts receivable over 2021, partially offset by the$2.3 million decrease in the current portion of our finance lease liability. To manage our working capital, we chiefly focus on our DSO and monitor the aging of our accounts receivable, as receivables are the most significant element of our working capital. We believe that our current cash and cash equivalents balance of$52.6 million , the availability under our 2021 Credit Agreement, the availability under our equipment lease lines, and cash flows provided by operations should be adequate to cover the next twelve months and beyond of working capital needs, debt requirements consisting of scheduled principal and interest payments, and planned capital expenditures, to the extent such items are known or are reasonably determinable based on current business and market conditions. See "Debt Obligations" section for further information related to our 2021 Credit Agreement. A significant portion of our revenue across all of our product and services is generated from customers in the AEC/O industry. As a result, our operating results and financial condition can be significantly affected by economic factors that influence the AEC/O industry, including the disruptions in the capital markets, economic sanctions and economic slowdowns or recessions, rising inflation, public health crises (including the COVID-19 pandemic) and interest rates fluctuations. Additionally, a general economic downturn may adversely affect the ability of our customers and suppliers to obtain financing for significant operations and purchases, and to perform their obligations under their agreements with us. We believe that credit constraints in the financial markets could result in a decrease in, or cancellation of, existing business, could limit new business, and could negatively affect our ability to collect our accounts receivable on a timely basis. We have not been actively seeking growth through acquisition since 2009, and while we remain opportunistic with regard to opportunities, we don't intend to pursue them in the near future.
Debt Obligations
Credit Agreement
OnApril 22, 2021 , we entered into the 2021 Credit Agreement. The 2021 Credit Agreement provides for the extension of revolving loans in an aggregate principal amount not to exceed$70 million , or Revolving Loans, and replaces the Credit Agreement dated as ofNovember 20, 2014 , as amended, or the 2014 Credit Agreement. The 2021 Credit Agreement features terms similar to the 2014 Credit Agreement, including the ability to use excess cash of up to$15 million per year for restricted payments such as repurchase shares of our common stock and declare and pay dividends. The obligation under the 2021 Credit Agreement mature onApril 22, 2026 . The 2021 Credit Agreement also includes certain tests we are required to meet in order to pay dividends, repurchase stock and make other restricted payments. In order to make such payments which are permitted subject to certain customary conditions set forth in the 2021 Credit Agreement, the amount of all such payments will be limited to$15 million during any twelve-month period. When calculating the fixed charge coverage ratio, we may exclude up to$10 million of such restricted payments that would otherwise constitute fixed charges in any twelve-month period. 25 -------------------------------------------------------------------------------- As ofDecember 31, 2022 , our borrowing availability under the Revolving Loan commitment was$27.8 million , after deducting outstanding letters of credit of$2.2 million and an outstanding Revolving Loan balance of$40.0 million . Loans borrowed under the 2021 Credit Agreement bear interest, in the case of LIBOR loans, at a per annum rate equal to the applicable LIBOR (which rate shall not be less than zero), plus a margin ranging from 1.25% to 1.75%, based on our Total Leverage Ratio (as defined in the 2021 Credit Agreement). Loans borrowed under the 2021 Credit Agreement that are not LIBOR loans bear interest at a per annum rate (which rate shall not be less than zero) equal to (i) the greatest of (A) the Federal Funds Rate plus 0.50%, (B) the one month LIBOR rate plus 1.00% per annum, and (C) the rate of interest announced, from time to time, byU.S. Bank National Association as its "prime rate," plus (ii) a margin ranging from 0.25% to 0.75%, based on our Total Leverage Ratio. We pay certain recurring fees with respect to the 2021 Credit Agreement, including administration fees to the administrative agent.
The transition to non-LIBOR loan rates for us will occur in the first half of 2023, but we believe the transitions will not have a material impact on our interest expense.
Subject to certain exceptions, including, in certain circumstances, reinvestment rights, the loans extended under the 2021 Credit Agreement are subject to customary mandatory prepayment provisions with respect to: the net proceeds from certain asset sales; the net proceeds from certain issuances or incurrences of debt (other than debt permitted to be incurred under the terms of the 2021 Credit Agreement); the net proceeds from certain issuances of equity securities; and net proceeds of certain insurance recoveries and condemnation events. The 2021 Credit Agreement contains customary representations and warranties, subject to limitations and exceptions, and customary covenants restricting the ability (subject to various exceptions) of us and our subsidiaries to: incur additional indebtedness (including guarantee obligations); incur liens; sell certain property or assets; engage in mergers or other fundamental changes; consummate acquisitions; make investments; pay dividends, other distributions or repurchase equity interest of us or our subsidiaries; change the nature of their business; prepay or amend certain indebtedness; engage in certain transactions with affiliates; amend our organizational documents; or enter into certain restrictive agreements. In addition, the 2021 Credit Agreement contains financial covenants which requires us to maintain (i) at all times, a Total Leverage Ratio in an amount not to exceed 2.75 to 1.00; and (ii) a Fixed Charge Coverage Ratio (as defined in the 2021 Credit Agreement), as of the last day of each fiscal quarter, an amount not less than 1.15 to 1.00. We were in compliance with our covenants as ofDecember 31, 2022 . The 2021 Credit Agreement contains customary events of default, including with respect to: nonpayment of principal, interest, fees or other amounts; failure to perform or observe covenants; material inaccuracy of a representation or warranty when made; cross-default to other material indebtedness; bankruptcy, insolvency and dissolution events; inability to pay debts; monetary judgment defaults; actual or asserted invalidity or impairment of any definitive loan documentation, repudiation of guaranties or subordination terms; certain ERISA related events; or a change of control. The obligations of our subsidiary that is the borrower under the 2021 Credit Agreement are guaranteed by us and each of our otherUnited States domestic subsidiaries. The 2021 Credit Agreement and any interest rate protection and other hedging arrangements provided by any lender party to the credit facility or any affiliate of such a lender are secured on a first priority basis by a perfected security interest in substantially all of our and each guarantor's assets (subject to certain exceptions).
Credit Agreement
The following table sets forth the outstanding balance, borrowing capacity and applicable interest rate under Credit Agreement.
December 31, 2022
Available
Borrowing Interest
Balance Capacity Rate
(Dollars in thousands)
Revolving Loans (1) $ 40,000 $ 27,844 5.6 %
(1) Revolving Loan available borrowing capacity, net of
26
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As of
Commitments and Contingencies
Operating Leases. We lease machinery, equipment, and office and operational facilities under non-cancelable operating lease agreements. Certain lease agreements for our facilities generally contain renewal options and provide for annual increases in rent based on the local Consumer Price Index. Refer to Note 7, Leasing, for the schedule of our future minimum operating lease payments as ofDecember 31, 2022 . Legal Proceedings. We are involved, and will continue to be involved, in legal proceedings arising out of the conduct of our business, including commercial and employment-related lawsuits. Some of these lawsuits purport or may be determined to be class actions and seek substantial damages, and some may remain unresolved for several years. We establish accruals for specific legal proceedings when it is considered probable that a loss has been incurred and the amount of the loss can be reasonably estimated. We evaluate whether a loss is reasonably probable based on our assessment and consultation with legal counsel regarding the ultimate outcome of the matter. As ofDecember 31, 2022 , we have accrued for the potential impact of loss contingencies that are probable and reasonably estimable. We do not currently believe that the ultimate resolution of any of these matters will have a material adverse effect on our results of operations, financial condition, or cash flows. However, the results of these matters cannot be predicted with certainty, and an unfavorable resolution of one or more of these matters could have a material adverse effect on our results of operations, financial condition, or cash flows. Environmental Matters. We have accrued liabilities for environmental assessment and remediation matters relating to operations at certain locations conducted in the past by predecessor companies that do not relate to our current operations. We have accrued these liabilities because it is probable that a loss or cost will be incurred and the amount of loss or cost can be reasonably estimated. These estimates could change as a result of changes in planned remedial actions, remediation technologies, site conditions, the estimated time to complete remediation, environmental laws and regulations, and other factors. Because of the uncertainties associated with environmental assessment and remediation activities, our future expenses relating to these matters could be higher than the liabilities we have accrued. Based upon current information, we believe that the impact of the resolution of these matters would not be, individually or in the aggregate, material to our financial position, results of operations or cash flows.
Critical Accounting Policies and Significant Judgments and Estimates
Our management prepares financial statements in conformity with GAAP. When we prepare these consolidated financial statements, we are required to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, we evaluate our estimates and judgments, including those related to accounts receivable, inventories, deferred tax assets, goodwill and intangible assets, long-lived assets and leases. We base our estimates and judgments on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. To the extent that there are material differences between these estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows will be affected. We believe that the accounting policies discussed below are critical to understanding our historical and future performance, as these policies relate to the more significant areas involving management's judgments and estimates.
Goodwill Impairment
In accordance with ASC 350, Intangibles -Goodwill and Other, we assess goodwill for impairment annually as ofSeptember 30 , and more frequently if events and circumstances indicate that goodwill might be impaired. AtSeptember 30, 2022 , the Company performed its annual assessment and determined that goodwill was not impaired.Goodwill impairment testing is performed at the reporting unit level.Goodwill is assigned to reporting units at the date the goodwill is initially recorded. Once goodwill has been assigned to reporting units, it no longer retains its association with a particular acquisition, and all of the activities within a reporting unit, whether acquired or internally generated, are available to support the value of the goodwill.
In 2017, we elected to early-adopt ASU 2017-04 which simplifies subsequent goodwill measurement by eliminating step two from the goodwill impairment test.
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We determine the fair value of our reporting units using an income approach.
Under the income approach, we determined fair value based on estimated
discounted future cash flows of each reporting unit. Determining the fair value
of a reporting unit is judgmental in nature and requires the use of significant
estimates and assumptions, including revenue growth rates and EBITDA margins,
discount rates and future market conditions, among others. The level of
judgement and estimation is inherently higher in the current environment
considering the uncertainty created by the COVID-19 pandemic. We have evaluated
numerous factors disrupting our business and made significant assumptions which
include the severity and duration of our business disruption, the timing and
degree of economic recovery and ultimately, the combined effect of these
assumptions on our future operating results and cash flows.
The results of the latest annual goodwill impairment test, as of September 30,
2022 , were as follows:
Number of
Reporting Representing
(Dollars in thousands) Units Goodwill of
No goodwill balance 6 $ -
Fair value of reporting units exceeds their carrying values by
more than 35% 1 121,051
7 $ 121,051
Based upon a sensitivity analysis, a reduction of approximately 50 basis points
of projected EBITDA in 2022 and beyond, assuming all other assumptions remain
constant, would result in no further impairment of goodwill.
Based upon a separate sensitivity analysis, a 50 basis point increase to the weighted average cost of capital would result in no further impairment of goodwill.
Given the uncertainty regarding the ultimate financial impact of the COVID-19 pandemic and the proceeding economic recovery, and the changing document and printing needs of our customers and the uncertainties regarding the effect on our business, there can be no assurance that the estimates and assumptions made for purposes of our goodwill impairment testing in 2022 will prove to be accurate predictions of the future. If our assumptions, including forecasted EBITDA of certain reporting units, are not achieved, or our assumptions change regarding disruptions caused by the pandemic, and the impact on the recovery from COVID-19 change, then we may be required to record goodwill impairment charges in future periods, whether in connection with our next annual impairment testing in the third quarter of 2023, or on an interim basis, if any such change constitutes a triggering event (as defined under ASC 350, Intangibles -Goodwill and Other) outside of the quarter when we regularly perform our annual goodwill impairment test. It is not possible at this time to determine if any such future impairment charge would result or, if it does, whether such charge would be material.
Revenue Recognition
Revenue is recognized when control of the promised goods or services is
transferred to our customers, in an amount that reflects the consideration that
we are expected to be entitled to in exchange for those goods or services. We
applied practical expedients related to unsatisfied performance obligations for
(i) contracts with an original expected length of one year or less and
(ii) contracts for which the Company recognizes revenue at the amount to which
it has the right to invoice for services performed.
Digital Printing consists of professional services and software services to (i)
reproduce and distribute large-format and small-format documents in either black
and white or color, or Ordered Prints and (ii) specialized graphic color
printing. Substantially, all the Company's revenue from Digital Printing comes
from professional services to reproduce Ordered Prints. Sales of Ordered Prints
are initiated through a customer order or quote and are governed by established
terms and conditions agreed upon at the onset of the customer
relationship. Revenue is recognized when the performance obligation under the
terms of a contract with a customer are satisfied; generally, this occurs with
the transfer of control of the re-produced Ordered Prints. Transfer of control
occurs at a specific point-in-time, when the Ordered Prints are delivered to the
customer's site or handed to the customer for walk in orders. Revenue is
measured as the amount of consideration we expect to receive in exchange for
transferring goods or providing services. Taxes collected concurrent with
revenue-producing activities are excluded from revenue.
MPS consists of placement, management, and optimization of print and imaging
equipment in the customers' offices, job sites, and other facilities. MPS
relieves the Company's customers of the burden of purchasing print equipment and
related supplies and maintaining print devices and print networks, and shifts
their costs to a "per-use" basis. MPS is supported by our hosted proprietary
technology, Abacus®, which allows our customers to capture, control, manage,
print, and account for their documents. Under its MPS contracts, the Company is
paid a fixed rate per unit for each print produced (per-use), often referred to
as a "click charge". MPS sales are driven by the ongoing print needs of the
Company's customers at their facilities. Upon the issuance of ASC 842, Leases,
the Company concluded that certain of its MPS arrangements, which had previously
been
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accounted for as service revenue under ASC 606, Revenue from Contracts with
Customers, are accounted for as operating leases under ASC 842. The pattern of
revenue recognition for the Company's MPS revenue has remained substantially
unchanged following the adoption of ASC 842. See Note 7, Leasing, for additional
information.
Scanning and digital imaging combines software and professional services to
facilitate the capture, management, access and retrieval of documents and
information that have been produced in the past. Scanning and digital imaging
may include our hosted SKYSITE software and facilities solution to organize,
search and retrieve documents, as well as the provision of services that include
the capture and conversion of hardcopy and electronic documents into digital
files, or Scanned Documents, and their cloud-based storage and maintenance.
Sales of scanning and digital imaging services, which represent substantially
all revenue for this business line, are initiated through a customer order or
proposal and are governed by established terms and conditions agreed upon at the
onset of the customer relationship. Revenue is recognized when the performance
obligation under the terms of a contract with a customer are satisfied;
generally, this occurs with the transfer of control of the digital files.
Transfer of control occurs at a specific point-in-time, when the Scanned
Documents are delivered to the customer either through SKYSITE, our facilities
solution or through other electronic media. Revenue is measured as the amount of
consideration we expect to receive in exchange for transferring goods or
providing services. Taxes collected concurrent with revenue-producing activities
are excluded from revenue.
Equipment and Supplies sales consist of reselling printing, imaging, and related
equipment, or Goods, to customers primarily in architectural, engineering and
construction firms. Sales of Equipment and Supplies are initiated through a
customer order and are governed by established terms and conditions agreed upon
at the onset of the customer relationship. Revenue is recognized when the
performance obligations under the terms of a contract with a customer are
satisfied; generally, this occurs with the transfer of control of the Goods.
Transfer of control occurs at a specific point-in-time, when the Goods are
delivered to the customer's site. Revenue is measured as the amount of
consideration we expect to receive in exchange for transferring goods or
providing services. Taxes collected concurrent with revenue-producing activities
are excluded from revenue. We have experienced minimal customer returns or
refunds and does not offer a warranty on equipment that it is reselling.
Leases
We recognize lease assets and corresponding lease liabilities for all operating and finance leases on our Consolidated Balance Sheets, excluding short-term leases (leases with terms of 12 months or less) as described under ASU No. 2016-02, Leases (Topic 842). Some of our long-term operating lease agreements include options to extend, which are also factored into the recognition of their respective assets and liabilities when appropriate based on management's assessment of the probability that the options will be exercised. Lease payments are discounted using the rate implicit in the lease, or, if not readily determinable, a third-party secured incremental borrowing rate based on information available at lease commencement. Additionally, certain of our lease agreements include escalating rents over the lease terms which, under Topic 842, results in rent being expensed on a straight-line basis over the life of the lease that commences on the date we have the right to control the property. Finance leases were not impacted by the adoption of ASC 842, as finance lease liabilities and the corresponding ROU assets were already recorded in the balance sheet under the previous guidance, ASC 840. For additional information about the impact of the adoption of ASC 842, see Note 7, Leasing.
Income Taxes
Deferred tax assets and liabilities reflect temporary differences between the amount of assets and liabilities for financial and tax reporting purposes. Such amounts are adjusted, as appropriate, to reflect changes in tax rates expected to be in effect when the temporary differences reverse. A valuation allowance is recorded to reduce our deferred tax assets to the amount that is more likely than not to be realized. Changes in tax laws or accounting standards and methods may affect recorded deferred taxes in future periods. When establishing a valuation allowance, we consider future sources of taxable income such as future reversals of existing taxable temporary differences, future taxable income exclusive of reversing temporary differences and carryforwards and tax planning strategies. A tax planning strategy is an action that: is prudent and feasible; an enterprise ordinarily might not take but would take to prevent an operating loss or tax credit carryforward from expiring unused; and would result in realization of deferred tax assets. In the event we determine that its deferred tax assets, more likely than not, will not be realized in the future, the valuation adjustment to the deferred tax assets will be charged to earnings in the period in which we make such a determination. We have a$2.7 million valuation allowance against certain deferred tax assets as ofDecember 31, 2022 . In future quarters we will continue to evaluate our historical results for the preceding twelve quarters and our future projections to determine whether we will generate sufficient taxable income to utilize our deferred tax assets, and whether a valuation allowance is required. 29 --------------------------------------------------------------------------------
We calculate our current and deferred tax provision based on estimates and assumptions that could differ from the actual results reflected in income tax returns filed in subsequent years. Adjustments based on filed returns are recorded when identified.
Income taxes have not been provided on certain undistributed earnings of foreign subsidiaries because such earnings are considered to be permanently reinvested.
The amount of taxable income or loss we report to the various tax jurisdictions is subject to ongoing audits by federal, state and foreign tax authorities. We estimate of the potential outcome of any uncertain tax issue is subject to management's assessment of relevant risks, facts, and circumstances existing at that time. We use a more-likely-than-not threshold for financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. We record a liability for the difference between the benefit recognized and measured and tax position taken or expected to be taken on its tax return. To the extent that our assessment of such tax positions changes, the change in estimate is recorded in the period in which the determination is made. We report tax-related interest and penalties as a component of income tax expense.
Recent Accounting Pronouncements
See Note 2, Summary of Significant Accounting Policies to our Consolidated Financial Statements for disclosure on recently adopted accounting pronouncements and those not yet adopted.
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