Onterris, Inc.: Form 10-Q for the period ended Mar 31, 2024

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our historical audited and unaudited consolidated financial statements and related notes and other information included elsewhere in this filing and our other filings with the SEC, including our unaudited condensed consolidated financial statements and the accompanying notes as of and for the three months ended March 31, 2024 and March 31, 2023 included in Part I, Item 1. “Financial Statements” in this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from such forward-looking statements. Factors that could cause or contribute to those differences include, but are not limited to, those identified below and those discussed in the section entitled “Forward-Looking Statements”, and elsewhere in this filing and our other filings with the SEC, including in Item 1A. Risk Factors in the 2023 Form 10-K.

Overview

Since our inception in 2012, our mission has been to help clients and communities meet their environmental goals and needs. According to data derived from a 2023 Environmental Industry Study prepared by Environmental Business International, Inc., or EBI, which we commissioned, the global environmental industry is estimated to be approximately $1.44 trillion, with $494.0 billion concentrated in the United States.

Our Segments

We provide environmental services to our clients through three business segments—Assessment, Permitting and Response, Measurement and Analysis and Remediation and Reuse. For more information on each of our operating segments, see Item 1. “Business” in the 2023 Form 10-K.

Assessment, Permitting and Response

Assessment, Permitting and Response segment provides scientific advisory and consulting services to support environmental assessments, environmental emergency response and recovery, toxicology consulting and environmental audits and permits for current operations, facility upgrades, new projects, decommissioning projects and development projects. We work closely with clients to navigate the regulatory process at the local, state, provincial and federal levels, identify the potential environmental and political impacts of their decisions and develop practical mitigation approaches, as needed. In addition to environmental toxicology, and given our expertise in helping businesses plan for and respond to disruptions, our scientists and response teams have helped clients navigate their preparation for and response to emergency response situations.

Measurement and Analysis

Measurement and Analysis segment is one of the largest providers of environmental testing and laboratory services in North America. Our highly credentialed teams test and analyze air, water and soil to determine concentrations of contaminants, as well as the toxicological impact of contaminants on flora, fauna and human health. Our offerings include source and ambient air testing and monitoring, leak detection, and advanced multi-media laboratory services, including air, soil, stormwater, wastewater and drinking water analysis.

Remediation and Reuse

Remediation and Reuse segment provides clients with engineering, design, and implementation services, primarily to treat contaminated water, remove contaminants from soil or create biogas from waste. Our employees, including engineers, scientists and consultants, provide these services to assist our clients in designing solutions, managing products and mitigating environmental risks and liabilities at their locations. We do not own the properties or facilities at which we implement these projects or the underlying liabilities, nor do we own material amounts of the equipment used in projects.

These operating segments have been structured and organized to align with how we view and manage the business with the full lifecycle of our clients’ targeted environmental concerns and needs in mind. Within each segment, we cover similar service offerings, regulatory frameworks, internal operating structures and client types. Corporate activities not directly related to segment performance, including general corporate expenses, interest and taxes, are reported separately.

Key Factors that Affect Our Business and Our Results

Our operating results and financial performance are influenced by a variety of internal and external trends and other factors. Some of the more important factors are discussed briefly below.

Acquisitions

We have been, and expect to continue to be, an acquisitive company. Acquisitions have expanded our environmental service capabilities across all three segments, our access to technology, as well as our geographic reach in the United States, Canada, Europe and Australia. The table below sets forth the number of acquisitions completed, revenues generated by and the percentage of total revenues attributable to those acquisitions completed during the three months ended March 31, 2024 and March 31, 2023:

(Revenues in thousands)

Revenues from acquired companies exclude intercompany revenues from revenue synergies realized between business lines within operating segments, as these are eliminated at the consolidated segment and Company level. We expect our revenue growth to continue to be driven in significant part by acquisitions. See Note 7 to our unaudited condensed consolidated financial statements included in Part I, Item 1. “Financial Statements.”

As a result of our acquisitions, goodwill and other intangible assets represent a significant proportion of our total assets, and amortization of intangible assets has historically been a significant expense. Our historical financial statements also include other acquisition-related costs, including costs relating to external legal support, diligence and valuation services and other transaction and integration-related matters. In addition, in any year gains and losses from changes in the fair value of business acquisition contingencies such as earn-outs could be significant. The amount of each for the three months ended March 31, 2024 and March 31, 2023, was:

(in thousands)

We expect that amortization of identifiable intangible assets and other acquisition-related costs, assuming we continue to acquire, will continue to be significant.

Additionally, we made an earn-out payment of $1.5 million in March 2024 in connection with our acquisition of Huco Consulting, Inc. ("Huco"), of which, $0.4 million was paid in cash, and the remaining $1.1 million in the Company's common stock. In connection with certain of our acquisitions, we may make up to $40.4 million in aggregate earn-out payments between the years 2025 and 2026, of which up to $14.2 million may be paid only in cash, up to $13.1 million may be paid only in common stock and up to $13.1 million may be paid, at our option, in cash or common stock. See Note 7 to our unaudited condensed consolidated financial statements included in Part I, Item 1. “Financial Statements.”

Organic Growth

We define organic growth as the change in revenues excluding revenues from i) our environmental emergency response business, ii) acquisitions for the first twelve months following the date of acquisition, and iii) businesses held for sale, disposed of or discontinued. Management uses organic growth as one of the means by which it assesses our results of operations. Organic growth is not, however, a measure of revenue growth calculated in accordance with U.S. generally accepted accounting principles, or GAAP, and should be considered in conjunction with revenue growth calculated in accordance with GAAP. We have grown organically over the long term and expect to continue to do so.

Discontinued Service Lines and Contracts

Periodically, or when circumstances warrant, we evaluate the performance of our business services to ensure that performance and outlook are consistent with expectations, and that the services offered are consistent with the Company’s mission.

As part of this evaluation, during the first quarter of 2023, we determined to sell one of our specialty lab testing businesses, the Discontinued Specialty Lab, whose service offering was non-core to the Company’s business. On December 29, 2023, we sold the assets of the Discontinued Specialty Lab for a total sales price of $4.8 million. The discontinuation of this specialty service line did not represent a strategic shift that had a major effect on our operations and financial results, therefore it did not meet the requirements to be classified as discontinued operations.

Revenue Mix

Our segments generate different levels of profitability and, accordingly, shifts in the mix of revenues between segments can impact our consolidated reported net income, net loss margin, segment adjusted EBITDA and segment adjusted EBITDA margin from quarter to quarter and year to year. Inter-company revenues between business lines within segments have been eliminated. See Note 18 to our unaudited condensed consolidated financial statements included in Part 1, Item 1 “Financial Statements.”

Financing Costs

On April 27, 2021, we entered into the 2021 Credit Facility and repaid all amounts outstanding under our prior credit facility. The 2021 Credit Facility consists of a $175.0 million term loan and a $125.0 million revolving credit facility. The revolving credit facility includes a $20.0 million sublimit for the issuance of letters of credit. Prior to May 31, 2023, the interest rate on the 2021 Credit Facility varied depending on leverage, with a minimum of LIBOR plus 1.5% and a maximum of LIBOR plus 2.5%. On May 31, 2023, we amended our 2021 Credit Facility to transition the reference rate from LIBOR to SOFR plus 0.10%. The transition to SOFR did not materially impact the interest rate we pay or change any material terms of the 2021 Credit Facility.

On May 30, 2023, we amended the interest rate swap transaction we entered into on January 27, 2022, to convert the floating component of the interest rate on $100.0 million of borrowings to 1-Month Term SOFR and a new coupon of 1.319% until January 27, 2025. Prior to the amendment, the floating component of the interest rate was 1.39%. Further, on May 30, 2023, we entered into a second interest rate swap transaction fixing the floating component of the interest rate on an additional $70.0 million of borrowings to 1-Month Term SOFR and a coupon of 3.88% until April 27, 2026.

In January 2024, the Company partially exercised its option to request an increase in the aggregate commitments to provide an additional $100.0 million credit availability under the 2021 Credit Facility, comprised of an additional $50.0 million term loan and an additional $50.0 million in capacity under our revolving credit facility. Furthermore, the Company exercised its credit facility covenant holiday, increasing its leverage capacity from 3.75 times to 4.25 times for four quarters beginning with the first quarter of 2024.

Interest expense, net was $3.3 million and $1.5 million in the three months ended March 31, 2024 and March 31, 2023, respectively. We expect interest expense to remain a significant cost as we continue to leverage our credit facility to support our operations and future acquisitions.

See Note 12 to our unaudited condensed consolidated financial statements included in Part 1, Item 1 “Financial Statements” and “Liquidity and Capital Resources.”

Corporate and Operational Infrastructure Investments

Our historical operating results reflect the impact of our ongoing investments in our corporate infrastructure to support our growth. We have made and expect to continue to make investments in our business platform that we believe have laid the foundation for continued growth. Investments in logistics, quality, risk management, sales and marketing, safety, human resources, research and development, finance and information technology and other areas enable us to support continued growth. These investments should allow us to improve our margins over time.

Seasonality

Due to the field-based nature of certain of our services, weather patterns generally impact our field-based teams’ ability to operate in the winter months. As a result, our operating results in our Measurement and Analysis segment and, following the acquisition of Matrix in Canada, the Remediation and Reuse segment, experience some quarterly variability with generally lower revenues and lower earnings in the first and fourth quarters and higher overall revenues and earnings in the second and third quarters. As we continue to grow and expand into new geographies and service lines, quarterly variability in our Measurement and Analysis and Remediation and Reuse segments may deviate from historical trends.

Earnings Volatility

In addition to the impact of seasonality on earnings, our emergency response business exposes us to potentially significant revenue and earnings fluctuations tied both to the timing of large environmental emergency response projects following an incident or natural disaster or more broad scale events such as the COVID-19 pandemic. We also saw significant emergency response revenue in 2023 from a single event. Demand for environmental emergency response services remains difficult to predict and as a result, we may have experienced revenues and earnings in prior years that are not indicative of future results, making those periods particularly difficult comparisons for future periods. Earnings volatility is also driven by the timing of large projects, particularly in our Remediation and Reuse segment, and the impact of acquisitions. As a result of these factors, and because demand for environmental services is not driven by specific or predictable patterns in one or more fiscal quarters, our business is better assessed based on yearly results.

Results of Operations

Three Months Ended March 31, 2024 Compared to the Three Months Ended March 31, 2023

(in thousands, except per share data)

Revenues

For the three months ended March 31, 2024, we generated revenues of $155.3 million, an increase of $23.9 million, or 18.2% over the three months ended March 31, 2023. The period over period increase in revenues was primarily driven by acquisitions completed subsequent to the quarter ended March 31, 2023, which contributed revenues of $22.5 million, and strong organic growth in both our Measurement and Analysis and Assessment, Permitting and Response segments. These increases were partially offset by $7.5 million lower environmental emergency response service revenues, the exiting of the Discontinued Specialty Lab in December 2023, which generated revenues of $1.4 million in the three months ended March 31, 2023, and the shift away from lower margin revenue in our biogas business. Environmental emergency response revenues were $15.7 million in the three months ended March 31, 2024, compared to $23.2 million in the three months ended March 31, 2023.

Revenue by segment and as a percentage of total revenues was as follows:

(Revenues in thousands)

31

Cost of Revenues

Cost of revenues consists of all direct costs required to provide services, including fixed and variable direct labor costs, equipment purchases and rental, and other outside services, field and lab supplies, vehicle costs and travel-related expenses. Variable costs of revenues generally follow the same trends as revenue, while fixed costs tend to change primarily as a result of acquisitions.

For the three months ended March 31, 2024, cost of revenues was $96.6 million or 62.2% of revenues, and was comprised of direct labor of $53.6 million, outside services (including contracted labor, laboratory, shipping and freight and other outside services) of $21.0 million, field supplies, testing supplies and equipment rental costs of $12.1 million, project-related travel expenses of $6.3 million and other direct costs of $2.7 million.

For the three months ended March 31, 2023, cost of revenues was $81.6 million or 62.1% of revenues, and was comprised of direct labor of $42.6 million, outside services (including contracted labor, laboratory, shipping and freight and other outside services) of $16.0 million, field supplies, testing supplies and equipment rental costs of $13.5 million, project-related travel expenses of $4.8 million and other direct costs of $4.7 million.

Cost of revenues for the three months ended March 31, 2024 increased $15.0 million when compared to the three months ended March 31, 2023, driven by higher revenues, including the impact of acquisitions completed subsequent to the first quarter of 2023. These acquisitions contributed $16.4 million to the increase in cost of revenues. For the three months ended March 31, 2024, cost of revenues as a percentage of revenue decreased 0.1% from the three months ended March 31, 2023, primarily due to a decline in the percentage of total revenue from certain large Remediation and Reuse projects, which tend to have higher cost of sales as a percentage of revenue.

Selling, General and Administrative Expense

Selling, general and administrative expense consists of general corporate overhead, including executive, legal, finance, safety, risk management, human resource, marketing and information technology related costs, as well as indirect operational costs of labor, rent, insurance and stock-based compensation.

For the three months ended March 31, 2024, selling, general and administrative expense of $57.1 million was comprised of indirect labor of $30.0 million, stock-based compensation of $10.4 million, facilities costs of $5.8 million, acquisition-related costs of $2.5 million, and other costs (including software, travel, insurance, legal, consulting and audit services and bad debt) of $11.9 million.

For the three months ended March 31, 2023, selling, general and administrative expense of $49.6 million was comprised of indirect labor of $24.7 million, stock-based compensation of $12.1 million, facilities costs of $4.9 million, and other costs (including software, travel, insurance, legal, consulting, audit services, bad debt and acquisition-related costs) of $7.9 million.

Selling, general and administrative expense for the three months ended March 31, 2024 increased $7.5 million or 15.0% when compared to the three months ended March 31, 2023. This increase was primarily driven by an increase of approximately $6.0 million from selling, general and administrative expense pertaining to companies we acquired subsequent to the first quarter of 2023, and an increase in acquisition-related costs of $1.7 million.

Fair Value Changes in Business Acquisition Contingencies

For the three months ended March 31, 2024 and March 31, 2023, fair value changes in business acquisition contingencies resulted in an expense of $0.1 million and a gain of $0.4 million, respectively.

Depreciation and Amortization

Depreciation and amortization expense for the three months ended March 31, 2024, was $11.7 million and was comprised of amortization of finite lived intangibles of $7.4 million, arising as a result of our acquisition activity, depreciation of property and equipment of $2.9 million and finance leases right-of-use asset amortization of $1.3 million.

Depreciation and amortization expense for the three months ended March 31, 2023, was $10.6 million and was comprised of amortization of finite lived intangibles of $7.2 million, arising as a result of our acquisition activity, depreciation of property and equipment of $2.2 million and finance leases right-of-use asset amortization of $1.2 million.

The increases in depreciation of property and equipment and the amortization of finance leases were primarily a result of higher property and equipment and right of use assets outstanding during the three months ended March 31, 2024 when compared to the three months ended March 31, 2023.

Other (Expense) Income, Net

Other income for the three months ended March 31, 2024 of $0.5 million was driven by a benefit of $0.3 million from the fair value adjustment on our interest rate swap.

Other expense for the three months ended March 31, 2023 of $1.8 million was driven by a fair value adjustment on our interest rate swap of $1.0 million and by a fair value adjustment to the Series A-2 preferred stock conversion option of $0.9 million.

Interest Expense, Net

Interest expense, net incurred in the three months ended March 31, 2024, was $3.3 million, compared to $1.5 million for the three months ended March 31, 2023. The increase in interest expense was primarily due to higher average debt balances, higher interest rates and lower interest income as a result of lower average cash balances.

Income Tax Expense

Income tax expense was $0.5 million and $1.4 million during the three months ended March 31, 2024 and March 31, 2023, respectively.

Segment Results of Operations

Three Months Ended March 31, 2024 Compared to the Three Months Ended March 31, 2023

(in thousands, except percentages)

(1) For purposes of evaluating segment profit, the Company’s chief operating decision maker reviews Segment Adjusted EBITDA as a basis for making the decisions to allocate resources and assess performance. See Note 18 to our unaudited condensed consolidated financial statements included in Part I, Item 1. “Financial Statements.”

(2) Represents Segment Adjusted EBITDA as a percentage of segment revenues.

Revenues

Assessment, Permitting and Response segment revenues for the three months ended March 31, 2024 were $58.6 million, an increase of $6.4 million or 12.2% compared to $52.2 million for the three months ended March 31, 2023. The increase was driven by strong organic growth, partially offset by a decline in revenues from environmental emergency response services of $7.5 million.

Measurement and Analysis segment revenues for the three months ended March 31, 2024 were $45.5 million, an increase of $3.0 million or 7.0% compared to revenues for the three months ended March 31, 2023 of $42.5 million. The increase was driven primarily by organic growth.

Remediation and Reuse segment revenues for the three months ended March 31, 2024 were $51.3 million, an increase of $14.6 million or 39.7% compared to revenues for the three months ended March 31, 2023 of $36.7 million. The increase was driven primarily by acquisitions completed subsequent to the first quarter of 2023, which contributed revenues of $22.5 million, partially offset by the shift in our biogas business to focus on higher margin, lower revenue projects, and lower water treatment revenues.

Segment Adjusted EBITDA

Assessment, Permitting and Response Segment Adjusted EBITDA was $16.3 million for the three months ended March 31, 2024, compared to $14.3 million for the three months ended March 31, 2023 and Segment Adjusted EBITDA margin was 27.8% and 27.3%, respectively. The increase in Segment Adjusted EBITDA and the 0.5% increase in Segment Adjusted EBITDA margin was primarily due to higher revenues and favorable revenue mix during the three months ended March 31, 2024 when compared to the three months ended March 31, 2023.

Measurement and Analysis Segment Adjusted EBITDA was $6.5 million for the three months ended March 31, 2024, an increase of $0.1 million compared to Segment Adjusted EBITDA of $6.4 million for the three months ended March 31, 2023. The increase in Segment Adjusted EBITDA was due to higher revenues. For the three months ended March 31, 2024 and March 31, 2023, Segment Adjusted EBITDA margin was 14.3% and 15.0%, respectively. The decline in segment margins was a result of unfavorable revenue mix.

Remediation and Reuse Segment Adjusted EBITDA for the three months ended March 31, 2024 was $5.0 million, a decrease of $0.3 million compared to Segment Adjusted EBITDA for the three months ended March 31, 2023 of $5.3 million, and Segment Adjusted EBITDA margin was 9.8% and 14.4%, respectively. The decrease in Segment Adjusted EBITDA was a result of lower revenues from certain biogas and water projects when compared to the 2023 period. Segment Adjusted EBITDA margins were impacted by the acquisition of Matrix in June 2023, which had margins of 0.3% in the current year.

Corporate and other costs were $10.9 million for the three months ended March 31, 2024 compared to $9.3 million for the three months ended March 31, 2023. Corporate costs as a percentage of revenues were 7.0% for the three months ended March 31, 2024 compared to 7.1% in the three months ended March 31, 2023.

Liquidity and Capital Resources

Liquidity describes the ability of a company to generate sufficient cash flows to meet the cash requirements of its business operations, including working capital needs, debt service, acquisitions, other commitments and contractual obligations. We consider liquidity in terms of cash flows from operations and other sources, including availability under our credit facility, and their sufficiency to fund our operating and investing activities.

Our principal sources of liquidity have been cash generated by operating activities, borrowings under our credit facilities, other borrowing arrangements, and proceeds from the issuance of common and preferred stock. Historically, we have financed our operations and acquisitions from a combination of cash generated from operations, periodic borrowings under senior secured credit facilities, and proceeds from the issuance of common and preferred stock. Our primary cash needs are for day to day operations, to fund working capital requirements, to fund our acquisition strategy and any related cash earn-out obligations, to pay interest and principal on our indebtedness and dividends on our Series A-2 preferred stock, and to make capital expenditures. Additionally, in connection with certain acquisitions, we agree to earn-out provisions and other purchase price adjustments that may require future payments. For example, an acquisition agreement might include an earn-out provision that provided for the payment of contingent consideration based on results in excess of a specified target. If the acquiree achieves the target within a specified timeline, the earn-out is (fully or partially) earned and paid in accordance with the agreement. In certain instances, as was the case with our acquisition of CTEH, the amount of earn-out payments can be significant. In connection with certain of our acquisitions, we may make up to $40.4 million in aggregate earn-out payments between the years 2025 and 2026, of which up to $14.2 million may be paid only in cash, up to $13.1 million may be paid only in common stock and up to $13.1 million may be paid, at our option, in cash or common stock. See Note 7 to our unaudited condensed consolidated financial statements included in Part 1, Item 1. “Financial Statements.”

We expect to continue to finance our liquidity requirements, including any cash earn-out payments that may be required in connection with acquisitions, through cash generated from operations and borrowings under our credit facility. We believe these sources will be sufficient to fund our cash needs for the short- and long-term.

Cash Flows

The following table summarizes our cash flows for the periods presented:

(in thousands)

Operating Activities

Cash flows from operating activities can fluctuate from period-to-period as earnings, working capital needs and the timing of payments for contingent consideration, taxes, bonus payments and other operating items impact reported cash flows.

For the three months ended March 31, 2024, net cash used in operating activities was $22.0 million compared to net cash provided by operating activities of $3.0 million for the three months ended March 31, 2023. The period-over-period decrease of $25.0 million, was primarily due to a higher increase in working capital in the current period of $30.0 million versus an increase in working capital in the prior year period of $9.7 million, as well as lower earnings before non-cash items of $8.0 million.

Working capital increased by $30.0 million in the three months ended March 31, 2024, primarily due to a decrease in accrued payroll and benefits of $10.0 million due primarily to the payment of bonuses in the first quarter, an increase in accounts receivable and contract assets of $9.1 million, a decrease in accounts payable and other accrued liabilities of $7.8 million, and an increase in prepaid expenses and other current assets of $2.5 million.

Investing Activities

For the three months ended March 31, 2024, net cash used in investing activities was $65.0 million, driven by cash paid for the acquisitions of EPIC and 2DOT, net of cash acquired, of $58.1 million, as well as $6.0 million in cash consideration for purchases of property and equipment, $1.3 million in proprietary software development costs, partially offset by proceeds of assumed purchase price obligations of $0.3 million.

For the three months ended March 31, 2023, net cash used in investing activities was $11.7 million, primarily driven by cash paid for the acquisitions of Frontier and EAI, net of cash acquired, of $6.5 million, purchases of property and equipment for cash consideration of $4.1 million, purchases of proprietary software development of $0.7 million and payment of assumed purchase price obligations of $0.5 million.

Financing Activities

For the three months ended March 31, 2024, net cash provided by financing activities was $73.3 million. Cash provided in financing activities was driven by net borrowing of the 2021 Credit Facility of $134.7 million partially offset by the repayment on the Series A-2 preferred stock of $60.0 million.

For the three months ended March 31, 2023, net cash used in financing activities was $4.7 million. Cash used in financing activities was driven by the quarterly dividends on the Series A-2 preferred stock of $4.1 million, the term loan amortization payments of $2.2 million related to our 2021 Credit Facility, and the repayment of finance leases of $1.0 million, partially offset by proceeds received from the exercise of stock options of $2.7 million.

Credit Facilities

See Note 12 to our unaudited condensed consolidated financial statements included in Part I, Item 1. “Financial Statements.” for details on our credit facilities.

Series A-2 Preferred Stock

See Note 15 to our unaudited condensed consolidated financial statements included in Part I, Item 1. “Financial Statements.” for details on our Series A-2 Preferred Stock.

Critical Accounting Policies and Estimates

Our 2023 Form 10-K includes a summary of the critical accounting policies and estimates we believe are the most important to aid in understanding our financial results. There have been no material changes to those critical accounting policies and estimates as disclosed therein, other than as described in Note 2 to our unaudited condensed consolidated financial statements included in Part I, Item 1. “Financial Statements.”

Interest Rate Risk

We have market risk exposure arising from changes in interest rates on our credit facility, which bears interest at rates that are benchmarked subject to the Company’s leverage ratio and SOFR. Based on our overall interest rate exposure to variable rate debt outstanding as of March 31, 2024, which factors in our interest rate swaps on $170.0 million of debt, a 1.0% increase or decrease in interest rates on the term loan, aircraft loan, and revolver would impact our annual income (loss) before income taxes by $1.2 million.

Inflation Risk

We experienced higher labor and significantly higher travel and other direct costs in the fiscal year ended December 31, 2022 and December 31, 2023 as a result of inflation, particularly in our Measurement and Analysis and Remediation and Reuse segments. In the three months ended March 31, 2024, we also experienced, and continue to experience, higher labor costs as a result of inflation. We believe we have successfully raised prices in businesses with short term contracts to offset these inflationary effects. We also have and are continuing to raise prices on medium term (one to four quarter) contracts as these contracts are renewed or new contracts are won, and as a result have been able to offset much of the impact of inflation to date. We expect to continue to raise prices if direct costs continue to increase, and although inflation has increased our Selling, general and administrative expense in the three months ended March 31, 2024, we do not believe over a longer period of time that inflation will have a material effect on our business, financial condition or results of operations. If our costs were to become subject to additional and unanticipated significant sustained inflationary pressures, we may not be able to fully offset such higher costs through price increases. Our inability or failure to do so could adversely affect our business, financial condition and results of operations.

Foreign Exchange Risk

Foreign exchange risk exposure arises because we sell our services throughout the United States, Canada, Australia and Europe. Our exposure to this risk has increased significantly due to our acquisition of Matrix in Canada, EPIC in Australia, and to a lesser extent, Vandrensning in Europe. Revenues in certain foreign countries as well as certain expenses related to those revenues are transacted in currencies other than the U.S. dollar. As such, our future operating results are exposed to changes in exchange rates. When the U.S. dollar weakens against foreign currencies, the dollar value of revenues denominated in foreign currencies increases. When the U.S. dollar strengthens, the opposite situation occurs. Additionally, previously invoiced amounts can be positively or negatively affected by changes in exchange rates in the course of collection.

Evaluation of Disclosure Controls and Procedures

As required by Rule 13a-15(b) under the Exchange Act, our management, including our Chief Executive Officer and Chief Financial Officer, carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act), as of March 31, 2024, the end of the period covered by this Quarterly Report on Form 10-Q. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that, as of March 31, 2024, the end of the period covered by this Quarterly Report on Form 10-Q, our disclosure controls and procedures were effective at the reasonable assurance level.

Internal Control Over Financial Reporting

There were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred during the quarter ended March 31, 2024, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Limitations on Effectiveness of Controls

Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our system of internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed or operated, can provide only reasonable, but not absolute, assurance that the objectives of the system of internal control are met. The design of our control system reflects the fact that there are resource constraints, and that the benefits of such control system must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control failures and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the intentional acts of individuals, by collusion of two or more people, or by management override of the controls. The design of any system of controls is also based in part on certain assumptions about the likelihood of future events, and there can be no assurance that the design of any particular control will always succeed in achieving its objective under all potential future conditions.

There have been no material changes to our risk factors from the risk factors disclosed in our 2023 Form 10-K. The risks described in our 2023 Form 10-K, in addition to the other information set forth in this Quarterly Report on Form 10-Q, are not the only risks facing we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.