Basis of Presentation

The unaudited condensed consolidated financial statements of Fairmount Santrol Holdings Inc. and its consolidated subsidiaries (collectively, the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.  In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments (which are of a normal, recurring nature) and disclosures necessary for a fair statement of the financial position, results of operations, comprehensive income, and cash flows of the reported interim periods.  The condensed consolidated balance sheet as of December 31, 2016 was derived from audited financial statements, but does not include all disclosures required by GAAP.  Interim results are not necessarily indicative of the results to be expected for the full year or any other interim period.  These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements as filed in the 2016 Annual Report on Form 10-K and notes thereto and information included elsewhere in this Quarterly Report on Form 10-Q.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period.  Actual results could differ from those estimates.

Recent Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-02 – Leases (ASC 842), which sets out the principles for the recognition, measurement, presentation, and disclosure of leases for both parties to a contract (i.e. lessees and lessors).  The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee.  This classification will determine whether lease expense is recognized based on an effective interest method or on a straight line basis over the term of the lease, respectively.  A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than twelve months regardless of their classification.  The new standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases and operating leases.  The Company believes that the adoption of this standard will likely have a material impact to its condensed consolidated balance sheet for the recognition of certain operating and land lease arrangements as right-of-use assets and lease liabilities.  The Company is in the process of analyzing its lease arrangements and evaluating its systems to comply with the standards retrospective adoption requirements.  ASC 842 supersedes the previous leases standard, ASC 840 – Leases and is effective on January 1, 2019, with early adoption permitted.  

In April and May 2016, the FASB issued ASU No. 2016-10 – Revenue from Contracts with Customers – Identifying Performance Obligations and Licensing, ASU No. 2016-11 – Revenue Recognition and Derivatives and Hedging – Recession of SEC Guidance, ASU No. 2016-12 – Revenue from Contracts with Customers – Narrow-Scope Improvements and Practical Expedients and in December 2016, the FASB issued ASU No. 2016-20 – Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers.  These ASUs each affect the guidance of the new revenue recognition standard in ASU No. 2014-09 – Revenue from Contracts with Customers and related subsequent ASUs.  This guidance is effective beginning January 1, 2018.  The Company has reviewed its various customer contracts in both of its business segments with a combination of applicable sales, legal, and accounting personnel.  In this review, the Company has identified several indicators of potential variable consideration, including price adjustments in the contracts as well as provisions similar to take-or-pay arrangements that could modify the timing of revenue recognition.  The Company is implementing formal procedures to monitor these indicators but currently does not believe they will result in a change in the timing of revenue recognition.  Should further information present itself to the contrary, the Company intends to use the modified retrospective approach and will record a cumulative-effect adjustment to equity as of the beginning of the fiscal year of adoption.  The Company has proceeded to assessment and development of the expanded financial statement disclosures.

In January 2017, the FASB issued ASU No. 2017-04 – Intangibles – Goodwill and Other (Topic 350) – Simplifying the Test for Goodwill Impairment.  The ASU eliminates Step 2 from goodwill impairment testing.  Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill.  As a result of the ASU, an entity will apply a one-step quantitative test and record the amount of goodwill impairment as the excess of a reporting unit’s carrying amount over its fair value, not to exceed the total amount of goodwill allocated to the reporting unit.  The ASU is effective beginning January 1, 2020, with early adoption permitted, and applied prospectively.  The Company believes that the adoption of this standard will likely not have a material impact on its financial statements and disclosures.

In March 2017, the FASB issued ASU No. 2017-07 – Compensation – Retirement Benefits (Topic 715) – Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost.  The ASU requires that an employer report the service cost component in the same line item in the income statement as other compensation costs arising from services rendered by the pertinent employees during the period as well as appropriately described relevant line items.  The ASU also requires only the service cost component to be eligible for capitalization when applicable.  The ASU is effective beginning January 1, 2018 with early adoption permitted.  The income statement components of the ASU should be applied retrospectively while the balance sheet component should be applied prospectively.  The Company is in the process of evaluating the impact of this new guidance on its financial statements and disclosures.

In August 2017, the FASB issued ASU No. 2017-12 – Derivatives and Hedging (Topic 815) – Targeted Improvements to Accounting for Hedging Activities.  The ASU expands and refines hedge accounting for both nonfinancial and financial risk components and aligns the recognition and presentation of the effects of the hedging instrument and the hedged item in the financial statements.  Subject matters addressed include risk component hedging, accounting for the hedged item in fair value hedges of interest rate risk, recognition and presentation of the effects of hedging instruments, amounts excluded from the assessment of hedge effectives, and effectiveness testing.  The ASU is effective beginning January 1, 2019, with early adoption permitted.  All transition requirement and elections should be applied to existing hedging relationships as of the date of adoption and reflected as of the beginning of the fiscal year of adoption.  The Company is in the process of evaluating the impact of this new guidance on its financial statements and disclosures.

At September 30, 2017 and December 31, 2016, inventories consisted of the following:

At September 30, 2017 and December 31, 2016, property, plant, and equipment consisted of the following:

Under ASC 360 Property, Plant, and Equipment, the Company is required to evaluate the recoverability of the carrying amount of its long-lived assets whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable.  Based on the adverse business conditions and the idling of certain assets in 2016, the Company evaluated certain of its asset groups that contained mineral reserves and other long-lived assets contained in the Proppant Solutions segment and concluded that the carrying amounts of those assets were not recoverable.  Fair value was determined by prices obtained from third parties for the assets and from estimating the net present value of the future cash flows over the life of the assets.  Using Level 3 inputs of the fair value hierarchy, critical assumptions for these valuations included future selling prices of products, future operating costs, and the cost of capital.  The Company incurred $90,654 of such asset impairments in the nine months ended September 30, 2016.  These impairments are recorded as asset impairments in operating expenses in the Condensed Consolidated Statements of Income (Loss).  There were no such impairments included in the nine months ended September 30, 2017.

On July 18, 2017, the Company entered into a 40-year lease agreement for approximately 3,250 acres of sand reserves in Winkler County, Texas.  The Company has capitalized the entire $40,000 leasehold interest obligation and related exploratory and transaction costs to mineral reserves and mine development.  The initial payment of $20,000 was paid at lease commencement.  The remaining $20,000 is payable in two installments of $10,000 each upon the occurrence of certain probable events.  The first remaining installment was payable upon the issuance of all federal, state, and local permits, and the final remaining installment is payable upon the earlier of two years from the commencement date of the agreement or the date the Company makes its first sale from this property.  Additionally, the Company is obligated for certain royalty payments based on volumes sold.

In October 2017, the Company paid an installment of $10,000.  The remaining $10,000 is payable when sand begins to be sold from the property, which the Company expects within twelve months of the date of this Report.  The capitalized leasehold interest payments will begin to be recognized as expense as production occurs.

At September 30, 2017 and December 31, 2016, long-term debt consisted of the following:

On April 28, 2016, the Company entered into an amendment to the 2013 Amended Credit Agreement that extended the maturity of certain of the Term B-1 Loans to July 15, 2018 (the “2016 Extended Term Loans”).  The Company made a prepayment of principal of $69,580 and accrued interest of $227 on April 28, 2016 to the lenders consenting to the amendment.  

On October 17, 2016, the Company repurchased $3,000 of the Extended Term B-1 Loans at 91.5% of par.  On November 17, 2016, the Company fully prepaid the $16,766 of the Term B-1 Loans due March 2017 as well as the $69,580 of the 2016 Extended Term Loans.  On November 29, 2016, the Company repurchased, at an average of 96.3% of par, a total of $213,000 of term loans, which consisted of $37,867 of the Extended Term B-1 Loans and $175,133 of the Term B-2 Loans.  The related net gain on the October and November 2016 debt repurchases was $5,110.  On June 27, 2017, the Company prepaid $50,000 of term loans at par, which consisted of $42,979 of the Term B-2 Loans and $7,021 of the Extended Term B-1 Loans and recognized expenses of $389 relating to the write-off of unamortized capitalized debt issuance costs.

As of September 30, 2017, the Term B-2 Loans, Extended Term B-1 Loans, and the Revolving Credit Facility had actual interest rates of 4.7%, 4.7%, and 5.2%, respectively.

The Revolving Credit Facility termination date is September 6, 2018.  As of September 30, 2017, the Company’s leverage ratio was 5.20:1.00 which, under the terms of the Revolving Credit Facility, permitted $84,742 available unused capacity on the Revolving Credit Facility and $15,258 committed to outstanding letters of credit.  As of September 30, 2017, the Company had not drawn on the Revolving Credit Facility.

The Company has a $10,000 Industrial Revenue Bond outstanding related to the construction of a mining facility in Wisconsin.  The bond bears interest, which is payable monthly, at a variable rate.  The rate was 0.95% at September 30, 2017.  The bond matures on September 1, 2027 and is collateralized by a letter of credit of $10,000.

On November 1, 2017 (the “Closing Date”), the Company entered into a new five-year asset-based revolving credit facility (the “ABL Revolver”) with PNC Capital Markets LLC, as administrative agent, which replaced the existing revolving credit facility.  The ABL Revolver has a borrowing capacity of up to $125,000 with an option to increase by $50,000 to $175,000.  An initial draw upon closing of the ABL Revolver was used to partially refinance existing term debt, pay expenses associated with debt refinancing, and can be later used for funding capital expenditures, and providing ongoing working capital.  The ABL Revolver is interest only at a rate derived from LIBOR plus 1.5% to 2.0%, depending on excess availability under the ABL Revolver, or from a Base Rate, which is the higher of the prime rate, the Federal Funds open rate plus 0.5% and the Daily LIBOR Rate plus 1.0%.  The interest payments on the ABL Revolver are payable in quarterly installments, with the principal balance due at November 1, 2022.  If the Term Loan B (subsequently defined) is still outstanding, then any balance outstanding under the ABL Revolver is due on May 1, 2022.  Availability under the ABL Revolver is based upon an available borrowing base, which includes a specified percentage of eligible accounts receivable and inventory and excludes outstanding letters of credit and applicable reserves.  In addition to interest charged on the ABL Revolver, the Company is also obligated to pay certain fees, quarterly in arrears, including letter of credit fees and unused facility fees.  The ABL Revolver includes financial covenants requiring a minimum fixed charge coverage ratio of 1.1, based on availability thresholds, and is primarily secured by all accounts receivable and inventory, with security interest second to the Term Loan B (subsequently defined) on substantially all other assets of the Company.

Additionally on the Closing Date, the Company entered into an agreement with Barclays Capital Inc., as administrative agent, for a $700,000 Senior Secured Term Loan (the “Term Loan B”) to refinance all of its existing Term B-2 Loans and Extended Term B-1 Loans.  The Term Loan B was issued with original issue discount at 98.5% of face.  The Term Loan B, which has a maturity date of November 1, 2022, requires quarterly interest payments and 2.5% annual principal amortization payments for the first half of the loan period, 5.0% for the second half of the loan period, with the balance payable at the maturity date.  Interest accrues at the rate of the three-month LIBOR plus 6.0% with a LIBOR floor of 1.0%.  The Term Loan B is secured by a first priority security interest in substantially all assets of the Company and its subsidiaries, except for accounts receivable and inventory, in which it has a second priority security interest.  The Company has the option to prepay the Term Loan B.  Should the Company choose to refinance the Term Loan B, it would be subject to a 1.02% premium if refinanced at a lower interest rate within one year of the Closing Date or a 1.01% premium if refinanced at a lower interest rate within two years of the Closing Date.  There are no financial covenants governing the Term Loan B.

The Company anticipates recording a loss on extinguishment of debt in the fourth quarter of 2017, but is unable to make a meaningful estimate of the impact on the Company’s financial statements at the date of filing.  

At September 30, 2017 and December 31, 2016, accrued expenses and deferred revenue consisted of the following:

The table below shows the computation of basic and diluted earnings (loss) per share for the three and nine months ended September 30, 2017 and 2016, respectively:

The calculation of diluted weighted average shares outstanding for the three and nine months ended September 30, 2017 excludes 11,066 and 6,389 potential common shares, respectively, because the effect of including these potential common shares would be antidilutive.  Potentially dilutive shares of 5,940 and 6,864 were excluded from the calculation of diluted weighted average shares outstanding and diluted earnings per share in the three and nine months ended September 30, 2016, respectively, because the Company was in a loss position in those periods.

As a result of ASU No. 2016-09 – Compensation – Stock Compensation (Topic 718), windfalls and excess tax benefits are no longer included in the calculation of assumed proceeds and the calculation of diluted weighted average shares outstanding.  The Company adopted this guidance as of January 1, 2017 on a prospective basis, which could impact the comparability of earnings per share between periods presented.  However, the Company was in a loss position for prior periods presented and, accordingly, basic and diluted earnings per share are calculated in the same manner.  

As of September 30, 2017, the amount of outstanding options, restricted stock units (“RSUs”), and performance restricted stock units (“PRSUs”) was 13,611, 1,519, and 584, respectively.

The Company enters into interest rate swap agreements as a means to partially hedge its variable interest rate risk on debt instruments.  The notional value of these swap agreements is $420,000, which represents a total of approximately 54% of term debt outstanding at September 30, 2017 and effectively fixes the variable rate in a range of 2.92% to 3.12% for the portion of the debt that is hedged.  The interest rate swap agreements terminate on September 5, 2019.

The derivative instruments are recorded on the balance sheet at their fair values.  Changes in the fair value of derivatives are recorded each period in current earnings or in other comprehensive income, depending on whether a derivative is designated as part of a hedging relationship and, if it is, depending on the type of hedging relationship.  For cash flow hedges in which the Company is hedging the variability of cash flows related to a variable-rate liability, the effective portion of the gain or loss on the derivative instrument is reported in other comprehensive income in the periods during which earnings are impacted by the variability of the cash flows of the hedged item.  The ineffective portion of all hedges is recognized in current period earnings.  As interest expense is accrued on the debt obligation, amounts in accumulated other comprehensive income (loss) related to the interest rate swaps are reclassified into income to obtain a net cost on the debt obligation equal to the effective yield of the fixed rate of each swap.  In the event an interest rate swap is terminated prior to maturity, gains or losses in accumulated other comprehensive income (loss) remain deferred and are reclassified into earnings in the periods in which the hedged forecasted transaction affects earnings.

The Company formally designates and documents instruments at inception that qualify for hedge accounting of underlying exposures in accordance with GAAP.  Both at inception and for each reporting period, the Company assesses whether the financial instruments used in hedging transactions are effective in offsetting changes in cash flows of the related underlying exposure.

The following table summarizes the fair values and the respective classification in the Condensed Consolidated Balance Sheets as of September 30, 2017 and December 31, 2016:

In order to represent the ineffective portion of interest rate swap agreements designated as hedges, the Company recognized in interest expense the following in the three and nine months ended September 30, 2017 and 2016:

The Company currently expects $5,260 to be reclassified from accumulated other comprehensive income (loss) into interest expense within the next twelve months, although this amount could be impacted by the early termination of an interest rate swap agreement that occurred after period-end, and the refinancing of the Company’s long-term debt, as detailed in Note 4.

Financial instruments held by the Company include cash equivalents, accounts receivable, accounts payable, long-term debt (including the current portion thereof) and interest rate swaps.  The Company is also liable for contingent consideration from the acquisition of Self-Suspending Proppant LLC (“SSP”) that is subject to fair value measurement.  Fair value is defined as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date.  In determining fair value, the Company utilizes certain assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and/or the risks inherent in the inputs to the valuation technique.

Based on the examination of the inputs used in the valuation techniques, the Company is required to provide the following information according to the fair value hierarchy.  The fair value hierarchy ranks the quality and reliability of the information used to determine fair values.  Financial assets and liabilities at fair value will be classified and disclosed in one of the following three categories:

A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

The carrying value of cash equivalents, accounts receivable and accounts payable are considered to be representative of their fair values because of their short maturities.  The carrying value of the Company’s long-term debt (including the current portion thereof) is recognized at amortized cost.  The fair value of the Extended Term B-1 Loans and the Term B-2 Loans differs from amortized cost and is valued at prices obtained from a readily-available source for trading non-public debt, which represent quoted prices for identical or similar assets in markets that are not active, and therefore is considered Level 2.  The following table presents the fair value as of September 30, 2017 and December 31, 2016 for the Company’s long-term debt:

The following table presents the amounts carried at fair value as of September 30, 2017 and December 31, 2016 for the Company’s other financial instruments.  Fair value of interest rate swap agreements is based on the present value of the expected future cash flows, considering the risks involved, and using discount rates appropriate for the maturity date.  These are determined using Level 2 inputs.

The Company granted options to purchase 464 and 1,740 shares of common stock in the nine months ended September 30, 2017 and 2016, respectively.  The average grant date fair value was $9.73 and $2.24 for options issued in the nine months ended September 30, 2017 and 2016, respectively.  The Company issued RSUs of 377 and 1,025 in the nine months ended September 30, 2017 and 2016, respectively.  The Company issued PRSUs of 142 and 481 in the nine months ended September 30, 2017 and 2016, respectively.    

The Company recorded $7,582 and $7,366 of stock compensation expense related to these options, RSUs, and PRSUs for the nine months ended September 30, 2017 and 2016, respectively.  Stock compensation expense in the nine months ended September 30, 2016 included approximately $2,135 related to a modification of the retirement provisions of the Company’s Long Term Incentive Plans.  The modification allows retirement-eligible individuals (defined as age 55, plus 10 years of service) to continue to vest in options following retirement and also allows retired participants to exercise options for up to 10 years from grant date.  The modification also accelerates vesting and related expense for awards granted to retirement-eligible individuals.  Stock compensation expense is included in selling, general, and administrative expenses on the Consolidated Statements of Income (Loss) and in additional paid-in capital on the Consolidated Balance Sheets.

The Company computes and applies to ordinary income an estimated annual effective tax rate on a quarterly basis based on current and forecasted business levels and activities, including the mix of domestic and foreign results and enacted tax laws.  The estimated annual effective tax rate is updated quarterly based on actual results and updated operating forecasts.  Ordinary income refers to income (loss) before income tax expense excluding significant, unusual, or infrequently occurring items.  The tax effect of an unusual or infrequently occurring item is recorded in the interim period in which it occurs as a discrete item of tax.

For the three months ended September 30, 2017, the Company recorded tax expense of $2,754 on income before income taxes of $37,673 resulting in an effective tax rate of 7.3%, compared to a tax benefit of $20,013 on a loss before income taxes of $40,636 resulting in an effective tax rate of 49.2% for the same period of 2016.  The decrease in the effective tax rate is primarily attributable to the impact of a tax benefit from a loss carryback recorded in 2016 and an increase in depletion applied against forecasted results in 2017 as compared to 2016, partially offset by the establishment of a valuation allowance reducing the value of certain foreign deferred tax assets during the three months ended September 30, 2017.  The effective rate differs from the U.S. federal statutory rate due primarily to depletion and the valuation allowance against certain U.S. tax attributes.

For the nine months ended September 30, 2017, the Company recorded tax expense of $2,126 on income before income taxes of $36,158 resulting in an effective tax rate of 5.9%, compared to a tax benefit of $98,786 on a loss before income taxes of $219,058 resulting in an effective tax rate of 45.1% for the same period of 2016.  The decrease in the effective tax rate is primarily attributable to the impact of a tax benefit from a loss carryback recorded in 2016, an increase in depletion applied against forecasted results in 2017, as compared to 2016 and discrete tax benefits related to stock compensation, partially offset by the establishment of a valuation allowance reducing the value of certain foreign deferred tax assets during the nine months ended September 30, 2017.  The effective rate differs from the U.S. federal statutory rate due primarily to depletion and the valuation allowance against certain U.S. tax attributes.

The Company maintains two defined benefit pension plans, the Wedron pension plan and the Troy Grove pension plan, covering union employees at certain facilities that provide benefits based upon years of service or a combination of employee earnings and length of service.  The benefits under the Wedron plan were frozen effective December 31, 2012 and the benefits under the Troy Grove plan were frozen effective December 31, 2016.

Net periodic benefit cost recognized for other Company defined benefit pension plans for the three and nine months ended September 30, 2017 and 2016 is as follows:

The Company contributed $53 and $59 during the nine months ended September 30, 2017 and 2016, respectively.  Total expected employer contributions during the year ending December 31, 2017 are $69.

The components of accumulated other comprehensive income (loss) attributable to Fairmount Santrol Holdings Inc. at September 30, 2017 and December 31, 2016 were as follows:

The following table presents the changes in accumulated other comprehensive income (loss) by component for the nine months ended September 30, 2017:

The following table presents the reclassifications out of accumulated other comprehensive income (loss) during the nine months ended September 30, 2017:

The Company has entered into numerous mineral rights agreements, in which payments under the agreements are expensed as incurred.  Certain agreements require annual payments while other agreements require payments based upon annual tons mined and others require a combination thereof.  As of September 30, 2017, the Company is obligated for an additional $20,000 in future leasehold interest payments for the July 2017 Winkler County, Texas transaction, of which $10,000 was paid in October 2017.  Please refer to Note 3 for further detail.

The Company has entered into agreements with third party terminal operators whereby certain minimum payments are due regardless of terminal utilization.  

The Company leases certain machinery, equipment (including railcars), buildings and office space under operating lease arrangements.  Total rent expense associated with these leases was $40,625 and $51,130 for the nine months ended September 30, 2017 and 2016, respectively.

The Company is subject to a contingent consideration arrangement related to the purchase of SSP, which was accounted for as an acquisition of a group of assets.  The contingent consideration is based on a fixed percentage of the cumulative product margin, less certain adjustments, generated by sales of Propel SSP® and other products incorporating the SSP technology for five years commencing on October 1, 2015.  The Company entered into an amendment to the SSP purchase agreement on December 17, 2015.  This amendment (a) extends the period during which the aggregate earnout payments must equal or exceed $45,000 from the two-year period ending October 1, 2017 until the three-year period ending October 1, 2018; and (b) provides that the aggregate earnout payments during the two-year period ending October 1, 2017 must equal or exceed $15,000 and granted the Seller a security interest in 51% of the equity interests in the SSP technology to secure such $15,000.  The amendment does not alter the final threshold earnout amount, which continues to be $195,000 (inclusive of the $45,000 payment, if any) by October 1, 2020.  In the event the Company does not make the final threshold earnout payment, the Company would continue to retain a portion of the ownership interest in the technology, the right to a portion of future profits and would no longer be obligated for future earnout payments.  The contingent consideration is accrued and capitalized as part of the cost of the acquired technology from the SSP acquisition at the time a payment is probable and reasonably estimable.  Based upon current information, as of September 30, 2017, the Company has capitalized and accrued $7,974, which approximates fair value and represents the estimate of the total remaining aggregate earnout payments the Company now intends to pay through October 1, 2020.    

Certain subsidiaries are defendants in lawsuits in which the alleged injuries are claimed to be silicosis-related and to have resulted, in whole or in part, from exposure to silica-containing products, allegedly including those sold by certain subsidiaries.  In the majority of cases, there are numerous other defendants.  In accordance with its insurance obligations, the defense of these actions has been tendered to and the cases are being defended by the subsidiaries’ insurance carriers.  Management believes that the Company’s substantial level of existing and available insurance coverage combined with various open indemnities is more than sufficient to cover any exposure to silicosis-related expenses.  An estimate of the possible loss, if any, cannot be made at this time.

The Company had purchases from an affiliated entity for freight, logistic services and consulting services related to its operations in China of $103 and $503 in the nine months ended September 30, 2017 and 2016, respectively.  

The Company pays American Securities LLC (“American Securities”), in accordance with its policy, for Board of Directors’ fees and Company-related expenses, including reimbursement for travel and lodging, market research, and other miscellaneous consulting fees and expenses.  Fees and expenses paid to American Securities were $180 and $209 in the nine months ended September 30, 2017 and 2016, respectively.  

The Company organizes its business into two reportable segments, Proppant Solutions and Industrial & Recreational Products.  The reportable segments are consistent with how management views the markets served by the Company and the financial information reviewed by the chief operating decision maker in deciding how to allocate resources and assess performance.

The chief operating decision maker primarily evaluates an operating segment’s performance based on segment gross profit, which does not include any selling, general, and administrative costs or corporate costs.  

The Company's three largest customers accounted for 19%, 14%, and 11%, respectively, of consolidated net revenues in the nine months ended September 30, 2017.  In the nine months ended September 30, 2016, the Company's two largest customers accounted for 32% and 11%, respectively, of consolidated net revenues.  These are customers of the Company’s Proppant Solutions segment.  

As of September 30, 2017, the balance of Goodwill was $15,301, which represents goodwill related to acquisitions in the Company’s Industrial & Recreational Products segment.  As part of Company policy in its normal course of business, the Company performed a review of qualitative factors and concluded that, as of September 30, 2017, there were no events or changes in circumstances that would more likely than not result in an impairment of the carrying value of Goodwill.  

As of September 30, 2017, the balance of the FTSI supply agreement, net of accumulated amortization, was $31,856.  At September 30, 2017, the balance of the SSP intangible asset, net of accumulated amortization, was $63,363.  Please refer to Note 13 for additional information.  

Basis of Presentation

The unaudited condensed consolidated financial statements of Fairmount Santrol Holdings Inc. and its consolidated subsidiaries (collectively, the “Company”) have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.  In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments (which are of a normal, recurring nature) and disclosures necessary for a fair statement of the financial position, results of operations, comprehensive income, and cash flows of the reported interim periods.  The condensed consolidated balance sheet as of December 31, 2016 was derived from audited financial statements, but does not include all disclosures required by GAAP.  Interim results are not necessarily indicative of the results to be expected for the full year or any other interim period.  These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements as filed in the 2016 Annual Report on Form 10-K and notes thereto and information included elsewhere in this Quarterly Report on Form 10-Q.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period.  Actual results could differ from those estimates.

Recent Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-02 – Leases (ASC 842), which sets out the principles for the recognition, measurement, presentation, and disclosure of leases for both parties to a contract (i.e. lessees and lessors).  The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee.  This classification will determine whether lease expense is recognized based on an effective interest method or on a straight line basis over the term of the lease, respectively.  A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than twelve months regardless of their classification.  The new standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases and operating leases.  The Company believes that the adoption of this standard will likely have a material impact to its condensed consolidated balance sheet for the recognition of certain operating and land lease arrangements as right-of-use assets and lease liabilities.  The Company is in the process of analyzing its lease arrangements and evaluating its systems to comply with the standards retrospective adoption requirements.  ASC 842 supersedes the previous leases standard, ASC 840 – Leases and is effective on January 1, 2019, with early adoption permitted.  

In April and May 2016, the FASB issued ASU No. 2016-10 – Revenue from Contracts with Customers – Identifying Performance Obligations and Licensing, ASU No. 2016-11 – Revenue Recognition and Derivatives and Hedging – Recession of SEC Guidance, ASU No. 2016-12 – Revenue from Contracts with Customers – Narrow-Scope Improvements and Practical Expedients and in December 2016, the FASB issued ASU No. 2016-20 – Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers.  These ASUs each affect the guidance of the new revenue recognition standard in ASU No. 2014-09 – Revenue from Contracts with Customers and related subsequent ASUs.  This guidance is effective beginning January 1, 2018.  The Company has reviewed its various customer contracts in both of its business segments with a combination of applicable sales, legal, and accounting personnel.  In this review, the Company has identified several indicators of potential variable consideration, including price adjustments in the contracts as well as provisions similar to take-or-pay arrangements that could modify the timing of revenue recognition.  The Company is implementing formal procedures to monitor these indicators but currently does not believe they will result in a change in the timing of revenue recognition.  Should further information present itself to the contrary, the Company intends to use the modified retrospective approach and will record a cumulative-effect adjustment to equity as of the beginning of the fiscal year of adoption.  The Company has proceeded to assessment and development of the expanded financial statement disclosures.

In January 2017, the FASB issued ASU No. 2017-04 – Intangibles – Goodwill and Other (Topic 350) – Simplifying the Test for Goodwill Impairment.  The ASU eliminates Step 2 from goodwill impairment testing.  Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill.  As a result of the ASU, an entity will apply a one-step quantitative test and record the amount of goodwill impairment as the excess of a reporting unit’s carrying amount over its fair value, not to exceed the total amount of goodwill allocated to the reporting unit.  The ASU is effective beginning January 1, 2020, with early adoption permitted, and applied prospectively.  The Company believes that the adoption of this standard will likely not have a material impact on its financial statements and disclosures.

In March 2017, the FASB issued ASU No. 2017-07 – Compensation – Retirement Benefits (Topic 715) – Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost.  The ASU requires that an employer report the service cost component in the same line item in the income statement as other compensation costs arising from services rendered by the pertinent employees during the period as well as appropriately described relevant line items.  The ASU also requires only the service cost component to be eligible for capitalization when applicable.  The ASU is effective beginning January 1, 2018 with early adoption permitted.  The income statement components of the ASU should be applied retrospectively while the balance sheet component should be applied prospectively.  The Company is in the process of evaluating the impact of this new guidance on its financial statements and disclosures.

In August 2017, the FASB issued ASU No. 2017-12 – Derivatives and Hedging (Topic 815) – Targeted Improvements to Accounting for Hedging Activities.  The ASU expands and refines hedge accounting for both nonfinancial and financial risk components and aligns the recognition and presentation of the effects of the hedging instrument and the hedged item in the financial statements.  Subject matters addressed include risk component hedging, accounting for the hedged item in fair value hedges of interest rate risk, recognition and presentation of the effects of hedging instruments, amounts excluded from the assessment of hedge effectives, and effectiveness testing.  The ASU is effective beginning January 1, 2019, with early adoption permitted.  All transition requirement and elections should be applied to existing hedging relationships as of the date of adoption and reflected as of the beginning of the fiscal year of adoption.  The Company is in the process of evaluating the impact of this new guidance on its financial statements and disclosures.

At September 30, 2017 and December 31, 2016, inventories consisted of the following: