Q3 2019 Earnings Call
<unk>.
Thank you for your patience.
Please stand the line for the next available operator.
Thank you for your patience.
Please stay on the line for the next available operator.
Thank you for your patience.
Please stay on the line for the next available operator.
Thank you for calling Gawker integrity.
Yes, it's.
[laughter].
<unk>.
Just one moment.
Sure.
[noise].
[noise].
[laughter].
Okay.
90 897.
Our two seven.
Thank you this funding of their first indefinitely.
They then the age I'd and the browser.
Oh W.
[laughter].
Thank you and your company Pete.
Ita A.I.E.R.A.
Thank you so much all join you know.
Thank you.
Welcome.
Okay, and uncertainties and cause actual results to differ materially from our current expectations.
We advise listeners to review our earnings release and the risk factors discussed in our filings with the FCC.
Any forward looking statements. We make today are only as of today's date and we undertake no obligation to publicly update or have you any forward looking statements.
In addition, during today's call, we will reference certain non-GAAP financial measures.
A reconciliation of these non-GAAP measures most directly comparable GAAP measures are included in our earnings release.
With that I will turn the call discuss all right. Thanks, John and good morning to everyone. I'm pleased to report positive third quarter results showcasing the resiliency of our business and the company's strong free cash flow business model revenues outperform the trajectory of the U.S. land rig count, which was down 7% sequentially in Q3.
And we maintained our overall margin profile, despite the weaker than expected macro environment. In summary revenues 161 million. Adjusted EBITDA was 59 million adjusted EBITDA margins were nearly 37% our cash balance increased by 36 million to 168.
Million and our board of directors authorized the initiation of a regular quarterly cash dividend of nine cents per share.
I'll now turn the call over to Steve tab, like our CFO , who will review our third quarter financial results. Following his remarks I'll provide some thoughts on our outlook for the near term before opening the lines for QNX, Steve. Thanks, Scott Q3 revenues of $161 million declined 5% sequentially, but were up seven for.
Ascent year over year product revenues at 93 million were 17% higher than in Q3, 2018, and 2% lower sequentially. Despite the 7% decline in the us onshore rig count.
This relative outperformance was achieved due to higher equipment sales relative to rigs followed.
Product gross margins decreased modestly on a sequential basis to approximately 38% of revenues due primarily to the impact of additional section 301 tariffs announced in May.
Rental revenues were just under $36 million down 10% from the second quarter. The decline was attributable to reduced industry completion activity, which was only partially offset by higher revenue from our recent innovations rental gross profit margins improved 70 basis points sequentially, despite higher depreciation expense as expenses associated with.
Asset utilization declined as a percent of rental revenue and our innovation serve to bolster our margin profile.
Field service and other revenues in Q3 were 33 million down 5% from the second quarter. This represented just under 26% of combined product and rental related revenues during the quarter inline with expectations.
As a reminder, product revenues and our recent rental innovations have lower associated field service revenues than our legacy rental business and this percentage is likely to moderate further as these innovations become a greater portion of our rental revenue mix in Q4, we would expect this field service ratio to be approximately 25%.
SDMA was flat sequentially at $13.3 million for the quarter, we would expect SGN aid to be down slightly in for Q1 9 to approximately $13 million with stock based compensation expense running at just under $2 million. During Q4 as you're aware, we maintain a relatively lean HQ organization. Despite the costs associated.
With being a public company.
Depreciation and amortization expense during the quarter totaled $10 million.
Point 6 million sequentially. We currently expect fourth quarter depreciation expense to increase by roughly <unk> point 5 million sequentially.
Third quarter adjusted EBITDA was just under $59 million down from nearly $63 million during the second quarter.
Adjusted EBITDA for the quarter represented 37% of revenues similar to the second quarter.
Our public or classy ownership was relatively stable in Q3 and was 63% at the end of the quarter.
This should result in an effective tax rate of approximately 15% in Q4 barring further changes in our public ownership percentage, our actual effective tax rate during the quarter was higher as we finalized our 2018 tax returns and had some slight revisions to prior estimates that all rolled through this quarter.
GAAP net income was 36 million in Q3, which was inclusive of 4.1 million additional tax expenses related to the write off of foreign tax credits and the reduction in expected future state tax benefits.
Internally, we prefer to look at adjusted net income and earnings per share as it assumes the public entity held all units with the resulting additional income tax expense related to the incremental income attributable to Cactus Inc.
With fully diluted shares outstanding of approximately $75 million $75 million and an effective tax rate of 24%. Our adjusted earnings per share. This quarter was 48 cents per share compared to 52 cents per share in Q2, 2019, a decrease of 8%.
We estimate that adjusted EPS in Q4 will continue to reflect an effective tax rate of 24%.
As expected, we disbursed, approximately 11 million and distributions and payments for taxes and the DRA during the third quarter with the outflow recorded in both our cash flow from operations via tiara payments and cash flow from financing activities through distributions to members. We do not expect to make another tier a payment until the second or third quarter of 2020.
As a reminder, tiara payments represent 85% of the cash tax savings that accrued ACAC to think for given tax year, resulting from our obviously structure.
None of this year, a payment our cash position still increased by over $36 million during the quarter to 168 million at September thirtyth, highlighting the strong free cash flow generation of the company.
For the quarter operating cash flow was $50 million and our net capex spend was 9 million.
Net working capital represented a source of cash during the quarter accounts receivable decreased by $12 million sequentially and Dsos declined to 57.
Net working capital at the end of the third quarter expressed as a percentage of Q3 annualized revenues was 25% up slightly from the second quarter and inline with expectations. We would expect working capital as a percentage of revenues to increase slightly in Q4 as the impact of section three one terrace may drive an increase in inventory days due to the associated higher costs.
Cost of equipment.
Given expectations for reduced drilling and completion activity in the near term we are reducing the range for a net 2019 capital expenditure budget to $50 million to $55 million. The majority of our Capex will still be directed toward growth capital in our rental business with a focus on the buildout of our fleet of recent rental innovations.
As we look toward capital spending levels for 2020, we anticipate a meaningful.
Decrease year over year. This is despite continued spending, albeit at a more cautious level due to lack of market visibility on our recent rental innovations and additional technology currently in development.
All in all we expect the fourth quarter to be another strong quarter of cash generation that covers the financial review and I'll now turn you back to Scott. Thanks, Steve.
Despite declining.
Pardon me, despite declining drilling and completion activity the third quarter highlighted our ability to once again outperformed the market on a relative basis.
Efficiency gains, resulting in more wells per rig continued to be beneficial to our business and to our customers.
Our differentiated products and services again resulted in a less volatile margin profile than many of our public company peers and we expect this to continue to be the case going forward.
While our product market share dip to 28.6% during the third quarter is largely NPS. Our primary customer base continued to pull back spending in order to stay within budget plans product revenue per rig actually increased by 8% sequentially versus the second quarter. Additionally rigs followed in OCTG.
Kober moved slightly higher relative to September levels, and our market share is currently above third and even second quarter levels that being said, we expect cactuses rigs followed to be down in the mid single digits percentage wise quarter over quarter product revenues are likely to be down slightly more ESPN.
Production equipment sales historically suffer from our more pronounced pullback in completion activity tied to budget exhaustion.
Initial indications for 2020 point toward a sequential improvement in activity relative to Q4 levels. That's several customers have indicated they plan to pick up rigs in the new year and we believe the completion activity will rebound in a similar fashion.
2019.
Despite the increase in section 301 tariffs that occurred in May our product margins have held up well.
Pardon me the combination of more favorable foreign exchange rates and our continued focus on reducing costs has enabled us to offset a large portion of the tariff costs to increase that said, we expect a relatively modest reduction and product margins during the fourth quarter as we replenish inventories, though less likely severe than the drop in Q.
Three.
On the rail side of the business completion activity witnessed a noticeable drop off during the latter part of Q3, however, the quarter over quarter increase in recent innovation revenues, partly offset the volume declines in our legacy rental business.
Which were due to a combination of activity declines in certain areas like the Eagle Ford Eagle Ford and Scoop and stack and our decision not to chase business it reduced margins.
Recent industry data points, you're indicating that us onshore completion activity could be down approximately 25% in the fourth quarter. We expect our rental revenue declined to be less severe than the broader market due to the contribution of our recent rental innovations still has noticed as noted by or reduce capex guidance, we're paring back growth.
Capital towards these items in light of the current market environment and reluctance by many potential customers to add costs, regardless of the value proposition.
Market share growth for the sake of market share is not our priority that said, we expect recent innovation revenue to represent 10% to 15%.
Of our Q4 quarter revenue.
We were one of the first North American serve account service companies to copper caution regarding the second half of 2019 back in May due to the potential for repeat of the budget exhaustion phenomena witnessed last year. Thus, we believe we're well prepared to handle the temporary slowdown in activity and expect to maintain adjusted EBITDA margins at low.
Level similar to the third quarter.
This steady margin profile reflects our ability to manage indirect costs and they continued value our customers place on the differentiate our differentiated offerings within our rental business.
The current market conditions in emphasis on efficiencies and cost by our customer base continue to validate the decision to enhance the moat around our rental business via our recent rental innovations, although weakening marketing activity provides a definite headwind in terms of both both deployments in pricing the value proposition for this new equipment has.
Well validated by current users in the field.
Moving on to fuel services segment continues to be driven both product and rental activity and we anticipate revenue from field service to be approximately 25% of our combined product and rental revenue during the fourth quarter recall. This business traditionally has higher non billable hours during the fourth quarter due to holidays and we'd expect.
Typical margin compression of 700 800 basis points margin should recover in the first quarter of next year.
Once again, our free cash flow generation was strong during the quarter as we added 36 million of cash net of 11 million and tax and TR a related outflows and a flattish rig count environment from current levels. We would expect continue to continue to generate significant free cash flow.
As noted in our earnings release last night I'm pleased to announce the introduction of a quarterly cash dividend. We view this implementation, which will start at nine cents per share this quarter as a side of our confidence in the business, which is well suited for a regular return of cash given its variable cost nature and ability to generate significant cash flow through the cycle.
We're committed to creating long term stockholder value through a balanced strategy of reinvesting cash flow at high rates of return and returning cash to shareholders as appropriate.
With this in place our cash balance is still exists.
It is still expected to grow substantially thus cactus will continue to evaluate additional ways to return value to stockholders. We remain closely aligned with our shareholders and we'll continue to make decisions regarding the business in this slide.
I'd like to close by highlighting a few areas of focus for the business in 2020 before opening the line to questions.
In terms of penetration with the majors, we continued to perform well with these customers in our rental business our ability to showcase cactus is high level of customer service and technological sophistication gives us optimism we can earn more business from this customer segment next year across our various business lines regarding the expansion.
Finally, we've identified target markets and they're progressing toward approved vendor status, where appropriate as mentioned during the last call. We believe the opportunities will begin to mirror materialize in late 2020 with benefits the year following.
Turning to new product development, we're in the various stages of development for new well side products beyond the initial rental innovations unveiled in our last earnings call like our safe linked safe client and safe and Jack some of these new items are aimed at increasing efficiencies during the completion phase of the well while other products enhance safety and efficiency.
During the drilling stage of the wall lifecycle.
Finally in light of questions regarding our supply chain given global trade uncertainty, we routinely evaluate the manufacturer of equipment in various markets around the globe and we've begun to diversify and supplement our existing supply chain in new international locales. However, we still believe our core manufacturing footprint in the us in China.
Leaves us well positioned versus the competition for both the cost and a delivery perspective.
While the micro backdrop provides ample reasons for caution we remain optimistic regarding our ability to outperform the market in 2020, our success in maintaining market share. Despite the disproportionate declined from our core customer group, a large NPS highlights our ability to win new business, so penetration with new customers.
International expansion and the rollout of additional technology provide reasons for optimism customer budget exhaustion is expected to weigh on the fourth quarter activity, but we're hearing some encouraging data points from existing and potential customers regarding plans for next year.
As in 2015, and 16, we intend to leverage the current downturn to our advantage finally I want to thank our dedicated associates for their continued commitment and focus despite the dispiriting macro atmosphere and with that I'll turn it back over to the operator, so that we may begin culinary operator.
As a reminder.
You may need to press star one I wonder.
Great question.
Please note participants allows asked one question and one follow up question. Please standby will how can a roster.
Your first question comes from the line of George O'leary.
Warranty Scott morning, guys, Hey, George.
How are you.
Doing well you guys hanging in there is a good day for your stock.
I will add look.
Yes.
It was up before that you've spoken it's up more as they did a good yet.
The the revenue per rig trend that you guys continue to put up is super impressive and during the quarter, we discussed that a little bit but I'm curious if you can peel back the onion air little bit is that really just rig efficiencies are.
You guys selling more production trees per rig kind of what what's the mix there that's driving that that impressive revenue per rig uptick for you guys.
George it's mostly rig efficiencies, but it's also.
Product mix.
Higher pressure.
Large bore.
Got it thanks, that's helpful and multi string.
Okay.
You guys.
We're always so on top of kind of leading edge trends in trying to help make your customers more efficient we started to here on our side of the table more about mono line Fracs and Simon Fracs starting to gain some share in various places wondering if you could.
To whether you guys are seeing that start to play out in the business and just any other notable kind of completion or drilling trends that you. All his have noticed that may stand out.
Say, that's absolutely the case there's a.
There's a there's been I guess over the last quarter two quarters, a pretty significant.
Move towards reducing the amount of Frac iron on location, which of course is solved by the use of model lines from Bob pressure pumpers into the Frac trees. So I think thats I think we predicted earlier that.
We don't think theres going to be a whole lot of frac on locations in the next.
By the end of the next year too.
Alright, great. Thanks for that color guys I'll turn it back over next quarter.
Thanks George.
Your next question comes from the line of Chase Marvel.
Hey, Jason.
Hey, good morning.
I guess, if we can talk about the international great opportunities that you see kind over the medium term. So if you kind of lay that out for us maybe which regions. You think you have the best opportunity for growth here and it may be if we should be layering in the incremental R&D your opex or capex as we think about international.
Growth opportunities for you.
Well I think in terms of let me first beat that Capex, we increased our Capex and Australia. This this year and we'll probably continue to increase Capex and Australia next year those figures have been reflected in the levels that that Mr. Tablet.
Our recited earlier.
The Australian markets, a lot like the us market in terms of of Frac activity and so the requirements are.
Pretty much similar to use requirements not a lot of capex requirements of for 2020 internationally, Although we will undoubtedly see some increases in SGN today, as we began to penetrate or at least set ourselves up for market penetration internationally.
Chase is not going to be a significant amount of money.
Yup.
Yes, I don't really think it will move the needle, but but there will be additional less DNA.
Related to that in terms of areas you probably can appreciate my reluctance to discuss those areas because very often our competitors listeners on these calls.
Understood.
And then if we just come back to the us a little bit.
In in talk to the success that you may or may not be havent at this point, we've kind of penetrating the majors on the will add products.
What a surprising question.
Right up.
Our ISO has this question because when it happens to that.
Selling your when it's going to happen is just not very constructive.
I feel good about the prospect.
Okay thousand we'll leave it there yet.
Thanks, Scott Thanks, guys.
Your next question comes on line of Tommy Mall with Stephens, Inc.
Hey, Tommy.
Good morning, and thanks for taking my question how are you done.
Doing well done well.
So I wanted to start on the decision to initiate a dividend which is one I know.
You and the board did not take what take lightly one of the factors you called out a couple of times is.
Confidence and through cycle capital returns due to the variable costs nature of the business.
Can you remind us how that strategy.
What that strategy looks like for you guys and how you're able to flex up and down in terms of the cough and why that gives you confidence to go ahead start with the dividend now and then signal that we may see that number raised over time.
Okay, Tommy Unison suite.
I'm going to try to give you an abbreviated.
Response to this our business has been group grew from 2011 to the level, where we are today.
With a maximum debt I think of $9 million and only one month and.
And that occurred in 2016, so the entire business has been financed with internal cash flow and that includes that very very difficult period 2015 in 2016, when we had.
Our term loan you may recall.
Of about $275 million. So during that period, we were able to to maintain our look our positive liquidity and still make.
Payments of of inch primarily interest some principle as well as early retirement of some of that debt in excess of $20 million a year. So as I look back at 15, and 16 and our ability to continue to generate cash during that period. That's what gives rise to our optimism that this is a.
Highly sustainable level of dividend.
And any other help at all.
It does it if I could just follow up on on the variable cost strategy.
Can you remind us okay, Hi comedy limited note yet.
Because this is primarily.
We are in our core products business.
And we have very very low fixed cost requirements or capital requirements to support our products business and you'll recall that that the way our supply chain is set up we do probably a majority of our of our.
Increased.
We moved from felt a majority of our increased product requirements out of China, where we operate.
Very very low capex structure, we have about 75 or 80 people there and I'll remind you of we tripled the size of that plant in 2017 at a capital cost of $500000. So because of the way we're set up in China were able to increase capacity and were able to deal.
Crease capacity.
Without.
Without impacting I think our returns.
Perfect Thats, what I meant by by the variable cost nature. This business, you know that that but it's an element.
If I could shift to M&A, specifically among Ian piece, it's it's a trend we've seen continue this year potentially see more that into next year.
When that occurs.
What are the risks and opportunities for cactus, specifically on the the wellhead side of the business.
I presume when you've got a relationship with the buyer in a transaction that's maybe a net opportunity for you maybe.
It's the flip side of that when you work for the seller, but not the buyer.
But if you can just help us understand how you look at the the risks and opportunities in those transaction I think it would be helpful. Thank you.
While I mean, clearly when when you're doing business with the seller theres a certain degree of anxiety, but.
On the other hand, if if the past is any indications of future when the when the buyer has forced them to put us on trial.
By default so he buys one of our customers.
The results have been very positive so sort of like getting.
A default trial, where maybe before we couldn't get a trial so.
The results have been very positive so far.
Alright. Thank you Scott that's all for me and I'll turn it back.
Your next question comes from the liner Scott Roeder with Citigroup.
Hey, Scott how are you hurting you had good.
Where do the Newtek revenues are set as a percent of Threeq you sales.
Do you have that number.
We're we're not really disclose them and Scott talked about 10% to 15% that's somewhere in line with.
What we were.
With what we expect over coming quarters heading to 20% you know I think you mentioned no later than Q2 are.
Optimistic by Q2 2020 at this point.
Yes. She has just trying to appeal apart kind of growth for for new tech relative to the the legacy business.
Within.
Rental.
Any color you can provide on the kind of bridge from Threeq to Fourq you.
[noise].
Yeah, I think the I think the innovation side of our business is going to grow faster to be sure than the legacy side of our business.
But you know to.
In all honesty, there's there's significant headwinds right now in terms of new customer adoptions, not because of the value proposition Scott as much as the attitude right now is if it costs a dollar more even if it could potentially save me $3 I am not.
Not going to spend the dollar more so it's probably fair to say.
It's a tougher sale today than it was in the spring.
But it's also fair to say that the value proposition is much better than we thought it was in the spring so.
I didn't really want to get into this but I feel comfortable and I think the team feels comfortable that is we put more and more installations behind us and were able to to generate more data in terms of the actual returns to our customers data that we can share with others that.
We'll be able to.
To significantly overcome some of that reluctance to spend that incremental dollar. It's just right now.
The last thing a customer wants to talk to you about is another dollar.
Fairly weak certainly here, that's kind of do you think.
That reticence evaporates pretty quick.
20, with a budget reset.
It certainly is is going to relax I think some of that reticence that and more installations. So I mean, I'm proud to say that those who use it use them love them they still they still use them.
It's just getting that next customer now to come to terms of having to spend a dollar to save may be three.
So yes. This is a terrible environment right now that's a customer to spend a dollar.
And any color on why you think the value proposition is better than we originally thought.
Because we're always cautious going in I think that well I mean, there are a lot of reasons, we're cautious by nature I think secondly, the more you use that our customers use it we use it the faster we are and mobilizing demobilizing.
And then as you might understand with new products, you make tweaks to them along the way. So we've always been I've always been proud of the group we have here when they when they see a better way to do something we quickly make a modification. So virtually every one of these products.
Has undergone some level of modification to increase their efficiency.
Got it one last one do you think there the the legacy rental business is down at a similar rate to the market around that 25% Mark or do you think it could be a little bit worse, if you're not chasing were given where pricing is going.
Yeah the ladder.
Okay.
Got it.
Thank you.
And your final question comes from the line of Sean can with JP Morgan.
Hey, good morning.
Since guys mentioning here your comments about.
The new tech conversations or are tougher now is convincing customers spend extra dollar.
It is more difficult to justify the wasn't the spring is it fair to say that there's some seasonality to that mentality.
You all did famously well during the downturn, taking market share, perhaps because folks were able to spend a little more time listening to you.
Does that give a little more confident as you head into next year and budgets reload nothing will be there'll be a bit an uphill battle, but.
Is that also affecting that could can help you in the first part of 2020.
I'd be very disappointed if it didnt.
Okay.
Okay.
Fair enough.
And then I guess.
We think about as these new technologies are getting rolled out could you give us a sense of.
The appetite and or I guess kind of the the.
The Q of incremental.
Allergy that you guys have kind of into either in the works and or just things there cut on the drawing board and just how you think about cycle times from.
Idea generation, you are coming from the field or something internally and converting that into a commercial product. Just how you think about timelines for those types of opportunities over it kind of medium and long term basis, Okay, I would say that down.
Right now we have.
Two very near term Rollouts and when I say near term within the next couple of quarters.
And one beyond that the the next one to rollout we expect to roll out at the very end of this year some of that will depend upon when of course, a pad starts one pad ends in the next Pat starts.
But it'll roll out for trial I helped by the end of year for deployment, probably by the end of the first quarter. We began to work on this product about.
Steve would you say six six months ago. It's.
It's probably the most technically ambitious of all of our products and as an element of digitization to it and.
And so on the one hand, the capital costs. This low on the other hand of course.
It that's offset by.
The technological demands so six months, which I don't think is too bad. The next product is more sort of equipment heavy and technology heavy we've been working on that for about four months and we'll roll that out I hope some time at the end of the first quarter.
So moving on to Jay in General, we're looking at maybe six months.
On average.
I think that's really helpful and just one one point around the context around each of those.
In terms of how they were developed or what kind of where the idea generation came from where they internally developed to those come kind of in the field partnering with customers just curious how those or.
Now there's evolved from from the early the early stage.
Virtually every idea we have comes from a customer.
I figure as much okay, Scott thanks, very much thanks, Sean.
And then a final questions at this time.
Thank you everybody have a good day.
This concludes today's conference call you may now disconnect.