Q4 2019 Earnings Call
Greetings and welcome to select energy Services' fourth quarter earnings Conference call.
At this time, all participants will be in listen only mode. They brief question and answer session will follow the formal presentation.
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That's where my during this conference is being recorded.
It's now my pleasure to introduce your host Christian Church, Vice President Investor Relations and Treasurer.
Thank you Mr. George you May now begin.
Thank you operator, and good morning, everyone. We appreciate you joining us this like energy Services' conference call and webcast to review, our 2019 fourth quarter results.
With me today are Hollywood, Donnie, our President and Chief Executive Officer, Nics, Weicheng, Senior Vice President and Chief Financial Officer.
Before I turn the call over I have a few housekeeping items to cover.
A replay of todays call will be available by webcast an accessible from our website at <unk> energy services Dot com.
There will also be a recorded telephonic replay available until March 10, 2020. The access information for this replay was also included in yesterday's earnings release.
Please note that the information reported on this call speaks only as of today February 25th 2020, and therefore time sensitive information may no longer be accurate as of the time of the replay listening or transcript reading.
In addition, the comments made by management during this conference call.
May contain forward looking statements within the meaning of the United States Federal Securities laws.
These forward looking statements reflect the current views of select management, however, various risks uncertainties and contingencies could cause our actual results performance or achievements to differ materially from those expressed in the statements made by management.
Listener is encouraged to read our annual report on form 10-K for the year ended December 31st 2018, or subsequent quarterly reports on form 10-Q, and our current reports on form 8-K as well as our annual report on form 10-K for the year ended December 31st 2019, which we expect to filed this week to understand those risks.
Uncertainties and contingencies.
Also please return please refer to our fourth quarter earnings announcement released yesterday for reconciliations of non-GAAP financial measures.
And now I'd like to turn the call over to our President and CEO Hollywood Arnie.
Thanks, Chris Good morning, everyone and thanks for joining us today.
Looking back on 2019, we continue to execute on our strategy to strengthen and differentiate our position as the market leader and integrated water in chemical solutions, while also delivering meaningful free cash flow.
Fourth quarter was a tough order for the industry from an activity standpoint, but we were able to end the year with another very strong cash flow quarter generating over 60 million of operating cash flow and over 40 million of free cash flow.
This strong finish took our free cash flow to more than 105 million for the year.
Over the course of the year the team accomplished a tremendous amount of across a number of key objectives before diving into the quarter I want to take a minute to thank the team for their efforts and to recognize their accomplishments.
Specifically during 2019, we repaid the remaining 45 million of our outstanding debt completed our new Mexico water pipeline system.
Added incremental chemical manufacturing capacity in the Permian Basin and continued to take market share with our high margin friction reducer products.
Divested our non core well site services businesses for about 30 million acquired a strategic water treatment business from Baker Hughes for 10 million.
Continue to invest in automation technology that differentiates our services and reduces our cost.
And finally, we continue to return cash to shareholders, the roughly $18 million a targeted share repurchases, all while continuing to generate and build cash on the balance sheet.
For this I'd say, thanks to all of our employees.
Shifting to the fourth quarter well the into the year certainly had its challenges we believe the intensity of these challenges was largely seasonal in nature, but.
Budget exhaustion began earlier for many of our customers and activity levels declined sharply over the course for the fourth quarter.
Looking at third party data on activity levels for the fourth quarter as well as our own internal tracking a pressure pumping fleet. Our estimate is that completions activity was down 18% to 20%.
It's clearly impacted our revenues, which declined by about 16% with most of the decline in our water services and water infrastructure segment.
Activity drop off was more pronounced with a smaller operators that have more commodity price sensitivity and generally less flexibility in regards to their capital program.
Notably our revenue with our top 15 customers actually remained flat quarter over quarter.
Revenue for oilfield chemicals segment modestly increased benefiting from a full quarters contribution from the WCS acquisition.
We're still in the early stages, but we're excited about realizing the full benefit of the WCS business, both financially and strategically as it furthers our full water lifecycle solutions capabilities.
Looking forward well for your activity is expected to decline year over year in 2020, we've already seen activity pick up in the early part of the year and we expect improvements across all three segments in the first quarter relative to the fourth quarter.
I can't say, we have full visibility into 2020, but MP capex forecasts indicate a year over year percentage decline in the low teens.
The major seem to be generally, indicating modestly flat to up forecast with the larger cap operators flat to down.
And smaller public and private operators wanting to materially lower activity levels than the average for the industry.
Clearly our industry has undergone a transformation over the last 18 months or so our customers business models and priorities have shifted away from growth towards capital discipline and free cash flow generation.
This has resulted in more restrained DMP spending, but we believe it's healthy for our industry over the long term.
Like business model and balance sheet are built to adapt and this evolving landscape as our customers trust and value the expertise the scale the efficiency the technology and the safety culture, we deliver.
They remain a number of global influences and geopolitical unknown that could impact near term activity level.
Oh prices, it's certainly been volatile recently, but we believe that broader market supply and demand fundamentals and the secular trends behind the growing demand for water and chemical solutions in the coming years remain intact.
Even at the current forecasted levels of activity, we expect to generate meaningful cash flow targeting 80 200 million of free cash flow for 2020.
Absent signals, a further increases and activity levels will continue to invest our capital judiciously targeting 55 to 70 million of net capex in 2020.
Having ended the year with no debt and nearly 80 million in cash on the balance sheet, we remain well positioned to navigate the potentially volatile market ahead of us.
We continue to believe we'll have opportunities to invest incremental capital and opportunistic acquisitions or growth projects, but we'll be responsive to market conditions over the course of the year and maintaining capital discipline and manage our cost as market activity levels dictate.
With that I'll hand, it over the next to walk through our fourth quarter financial performance in more detail.
Thank you Holly and good morning, everyone I'm pleased to announce that with $41 million of free cash flow in the fourth quarter, we generated 106 million a free cash on the year meaningfully exceeding our target of 65 to 80 million.
Well over half of our operating cash flow. During Q4 came from continued working capital improvements for the full year 2018, only about 20% of our operating cash flow was from working capital with the majority coming from our strong operating results.
With this operating cash flow during Q4, we invested $21 million, a net capex and returned nearly $5 million of capital to shareholders via buybacks and still increased our cash on hand by $36 million.
Our full year net capex of 97 million came in modestly below our latest guidance of 102 110 million and well below our initial target.
Through the year, we dynamically adjusted our spending to a changing market focusing on opportunities, we're confident that still deliver shareholders. The return on investment in excess of our cost of capital.
The new Mexico pipeline is a good example, this strategy.
We also kept our maintenance capex below the one third of EBITDA, we generally target.
That's all I mentioned, we expect to continue to generate solid free cash flow in 2020 believe a capex program, a 55 to 70 million.
Allow us to generate free cash flow of 80 to 100 million in 2020.
Looking at the fourth quarter select generated total revenue of $276 million decrease of 16% quarter over quarter, Although oil field chemicals segment demonstrated resilience and growing both revenues and margins during what was the challenging quarter for the industry, our water services and water infrastructure segments space meaningful declines due to the significant reduction.
And activity levels during the quarter.
Adjusted EBITDA was impacted by the revenue decline decreasing to $29 million down 20 million from the third quarter, leading to a net loss of $12 million our focus on real time cost reductions help cushion the impact of the activity in revenue reductions.
With activity levels, beginning to decline by late Q3, and the full quarter impact of previous pricing pressures being felt in Q4, the water services segments revenues decreased 22% sequentially.
The 153 million in the fourth quarter from 197 million in the third.
Segment generated gross profit before depreciation and amortization 27 million in the fourth quarter compared to 43 million in the third.
Reflecting a decline in segment gross margins from 22% to 17%.
While the severity of the activity drop off Q4 challenge the segment's revenue modestly more than expected our operational leadership quickly took decisive action that when combined with our improved efficiencies from our investments in technology kept Q4 decremental margins of 38% in line with expected levels of 35% to 40%.
We expect this segment to see improved revenues from a low to mid single digit percentage increase in activity levels in Q1.
Margins, improving due to typical incrementals closer to 30%, but.
The water infrastructure segment saw revenues declined by 18% to 52 million in the fourth quarter from $64 million in the third quarter.
Gross profit before DNA decrease from $17 million to $12 million quarter on quarter and gross margin before DNA decreased from 27% during the third quarter, 23% in the fourth quarter.
While this segment's certainly isn't immune to macro volatility we are disappointed in the overall results during Q4 as the new Mexico pipeline starting up in late Q4 could not overcome the revenue declines we call during the quarter from traditional water sourcing volumes.
There, we saw a material increase and costs associated with our legacy Geez, GR, our sourcing and logistics operations and the startup of the new Mexico pipeline.
These cost inefficiencies should be resolved over the course of the first quarter.
Looking forward, we expect the segment to improve both revenues and margins in Q1, as we get a full quarter contribution from the new Mexico pipeline and see the seasonal impacts of Q4 recover.
Revenue should increase by roughly mid single digit percentages in the first quarter margins likely will not recovered to the high twentys until later in the year.
Oilfield chemicals segment continues to improve its profitability with revenues, increasing $3 million to 71 million in the fourth quarter and gross margin before DNA of 16% a modest improvement at 40 basis points versus third quarter.
This combination of higher revenue and margins led to a gross profit before DNA of more than $11 million for the quarter of nearly a million dollars relative to the third quarter.
The primary driver of the revenue growth was a full quarter contribution of the WCS business, which contributed more than 7 million revenue during the quarter.
You see us business was impacted by seasonality and integration relocation costs during Q4, and we anticipate its contribution in 2020 to meaningfully exceed its Q4 run rate.
In addition to the benefit of WCS. The continued effectiveness of our proprietary products and favorable logistics with our in basin manufacturing continues to win new when new customers and we saw our legacy operations materially outperformed the overall market during the quarter.
Heading into Q1, we anticipate modest single digit percentage growth in revenue with margins holding relatively consistent Q4.
Looking at our other corporate costs, we saw 1.3 million tax benefit during Q4.
Depreciation remained relatively flat, while SGN, a decreased about 10% or $2.6 million during the quarter meaningfully exceeding our 1 million dollar target for the quarter.
Looking ahead into 2020 with the progress we were able to make in Q4, we anticipate that SDMA will stay relatively flat to current levels equating to a roughly 5% decline year over year.
That said, we will continue to evaluate further cost savings measures as market conditions necessitate.
We expect to see depreciation reduce modestly year over year and effective tax rate in the low teens range.
We continue to have zero bank that and enjoy a net cash position of $79 million as of December 30 Onest.
While Q1 is often a challenging quarter for working capital has the trajectory of revenue and birds relative to Q4, we still anticipate being able to generate solid free cash flow during the first quarter.
We continue to deploy free cash flow towards share repurchases buying back approximately $5 million worth of shares during Q4, bringing our total capital returned to shareholders via buybacks over the course of 2019.
Roughly $80 million and more than 33 million over the last five quarters since initiating our buyback program.
We will continue to review additional shareholder return options as an ongoing part of our capital allocation strategy.
The solid cash flow generating potential of our franchise has manifested itself through positive free cash flow for eight consecutive quarters since our last quarter merger, we expect that to continue through a challenging stretching oilfield services.
While remaining opportunistic in our pursuit of high return investments, we will continue to safeguard the balance sheet and prioritize cash flow and returns on capital of evolve and other financial metrics.
With that I'll turn it over to the operator, we'll take your questions before Holly reps up with some concluding remarks operator.
Thank you will now be conducting a question and answer session.
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One moment, please while we pull for questions.
Thank you. Our first question is from the line of Sean Meakim with Jpmorgan. Please proceed with your question.
Thank you Hey, good morning.
Good morning going on.
So let me just start can we just talk a little bit about how you think about.
Operating leverage between services segment versus infrastructure, maybe I'm going to how.
The context of Fourq, you and your expectations for once you filter into that and trying to get a sense more how we should think about that business.
We see changes in volumes, how that should flow through into EBITDA margins for each of those two segments.
Yeah, I think if you step back and think about the services business, it's going to be fairly.
It's got a high correlation to completions activity and once you dig beyond that it matters, which customers you're you're working with and what their spend levels were so that may or may not track exactly to overall activity levels.
But as we talked about prepared remarks, we essentially on the services business, we're able to protect the decremental on that.
Business in Q4 by managing our costs and we would expect the typical incremental on that as we look forward and the Q1 and increased activity levels that were seeing there.
Infrastructure it is different.
But I would say, we had an odd quarter on it for for Q4, and while we had solid performance in the Bakken, We frankly underperformed in the Permian.
We had some specific water sourcing customers that took a pause in Q4 and that hurt the top line and then.
We just we didn't manage some costs, while they got to better address.
On our existing operations, then and that that actually impacted the margins as well on that front I do think the team.
I understand the issues and I think we're getting on fixed and I'm confident we'll have that back on track. It may give a little bit of a drag in Q1 that by Q2, I expect that to be.
More in line with what you would expect and not have the same level of volatility necessarily that the that the services business would have.
Got it Okay, I think that feedbacks helpful. I appreciate that.
So given.
The macro environments challenging.
Yes, obviously on the things that you can control small it's generally a good amount of cash this year.
M&A has always been a central park diesel.
Any read in terms of how.
I was on the shopping list looks today in terms of.
The bid ask spread for certain assets, given what more attractive in the current environment or.
Given how the view in North America has maybe changed performance investments in 12 months.
Give you any pause in terms of.
Pursuant to the remains curious I think about best uses of that cash Nick highlighted share buybacks being a portion of it but probably not going into the entire mountains. Here is I think about deploying that capital capital potentially in 2020.
Sure.
Yeah, I think this team has done a pretty good job.
Over the last several years, when we think about acquisitions and it's a strength to be able to identify and then the integrate the and Tierpoint. We have the balance sheet that that positions us in a way to look at.
Various opportunities that others probably won't.
I would tell you on the services side and that where organic and acquisition sort of valuations are getting relatively close versus the infrastructure side, where acquisition multiples are ours theres still a pretty good spread there versus what we can do organically. So I think.
We're more focused on organic on that front, then then acquisitions, but we're certainly very aware of the opportunities.
And as we find the right returns we could be.
Inclined to take action there and then chemicals is probably somewhere in between but I think maybe the key messages were going to be patient and we're going to be disciplined in terms of valuation and we'll stay focused on the types of growth it are going to add.
Help differentiate what we have the offer or can leverage our platform frankly.
So I would say, we will absolutely be inquisitive, but at the same time remain patient and disciplined.
Understood that sounds fair.
Thanks, a lot.
Thanks.
Our next question comes from the line of Kurt Hallead with RBC. Please proceed with your question.
Hey, good morning.
Good morning warning.
Hey, Holly I, just wondered if maybe we could just delve a little bit deeper into the dynamics related to the water infrastructure and particularly the new Mexico pipeline I know you.
Indicated that the management team is kind of identified the the challenges and you're confident that.
There'll be overcome.
But you know in that context.
What what were the most.
Terrific challenges related to the cost dynamics that and that you think you've identified and should be able to overcome.
Yes, I'm glad you asked a question because I, maybe didnt described that well Kurt the issues, we had in the Permian or in our infrastructure segment were largely.
On our sourcing business and they were not necessarily related to the new pipeline that we've just brought on on the sourcing side. What the team is laser focused on or things around potentially some opportunities too.
Restructure some of our supply contracts that give us a little more flexibility. We think that there are ways to improve on the logistics and the costs associated with those often some of our water sources automation being one of those.
Potential benefits that we think can help us drive some cost out of the system, but when I step back and think about the new Mexico system, we did get that online.
In the Middle East of Q4, and we're moving volumes across it and we were well obviously building off of that now in in Q1, and where while we're not necessarily finding opportunities to inc. up long term contracts kind of a tough market to get people to sit down and.
Think about their three and five year development programs, but we are moving volumes across that system with customers that are outside of the take or pay and given sort of the outlook for the area around our pipeline for 2020, we still feel quite good about that provide the kind of return.
Terms that we expected.
I have good thats good color, maybe just staying staying in a on that new Mexico infrastructure and pipeline dynamics. Just wondering if you can give us a general update on how you would.
How much volume do you think you could potentially Phil.
So as the year progresses, given the fact that you mentioned as a number of customers are not really all that excited about signing long term deals.
Yeah, and so well.
Again long term is nice you do take pricing concessions, we do long term. So right now we are focused on on 2020 and it's the capacity of the lines 150000 barrels a day as we had initially.
Scope that out and at this stage you know I'm in 2020, if were half 50% utilization is probably a fair expectation as you'll remember the take or pay as you know it was a 20 fiveish percent.
Utilization, so thats, meaning we do believe we'll be able to add meaningful third party volumes to to the pipeline.
Great.
Great that thank you.
Sure.
Our next question is from the line of Tommy mode with Stephens. Please proceed with your question.
Good morning, and thanks for taking my question.
Good morning, Tony.
I wanted to ask one follow up on the.
Northern Delaware pipeline progression for this year.
You've you've kind of cleared up some of the margin noise on the legacy business, but specifically as you start up operations on the new pipeline, how how much residual startup costs.
Should hit this quarter and maybe even in the second quarter or should we think about it as.
For the full year 2020 were already kind of at the run rate.
In terms of the margin contribution there.
On the pipeline itself.
There's some opportunity to improve on that in the back half of the year and maybe even sort of fourth quarter as we get some of the larger electrified passed on to that to the system right now, we're using diesel fired which isn't as efficient, but they're very long lead time on on the.
Electric comp so that is some upside, but I think it it will have a material impact on 2020, but there would be some uplift when you start compare 2021 back to 2020.
Okay, but for for Q1, specifically, we shouldn't expect any kind of big drag on the margin from the pipeline just due to.
Let's start up.
Now that's correct okay. Okay.
And then following up on Capex.
Could you break break apart the budget for us into.
How much is maintenance versus growth.
Oh, what some of the growth initiatives.
And then.
Just want to make sure we or correctly understanding when you're when you're referencing net capex.
Is that the.
Is that range that you gave us a net capex range or gross and just to clarify the difference in those two.
Sure Tommys to that ranges a net capex range.
So we don't expect material.
Divestitures or asset sales, it's just all part of an ongoing normal course of business.
Turning back in obsolete or or equipment that we use the lease term.
As far as breaking down the capex roughly half of that is going to be maintenance capex there.
We do have a couple infrastructure projects and that number.
Some of that is within the flexibility of the 55 to 70 range, but those are not on the same scale of the $40 million, New Mexico pipeline.
Yes, we have a expansion of our our Midland chemicals facility and some other smaller initiatives, but I think that gives you a high level picture there.
[noise] does indeed, and I'll turn it back thank you.
Jeremy.
As a reminder to ask a question see me press Star one.
Our next question is from the line of JB Lowe with Citi. Please proceed with your questions.
Hi, good morning, everyone.
Okay. So I'm just to clarify on the oncology I think your comment that.
You saw 2020 on me on the northern Delaware pipe.
Hi, you could get up to 50% utilization off the 150 is that something that you think you can average for the year or is that a kind of it later back half a run rate.
I think when you look at the average for the year, we should note achieved that.
Okay.
And then another question was.
On the chemicals side, you guys have been doing really well on the on that farce I'm. Just wondering are there any.
Kind of new products that you guys have been introducing lately or plan to introduce in 2020.
That you can expand your your sales footprint even further.
It's good question, because frankly, the frac fluid systems evolve rapidly and even just within our friction reducer product line. We have continued to add add new new products, just depending on the water that you're dealing with you need a different chemistry and.
Frankly, that's one of the things that really does make us better partner for a lot of folks in the basin and that especially when you look at the Permian the amount of produced water that's being used our ability to I'll say customized solution.
For the varying types of of water that that's being pump is been a big driver and the market share gains that we've seen so not only does it help us from a cost perspective, but it helps us I'll say better service to customers and be able to take a larger share of wallet and add customers and Frank.
We are our manufacturing capacity, we were so highly utilized in the last three or four months of the year. We just recently approved a and expansion.
Of our capacity in Midland on the F. bars and it'll be.
Low single digit kind of capital that's part of what Nick was describing earlier, but it will increase our capacity by over 25% and we expect that to be online in early Q3. So I'm excited about the opportunities to continue to deliver new new products solve problems and grow our market share and.
Then the other benefit we have is.
You know WCS contributed to the top line a little bit in in Q4, but obviously integration can be a distraction and as we expected that the with integration cost, we didnt see a margin improvement or impact, but we do expect Q1 that that business will that new service line essentially in business.
We will also add to opportunities in the chemicals segment.
Okay great.
Good feedback last one for me was just the kind of longer term margin target on infrastructure was kind of I think 30% basically more or less is that something that you think you can still.
Eventually hit or is there something something structurally about the business that you think it's going to be captain.
Of the high Twentys.
So that you hope to get through by the end of this year.
You know I think it's certainly possible to still get to that 30 type number as Nick said high 20. This year one of the things to keep in mind is that as we continue to grow the volumes on the new Mexico just on that certainly does does help us but.
Well, we'll need volumes in excess of 50% utilization to start start to get to that sort of 30, Mark but again I think with some of the improvements in the focus that the team has well we do expect to still get to the high twentys as weak as we get to enter this year.
All right great. Thanks, so much.
Thank you that concludes question and answer portion of the call I'll now turn the call back to management for any final remarks.
Sure I'll be brief guys. I know you all are covering a lot more at the end of the earning season, but really the message I'd like to leave with you as that clearly 2020, its going to present, both challenges and opportunities, but frankly, I really like the way that select is positioned to take advantage of of.
All that the 2020 is going to have to offer so thanks for joining us today, and we'll talk to you get on a quarter.
Thank you ladies and gentlemen, thank you for your participation.
This concludes today's conference you may now disconnect your lines and have a wonderful day.