Q3 2022 Aris Water Solutions Inc Earnings Call

Greetings and welcome to the Arris water solutions third quarter 2022 earnings conference call.

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A brief question and answer session will follow the formal presentation.

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As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host David <unk> Senior Vice President Finance and Investor Relations. Thank you Sir you may begin.

Good morning, and welcome to the Aerospace Order solutions third quarter 2022 earnings Conference call.

And today by our President and CEO Amanda Brock.

Founder and executive Chairman, Bill <unk>, and our CFO Stephen Thompson.

Before we begin I would like to remind you that in this call and the related presentation. We will make forward looking statements regarding our current beliefs plans and expectations, which are not guarantees of future performance and are subject to a number of known and unknown risks and uncertainties and other factors that could cause actual results to differ materially from us.

Also in events contemplated by such forward looking statements you are cautioned not to place undue reliance on forward looking statements. Please refer to the risk factors and other cautionary statements included in our most recent quarterly report on Form 10-Q, and annual report on Form 10-K filed with the Securities and Exchange Commission I would also.

I'd like to point out that our Investor presentation, and today's conference call will contain discussion of non-GAAP financial measures, which we believe are useful in evaluating our performance. These supplemental measures should not be considered in isolation or as a substitute for financial measures prepared in accordance with U S. GAAP reconciliations to the most directly comparable GAAP measures are.

In our earnings release, and the appendix of today's accompanying presentation.

I'll now turn the call over to our founder and executive Chairman builder.

Thank you David and thanks to everyone for joining us. This morning before we begin I'd like to mention that October marked the one year anniversary of our IPO.

Looking back on the past year I'm extremely proud of this team and what has been accomplished there.

<unk> team continues to execute on its plans growing a reliable high quality asset base and volumes being recognized as trusted water technology partner and keeping our balance sheet in great shape now to the third quarter, we had a strong quarter driven by a 14% increase in volumes over the previous quarter and a 47% increase over the third quarter of two.

2021 our growth.

Then use to be primarily driven by our expanding customer base as well as our expansive infrastructure, which overlay some of the premier acreage in the country, where the industry has demonstrated its commitment to invest in further growth.

Alongside this steady growth, we're continuing to focus on opportunities to enhance the value of our asset base by further optimizing our cost structure offsetting recent inflationary headwinds and efficiently, adding technology improvements as we head into the end of the year operators are balancing production targets budgetary pressure from inflation.

And shareholder returns, we anticipate seeing the benefits of recent completions activity leading to increases in our produced water volumes in the fourth quarter, but are monitoring our water solutions business for potential year end slowdowns.

So in conclusion for the quarter. Our strong results are representative of the resilience of our business underscored by the value of our long term contracts differentiated infrastructure close customer relations and demonstrated reliability. We look forward to the rest of this year and continued success in 2023 and beyond with that I'll turn it over.

Amanda.

Thank you Bill.

They always had a strong third quarter, we increased our total water volumes to over one 4 million barrels a day at 47%. This is the third quarters last year and up 14% sequentially over the second quarter of this year.

We saw significant volume growth in both produced water handling volumes, which were up 8% sequentially over the second quarter and water solutions volumes, which were up 27% sequentially over the second quarter.

Adjusted operating margin per barrel with 36, a barrel in the third quarter of 2020 twos down from 41 cents per barrel last quarter.

Adjusted EBITDA continues to grow significantly.

<unk> and you get rid of the yeah. It is important to discuss margin dynamics.

First we've gone on water recycling business rapidly over the past couple of quarters. In addition to the 16 facilities already commissioned we brought on six new permanent facilities in the third quarter, we experienced increased costs during mobilization commissioning of these new facilities, which related primarily to Tampa.

Rental equipment and third party contract personnel.

With these facilities not fully online we do not expect one time startup cost to be a cat.

Second we sold a higher proportion of groundwater volumes this quarter versus prior quarters. Some of the locations. We provided saltwater too this quarter with further from our core system, which limited our ability to use as much of our untreated produced water as we have previously.

For the quarter, we sold approximately double the amount of ground water on a daily basis than we did in the first half of the yeah sales of groundwater generally have lower margins. Since we did not have the benefit of downhole operating cost savings from reusing.

Produced water <unk>.

Under 10 operators are demanding more recycled produced water for completions and as we expand our system with additional permanent we use facilities, we expect to provide a higher proportion of recycled water. This is ground water.

In addition, we believe that we are still on track to meet our sustainability performance target for 2022 associated with our sustainability linked bond.

Finally, as we indicated last quarter, we are managing through this extra ordinary inflationary environment, particularly as it relates to field labor costs and commodity linked consumables, such as chemical and diesel fuel since.

Since the beginning of the year chemical costs overall have increased between 10 and 20% Contra.

Contract labor rates are up about 25% of our and diesel fuel is up more than 30% a gallon. While we believe the impact of inflation on our cost has begun to slow. The team has continued to aggressively analyze all of our activities to identify where we can safely reduce costs.

Increased efficiencies.

We have made progress on several fronts and are beginning to see the benefits of the steps we have taken to manage costs and we expect to see more positive impacts why margins in subsequent quarters.

We will also see the benefit of our CPI linked revenue escalation clauses in our contracts as they had annual reset dates in the first half of next year.

Again, our adjusted EBITDA continues to grow both year over year sequentially and as we continue to implement opportunities to increase our efficiencies to offset inflationary impacts we do expect our margins to improve.

We are also pleased to announce a strategic agreement with Chevron and Conoco Phillips to jointly focus on advancing opportunities for beneficial reuse.

Together, we will identify develop anti that's proprietary and differentiated technologies for potential applications in non consumptive agriculture <unk>.

Mission hydrogen production and direct air capture of atmospheric C O two.

Arris will lead this initiative, while also leveraging the technical expertise of Chevron and Conocophillips.

As concerns around long term water scarcity grow we believe that the use of treating produced water offers not only a compelling alternative to the use of ground water and oil and gas industry, but also a new source of water for other sectors.

This strategic agreement strengthens our relationships with Conoco Phillips and Chevron, while recognizing the capabilities of our team as water treatment specialists and demonstrating our leadership in this field.

Working alongside Chevron and Conocophillips brings us tremendous scale and capability to continue to advance water sustainability, both today and well into the future.

We also recently announced the acquisition of proprietary treatment technologies and related assets from water stand at the acquired assets include proven technologies that exceed EPA and other regulatory requirements with faith surface discharge of treated produced water that we believe can be replicated and scaled for use in the Permian basin.

The strategic agreement with Chevron and Conoco Phillips the acquisition of water standard surface discharge technology and the continued build out of our technical team with the appointment of Lisa handle on as our new Chief scientist.

All enhance our capabilities to ensure that we were at the forefront of helping the industry develop opportunities and technology for beneficial reuse.

And we continue to look at future opportunities in water treatment, we remain primarily focused on drilling alcohol business.

Finally, I want to formally introduce everyone to Steven Tomset unused CFO , who joined us in the third quarter that Steve has over 20 years of experience in the energy industry in both industry and banking roles.

He has already made a big impact in a few weeks. He has been here and we are eager for you all to get to know him.

We also want to thank Brenda show, who played a pivotal role in getting us through a successful IPO Brandon will be with us in advisory capacity to support the transition to seed through year end.

With that I'll turn it over to Steve to discuss our financial results for the quarter.

Thank you Amanda we recorded adjusted EBITDA for the third quarter of $39 $3 million up 28% from the third quarter of 2021 and up 6% sequentially from the second quarter of 2022, driven by the increase in volumes across our system.

Looking forward to the fourth quarter. We currently expect adjusted EBITDA to be between 39 and $41 million, which is within the lower end of the range of our previously provided full year guidance.

As Amanda highlighted our outlook for the fourth quarter has been impacted by inflation as well as timing impacts from our customers' latest forecast, which indicate pushing some completions on our dedicated acreage into the first quarter of next year.

There was also a recent fire at one of our large customers facilities, which will negatively impact volumes for the next couple of quarters.

We have begun to receive forecasts for 2023 activity from our customers and are in the process of incorporating those into our own outlook. We expect our customers to continue to make steady investments in our contracted acreage. We believe our growth will continue into next year.

Recent industry reports and initial production targets from some of our large customers indicate 15% to 25% year over year oil production increases in the areas in which we operate for 2023.

We expect to grow alongside this increasing production and look forward to providing an update towards 2023 outlook. When we provide our fourth quarter 'twenty two results.

Turning to capital allocation framework remains intact, and our balance sheet and liquidity remained strong we invested approximately $49 million in capital expenditures for the third quarter and approximately $97 million year to date.

We expect fourth quarter capital expenditures to total between 45 and $53 million consistent with our previously provided full year outlook of $140 million to $150 million.

We also recently announced our fifth consecutive dividend of nine cents a share payable on November 30th.

We ended the quarter with leverage at two four times net debt to EBITDA as compared to our target range of two and a half to three and a half times and have no debt maturities until 2025.

Liquidity remains strong with $165 million currently available under our revolving credit facility.

We are utilizing our credit facility to fund a portion of our capital program in the fourth quarter, including the build out for Chevron as we bridge short term working capital needs until those projects go in service early next year.

Now stepping back and in the context of the rapid growth of Hertz has experienced we are accelerating several initiatives to drive operational efficiencies and for their system optimization and controls.

For example, we are currently assessing and implementing systems to meet full Sox compliance requirements in 2023, including the Auditor assurance.

We're also working to improve data flow and real time visibility into operating expenses, which can then be used to drive cost productivity and working capital improvements.

Given our topline growth. We believe these efforts will benefit us significantly in 2023 and beyond further maximize the value of our infrastructure.

Finally in connection with the one year anniversary of our IPO, we will be filing a primary and secondary form S. Three shelf registration statement is a procedural matter. However, we have no plans to issue any primary securities at this time.

With that I'll turn it over to Amanda to wrap up thanks, Steve.

Overall, we've had a strong quarter and are proud of our team's performance and deliver consistent growth through market cycles macroeconomic headwinds uncertain politics, and inflationary pressures. We continue to remain diligent on enhancing our operating efficiencies in tandem with our revenue growth and expect to continue to make progress on or off.

<unk> cost life.

Lifestyle I also wanted to mention the first year anniversary of our successful IPO and it's been a dynamic year for the industry. Yeah. We are proud to say, we've continued to grow quarter over quarter and most importantly, our team continues to deliver and are excited about the future with that we will take question.

Yes.

Thank you we will now be conducting a question and answer session.

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One moment, please while we poll for questions.

Thank you. Our first question comes from the line of Don Crist with Johnson Rice. Please proceed with your question.

Good morning, everybody how are you all this morning.

Very good.

Uh huh.

Amanda I wanted to talk about you know the inflationary impacts of fuel and chemicals that you've been talking about for a couple of quarters now and it seems to have less of an impact. This quarter can you remind us when the the contract openers, Oregon, if I remember correctly there were around first of the year.

And yes, if you're talking about the inflation CPI.

In our contract for the first half of the Yeah, we will see a number of those rollover Chevron for example, resets in March and the majority of the contracts throughout sort of Q1 early Q2.

Okay.

And with obviously, you're spending a lot of money. This this back half of this year for a chevron build out and as we model 2023.

Should it be kind of a steady ramp up or is there volumes right now that are kind of being held up for for water infrastructure, and where you're going to see kind of like a step change next year or is it pretty smooth next year can you give us any color around that.

Then when we did the Chevron transaction and we indicated that we were going to be spending approximately $50 million to $60 million. We also have indicated that there was a lag of about six to nine months until we would see the benefit of those volumes. So you will see more volumes coming into the system from Chevron next year as we complete all of the hookups.

And the infrastructure needed.

But it should be kind of a smooth ramp up or is there going to be like a step change in the second quarter no. It's a pretty it's a pretty smooth ramp up yeah, there's nothing being held back due to water takeaway right now its just their completion schedules through next the first half three quarters next year.

Okay and just one final one for me you know, obviously, you're making a big push into water reuse and recycling.

Recycling debt.

Through the hiring of a chief scientist in the transactions that you've done can you just expand on that just a little bit and tell US you know what's the end goal here and what's the monetization potential if we look out three or four years is zero.

Monetization potential for all the things that are going on right now.

We do believe so Don I mean, we are moving a tremendous amount of water and as you think about sustainability in this industry, we need to find ways to use that water and in fact use at water not only for reuse in the industry, but to use it for pets is outside of the industry, we've been pretty clear that while we are focusing.

On a pole business. We are also looking to see what else. We can use is four to four and have undertaken.

<unk>.

Project with universities. This alliance with Chevron and Conoco allows us to test technology and basically lead in examining how we can find robust cost effective technology to treat produced water for uses outside of the industry 23 will be a.

Yeah, It's really technology focused identifying technologies that can in fact enable this and we also believe that we will find technologies that we can use outside of the oil and gas industry and other verticals. So monetization. Yes. We are doing this to to find those opportunities for monetization and the categories. We serve.

Poke about non consented and potentially hydrogen looking at you know direct air capture carbon sequestration other things like that but we see that you know having more visibility end of 'twenty three when a lot of this work that we're going to be sharing with conoco and chevron universities and others that we will be <unk>.

Eating it becomes more apparent as to you know what we can in fact do with this water.

I appreciate all the color I'll turn it back thank you.

I'm sorry.

Yeah.

Our next question comes from the line of Samantha Hoh with Evercore ISI. Please proceed with your question.

Hey, guys. Thanks for taking my question.

Apologize for my voice I lost my place in recent days, but I wanted to stay on the topic of the beneficial reuse of initiatives and I was just wondering if you know is this agreement that you're collaborating with chevron and cargo.

Is this an exclusive agreement or I mean, how do you imagine you know what.

Once the technologies in place, but you know that you'll be able to roll out this technology and what type of model that you will have in terms of sharing you know sharing this this huh.

Technology that you guys are going to build.

And Monty Smith, I'm, sorry, it sounds like you've got the crowd that everyone's got so on your question, we will be developing IP know how throughout this process and so if in fact, which we know he will be able to do hopefully we are able to develop something that we.

Works and works effectively we will be able to roll it out not only for our own activities, but also for third parties and in terms of this being exclusive yes, we are working with them exclusively but there are other majors and other companies who are looking to potentially participate.

In this J I T with the three of us, but again, we will lead the effort and we will have the ability to take any proprietary IP and knowhow for use beyond just our own operations.

So that's really great.

I guess the other question that I had really had to do with sort of like the the jump in revenue per barrel on the water solutions.

Yeah, it doesn't cut it.

Just surprised by how much it went up this past quarter could you maybe speak a little bit about that.

Just the the variations in like growth between the producer water handling segment in water solution. It seems like you know it just youre seeing a lot more sequential growth on the modulations items, just wonder if you could talk a little bit more about that.

Yeah Samantha good morning. This is Steve It was really just a function of more groundwater and pricing related to that so is it mostly just a function of mix rather than anything else.

Okay. So that's where that mix is coming to them. How do you see a pricing progressing I mean, so should I guess, that's assuming there's going to be less groundwater in the fourth quarter, maybe you will see them.

Mix. He you know that maybe you'll see the average price go down.

On the water solutions tied for fourth quarter.

Trying to figure out the right revenue mix for the fourth quarter.

We would expect it to normalize groundwater percentage comes back down.

And maybe I'll get more help on the modeling off site later, but thanks guys great quarter.

Thank you. Thanks Hope you feel better.

Yeah.

Our next question comes from the line of Selman <unk> with Stifel. Please proceed with your question.

Thank you good morning, So I guess, just following up on water solutions and I'm thinking about the recycled water.

Your volumes were up 15% sequentially.

M, 70% overall for water solutions, and you talked about adding six new facilities. So maybe could you talk about the growth that we should expect coming in recycled volumes.

So we did add six new facilities this year and we talked a lot about the impact of those facilities, particularly in terms of these startup costs on our margins.

We will continue to see growth in our recycled water and but as we've said before it tends to be a little bit lumpy. So if you think about just the size of these fracs now with simultaneous fracs and multi well pads.

We see sort of that quarter to quarter Lumpiness as things may be pushed from one quarter to another but we will continue to see growth in our reuse activities, but we expect it to actually moderate in Q4, and then again continue to grow in Q1 into next year I think.

The nature of the recycling assets versus the produced water takeaway as such as we.

We don't expect them to be built in the full 100% of the time for their life. The payoffs are very very quickly on that capital, which means that we're gonna see up and down over the lifetime of a particular reuse facility, even if its permanent as opposed to a price that where they're trying to get the 100% utilization on all the time, so it will be they will.

Move around it's about location and it's about ultimate savings and return on that capital, which is very very high but it's not a.

It's not as consistent as the produced water side.

Understood. Thank you.

You also in your opening comments talked about monitoring for any year end slowdowns and I'm just kind of curious if you could expand on that are you seeing any of that yet or are you being told that it's coming.

You know we've had you know we've got visibility into.

Into our customers' base there is I'd say coin tosses at this point on who's going to slow down for the holidays, if not I think it's going to be a function of our pricing and dynamics going into going into Thanksgiving and then they extended Christmas new year's holiday on whether we see cracks continue or whether we get a better holiday and I think it's just.

Too early to tell so we're we're cautiously waiting to see what happens and would rather anticipate a slowdown if we think there's a 50 or 60% chance. We see it then not anticipated at this point.

Got it.

And then also is there any update just on your acquisition from last quarter. How it goes maybe didn't contribute any volumes this quarter, you're expecting any volume contribution going into <unk> I know the real impact just gonna be felt next year, but I'm just curious as to how that's going.

And the integration is going extremely well and as we indicated when we close that transaction and we were really seeing the impact in 2023, there is sort of limited impact now as we take these wells offline as we sort of improve them and we we upgrade the cause.

Pasty and some of these well so it remains a great deal, but limited impact this year in terms of volumes and then they're being where we're constructing pipe to connect them into our system as well right now currently and so as that activity goes on that allows them to to be used much more going into next year.

Alright, Thank you very much.

Yeah.

As a reminder, if you would like to ask a question press star one on your telephone keypad.

Our next question comes from the line of John Mackay with Goldman Sachs. Please proceed with your question.

Hi, everyone. Good morning, Thanks for the time I wanted to go back to margins I mean, I know we've talked through a couple of the moving pieces here.

I was just wondering I mean, if we're looking at the kind of transitory startup costs versus mix shift impact versus the inflationary impact are you guys able to just maybe quantify for us what some of those moving pieces are particularly some of those that might be rolling off as we look into fourth quarter and beyond.

If we look at the costs that are rolling off let's focus for a second on what we refer to as those startup costs, which are very real and we brought on six facilities and reuse and we underestimated what that was going to take at least a scramble to meet customer demand and remember we just had a great.

Third quarter and if you look at you know those volumes intensive our reuse volumes being up 27% with both volumes being up 27% from Q2, so those sort of one time startup costs related to third party contractors, we couldn't hire fast enough you know rentals to get ready.

And we also had you know certain.

Sudden issues such as upon that had hail damage and we had to realign. It. So all of those came together with sort of power et cetera does that just say between two and four cents and impact. So we expect in large part for those sort of one time costs to go away and we weren't.

Very rapidly to ensure that all rentals off.

You know.

Given up and that we move forward. We also had some you know water purchases to make sure we were and that was the mix to make sure. We were able to provide for our customers. So that was sort of go away sort of going forward and in terms of inflation. This is where we are very focused when we talk about these efficiencies to ensure that if some of this inflow.

Asia is going to be sort of a systematic change in sort of catches stay that we focus on automation and chemical dosing.

And labor we've done a lot to say about produced water side, we really haven't increased labor because of automation and then if we also look at what we've done so not only are we reducing our commodity linked and sort of items like chemicals, but we are also hedged on power in Texas.

And what's happened there is we have brought on 11 facilities. Those facilities are in Texas. So we are seeing and we will see in Q4, the benefit of the mix of shallow wells in Texas, which will bring down even further our power costs and we expect to sort of see that benefit.

Between 10, and 20% on power in our operating costs on the wealth side. So some of this is one time. Some of this is continuing to just chip away as inflation and clearly identify what we need to be doing to just be more efficient in all of our operations I've said a lot John So I hope it.

Some of this is answer to your question.

So that was a that was great that was very helpful. Thank you for that maybe just as a follow up I mean, if we're looking at third quarter, where the water sales volumes are really strong and we look at kind of how you guys have trended over the last year. Congrats on the one year anniversary by the way if we look at just kind of how those two have trended the completion sides grow.

One a lot more than the produced water side can we or.

Or are these the same customers that you guys are serving on both sides and we would maybe start to see a pick up on the produce side from some of these some of this completion activity, maybe and maybe more broadly just how those two are volume line should trend versus each other maybe through 'twenty three and going forward.

Yeah on the completion side, you know we are largely and.

You know working with our existing customers, although we obviously work with Sun, where we don't have dedications all takeaway on the produced water side and you know as you see these completions moving through those completions you will see the produced water side the impacted as more volumes that have come online.

Bill said the produced water side instead of more predictable more visibility more steady on the completion side, we do see you know a little more lumpiness.

You know Q3, Q4 and going into Q1.

But back to your.

The question I think we will most of that has been going to our customers. So we will get there a lot of that on the produced water. So correct.

Alright, that's great appreciate the time today. Thanks.

Thanks, Sean.

We have reached the end of the question and answer session. Mrs. Brock I would now like to turn the floor back over to you for closing comments.

Thank you.

At this time, we just want to thank everybody on the call for calling in and listening we want to thank our customers all of our employees all of the work. They did this quarter and before and we just look forward to coming back in Q4 and I'm talking to your again. Thank you.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect. Your lines at this time. Thank you for your participation and have a wonderful day.