Q2 2023 Enerflex Ltd Earnings Call
Yeah.
Good morning, ladies and gentlemen, and welcome to the <unk> to reflect second quarter 2023 earnings conference call. At this time all participants are in a listen only mode. Following and reflects his prepared remarks, we will conduct a question and answer session instructions will follow at that time.
A reminder, this conference call is being recorded.
Turning call over to your host Stefan Ali.
Vice President of Investor Relations and business development in the energy transition. Please go ahead.
Thank you operator, and good morning, everyone. Thank you for joining us on our second quarter 2023 earnings call with me today are Marc Rossiter, President and CEO , Rod Gray Senior Vice President and CFO , and Ben Park, Vice President corporate controller.
During today's call, we'll touch on highlights from our second quarter results and provide an update on how we're progressing our near term strategic priorities.
Before I turn it over to Marc I'll remind everyone that today's discussion will include non up our apps and other financial measures as well as forward looking statements regarding <unk> expectations for future performance and business prospects.
We're looking information involves risks and uncertainties and the stated expectations could differ materially from actual results or performance.
For more information refer to the advisory statements within our news release, MD&A and other regulatory filings all available on our website and under our surplus and Edgar profiles.
All dollar amounts discussed today are in Canadian dollars, unless otherwise stated I'll now turn it over to our president and CEO Mark Rothera.
Thanks, Stephanie and thanks to all our listeners for joining this morning's call last night enter flex reported results that reflect strong operational performance across our three core business lines and our continued focus on integrating exterran and strengthening our financial position.
In the second quarter, we delivered revenue of $777 million and adjusted EBITDA of $142 million, demonstrating the strength of our energy infrastructure and aftermarket services business lines as well as continued momentum in our North American engineered systems business.
Margin profile on a recurring business has expanded from the first quarter, our energy infrastructure platform benefited from more favorable terms on renewals and additional contracted revenues generated from the new energy infrastructure assets, we brought online in the first half of the year.
And our aftermarket service business benefited from increased activity levels, including continued global demand for spare parts, notably.
Notably our aftermarket services gross margin has increased by over 500 basis points from 2022 levels.
Our gross margin profile from engineered systems has also improved significantly from this time last year up 400 basis points. However, operational delays on certain in flight projects resulted in a lower gross margin percentage in the quarter versus the prior quarter.
We're focused on regaining lost time experienced in those projects to improve their margins.
I'd like to quickly touch on some key activities across our business segments, our North American business continues to perform exceptionally well across all product lines.
Customer activity levels remain elevated which has enabled us to capitalize on new opportunities and expand our booked margins.
Our U S contract compression fleet is operating at high utilization rates.
Averaging 96% in the second quarter and as a result, we are securing attractive pricing in this type of compression market.
Our aftermarket services business is observing notable strength in gross margin improvements as customers continue to catch up on deferred maintenance activities and general parts and supply needs.
And our engineered systems business continues to be a meaningful contributor, especially as we look to book sorry, especially as we book larger cryogenic natural gas processing plants, which I'll touch on later.
In Latin America, we are observing strong performance from our fleet of energy infrastructure assets and are focused on optimizing our contract compression business by redeploying idle units to meet rising local demand.
Also seeing solid activity levels in aftermarket services across the Latam region.
In the eastern Hemisphere three of the four large in flight projects that we were being that were being advanced through 2022 are complete and generating stable cash flows. We continue to advance the fourth in flight projects. The cryogenic facility in Kurdistan, which we expect to complete in 2024.
We continue to focus our efforts on integrating exterran since closing the transaction we have captured most of the annual run rate synergies, we identified at the time of the announcement.
$50 million of U S $60 million targeted.
And continue to expect that we will capture the remaining U S $10 million within 12 to 18 months of the transaction close.
We are nine months into our integration efforts and are actively streamlining our global operations to ensure we are shaping our business for long term success and maximizing profitability and resiliency.
As we identify opportunities to optimize our global operations, we expect we will incur additional one time restructuring and optimization costs.
Which should improve the overall efficiency of our business in the long term.
An example of this is our previously announced plans to consolidate our global manufacturing capacity from five facilities to three we have since identified further opportunities to simplify our geographic footprint and plan to Exxon execute on these initiatives over the next two years.
Lastly, turning to our engineered systems business enter flex secured $322 million of bookings in the second quarter, allowing us to remain to maintain a significant backlog balance of $1 4 billion.
That we plan to convert into revenue through the balance of this year and into 2024.
Notably our second quarter bookings included a $120 million of electrified natural gas infrastructure and another $20 million for carbon capture and sequestration related projects as we advance our energy transition business strategy a.
A strategic benefit from the <unk> acquisition that I'm, particularly excited about is our expanded product offerings, which have deepened our ability to serve the energy value chain and we have diversified our backlog composition.
In the second quarter, we secured $80 million of bookings for two large cryogenic natural gas processing plants in the United States.
This is in addition to the cryo plant, we booked in the first quarter for an international customer.
Today, we are better positioned to capture these larger scale opportunities, which should enable us to high grade the margin profile of our engineered systems backlog.
I'll now turn it over to Rob to speak to the financial highlights from yesterday's release and provide an update on <unk> outlook for the balance of 2023.
Thanks, Mark and good morning, everyone and reflects delivered strong financial and operational results in the second quarter revenues generated by our energy infrastructure and aftermarket services product lines were largely flat from the first quarter, while gross margins from these reoccurring businesses expanded our consolidated second quarter revenues of <unk>.
$177 million were down from the first quarter because of the noncash finance lease revenue we recognized in the first quarter. When we brought a large natural gas infrastructure assets into commercial operation.
<unk> gross margin was $147 million or 18, 9% as a percentage of revenue.
And as Mark described was influenced by solid quarter over quarter improvements in our recurring businesses.
We did experience some delays on certain in flight projects, which impacted our engineered systems margins still and we have expanded our gross margin on engineered systems through the first half of 2023 by over 400 basis points, when we compared to the first half of 'twenty two despite the lower margin on these particular projects during the second quarter.
<unk> G&A of $100 million decreased $16 million from the first quarter, which was largely driven by a recovery of a $12 million bad debt receivable. We are laser focused on reducing our SG&A, but do expect to see a continued continue to be impacted by foreign exchange losses related to the Argentine.
Peso as well as onetime restructuring and integration costs as we optimize our global operations to enhance long term profitability.
In the second quarter, we incurred $10 million of SG&A related restructuring and integration costs and recognized foreign exchange losses of $12 million.
Which we partially offset with $8 million of interest income from associated instruments reported against our net finance costs.
This brings me to our reported adjusted EBITDA of $142 million in the second quarter strong business performance and an expanded energy infrastructure portfolio resulted in adjusted EBITDA, increasing by 16% for the first quarter.
<unk> generated distributable cash flow of $52 million.
The $32 million in capital expenditures directed primarily at our contract compression. Please please in the USA in Latin America, we recognized a small net loss of $3 million.
The result of higher cash taxes, and lower gross margin recorded in the period, partially offset by the decrease in SG&A.
<unk> is focused on strengthening our financial position and prioritizing our conservative balance sheet over the long term and in the second quarter, our long term debt balance decreased by $50 million increase in net working capital, resulting from the growth of our North American aftermarket services business as well as the timing of cash flows on our end.
<unk> systems businesses caused our net debt balance increased slightly from the end of the first quarter.
<unk> adjusted EBITDA generation allowed us to lower our bank adjusted net debt to EBITDA ratio to two eight times and we continue to expect this ratio to improve to two five times by the end of the year.
Through strong cash flow generation from our reoccurring business and the execution of our large engineered systems backlog.
Once we've reached our post acquisition deleveraging target, we plan to continue strengthening our financial position through absolute debt reduction to ensure we have significant financial flexibility through the industry cycles.
With last night's release, we reaffirmed our full year 2023 financial guidance for adjusted EBITDA yearend leverage maintenance capital expenditures and expenditures to execute the cryogenic facility and Curtis staff.
And our flex is revising its guidance for other non discretionary expenses to a range of 100 U S 180 million to USD $210 million, representing a $50 million U S increase from the midpoint.
This is to account for the increase in net working capital associated with higher activity levels in our aftermarket services and engineered systems businesses as well as higher expected cash taxes in 2023, Andrew.
<unk> is also introducing guidance for <unk> growth capital expenditures for the year.
With a range of U S $80 million to U S $90 million.
This guidance largely reflects reflects enterprises year to date results, which include the completion of two large water projects in the first quarter, we invested about U S $55 million in PP&E and growth capital in the first half of the year with the remaining filings for 2023 planned to be directed towards modest.
Customer sanctioned investments in our U S and Latin America contract compression fleet, a small brownfield expansion in the middle East and <unk> investments and some software upgrades required on facilities that we acquired through the transaction.
Finally, <unk> committed to delivering a sustainable dividend to shareholders with our board declaring a quarterly dividend of $2 five per share last night. The dividend is payable on October 12 to shareholders of record on August 24th with that I will pass back to Mark to deliver his closing remarks.
Thanks, Rod and reflects his primary focus for 2023 is to progress the integration of Exterran and strengthen our financial position.
Our solid second quarter 2023 financial and operational results highlight our continued ability to execute on three core business lines on a global scale. We will continue to build on the strong results as we integrate exterran with our near term imperative of optimizing our business to be increasingly resilient and profitable to ensure maximum flexibility through the industry cycles.
I will now hand, the call back to the operator for questions.
Thank you.
And to ask a question. Please press star one one your telephone and wait for your name to be announced to withdraw your question. Please press star one again.
Okay.
One moment for our first question.
Okay.
Our first question comes from the lineup Aaron Macneil from TD Cowen Your line is open.
Hey, good morning, Thanks for taking my questions.
I've had a couple of inbounds from investors on the revised guidance, suggesting that.
Free cash flow generation.
Implied by the guidance will be limited in 2023, I'm, hoping you can sort of slice and dice service in a few different ways. So first I'm, hoping you can give us a bit of context in terms of.
What is reoccurring and what's more one time in transaction related including I know you called out.
Legacy water projects.
The transaction last year and second half.
And you can give us a center.
First half of the year versus second half of the year and if you think we should expect free cash flow generation in the back half of the year.
Sure Erinn, it's rod.
I think when we look at capital spending in particular, what you're what you're referring to so.
Canadian dollar terms I think we had about $73 million of capital spending.
First quarter, sorry, first half of the year.
And we'd expect something in the order of about 40%, 40% to $42 million in the second half.
And so you've got about two thirds of that spending thats already happened in the first half of the year.
So it is skewed to the first half secondly, when we look at working capital we had.
Approximately $155 million use of cash in terms of overall working capital build in the business, we would see that.
Moderating in the second half of the year by about $50 million and that is incorporated in our overall guidance.
Which effectively gives us something in the tune of about $50 million of free cash flow for the year.
Understood.
<unk> also in quite a bit of a change in the disclosures in terms of your capital allocation priorities, maybe I'm reading into it too much but.
Am I right to assume that debt reduction will be the focus now in 2024 over and above.
More enhanced shareholder return and.
Where does incentives.
Debt reduction enhanced shareholder returns organic growers in CIB.
All of the all the usual suspects rank in your opinion from our go forward capital allocation strategy.
Aaron This is mark we feel that the best way for us to to improve shareholder returns is through total debt reduction and we will do that this year and we will do that into 2024 that'll that'll be our primary motive of providing shareholder returns through debt reduction.
Understood I'll turn it over thanks.
Okay.
One moment for your next question.
Our next question comes from the line of Nick Corcoran from Acumen capital. Your line is open.
Good morning, and thanks for taking my questions as well.
First on the Argentina, FX loss of $12 million in the quarter.
Is there a way you can manage that cost going forward or is that just a cost of doing business in the country.
I'll start and then maybe Rob will kick in.
I feel that we did manage that in the quarter, we had the $12 million FX loss, we had the $8 million roughly gain by using our hedging instruments.
It's roughly the same performance we had in Q1 on the topic and so that will be our mode going forward like I said in the last call in Q1.
Just about everything operationally and from a macroeconomic point of view with our customers in the business in Argentina is good our assets are good our people are good our customers are good we're improving margins quite significantly and our revenue streams are pegged to the U S. Dollar once we receive those revenues and they go into the bank.
We've got a cash balance that has been devaluing overtime.
The quarterly loss of $12 million offset by $8 million interest gain that is a run rate that we would be.
Aiming for for subsequent quarters.
That's good color and then maybe moving on to the backlog is down from a record high last quarter.
The first question is is there anything to read on what the backlog is Jerry and displaying the cycle and then the second question is just related to.
The energy transition and whether you're seeing.
The pipeline for opportunities increasing that part of the business.
Oh.
I think that the backlog or the bookings in the quarter of $322 million Thats, a healthy level of bookings in Q4 22 in Q1 of 'twenty three bookings of over $500 million were exceptional quarters, and I think investors ought to look at those quarters.
As exceptional and as sort of a rebound coming out of the out of the pandemic induced very low levels of <unk>.
Bookings.
Okay.
The reduction in backlog of $100 million, we rolled off about $400 million revenue in the quarter, we booked $3 22, and that net reduces backlog by about $100 million.
At $1 4 billion of backlog is still an extremely healthy backlog and it's still the record high was one five last quarter $1. Four is the second record. So we're not concerned per se about a significantly reducing backlog in the business and $1 4 billion for the business.
Can tell you the margins in the backlog are getting better the variety of equipment, we're booking into the backlog is significantly different and improved in my opinion compared to where we were a standalone enter flex a year ago.
And that will lead into your next question like we said $120 million of bookings in the quarter related to electrifying natural gas infrastructure, that's a pretty significant.
Theme for enter flex in there in our sustainability journey in our energy transition business electrification has always been something that we've identified.
Is in demand from our customers and it's right in the middle of our wheelhouse from our capabilities point of view to deliver that we did $20 million of carbon capture carbon related orders in the quarter and further what I'm really quite excited about so far this year, we booked three cryogenic gas plants.
Through our U S manufacturing hubs in a lot of that business came from the reputation. The exterran cryo business had had built over the last 30 years. So we're really excited about that those those projects are typically higher margin there with customers that we've worked with before it's more of a long term infrastructure.
Play, we don't feel thats quite as <unk> as the compression business. So the backlog Im extremely excited about our engineered systems backlog and believe it will be quite positive going forward.
Thanks for the thoughtful actions.
One moment for our next question.
Okay.
Our next question will come from the line of Keith Mackey from RBC capital markets. Your line is open.
Hey, Thanks, Good morning, maybe just a follow on to the bookings lineup line of questioning.
If you look at the macro environment now you kind of fold in the external business and you see the <unk>.
Group bookings that you're seeing on the energy transition items.
Mark do you have a sense for what you think normalized bookings and revenue should be in the engineered systems is.
This out going out the next 18 to 24 months.
We don't provide specific guidance as to bookings, but I can tell you I'm quite optimistic.
That that the $322 million of bookings, we got this quarter I am quite optimistic that our global market can support such a bookings level going forward now.
Now as the anchor all of our investors know bookings is the most cyclical part of our business, but what significantly different today than in the last 10 years of enter flex as a public company is that our global footprints different our suite of products is different we are.
Addressing the energy transition demand.
It's quite significant for us and I think that's a differentiating point for <unk>. So it's we're not going to tell you that it's going to be X dollars per quarter for the next two years, but we know that having a healthy level of bookings that is capital essentially capital free growth and cash flow generation Thats very.
Important to us.
Got it thanks, thanks for that and just to follow up on.
Return on capital employed.
About 1% this quarter can you maybe walk through the top two or three priorities improving.
The <unk> number and kind of where you think that number should ultimately go as you fold in the Exterran business and get to operating on a more normalized more normalized basis.
Yeah.
I think Keith we've got a lot of noise in the numbers with transaction costs.
And so we see run rate going forward, obviously, our expectations are improving upon that.
I call it margin hit that we had in the quarter combined with.
With the taxes that were experiencing it was definitely a drag.
Alright, that's it for me thanks very much.
The other thing to keep in mind is the trailing 12 months doesn't have the full.
Exterran results and it's all made from the close date in October .
One moment for our next question.
And our next question comes from the line of Tim Lugo shallow from ATB capital markets. Your line is open.
Hey, good morning, everyone.
First question just around some of the accretion estimates that changed in the quarter.
I understand you won't be disclosing these metrics going forward, but.
Those revolved around 2023.
I'm curious if you expect this acquisition to be accretive on 2024 within your internal models.
Accretive on 2024, we didn't post 2024 information Tim So we wouldn't have a basis to compare that against.
Okay. I guess asked another way is it just things that are sort of transitory in 2023 that are impacting your view on the EPS accretion.
Will reverse in future years.
Those numbers were published ashes.
This is the major thing right.
Correct.
We are we are.
Providing information in terms of our combined results now.
The premise that those that that information was based on involved a lot of assumptions around the transaction on timing and as we have integrated operations those assumptions.
Those assumptions are built into the results and so adjusting for them it becomes very difficult.
Yes, Tim this is mark I mean, if I can if I can answer it a different way Andrew.
And reflects still strongly believes in the strategic rationale for the transaction.
We believe it's the very best thing to do we think the combined company will.
We will be significantly stronger more resilient more profitable than either of the individual companies on a standalone basis had we not done the transaction. There is no doubt in my mind from that point of view. So we do think that the deal.
It was a good deal we're working through it there are definitely more restructuring costs. This year that are using some capital, but we're doing that restructuring activity. This year, because it's going to set up this combined business to have the best opportunity to grow margins grow revenue in future.
Okay, Yeah, that's really helpful.
I think that there is some investors are expecting a synergy update with the quarter related to the Singapore facility closures.
Mhm, you haven't chosen to update the synergies, but can you talk a little bit maybe about what you expect for cost savings and how that will come through.
Yes, sure it will do and to give you an idea of how we're thinking about synergies.
US synergies is very specific transaction related cost savings.
The $50 million of synergies, we've executed so far almost 100% to do with personnel sort of reducing redundant executing on redundancies, reducing head count minimizing overhead from that point of view.
The remaining $10 million really relates to software supply chain those kinds of things that you can drive very direct line between the transaction and those savings when we think about reducing our manufacturing footprint from five facilities globally to three we're thinking about that as a restructuring and business optimization.
<unk> not synergy per se and so we're sort of going to put a pin on the synergies of $60 million, we're going to execute on those within 12 to 18 months of of October 22, when we when we announced when we closed the deal, but we are engaging and optimization efforts that we're going to kind of separate those two.
And we think thats the appropriate way of looking at it closing the shops, specifically, we think will save between $10 million to $20 million on an annual basis.
That's in my mind, a pretty conservative estimate and.
When you when you close shops, you save money.
The flip side of that is when you really do your best to load up the balance of the shops, it's quite reasonable and as proven by historical numbers that your per unit costs in year Cogs as a percent of revenue should go down when you focus a lot of work into a smaller number of well managed shops. So it's hard to say exact.
Here's the upside to enter flex by closing the shops, but were pretty clear that between Cogs and overhead there's at least $10 million to $20 million worth of savings by closing those two facilities.
And what's the cost to close those.
Sorry, say that again, Tim I'm.
Sorry, what would be the cost to close the facilities.
It's going to be roughly $10 million to $20 million, mostly realized this year and we'll be out of both of those facilities. This year.
There is equipment being executed in both in the jobs will be largely finished this year maybe into Q1 of 2024.
Okay great.
And then I guess another piece.
Isn't included synergies is probably more of a revenue synergy.
A couple of nice wins on the cryo side this quarter that I think Jennifer surely would have been hard pressed to achieve on our staff.
And alone basis can you talk a little bit about.
The market and cryo is that just the tip of the iceberg is then or is this something that's going to be lumpier, there's about 25% of your bookings in the quarter. So I'm just curious how that looks on a go forward basis.
We're quite optimistic about our ability to book cryo plants in future quarters.
And it's probably you can look at the macro from North America point of view and the rest of the World point of view when you think about cryo plants.
In the United States, it should be a pretty steady level of bookings for cryo plants as as gas has added as sort of gas production has increased and we've seen pretty significant gas production increased in the Permian basin and that's where these projects are going they continue to add cryogenic gas plants to extract all the ethane for petrochemical.
We use so pretty steady the global business will be a little bit lumpier than the projects will probably be bigger than the north American jobs.
One thing I'd like to point out is that in the bookings the $80 million of bookings between two projects. That's just the core cryogenic equipment.
Our customers that we also sell a lot of other equipment to compression other gas processing equipment and typically the cryo plant is sort of the heart of the project. It is the first thing Thats purchased and then a lot of the other enter flex products and services are our purchase after that so one of the if you will revenue synergy parts of having the cryogenic business within the inter flex family is.
We know about projects earlier will have differentiated relationships with those customers that could make a difference as we pursue the sale of the sort of ancillary equipment and the compression if you will.
A core part of the strategic rationale for the deal, but it's not something we've talked about a lot early because we really we really wanted to get the business understand it better and before we started talking to sort of positivity about revenue synergies in that point of view, but it's definitely something that we're focused on and.
We see it's it could be a pretty big difference for enter flex in the engineered systems business going forward compared to.
And reflects the past years.
Okay great.
And.
Sorry to hog the mic here.
Just one more on Capex here.
It talks a little bit about investing in some of.
Experience facility that needed upgrading.
Can you talk a little bit about that was the capital hit there does that come with any incremental economics.
Well I'll tell you just in general about the Capex I would like to point out that as far as like pure growth Capex sanctioned this year, it's only $12 million and so when <unk> entered the year and we're and we very much told investors that our priority is delevering the balance sheet. That's the priority, we've only sanction $12 million of new <unk>.
Both capex and Thats sort of modest investments in our Latin American and U S rental fleets to make sure that we stayed as close as possible to our best customers.
Secondarily the improvements to shops, that's largely a function of a really increased workload. So you don't go from a backlog of $500 million to $1 five without having to put a little bit of TLC into our facilities.
I wouldn't say, it's the increased economics or the increased level of bookings in our ability to take on extra work at higher margins.
Okay, Great. That's a good clarification I was confused I thought it was talking about.
Processing facilities that we're in and the project portfolio.
Okay I'll turn it back thank you very much.
Thank you and I'm not showing any further questions in the queue. After the call back to Mark <unk> for any closing remarks.
Okay.
So there are no more questions and how would you set operator.
Yes, no more no further questions I'll turn it back to you Mike Okay great.
Well with no further questions I'd like to thank everyone for joining today I would like to welcome Rod grade to the team.
His impact is.
A very seasoned financial professional is impact on the company has been felt already and I look forward to even further impact.
With him as part of the team. We appreciate your interest in our flex and look forward to discussing our third quarter 2023 results with you in a few months' time.
This concludes today's conference call. Thank you for participating you may all.
Now disconnect everyone have a great day.
Okay.
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