Archrock Inc (AROC) 2005 Q3 法說會逐字稿

Thank you for standing by. This is the Universal Compression’s Earnings Conference Call. [Operator Instructions] Today’s conference is being recorded. If anyone has any objections you may disconnect at this time.

Now I will turn the meeting over to Mr. David Oatman, Vice President of Investor Relations of Universal Compression. Sir, you may begin.

Thank you. Good morning everyone and welcome to the Universal Compression fiscal 2006 second quarter earnings conference call. We’ve prepared a summary page of financial and statistical data about the quarter in our earnings release which is posted to UniversalCompression.com website under the Investor Relations tab. As we have in the past, during this call we will discuss some non-GAAP measures in reviewing our performance such as EBITDA as adjusted. You will find a reconciliation of these measures to GAAP measures in the summary page of the earnings release.

As a reminder, in addition to providing statements of historical facts, today’s conference call will include certain comments that are not statements of historical fact, but instead constitute forward-looking statements. Investors are cautioned that there are risks, uncertainties and other factors that may cause the Company’s actual performance to be significantly different from the expectations stated or implied by any comments that we make today. These forward-looking statements are affected by, among other things, the risk factors in forward-looking statements described in the Company’s annual report on Form 10-K for the year ended March 31, 2005; and those set forth from time-to-time in the Company’s filings with the SEC which are available through the Company’s website and through the SEC’s Edgar System website at www.SEC.gov. The Company expressly disclaims any intention or obligation to revise or update any forward-looking statements whether as a result of new information, future events or otherwise.

I will now turn the call over to Mr. Steve Snider, Universal’s President and Chief Executive Officer.

Thank you David and good morning, everyone. Joining me today is our Chief Financial Officer, Michael Anderson. We’re excited about our market activity and long-term growth trends. The energy industry is actively making long-term investments in field production and delivery infrastructure to meet the growing demand for natural gas and the demand for compressors is very strong.

With this strong market demand and a tightening overall supply of compression equipment, our rate environment continues to improve. We are winning orders for future new business at record levels and our customers are committing to new units for delivery dates much further into the future due to the tight supply of key components. We believe these developments enhance both the magnitude and visibility of our growth story.

We are pleased with the second-quarter results despite the challenges caused by the recent hurricanes. We again recorded a record level of EBITDA as adjusted for the three months ended September 30th 2005, and our diluted earnings per share increased 42% over the prior-year period.

Each of our business segments had their share of successes during the quarter. Our contract compression business continues to be extremely active as we are – as our working horsepower continues to grow. Our compression backlog has never been stronger. Looking ahead at an increased level of orders for new large-horsepower units driven by strong natural gas market conditions has enhanced our outlook in the second half of calendar 2006.

I’m particularly pleased with our improved performance in the Fabrication segment where we recorded better gross margins as we begin to see the results of the implementation of process improvements and more aggressive pricing. As expected, revenues in the Fabrication segment were down for the quarter as a result of revamping our marketing and production methodology last winter. With our improved performance and strong outlook, we are increasing our earnings-per-share guidance for fiscal year 2006.

Of course you can’t cover the highlights of this quarter without discussing the impact of the recent hurricanes in the Gulf Coast area. We have approximately 500 employees who live in the Gulf Coast where hurricanes Katrina and Rita came ashore. Although we have suffered interruptions to our business and some relatively minor property losses, we are fortunate that no Universal employees were seriously injured as a result of these storms.

I’ll now turn the call over to Michael Anderson for his summary of the second quarter results; Michael?

Alright, thanks Steve and good morning everyone. I’m sure that by now you’ve all received and reviewed our press release issued earlier this morning. In my summary of second quarter fiscal 2006 financial results, my primary comparison period will be the fiscal 2006 first quarter as well as the guidance we provided in July for the second quarter. I will also talk about year-over-year performance when comparing this second quarter to the second quarter of last fiscal year, highlighting the growth that we’ve seen in the business.

Total revenues were $181 million in the second fiscal quarter. That was within our guidance range of $180 to $190 million. Revenues increased nicely both sequentially and on a year-over-year basis in each of our domestic and international contract compression business segments. Aftermarket services revenues increased on a year-over-year basis but actually declined somewhat sequentially due to the impact of the hurricanes. I’ll have a little bit more on this detail in just a few minutes.

Fabrication revenues declined as expected as the revamping of our fabrication practices resulted in the relatively brief slowdown in shipments during the second quarter. Our Fabrication segment is currently very active and our increased backlog indicates that we will see a higher level of shipments in coming quarters.

In looking at each of our business segments, our Domestic contract compression revenue was $82 million in the second quarter. That was in line with guidance. It’s also an increase of about 3% sequentially compared to the first quarter and it’s up 12% compared to the $73 million that we posted in the year-ago quarter. Gross margin in the Domestic segment of 63.6% in the September quarter was just a little bit lower than guidance and it was also lower than the June quarter level of 65% as we faced a continuation of increasing field operating cost. And although Domestic contract compression gross margins were at the lower end of my expectations, our field service personnel are operating well in the field during some very busy times.

Now we do continue to see some escalating costs however, specifically in categories such as lube, oil, gasoline and labor where we will need to pass these increases on to our customers in the form of higher rates. With increased focused management on our rate and our cost structures we do expect that Domestic contract compression margins will be in the 64 to 65% range going forward.

Our International contract compression segment performed in line with guidance and also continues to be quite active. Revenue increased a relatively modest 2.6% from 30.3 million in the June quarter to just over 31 million in the September quarter. That was driven primarily by increases in Latin America and Asia Pacific. Overall International contract compression revenues were up 36% verses the year-earlier quarter due to this increased activity in Latin America as well as some contributions from units that we acquired last year in Canada.

International contract compression gross margin was 74% in the September quarter. That was unchanged from the June 2005 quarter.

Now we have seen a significant increase in orders both for new Domestic and International contract compression units with deliveries well into calendar year 2006. Now this ongoing trend, which increases our earnings visibility, will be covered further in Steve’s comments a bit later on.

In our Fabrication operations revenue was 28.2 million in the September quarter. That was somewhat below our guidance of the low $30-million range as a handful of units totaling about $3.5 million that we initially expected to be shipped in the second quarter, were actually delayed due to transportation issues caused by hurricane Rita. I think it’s important to remember that we actually used completed-contract accounting in our Fabrication business and a delay of a few days in shipping a unit at the end of September is going to cause all of that unit’s revenues to shift into the following quarter, and that’s what we saw for this handful of units.

Our Fabrication gross margin increased from 5% in the June quarter to 12% in the September quarter and that was somewhat higher than our guidance and it also happens to be the highest Fabrication margin we’ve produced in over four years. So we are particularly pleased with the progress we’ve made in improving the profitability of our fabrication operations and with a healthy backlog of new business, we expect higher revenues and continued good margins in the second half of the fiscal year.

Shifting over to the Aftermarket services business; second quarter revenue was at the lower end of guidance, again due to the impact of the hurricanes. Revenues were at 39.9 million in the September quarter. That was down somewhat from $42 million in the June quarter. Now we estimate that we probably lost about $2.5 million in revenues related to hurricane downtime, but we did see some stronger AMS performance in geographic regions outside the Gulf Coast which made up for a bit of this.

All in all, AMS revenues were up 4.8% verses the year-ago period. Margins did decline a bit from 21% in June to 20% in the September quarter. That was in large part because of labor inefficiencies again caused by the hurricanes. And if you total all of this up if you look across all of our business lines, we estimate that the negative EPS impact from the hurricanes totals about $0.02 for us in the September quarter.

SG&A expense increased about a little bit more than $.5 million from 20.4 million in the June quarter to $21 million in the September quarter. Those numbers were a little bit lower than we had expected due in part to some delayed costs that we saw associated with our new enterprise resource planning system as well as some business development activities. Now as we do ramp up these activities in these two areas going forward, these costs will largely shift into the third and fourth quarter and SG&A levels will be higher in the last half of fiscal 2006.

EBITDA as adjusted was a record 66.2 million in the September quarter. That compares to 65.2 in the June quarter and $59.5 million in the year-ago period. So if you total up the growth, EBITDA increased 11.2% on a year-over-year basis, and a point and a half on a sequential basis.

Interest expense increased from 12.5 million in the June quarter to 13 million in the September quarter due largely to higher market interest rates on our floating-rate debt. Importantly however, if you look at interest expense it actually declined by $3 million compared to the prior-year period due in large part to our refinancing activities.

We generated diluted earnings per share of $0.54 in the second quarter. That was at the higher end of our guidance range of $0.51 to $0.55 per share. It’s down just a little bit from the $0.56 per share we earned in the June quarter due mainly to reduced fabrication shipments, but it’s up 42% over the $0.38 per share that we earned in the year-earlier period.

Regarding income tax expense, we had a 35.2% effective rate in the September quarter. We continue to expect our tax rate to be somewhere between 35 and 35.5% going forward as we continue to benefit from an increasing amount of international business which is typically taxed at slightly lower levels than domestic business.

Capital expenditures; they were $39 million in the September quarter. That compares to $42 million in the June quarter and $39 million in the year-ago period. Capital expenditures during the September quarter broke out as follows-- $19 million in growth CapEx, $11 million of maintenance overhauls, and $9 million in other expenditures including about $3 million for our ERP implementation. If you look at net capital expenditures we sold about $4 million of fleet units during the quarter so net CapEx was about $35 million.

Now as expected, growth capital spending in the second quarter shifted a bit more towards the domestic markets. We had about 75% domestic and 25% international in terms of growth capital spending. That growth capital also included about $1.2 million for the repackaging of existing units.

Looking at our debt profile; debt-to-capitalization was at 47.4% on September 30th. That’s down compared to 49% a quarter ago due in large part to $30 million of debt reductions that we had during the quarter as well as another quarter of proper performance. Total debt at September 30th was $819 million. That compared to 849 million a quarter ago at June 30th. Debt now equates to about 3.2 times trailing 12-month EBITDA. That’s down from 3.5 times just last quarter.

Our working capital investment which is basically working capital excluding cash and debt was $102.5 million at September 30th; and that’s essentially flat compared to the numbers at the end of June. Our cash position was at $32 million at September 30th.

Credit availability continues to remain strong. Our revolver which extends into 2010 had $49 million drawn against it on September 30th. That’s down from a balance of $76 million at June 30th.

We recently amended our senior secured credit agreement that provides, among other things, a reduction in the interest rate on the term-loan portion of that facility by a quarter of a point, and it also includes a more lenient total leverage ratio required for any redemption of our common stock that we would choose to do.

We’re also pleased that just last week we were able to refinance our ABS secured facility at attractive rates by issuing privately-placed long-term notes with investors. And our refinancing priced very well in the market and provides Universal Compression with a cash cost of borrowing at LIBOR plus 74 basis points, plus any costs that would be associated with swapping this price into fixed rate.

You take a step back and you look at our financing accomplishments over the past two and a half years, we have refinanced virtually 100% of our debt; we now have an average cost of debt of just above 6%; we have over half of our interest costs fixed; none of our major debt facilities mature before 2010; and our overall debt has a weighted-average life of more than six years. We believe our capital structure provides us with attractive financing rates and allows us to grow this business for years to come.

Now lastly, we expect to file our 10-Q actually later today. Steve?

Thanks, Michael. As you can see, it’s a great time to be in the compressor business. This market is as good as anything I’ve seen in my 30+ years in the compressor business. Customers are pre-committing to long lead-time equipment, rates are improving and prospects for new business are numerous. We are working with our customers to meet their current natural gas production and delivery targets and we are also quite busy scheduling new equipment deliveries to meet future customer requirements. In fact, our Houston Fabrication facility is fully booked through May 2006 and is quickly filling in for the summer months of next year.

Labor continues to be a significant issue as we continue to grow our business. Attracting, training and retaining key employees including field technicians, engineers, welders and assemblers in our fabrication operation and administrative personnel in support functions is an ongoing challenge, particularly in today’s active energy markets. We continue to support our employees through training and safety initiatives and believe our large team of experienced employees provides us with a competitive advantage.

Now let me summarize some operational highlights and our outlook for fiscal year 2006. First, in Domestic contract compression our working horsepower increased by over 21,000 horsepower from June 30th to September 30th, with much of the increase occurring late in the quarter. Our domestic spot utilization was 90.8% at September 30th. With approximately 13,000 horsepower going to work in October, utilization has now increased to 91.5%.

Domestic pricing continued to firm during the second fiscal quarter and was up approximately 6 to 8% compared to prior-year levels, helped by a June 1st rate increase on all non-alliance and out-of-term equipment. Gross profit dollars earned from the Domestic contract compression business was up over 12% verses the year-earlier quarter. With high utilization and increasing costs, we will continue to selectively raise rates on certain equipment classes during the current quarter and we plan to implement another general rate increase averaging approximately 8% in January.

Currently we expect to have an additional 30,000 horsepower in new and redeployed idle units commence operations in the United States in the three months ending December 31st.

Fortunately it appears that hurricanes Katrina and Rita had fairly minimal impact on our contract compression operations. Out of a total fleet of over 2.5 million horsepower, to date we have discovered that 8 units totaling 5,200 horsepower have been lost due to hurricanes. It is however reasonable to expect that we will find that additional units were lost or damaged once our ongoing inspection process is completed. Contractually we believe most of this loss is covered by our customers and/or insurance carried by our customers.

Moving to International contract compression, we remain very active in the development of new long-term projects. In the last few months we have been awarded several new international long-term contracts for units to be located in Brazil, Mexico and Indonesia. At the beginning of October we had approximately 60,000 horsepower of new projects scheduled to start up over the next four quarters. And this backlog number is net of jobs that are due to end over the same period, basically next year.

Our International contract compression available fleet was unchanged during the September quarter at 565,000 horsepower. International contract compression gross profits increased by 32% over the year-earlier period. International utilization was 92.0% at September 30th and with approximately 20,000 horsepower of that 60,000 horsepower backlog that I mentioned going to work in October, utilization has now increased to 92.9%.

Looking at worldwide operating statistics, our overall spot utilization including both International and Domestic was 91.0 at September 30th and currently has increased to 91.8.

We are bullish about the growth trends of our Domestic and International contract compression fleets for both near-term results and our long-term outlook. It’s nice to see the growth that our contract compression business is experiencing in the strong market with total horsepower increasing by 10% year-over-year and total gross profit increasing by an even better 17%.

The outlook for calendar 2006 is very positive as we expect to add 200,000 horsepower or more to our fleet and continue our strong growth rates in the US and a double-digit rate of growth in the international markets. It is important to note that we believe contract compression growth will generate recurring revenue streams for years to come. Our business has not experienced the immediate up tick in response to market cycles that many other energy-service companies display; but unlike those companies the new business we generate today is likely to result in a long-term annuity-like stream of revenue and profit.

Demand for our contract compression services should steadily increase as more natural gas is produced from low-pressure reservoirs, leaving our customers in need of service to allow them to more efficiently deliver their gas to market.

Our compressor fabrication backlog has increased significantly from $73 million at June 30th to $114 million on September 30th. Our largest pick up in new orders has been in the US and Canada. Our backlog has continued to grow and currently stands at $151 million and is divided into a 75/25 domestic-to-international mix. Our current fabrication backlog is more than double the amount we had at the time of our last quarterly conference call. With our improved backlog, Fabrication revenue will increase in the second half of fiscal ’06 and is expected to continue strong throughout calendar 2006.

In addition to the pick up of new orders, we have improved the profitability of our fabrication operation through a combination of process improvements, project selection and increased pricing discipline. I am proud of the recent improved performance by our Fabrication team. With our increased efficiencies, and the nature of the units that are currently in backlog, I am optimistic that we will see Fabrication margins above 10% for the next several quarters.

Our Aftermarket service segment had a good quarter in a challenging operating environment. We lost revenue in the September quarter as a result of the hurricanes but are fortunate that no employees were seriously injured, although many employees and their families were forced to evacuate and suffered severe property damage to their homes. Universal had little property damage in the area, although a major facility near New Orleans was idle for several weeks due to lack of utilities and restricted access to the area. We are hopeful that Aftermarket service activities in the southern Louisiana area will begin to pick up in the December quarter as general access improves and our customers begin to return their operations to more normal activities.

Michael will now discuss the financial guidance for the third fiscal quarter and the fiscal year ending March 31st, 2006.

Thanks a lot, Steve. I’ll first walk through the guidance for the third fiscal quarter and then update the guidance for the full fiscal year. For the third quarter, revenue is expected to be between $205 million to $215 million with increased activity expected in all four business segments.

Specifically Domestic contract compression revenue is expected to increase to approximately $84 million in the quarter. That’s up from 82 million in the September quarter and $75 million in the prior-year December quarter period. Now this would give the Domestic contract compression business a 12% year-over-year growth rate.

International contract compression revenue is expected to grow to approximately 33 million in the third quarter. That compares to 31 million in the September 2005 quarter and $28 million a year ago. That would give the International contract compression business a 19% year-over-year growth rate. Again, gross margins are expected to be in the 64 to 65 percent range for Domestic; and in the mid-70% range for the International contract compression business.

Fabrication revenues should be much higher in the quarter; in the $50 to $55 million level with a gross margin in the 10 to 11% range. Our Aftermarket service revenue is expected to be in the $40 to $43 million range with a gross margin again is the low 20% area.

We expect that we will see higher SG&A levels from the ERP implementation and business development activities in the third and fourth quarters of fiscal year 2006.

Finally that brings us to diluted earnings per share which is expected to be $0.56 to $0.60 in the third quarter of fiscal 2006. This would represent an increase of 27 to 36% compared to the year-ago third quarter fiscal EPS.

We will now move forward to guidance for the full fiscal year ending March 31, 2006. We now expect net capital expenditures which are after sales of PP&E, meaning the fleet units, of approximately $145 to $155 million in fiscal 2006. Now that’s an increase from our previous guidance which was $125 to $140 million. Most of this increase is associated with new projects that are scheduled to start up next fiscal year. We expect that growth capital expenditures for the year will end up being split fairly evenly between domestic and international markets.

In terms of free cash flow, we generated a bit more than $20 million during the first six months of the fiscal year and we expect to generate a similar amount in the last half of the year.

We continue to expect total revenues to be between $800 and $820 million. Average contract compression utilization is expected to be in the 91 to 92% for the full fiscal year 2006.

And finally we are increasing our guidance for diluted earnings per share for the full fiscal year 2006 to $2.25 to $2.35 per share. That’s up from our previous guidance which was $2.15 to $2.30. This new guidance would represent a 42% to a 48% increase over adjusted diluted earnings per share that we had of $1.59 in fiscal 2005.

I’d like to now turn the call back over to Steve for some closing comments.

Thanks again, Michael. Let me take this opportunity to thank our employees for their support during the difficulties caused by hurricanes Katrina and Rita. Our hurricane task force did an outstanding job of meeting an unprecedented demand by our affected employees and their families throughout Louisiana, Mississippi and parts of Texas.

In addition, our employees, our suppliers and our customers generously gave of their time and resources to support general hurricane-relief efforts. We look forward to providing support to our customers during their recovery efforts in the Gulf Coast area in the coming months.

We are confident about our ability to benefit from the current strong market conditions. In contract compression, we have improving rates and significant orders for new equipment with deliveries well into next calendar year. In Aftermarket services we are supporting customer rebuilding efforts following the recent hurricanes and growing our presence over a broader geographic base. In Fabrication we have improved margins and captured record backlog. Together with our strong financial position and great work force, we are well-positioned for continued strong growth throughout calendar 2006.

Operator that concludes our prepared remarks; we can open the call to questions.

Thank you. [Operator Instructions]

Our first question comes from Brad Handler of Wachovia Securities.

Thanks, good morning guys.

Good morning.

Good morning.

Maybe a couple questions in the Fabrication area; obviously a big backlog pick up, maybe can you speak to the nature of the orders, I suppose how much are they—the 1200 horsepower recip kind of order or how much variance is there around that?

Sure. The backlog, as we’ve said, is in a large part Domestic and it is almost completely large horsepower equipment, 1200 and up. And it’s our customers securing long delivery assets and delivery positions on equipment and willing to commit early on as to what they’re going to need down the road. But it is almost all standard-product reciprocating equipment and very little, if any, what I call highly-engineered packages.

And how, just as I suppose from an education standpoint, how are you protecting on the cost side related to deliveries further out with steel, etc.?

Well on the cost side we generally have in our price estimate the cost that we believe will be our cost at the time the equipment is shipped to us. And we’ve been pretty accurate in those costing efforts.

I think we’re fairly well protected there. We know the major commodities and that’s the biggest swing in cost.

Okay. So there is a fixed price and that doesn’t necessarily adjust if individual components come in higher or lower?

Yes, there is a fixed price. The only variable in there would be labor if labor changes extraordinarily over the next x number of months. But we’ve pretty well estimated that as well.

Okay. And with such a large backlog jump, to what extent did you guys sort of see that coming two or three months ago? How much of this just seems to be kind of an intensity of interest that’s happening all of a sudden?

Well I think we saw it really jump around the hurricane period. Gas prices obviously jumped and our customers realized that deliveries were getting longer. So they decided to commit sooner. Many of them brought us into their planning process to try to determine what they’d need next year to deliver gas and get it secured now while they could.

Okay, interesting. And then I guess maybe one last one on it and I’ll turn it back. From a pricing standpoint, obviously you’re talking about that much greater conviction about modestly higher margins here; to the extent that you can, how much higher are you pricing or do you think you’re pricing your fabrication bids today verses three months ago or six months ago?

As equipment gets in shorter supply we continue to raise the margins at which we’re bidding projects. Remember we just had our first quarter at 12% in a four-year period I think Michael said. So we’re testing the water to make sure we have all of our costs covered and everything in place. But we are beginning to bid at higher and higher margins.

Yes, I guess if I think back to the past quarter it sounded like x the problem projects you were saying you also delivered a 12% margin. So maybe the past six months we can think of as a certain level of bidding and what’s in the backlog now is somewhat higher from a margin perspective, is that fair?

Not at this point but probably beginning to move higher from here.

Not yet, okay. Okay, that’s helpful, thanks. I’ll turn it back.

Okay.

[Operator Instructions]

Phil Juskowicz of Buckingham Research you may ask your question.

Good morning.

Good morning, Phil.

The 8% increase in pricing effective January; can you clarify what is that in relation to cost-- passing through cost increases to your customers? I know this relates to margins in effect, but if you could just address that I’d appreciate it.

Well we are increasing again rates on units on which have the power to increase rates; so the non-alliance, out-of-primary term, a good portion of our horsepower. And the rate increase is in reaction to two things. Certainly increasing costs is part of it, Phil. The other part is market demand. Demand is very strong for compressors now and we are getting the rates on existing equipment that are out in the field up to what the current market rates would be for a new customer who is calling us on the telephone. So they are a little bit related to cost and a little bit related to market demand.

Okay. Also can you talk about any market-share gain or I think you mentioned you’re doing well in Canada. Let’s say the coal bed methane efforts that are very active over there, how are you doing on your acquisition from Hanover?

Well in Canada we did book some additional fabrication business. I would hesitate to say that we’re doing extremely well in Canada, but the backlog for fabricated product has improved. On the Hanover acquisition which leads to our contract compression business in Canada, that has not changed dramatically from the time we made the Hanover acquisition. Utilization has stayed about the same. We’ve had a few customers exercise purchase options with their excess cash so a few of those units have come out of the fleet. But we have not expanded that contract compression business very well in Canada.

Thanks a lot.

Sure.

At this time we have no further questions. I’d like to turn the call back to Mr. Steve Snider for additional comments.

Well thanks everybody for listening in. As you can tell it’s a good quarter and we’re excited about where the Company is headed. So I guess we’ll report back to you at the end of the next quarter. Thank you.