Archrock Inc (AROC) 2015 Q4 法說會逐字稿

Good morning. Welcome to the Archrock Inc. and Archrock Partners LP fourth-quarter 2015 earnings conference call. Earlier today, Archrock and Archrock Partners released their financial results for fourth quarter 2015. If you have not received a copy, you can find the information on the Company's website at www.Archrock.com.

During today's call Archrock Inc. may be referred to as Archrock or AROC, and Archrock Partners as either Archrock Partners or APLP. Because APLP's financial results and position are consolidated into Archrock, the discussion of Archrock will include Archrock Partners unless otherwise noted.

I want to remind listeners that the news release issued this morning by Archrock and Archrock Partners, the Company's prepared remarks on this conference call, and the related question and answer session include forward-looking statements. These forward-looking statements include projections and expectations of the Company's performance, and represent the Company's current beliefs. Various factors could cause results to differ materially from those projected in the forward-looking statements.

Information concerning the risk factors, challenges, and uncertainties that could cause actual results to differ materially from those in the forward-looking statements can be found in the Company's press release, as well as in the Archrock, formally Exterran Holdings' annual report on Form 10-K for the year ended December 31, 2014, and Archrock Partners, formally Exterran Partners' annual report on Form 10-K for the year ended December 31, 2014, and those set forth from time to time in Archrock and Archrock Partners' filings with the Securities and Exchange Commission, which are currently available at www.Archrock.com.

Except as required by law, the Companies expressly disclaim any intention or obligation to revise or update any forward-looking statements. The results of Archrock's former global fabrication and international services businesses, which were spun-off in the fourth quarter of 2015, have been moved to discontinued operations in Archrock's SEC filings and press releases.

And your host for this morning's call is Brad Childers, President and CEO of Archrock. And I would now like to turn the call over to Mr. Childers. You may begin.

Thank you, operator. Good morning, everyone, and welcome to the first Archrock earnings call. With me today is David Miller, CFO of both Archrock and Archrock Partners. This morning, I will review our 2015 highlights, provide more color on our full year and fourth quarter results, and discuss our view of the market and outlook for businesses. Following David's discussion of our financial results and guidance, we will open up the call for questions.

First, a review of our full-year highlights. Archrock delivered solid operating performance and executed on key initiatives in 2015, in spite of difficult market conditions throughout the year. From an operational standpoint, Archrock grew EBITDA as adjusted by 13% over 2014. Contract operations maintained solid gross margins of 59% throughout the year.

Our AMS business also held up very well, on both revenue and gross margin. While we would prefer lower leverage at APLP overall, we have ample liquidity and relatively strong leverage position. For the year ended December 31, our debt to EBITDA leverage at Archrock was 1.3 times, and our leverage at Archrock Partners was 4.5 times. As of December 31, we had $174 million of liquidity available at Archrock, and $320 million available at Archrock Partners.

And we continue to generate substantial cash flow from our operations. At Archrock Partners, distribution coverage remained solid throughout the year, averaging 1.24 times in 2015, and 1.17 times in the fourth quarter. Based on our performance for the fourth quarter, Archrock paid a quarterly dividend of $0.1875 per share, and Archrock Partners maintained its quarterly distribution of $0.5725 per limited partner unit.

We structured our businesses to pay out to our investors a substantial portion of our distributable cash flow. Unitholders and shareholders have invested in us with the expectation that we will return capital to them in the form of distributions and dividends. We are mindful of this, and committed to maximizing distributions and dividends to our investors from the available cash flow.

Finally, from a strategic perspective we executed a dropdown in the first quarter of 2015, and more importantly, we completed our separation transaction with Exterran Corporation in November. All in, I am pleased with the performance the Archrock team delivered in 2015, especially given the markets with which we had to work.

Turning to the operations. In contract compression, our operating horsepower declined 2% in the fourth quarter, and revenues declined 1% sequentially. For all of 2015, operating horsepower declined 6%, while revenue increased 7% over 2014, due primarily to the full year of benefits of the acquisitions and organic growth we achieved in 2014. The fourth-quarter decline in our operating horsepower was higher than expected. As customers intensified their efforts on cost reduction in the quarter, we saw an increase in field optimization of compression equipment, and shut-ins of uneconomic wells.

The horsepower decline was spread evenly across our operating horsepower classes, and was also balanced across our three primary service applications, which are wellhead, gathering and gas lift. So we did not see a meaningful differentiation across either horsepower size or field applications. We did see the expected differentiation across play types, however, as about two-thirds of the decline came from conventional plays and one-third from shale plays.

Gross margin percentage in the fourth-quarter held strong at 59%, unchanged from third quarter of 2015, and up 200 basis points compared to the fourth quarter of 2014. This solid gross margin performance and year-over-year improvement is the result of our aggressive management of cost, to maximize free cash flow, and stay ahead of declining business levels, as well as lower lube oil and fuel costs. For the full year of 2015, gross margin percent was 59%, compared to 57% for the full year of 2014.

Regarding our fleet impairment, in the fourth quarter, we conducted an extensive review of our fleet and identified compression units that are either not likely to go back to work, or do not warrant additional investment to put back into the field. Upon this review, we determined to retire approximately 630 idle units, or approximately 280,000 horsepower. The units we retired had an average age of about 21 years. We believe this action is the right, strategic decision to continue to improve the competitiveness of our fleet, and to improve our operating costs.

In 2015, our aftermarket services business held up well, and generated solid gross margins. Revenues were down only 6% from 2014 levels, and gross margin percentage was up 100 basis points to 19% for the full year. Fourth-quarter gross margins were off a little compared to prior periods, due to lower utilization of our workforce.

Now I would like to turn to the market and outlook for businesses. Looking ahead, I first have to share that visibility into the future is more limited at this time. Current bookings and bidding activity levels are low, as customers have again reduced their capital budgets significantly, and continue to focus on managing their costs and cash flow. To the extent this environment persists, we would continue to expect lower bookings, further operating horsepower declines, and continued pricing pressure.

In the face of this challenging market, however, we'll continue to work to maximize and to differentiate the performance that our more stable compression businesses can deliver. As we do so, we will remain focused on providing exceptional coverage and service to our customers, maintaining a strong financial position, and maximizing our free cash flow.

Several factors make me optimistic about how well we can continue to manage this business through this part of the cycle. We worked diligently over the past five years to create an attractive distribution of assets, both geographically and by application type, with only about one-third of our fleet remaining deployed in conventional areas. And we have modernized and standardized our fleet to meet customer demands. We believe these fleet improvements and our production-related business model will continue to help mitigate the impacts of this downturn.

Our Management team has demonstrated success in reducing costs, and driving gross margin and distributable cash flow. And we are committed to leveraging our new simplified post-separation structure to drive more costs out of our operations and out of our overhead. In 2016, we will be focused on a campaign to further reduce costs, and accelerate structure and operational improvements in our business.

We sharply reduced our CapEx for fleet additions, and we will be working to reduce all CapEx, so that all capital needs can be funded from cash from operations, and so we can maximize distributable cash flow. In 2016, our new capital budget was reduced to $30 million to $50 million. That's a decline of 70% to 80%, compared to 2015.

And total 2016 capital expenditures are expected to be about $125 million, which is about half of our 2015 total CapEx. In addition to internally generated funds, we have a solid liquidity position, with no need to access the equity markets, and we have substantial debt capacity under existing revolving credit facilities, the balances of which we expect to remain essentially unchanged on a consolidated basis over the course of 2016.

And longer-term, we remain optimistic that growth in the demand for natural gas will spur growth in the production of natural gas in the US, and with it, increased demand for our compression services. Forecasts estimate that in order to meet increased demand for LNG exports, Mexico exports, increases in industrial and petrochemical demand, and a continued shift from coal to gas-fired electric plants, natural gas production will need to grow by about 15% to 20% between now and 2020. To achieve this, we believe production volumes will need to start to increase in 2017.

Turning briefly to the partnership, Archrock Partners generated solid results year-over-year, delivering 13% increases in both revenue and EBITDA as further adjusted. For the fourth quarter of 2015, we maintained our quarterly distribution at $0.5725 per limited partner unit, or $2.29 on an annualized basis. Archrock Partners' solid financial performance and strong distributable cash flow coverage, again reinforces the relative stability of our production-oriented fee-based business model. Now I would like to turn the call over to David, for a review of both Company's financial results, as well as quarterly trends and guidance for the first quarter of 2016.

Thanks, Brad. This quarter's financial results are fairly noisy, as a result of the separation transaction, and a couple of large non-cash impairments. First, let's look at a summary of the quarter and full-year results for Archrock and Archrock Partners, including some of the charges in the quarter, and finish with first quarter 2016 guidance for Archrock. Archrock delivered solid fourth-quarter results. Archrock generated EBITDA as adjusted of $86 million for the fourth quarter, compared to $91 million in the third quarter.

Revenues were $241 million for the fourth quarter, compared to $249 million in the third quarter. We also reported net income from continuing operations attributed to Archrock common shareholders excluding certain items of $0.08 per share in the fourth quarter, compared with a loss of $0.15 per share in the third quarter. For full-year 2015, Archrock generated EBITDA as adjusted of $373 million, up 13% from 2014 EBITDA of $330 million. The full year increase in EBITDA was driven primarily by the full-year contribution of our 2014 MidCon acquisitions, and organic growth during the course of 2014.

By operating segment, our results were generally in line with the guidance provided in the third quarter call. Contract operations revenue came in at $189 million in the fourth quarter, down slightly from $192 million in the third quarter, at the high end of our guidance range. Gross margins remained strong at 59%, due to aggressive cost management. The decrease in revenue was primarily due to the operating horsepower declines noted by Brad.

For the full year 2015, contract operations revenues of $781 million grew 7%, as compared to 2014. Gross margin in 2015 increased 200 basis points year-over-year due to strong cost management, lower lube, oil and fuel costs, and the full-year impact of the MidCon acquisition. In the fourth quarter, Archrock's growth capital was $28 million.

Growth CapEx for the full year 2015 was $155 million, compared to $292 million in 2014. Maintenance CapEx for the quarter was $19 million, slightly down from third quarter levels of $20 million. For the full year 2015, capital expenditures were $256 million, including full-year maintenance capital expenditures of $75 million.

In aftermarket services, revenues of $52 million for the fourth quarter were down 8%, compared to third quarter revenues of $57 million. Gross margins of 17% in the fourth quarter were down from third quarter levels, due largely to lower utilization of our workforce in the fourth quarter.

Revenues for the full year 2015 were $217 million, compared to $230 million in 2014. Full-year gross margins increased 100 basis points in 2015, as compared to 2014 margins. This improved profitability in the year kept AMS gross margin dollars close to flat year-over-year, despite the decrease in revenue. SG&A expenses were $35 million in the fourth quarter, up slightly from the third quarter level due primarily to higher bad debt expense.

Depreciation and amortization expense was $56 million for the fourth quarter. Interest expense was $25 million, compared to third quarter interest expense of $28 million. The decline relates largely to the separation, and only a partial period of interest expense related to Exterran Holdings senior notes and revolver in the fourth quarter, versus the full three months in the third quarter of 2015.

As Brad discussed, we performed a review of our fleet, and recorded an $87 million asset impairment to reduce the book value of each unit to its estimated fair value. The asset impairment did not impact our cash flows, liquidity position, or compliance with debt covenants.

As a result of the separation transaction, Archrock is required under the consolidated tax rules to allocate its foreign tax credits to Exterran Corporation. As a part of this process, Archrock converted a portion of these credits to net operating losses, and set up a valuation allowance on the remaining amounts. The net results were then allocated to Exterran Corporation for their future use. The combination of the write-off of the credits and setting up a valuation of allowance resulted in a non-cash charge to continuing operations of $86 million, as required by US GAAP

From a balance sheet perspective, at year end consolidated debt was approximately $1.6 billion, with $167 million at the parent level. Archrock's parent level leverage ratio, which is Archrock covenant debt to adjusted EBITDA as defined in our credit agreement, was 1.3 times at December 31, 2015. Available but undrawn capacity at Archrock was $174 million at December 31, 2015.

Cash distributions received by Archrock, based on its limited partner and general partner interest in Archrock Partners were $18.9 million for the fourth quarter, compared to $18.9 million for the third quarter of 2015. This compares to the $12.9 million to fund Archrock's quarterly dividend that was paid on February 16, 2016. Cash available for dividend coverage was 1.1 times for the fourth quarter. If additional interest expense related to the retired debt at Exterran Holdings during the period is excluded from this calculation, then the dividend coverage would have been 1.5 times.

Pursuant to the separation agreement, Exterran will contribute to us amounts it is due from PDVSA, in connection with the sale of its previously nationalized assets, when and if it receives these proceeds. In January 2016, Exterran Corporation received an installment payment of $5.2 million, and transferred cash equal that amount to us.

And now I will discuss the financial results for the partnership. Archrock Partners also had solid operating performance in the quarter. Archrock Partners' fourth quarter EBITDA as adjusted was $75 million, down 4% as compared to $78 million in the third quarter of 2015. For the full year of 2015, Archrock Partners reported EBITDA as further adjusted of $316 million, compared to $280 million in 2014.

Revenues increased 13% to $657 million in 2015, compared to $581 million in 2014. These increases were due to the full-year impact of the MidCon acquisition and organic growth during the course of 2014, as well as the April 2015 dropdown. Gross margin percentage increased from 59% in 2014, to 61% in 2015. Distributable cash flow was $46 million in the fourth quarter of 2015, up slightly from $45 million in the third quarter. Our distributable cash flow coverage was 1.17 times in the fourth quarter of 2015, compared to 1.14 times coverage in the third quarter.

We impaired $128 million of goodwill at Archrock Partners during the quarter. The impairment was driven by the accelerated declines in oil and natural gas prices leading to lower equity valuations and higher cost of capital for many energy companies, including Archrock Partners. We identified these conditions as a triggering event to perform a goodwill impairment test as of December 31, 2015. This test resulted in a full impairment of goodwill at the partnership, as required by US GAAP standards.

Revenue for the fourth quarter was $161 million, as compared to $163 million in the third quarter. The decline in revenue was again primarily attributable to the operating horsepower declines already noted. Revenue per average operating horsepower was $52.67 for the quarter, up slightly compared to $52.35 in the third quarter of 2015.

Cost of sales per average operating horsepower was $20.72 in the fourth quarter, also up slightly compared to $20.48 in the third quarter of 2015. With slightly higher revenue per horsepower and cost of sales per horsepower, gross margins held steady at 61% in the fourth quarter, unchanged from third quarter of 2015. SG&A expenses for the fourth quarter were $23 million, compared to $21 million in the third quarter, primarily driven by higher than expected bad debt expense.

On the balance sheet, total debt increased by $27 million during the quarter to $1.4 billion at December 31, 2015, driven by the purchase of new fleet equipment during the quarter. Available but undrawn debt capacity under Archrock Partners' debt facilities at December 31 was approximately $320 million. As of December 31, 2015, Archrock Partners had a total leverage ratio, which is covenant debt to EBITDA as adjusted as defined in the credit agreement, of 4.5 times, as compared to 4.2 times at the end of the third quarter. Gross capital expenditures for the fourth quarter were $36 million, consisting of $25 million for fleet, growth capital and $11 million for maintenance activities.

Before I turn to guidance, I thought I would make a brief comment on our customers' credit quality. The majority of our top 25 customers which represent approximately 60% of our operating horsepower, are investment grade. In addition, we have a robust system to monitor our customers' credit quality, and stay very close to any customers where we perceive risk. Given the production orientation of our business, we have historically had a good success, in working to favorable outcomes with customers in troubled situations.

Now turning to Archrock guidance for the first quarter of 2016, which includes the consolidation of Archrock Partners results. In contract operations, we expect revenue of $175 million to $180 million, with gross margin in the 58% to 60% range. As Brad commented earlier, we expect to see continued declines in activity levels, as customers continue to rein in their budgets, and wait for commodity prices to stabilize.

For AMS, we expect revenue of $45 million to $50 million, with gross margins between 16% and 18%. We expect our aftermarket business to have a slower start in 2016, as customers have delayed releasing their budgets for maintenance work. On SG&A expenses, we are targeting $32 million to $35 million for the first quarter. Depreciation and amortization expense is expected to be in the mid-$50 million range, with interest expense of approximately $20 million.

For the first quarter and full year 2016, the effective tax rate for Archrock's share of pre-tax income is expected to be in the 15% to 25% range. Cash taxes at Archrock are expected to be under $500,000 on a quarterly basis.

For 2016, we expect to reduce capital expenditures by approximately 50%, as compared to 2015, with total 2016 CapEx expected to be in the range of $120 million to $130 million. Maintenance capital spending for the year is expected to be in the $70 million range, slightly lower than 2015 levels. Anticipated new build capital expenditures of $30 million to $50 million for the full year 2016, represent roughly 70% to 80% reduction from 2015 levels.

At Archrock Partners, we expect new build capital expenditures to be in the $30 million to $50 million range, and maintenance capital expenditures to be in the mid-$50 million range. Our new build capital expenditure targets are based on the current market environment, and our CapEx numbers do not include any opportunistic acquisitions. At this point, I would like to turn the call back over to Brad for some closing comments.

Thanks, David. Overall, our best assessment is that in 2016, we'll continue to see the trend that we have seen in recent months. That said, our Company remains financially sound, and our business well-equipped to navigate this market.

We have an experienced management team, fully capable of leading Archrock through the industry's cyclicality. We know the best course of action at this time is to focus aggressively on reducing and managing our costs, while maintaining the fundamentals of operating safely, staying close to our customers, and providing excellent service. We will emerge from this downturn lean, focused, and ready to meaningfully participate in what appears to be a bright future for US natural gas production. With that, I would like to turn the call back over to the operator, and open it up for questions.

(Operator Instructions)

And our first question is from Andrew Burd from JPMorgan.

Hi, good morning and congratulations on the solid coverage in the fourth quarter. I didn't catch the maintenance CapEx number at APLP. Can you -- what was that again?

About $55 million.

Okay. And I know -- that is roughly flattish, or maybe slightly down year-over-year, if you normalize for the acquisition dropdown. How should we think about that?

I think that it should be on the lower end of the $55 million range.

Okay. On the growth, the new build CapEx, the $30 million to $50 million, how much of that is committed at this point, versus kind of more discretionary?

Yes, so as we dialed down growth CapEx aggressively over the quarters, the tail that was committed, that came into Q1 was in the $25 million range.

Okay, that's helpful. And then, this is a big picture question. But at APLP specifically, I realize that it must be difficult from your perspective to make transformative company decisions, when leverage and coverage still show solid breathing room. But with the market not crediting the solid business, and with a lot of uncertainty still ahead, what type of triggers would prompt you to revisit APLP distribution policy, or pursue some other type of corporate restructuring with AROC, whether it be a combination or cost caps like you've done in the past? Or any clarity on just how you'd think about that, and what would prompt a decision like that to be made?

Sure. What I can tell you is what our overall strategy is, and how that plays into answering the question, Andrew. There's not exact clarity on what circumstances would cause the type of action you described.

But what we look at in the market right now, we, number one, don't know how long this lasts, and how well our business holds up in the face of this downturn. I'm going to point out that, we are later cycle participant in the downturn, but to date, our operation has held up extremely well. And that's through, what was a transformative transaction in Q4, which is not that far behind us. And we are still just moving off of the impact of that.

So what we look at in 2016 is to stay really close to the market, to understand what we can get this mid streamlined operations to do, work aggressively on taking out our costs, and assess the impact on that, and how well it bolsters our performance and cash flow. But we are going to focus on the things that we can control which is costs, the stable business that we have, living within our cash flow, and protecting our balance sheet.

Those would be the factors that go into that assessment as we go through the year. But it's too early to step back and think about major mitigation, when we believe we have several levers ahead of us, including as you pointed out some support coming from AROC to APLP, which is definitely in the cards and on the table. So we have a lot of cost management, operations management, and levers to look at to bolster the strength and performance of APLP.

Our next question is from T.J. Schultz from RBC Capital

Hi, this is Rahil Jiwan, I'm just stepping in for T.J. Schultz. I just had a -- I guess, he just addressed the whole distribution outlook at APLP, in the last -- with the last question. But I guess, do you guys have any update on the Venezuela receivable, and your ability to lower debt at AROC level? And second, I guess, you guys guided to $70 million maintenance CapEx. So I guess, that implies the $[55] million at APLP, about $[15] million at AROC? So is that right? That's it for me.

Let me address the Venezuela question first, and then maybe you can repeat the second part of the question. Look, we are aware that Venezuela has been struggling for a period, or is having difficulty right now. But to date, they have continued to make payments for us -- to us. And as we mentioned in the call, the they paid $5.2 million in January on the receivable.

The remaining amount of the receivables due is about $89 million, and we are hopeful that they will continue to prioritize payments due from settlements in International Court of Arbitration, about some of their other payables. So that's Venezuela. And then, can you repeat the second question? I'm sorry, I didn't hear it?

Yes, I was just wondering, for maintenance CapEx for full year 2016, are you expecting $15 million or so at AROC alone, to be consolidated?

For maintenance CapEx at AROC, oh alone, yes, that's about right.

Okay. All right. An are there any other levers you guys can pull to lower debt at AROC level? Or are you just going to wait on Venezuela receivables to come in and just fund it, or just with cash from operations?

Yes. So cash flow from operations, the Venezuela payments. There is an agreement with Exterran Corporation, that if they refinance their $245 million term loan, they would pay us $25 million there. So those are the main drivers of reducing debt at AROC.

Okay. Sounds good, thank you.

Thank you.

Our next question is from Mike Urban from Deutsche Bank.

Thanks. Good morning, guys.

Good morning.

So just recognizing that, I know you never comment on kind of the timing of dropdowns, but more just the broader market environment right now. Obviously, a tough time for the energy space broadly speaking, and the MLP space specifically under a lot of pressure, so is a dropdown even something that is feasible at this point, I mean, give the market, and given valuations? And I guess, if so, is it a kind of situation where -- I mean, you said in the past, that you like the valuation, in terms of you getting APLP units, but again is it something that's even feasible today?

So it's definitely more difficult with equity valuations where they are today, since the dropdown would likely need to have a significant component of equity as part of the consideration, in order to help the leverage situation at Archrock Partners. However, in the past we have executed dropdowns at valuations that are reflective of the current market environment, and taken a longer-term view of the value of the unit price. So it is possible.

Any transaction would be subject to the approval of the [Conflicts Committee] and the AROC and APLP Boards. But we don't -- but as you say we don't really comment on timing of dropdowns.

Okay. So it's not something that you would preclude, even giving more valuation there?

Yes, Mike, it's Brad. It's definitely not off the table, as David said, it's just more challenging in this environment. But what I do want to emphasize is that for AROC, we clearly understand the picture and the value of the cash generator that exists in APLP. And we will be constructive, when thinking about the levers we can pull to support APLP. Owning what we do of APLP, it is in our long-term interests -- it's in the long-term interest of AROC to make sure that the entity remains strong from a balance sheet perspective, and able to generate the cash flows we've seen historically.

Yes. Thank you. And on the cost side, you have done a good job in bringing down those costs, and now that you've completed the separation, can presumably focus on that a little more. You did allude to that in your comments. Any kind of targets there, in terms of what we should expect, what the magnitude of that might be? And is it, what is the allocation, is that primarily G&A at this point, or are there additional operating savings and synergies that you can generate?

Without going into quantification of actual -- of real targets, let me talk about it categorically. We know, and we believe that we have to contribute to the right-size the business for our business activity levels, which we've seen decline. So of course, we're going to be aggressively right-sizing, and we have to do that. Beyond that, however, with this simplified structure, I'm pretty ambitious about the amount of streamlining we can do to our overall system. And that will come through in both OpEx, as well as in overhead and SG&A.

And then finally, in the field, we have some very specific projects around maintenance and management of our field activity that we will implement, that will give us some, yet more response in cost savings in our operations that we are pretty ambitious about what that can deliver. The challenge with that, in the current environment, however, is that we also have the pricing pressure of the marketplace. We have customers that are in serious distress and in need, and we will participate with them through this downturn. So the ambition I have right now, is to maintain our level of profitability, by taking costs out of the system as well as we can, to stay ahead of the market, both from a sizing perspective, and also from a pricing perspective.

Okay. Just to make sure I understand your comments. The goal at least, is to be able to maintain margins, even though you've said reasonably said and completely reasonably so, that you expect volumes and pricing to continue to come down, you think you can hopefully hold margins relatively flat?

Mike, that is the ambition.

Okay. It's good to be ambitious. That's all for me, thank you.

Thanks.

Next question is from Blake Hutchinson from Howard Weil.

Good morning, guys.

Good morning, Blake.

I just wanted to get a little more insight to the first quarter contract compression guide. I guess, I mean, I look at the two major moving parts on the revenue side. I guess, this would assume a bit of an acceleration in the put-backs that we saw in 1Q, as well as a pricing element. And just -- you don't have to give exacts, you can give us a flavor if you like, of kind of ongoing pricing impact, but also the nature of pricing conversations.

Typically, we have them annually, and apply them to put some portion of the fleet. Is it more just of a fluid situation we have to consider, as we go throughout the year now, rather than just an annual adjustment? Or does 1Q represent both a little acceleration in put-backs, and kind of the more of a one-off pricing adjustment to start the year?

Sure. Well, your overall thesis is right. So first on the spread between -- if you think about sequential revenue, we think about two-thirds of it is driven by our expectation on horsepower levels, and about one-third of it, is driven on pricing. What we see in the current environment is not an acceleration in Q1, but that Q1 may look a bit like Q4, from a horsepower decline perspective.

And on pricing, it is definitely more fluid. This is a market where our customers are going through serial pricing work, and repeated efforts to take costs out of their system. And so, we went through a lot of that in 2015.

Given the sharp market downturn in response to the oil price decline in Q4, we saw a virtual shockwave of -- re-engagement by customers on managing their costs, and that is what really drove the assessment of how we think Q1 shakes out. So it is not that it gets worse, but that it is a continuation, and without an answer to the question of, for how long that lasts.

No, understood. I guess, if that is our kind of sequential supposition for maybe the next few quarters, under that environment, I realize you don't want to get too granular with what you think, in terms of cost savings, streamlining, and the buckets you have. Would it be reasonable to attempt to defend the current gross margin guidance?

Would it be reasonable to attempt to defend the current -- ?

Well, looking for the quarter and the guidance we have given, we are good with it, for the guidance that we just gave for Q1. How well we can do to defend that going out, is going to be a battle. But candidly, I've been ambitious about what we can do on margin and profitability in the past. I think we've been able to deliver. The operations team is seriously focused on being able to do that and more of that. So that is the work that is ahead of us, repeating earlier, we're pretty ambitious about what we can accomplish there.

No, I agree. I think part of the issue there is, you have done so much over the last several years, you wonder really what's left to pull so. And then, just finally, what was the -- if you have it available, the overall D&A guidance for the first quarter? I'm sorry, I missed that.

In the [mid-$50 millions].

Okay. Appreciate it. Thank you. I will turn it back.

Thanks.

(Operator Instructions)

We do have a question from [Roger Tempa].

Yes. Good morning. My question is on the status of the quarterly dividend, and if there is any word on it, as to staying the same, increasing? I can't see it decreasing. And then when the announcement -- the formal announcement will be for the amount ex dividend and payment dates?

So let me talk about it, while I get the date for you. The overall approach to the dividend and distribution, this is declared quarterly, and it is determined by the Board of each of the entities on a quarterly basis. That's not going to change, when we make those assessments and set that dividend for the quarter, which we are not going to be doing today, it will be based on an assessment of what we see going on in the marketplace, and the expectation from our operations, how effective we will have been in managing through that part of this downturn, including our cost reduction efforts, maintaining our leverage position at an acceptable level, and what we think is going to be happen in the operations on a go forward basis.

So that is how we go through the process of assessing this. And I think the expectation for the next dividend payment is, that it is roughly 90 days from the last one, so we are looking out some 70 days from here roughly. I don't have the date in front of me. But that's the overall expectation, Roger.

Okay. And the announcement date of the dividend?

Roger, why don't you give -- this is David Miller, why don't you give me a call offline, and we can straighten out the dates?

Okay.

My number is on the press release.

Okay. Thank you very much. Appreciate it.

Yes. Thank you.

Our next question is from Phyllis Camara from Pax World Funds.

Hi, thanks. Just briefly, you mentioned that one of the reasons that the SG&A increased was due to bad debt expense. Are we expecting that to grow during the rest of the year? Or what are your thoughts about bad debt expense going forward?

Well, we don't really expect it to grow much. Even though that was the cause of the increase, note that is on a $35 million SG&A number, so that was the variable on which we saw the increase. And it literally was driven primarily by, we saw an uptick in greater than 90 days on our receivables. And in this environment, we want to be protective, and took an accrual to reflect that potential future expectation. So it's not been a huge issue. It's not a large number nominally. It was the driver, however that took us up off the bottom of our guidance range for SG&A up into the middle. So that's why we draw attention to it.

It's a rough environment though, we do have customers that will be struggling. The good news is that in our operation, in our business, because we are one of the last lines to cash flow through production, we've had really good success -- and I think David highlighted this in his comments, in both collecting on a pre-position basis, as well as being in a good position for collecting our receivables for customers that move into distressed situations. So we expect to see a minor uptick in a year like we have right now. We also expect to do fare very well on the collection of our receivables.

Okay. What about trying to get your equipment back, if you need to go in and do something like that? Is -- do you have much success with that? Or is that a more difficult process?

No. Typically that has not been a difficult process. In fact, I can think of only a handful of cases that are totally immaterial from a financial perspective, where that was ever an issue. Typically, if a unit is producing and helping our customers produce gas, we want it there, and they want it there, and we can collect on it be. And when the production is down, and our services are no longer needed, it has not been a problem to get our equipment back.

Okay. Great. Thank you. And then another question too, on your CapEx spend. You said $25 million of it is spend that you have to do because you are contracted to do it. And I'm thinking mainly of the Partnership section, instead of the parent company.

But what, I mean, is there any look forward to on be able to reduce maintenance any more, versus the $100 million I think you said it was, going to be for the Partnership? I mean, is that -- are you able to reduce that anymore then? Because I assume a lot of that maintenance CapEx is just buying new equipment for to replace older horsepower?

So we have a couple of categories. And the way we categorize our CapEx is basically new fleet additions, which we call growth and maintenance. The maintenance CapEx number really involves the maintenance activities in the field and on our fleet, that change the character of the equipment, such that they qualify for capital treatment. But it is more around our operating and maintenance activities in the field on existing operating horsepower, that is the driver of our maintenance CapEx number.

The $25 million that was referenced earlier was the new fleet add number, which was committed Q3, Q4 they came into Q1. And so, that is the way we think about maintenance. Maintenance does not cover capital that is investment in new equipment. I mean, maintenance capital does not cover investment in new equipment.

Okay, good. Thank you. And then, I guess, the last thing that I would have a question about. I know a lot of people have talked about the dividend, and whether or not you would cut back on the dividend payout. But, when you look at where you are with maintenance CapEx, and then growth CapEx and interest expense, then you basically are not really free cash flow positive.

So do -- how do you think about that? Do you want to take all of your cash expenditures into consideration, and become cash flow neutral at some point? Or do you think that you will continue to outspend cash flow?

So right now, we don't believe we are outspending cash flow. We do park new fleet additions, which I know is a component of free cash flow, but that precedes our determination of what is distributable cash flow. Because the structure was set up so that when the market is a rational market, it would fund that new fleet addition and growth CapEx separately from capital raising efforts, whether debt or equity.

So the structures are set up, both at AROC, as well as at APLP to distribute cash flow to our investors. But that does not take into account the capital that we typically characterize, and that the industry characterizes, as growth on new fleet additions.

And we have Randy Masel from Granite Springs.

Thank you very much. I just going to follow up on that discussion. So you can look at it a different way, right? In that you generating probably, my guess is somewhere in the order -- at the Partner level of $300 million in EBITDA. And of that EBITDA, $154 million went to distributions last year, $75 million went to interest, and I understand you're cutting the CapEx down to somewhere in the low [$100 millions], [$125 million].

But still, when you at those three numbers up, the [figures of] the cash distribution, CapEx and interest, it's greater than EBITDA. So that implies debt is be going up next year, or EBITDA most likely is going to be going down, absent some kind of action on your part, and leverage is going to go up, tick up from a pretty high level of 4.5 times. So I'm just curious how you think about those dynamics?

Well, again, we separate growth capital out from our overall, when we are looking at our distributable cash flow, as Brad mentioned that, in more rational markets -- we try to fund growth capital, we fund growth capital in the capital markets [because you get] better equity. And where our coverage in the fourth quarter was roughly 1.2 times, and we will continue to monitor what our cash, distributable cash flow coverage is going forward.

So are you implying that potentially, if there is a shortfall, it wouldn't necessarily be debt financed, that it could be done out of equity or some other -- I mean, some other way? Because it looks like you're not going -- there will be a cash shortfall there, if you keep distributions constant?

So the issue with distribution -- I don't mind if distribution coverage goes below 1 for a period of time, as long as we see what the change for the future would look like, based upon our forecast of the market, our internal ability to manage cash flow, including takeout costs. It does, and will be driven primarily by our leverage assessment of where we are on leverage, when we look at that going forward, as to whether that would be the prudent way to proceed. So thanks for the question.

All right. So does that mean 4.5 times, or is there a cap on where you want leverage to be? Or is there not a cap or?

We have a covenant on our leverage that's at 5.25, and we are not going to exceed that. We are going to work, and do all we can through this downturn to ensure we are managing the operation. So that, yes, there is a covenant out there that is very public, that we are not going to get to. Our job is to work aggressively to ensure that's the case, in managing the cash flow this operation generates.

And I will now turn it back over to Brad for closing remarks.

Thank you, operator. Well, thank you everyone for your interest and time and attention today in Archrock and Archrock Partners. I look forward to talking to you, and sharing an update following our first-quarter in a couple of months. Thank you very much.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating, and you may now disconnect.