Energy Recovery Inc (ERII) 2013 Q1 法說會逐字稿

The Energy Recovery first-quarter earnings conference call held on the 9th of May, 2013. The primary purpose of today's call is to provide you with information about our financial performance of the first quarter 2013. However some of our comments and responses to questions may contain forward-looking statements about market trends, future expectations, growth expectations, cost structure, profit margin, new products and business strategies. Such statements based on current expectations about future events and are subject to Safe Harbor provisions of the US Private Securities Litigation Reform Act. Forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and other factors that could cause actual results to differ materially. The details and discussion of these factors and uncertainties is contained in the report of the Company files of the US Securities and Exchange Commission. The Company assumes no obligation to update any forward-looking statements made during this call except as required by law.

I would now like to hand the conference over to your host Tom Rooney please go ahead sir.

Good morning, everyone and welcome to Energy Recovery first-quarter 2013 conference call. My name is Tom Rooney and I'm here today with our Chief Financial Officer, Alex Buehler.

Looking back at the first quarter of 2013, we were beginning to see the year unfold much as we had expected. 100% of our revenue in the first quarter came from our core desalination business, which grew 34% year-over-year. As is often the case, the first quarter was a relatively slow quarter at only $6.4 million of revenues. The first quarter was also relatively heavy in terms of the percentage of our revenues from low margin pumps and turbos. Taking into account the light revenues and the high mix of pumps and turbos, it was good to see our gross margins come in at 47% overall. We continue to make solid progress in improving our gross margins and we are confident that we are on track to drive our gross margins to historic highs within two years.

It is worth noting that we did not generate any revenue from megaprojects in the first quarter of 2013. We fully expect that this would be the case in the first quarter of 2013. For reasons not fully understood, the first half of 2012 was the worst six months for megaproject awards across the global desalination industry for more than a decade. Energy recovery's revenues almost always mirror the pace of new projects which had been awarded to our EPC clients with a one-year lag. The lack of new MPD projects awarded to our clients in the first half of 2012 clearly pre-staged a weak first half for ERI in 2013. We definitely saw this dearth of first quarter MPD projects coming and we planned accordingly. Despite the drop in MPD revenue anticipated in the first half of 2013, we ultimately expect our overall 2013 desalination revenues to be flat compared to 2012.

The company has been verbally awarded and in some cases contractually awarded a significant number of new MPD projects that will commence in the second quarter of 2013 with a significant portion shipped and recognized at the tailend of quarter four. This surge in MPD projects will likely make the fourth quarter one of our strongest in history. There remains the distinct possibility that one or more of these MPD projects could slip out of 2013 and into January of 2014. Needless to say such as group would be bring overall revenues down 2013 but up in 2014. This recent surge in MPD projects as part of a much larger wave of new MPD projects that we have seen coming and that we believe will drive revenue growth of more than 30% from our core desalination business in 2014.

Now let me switch our attention to the oil and gas segment. For some time now, we have been forecasting several million dollars of oil and gas revenues in 2013. At this point in time that appears on likely in 2013. One of our key assumptions was the successful conclusion of new product trials by the first quarter of 2013. At this stage we are well along in the process of collaborating with our three oil and gas clients to develop, deploy and evaluate these field trials. Each collaboration is different, but overall, I can report that we are somewhere between 6 and 12 months behind where we thought we would be at this point in time. For the most part our challenges are more of our logistics, approvals, and procedures than matters of technical success and acceptance.

The timeline and process to develop and deploy commercially viable energy recovery devices for the oil and gas market has definitely taken longer than we expected. With what we know today, we expect to generate roughly 10% of our overall revenue in 2014 from our oil and gas portfolio of products. Ironically, at the same time that we have been painstakingly working through these slower than expected initial product launches, we have begun to see that the overall market interest in these oil and gas solutions is more significant than we had previously realized. In the coming five-year timeframe, we see the addressable market for oil and gas as a market that is many times the size of our desalination business.

In summary, 2013 is a very important year for energy recovery. 2013 is an important year because it is definitely expected to be the last year before we become both EBITDA positive and net income positive and it is the year that we will demonstrate energy recovery's entry into the massive oil and gas industry. We continue to make great strides as a company. We work our way through challenges foreseen an unforeseen, and I feel very good that we are positioning the Company to enter a new phase of high-growth, and strong profitability in 2014 and beyond. That concludes our prepared remarks so we will now open up the call for your questions.

Thank you

(Operator Instructions)

Patrick Jobim from Credit Suisse.

Hi. Good morning. Just a question on the oil and gas delays. Maybe some or color there. Also, when we should expect to see contracts that would give us more confidence in the 10% number for '14, thanks.

Sure. So we would expect to see contracts this year, certainly within the next four to five months. And the color on the trial is that there is extreme interest in the devices we are doing, but it turns out that this is an entirely not only are these new devices but this is an entirely new category. And as such, does not fit into any box inside the oil and gas industry. And so in one case, even with a very large oil and gas company, they simply have had challenges even getting a purchase order out of their own purchasing order department, purchasing department, because they simply do not have a category to put this in. So it is kind of interesting, it is an industry that most people would say is risk-averse and will not try new things. That turns out to be categorically incorrect, but then there is huge bureaucracies within -- to which new trials take new products. And so in all cases, it has been a tremendous amount of bureaucracy and approval, double approval, triple approvals in some cases, and so we are methodically working through that.

And so, I guess I have a severe case of naivete, we felt that upon delivering technically successful devices, we would instantly going to trial modes and trial modes would last six months, we would get approvals and move on. And it turns out there is more there are more hurdles or more bureaucracy and we are literally creating a new industrial category around energy recovery from pressurized fluid flows. And so we simply need to be considerably more patient. In a number of cases as we move through these trials, we have been invited attend and present at industry conferences, that in the future based on the remarkable new technologies we put out there but at the same time, we have seen a adoption road map that simply 6 to 12 months longer than we expect. But we fully expect to see contracts this year that will enable us to drive the 10% of our revenue for next year.

And that make sense, Tom, and should we expect the three customers you are working with now can represent that 10% next year? I'm just trying to make sense of the long or longer than anticipated sales cycle and if we should have more field trials to start.

So the clients we're working with now, certainly will represent a fair portion of the revenue that we will do next year. But we have three or four other clients that are literally telling us that as soon as the other trials are done, they would leverage off of those to forward with the contacts with us as well. So there's more than just the three clients that we are dealing with now. There are two to three times that many clients standing in the wings ready to commence purchase orders on the basis of successful trials elsewhere.

Right so we should see the sales cycle shorten. So the last question I have is just on the DeSal, I guess can you speak to the markets or regions you are anticipating what the lever that 30% revenue growth next year?

Sure, so the Middle East North Africa continues to remain very strong. And specifically the GCC region, appears to be very strong in the Middle East. We see a big pickup in India and China, which of course we have been talking about that in the past, but we are actually seeing it in terms of contracts and contact realization. So I would say tremendous strength in the Middle East along with China and India. And frankly, the new plant that is going into construction in Carlsbad this year is likely going to open up work for us in 2014 and 2015. But the real driver for the 30% growth next year is Middle East.

Great, thank you.

Next question, JinMing Liu, Ardour Capital.

Good morning thank you for taking my question. Just one quick one, can you give us on the quantitative color of what the increased interest on oil and gas industry?

Yes, yes, I just got back from two separate trips to the Middle East last month, and as we have explored and gone through initial technology testing, there has been a tremendous amount of interest in exploring other applications. There are many fluid flows within the oil and gas industry. We have been very disciplined in looking at one fluid flow. It happens to be a fluid that is associated with gas processing. And as we laboriously go through the various hurdles proving the technology to some of these oil and gas clients, they are already starting to if -- you will, jump the gun and say well what about this fluid flow, what about that fluid flow? And it has been the interest level has been extremely high. And we have also -- about six to nine months ago, we also moved out of stealth mode and started to approach other oil and gas clients other than our original three. And we have yet to meet with an oil and gas client who did not express interest. And that was -- that is a pleasant surprise. So I guess the answer to your question is the expanded, long-range, addressable market is a deepening of an understanding of what our current clients think as possible, along with very positive feedback from the half a dozen other oil and gas clients that we have recently begun to open up conversations with.

Okay, thanks a lot.

(Operator instructions)

David Rose, Wedbush Securities.

Good morning a couple of quick questions on the new product, one is are your customers asking for -- I imagine they are -- but for some sort of service commitment and how are you addressing that?

Yes, they do, well here is what I would tell you, the oil industry wants to assume perfect uptime. Because they are running process facilities that have tremendous revenue generation for them. So on the one hand, when you are talking to oil and gas client you bring up the notion of too much maintenance and too much service, it implies that you are your products are defective. But having said that, inevitably, the oil and gas clients want to be assured that we are prepared to service and maintain. So the likelihood is that the recurring revenue from service and maintenance as a percentage of our overall revenue going to be much, much higher in the oil and gas industry than it has been in the water sector where service and maintenance is a very low percentage. But yes, there is a very strong norm within the oil and gas industry around proactive maintenance, proactive service. And so there has been tremendous amount of discussion in that regard.

And one last one on the rise, I was under the impression, at least I heard that there might be a requirement -- or at least an interest that devices are you know up to API standard. Is there a standard that you are up to, is there any sort of requirement from your customer requiring the API standards, or no?

No. Again, this is a device or product that does not actually fit into any category. I think that there will be API standards for energy recovery devices as a category in the future. But no, to this point, we specifically had those conversations and specifically not been required to. Having said that, there are certain line items within API, such as bearings and pressure containment and so on, that we have complied with, but there is no API standard for an energy recovery device. Having said that, that second we decide to sell one of our pumps directly into the oil and gas industry, it would have to meet API standards and be API certified. And point of fact, we are about to commence a development cycle so as to be able to develop stand-alone pumps that would in fact be API certified. So I guess what I would tell you is, where we sit today, there is no API standard for what we are selling, there are line item standards that we do follow and I think it would be sort of a convergence around API standards for this category in the next couple of years. And we actually hope to lead the standard generation. Actually one of our clients chairs the API standards committee as an individual. So we are very conversant in what is going on there. And they seem to be very comfortable with what we are doing. So I would like to think that over the next two to three years, we will actually lead the effort to develop API standards for this category.

Okay, thank you. That's helpful. And then a question on the quarter and terms of P&L, is there any sort of item that you would like to call out that is, from your perspective, nonrecurring that was either in the SG&A or COGS segment?

No, not really, this is Alex, you can see the OpEx at 7.5%. We do directly expect that to come down a little bit, so I do not think you can count on that level of OpEx recurring through the balance of the year. As it relates to discrete items within OpEx, no, there is nothing I would call out specifically.

Okay, should expect some slightly lower trends, but nothing meaningfully different than what we saw?

Correct. And you'll see that trend across all categories of OpEx.

And then as it relates to second-quarter guidance, the impression is that you get the contract through. Can you sort of handicap that for us? Is that definitely going through that Q2 or 75% sure? How should we think about risk into Q2?

Well, you can never say definitely with these MPD contracts, but we are very confident it will ship in Q2.

Okay, great, thank you.

Thank you.

(Operator instructions)

There seems to be no further questions at this time, sir, please go ahead with any other points you wish to raise.

Great well thank you everybody for being involved on the call today, and we look forward to future calls. Thank you very much.

Thank you ladies and gentlemen this does conclude the Energy Recovery first quarter earnings conference call thank you for your participation you may now disconnect.