Forum Energy Technologies Inc (FET) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second-quarter 2014 Forum Energy Technologies earnings conference call.

(Operator Instructions)

As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to your host for the day, Mr. Mark Traylor, Vice President of Investor Relations and Planning. Please proceed.

Thank you, Crystal. Good morning, and welcome to the Forum Energy Technologies' quarterly earnings conference call for the second quarter 2014. With us today to present formal remarks is Cris Gaut, Forum's Chairman and Chief Executive Officer; as well as Jim Harris, Chief Financial Officer; and Prady Iyyanki, our Chief Operating Officer.

We issued our earnings release last night, and it is available on our website. The statements made during this conference call, including the answers to your questions, include information that we believe to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act. Forward-looking statements involve risk and uncertainties that may cause actual results or events to differ materially from those express or implied in such statements.

Those risks include, among other things, matters that we have described in our earnings release and in our filings with the Securities and Exchange Commission. We do not undertake any ongoing obligation, other than that imposed by law, to publicly update or revise any forward-looking statements to reflect future events, information or circumstances that arise after this call. In addition, this conference call contains time-sensitive information that reflects Management's best judgment only at the date of the live call.

Management's statements may include non-GAAP financial measures. For reconciliation of these measures, refer to our earnings news release available on our website.

This call is being recorded. A replay of the call will be available on our website for 30 days following the call. I am now pleased to turn the call over to Cris Gaut.

Thanks Mark, and good morning. I will provide an overview of our second quarter performance and offer a few thoughts on the outlook for our business, and then turn it over to Jim, who will provide more detail on our financial results.

Adjusted net income was $0.44 per diluted share, and adjusted EBITDA was $83 million, excluding $0.03 per share for foreign exchange and transaction expenses. We are pleased with the 6% sequential revenue growth compared to the first quarter 2014, which was widespread across our product lines, and our 8% increase in operating contribution. I think we are seeing the benefits of our focus on improving operating execution, integration and operating margins.

EBITDA margins in the second quarter were consistent with the first quarter margins. This is our fourth consecutive quarter with EBITDA margins at, or near, our 20% target.

Though margin improvement and organic growth remain primary objectives, we have also returned to pursuing our accretive acquisition program. We closed the acquisition of Quality Wireline and Cable during the second quarter.

Based in Calgary, Canada, Quality is a leading manufacturer of wireline cable, a critical, consumable product used on wireline units to perform various well completion and intervention activities. Quality has a similar customer base to that of our other products for wireline service company customers to whom we supply BOPs, lubricators and wireline tools.

Total inbound orders during the second quarter were $441 million, a 9% decrease from our all-time high amount of orders received in the first quarter. The second quarter book-to-bill ratio was 104% for the Company as a whole, 111% for the Drilling and Subsea segment, and 91% for the Production and Infrastructure segment.

During the second quarter the Drilling product line experienced another strong quarter, with near record revenue and orders, with a second consecutive quarterly book-to-bill ratio exceeding 120%. We continue to see high demand for consumable and tubular handling products and capital drilling equipment. Driving this demand is the growing level of horizontal drilling in North America and the continued strength in orders for new build land rakes and jack-ups.

At our Subsea product line revenue increased 20% sequentially, although orders were down 18% compared to the very high level in the first quarter. As previously announced, during the second quarter we received a contract to supply four work-class remotely operated vehicles for West Africa, each complete with a Dynacon launch and recovery system. The order includes three of the latest generation Perry XLX series ROVs. We expect further large orders for work-class vehicles in the third quarter, so our backlog in the Subsea business would continue to be strong going into 2015.

The downhole technologies product line realized a sequential order increase of 13%, primarily on improved demand in the North America markets for our Davis Lynch branded cementing and casing products. Though international bookings were soft during the second quarter, we received a $5 million award to supply our cementing and casing equipment to a customer for the Middle East. Strong demand continues for our ProDRILL composite frac plugs and for our Cannon protectors.

Moving to our Production and Infrastructure segment, we had sequential revenue growth of 5%, with increases in our pressure pumping consumable products, valves and production and processing systems. Inbound orders in this segment decreased sequential by 17%.

Flow equipment's second quarter revenue increased 3% sequentially, while orders decreased 16% in the second quarter due to the high level of restocking orders received in the first quarter.

We have opened two new service and distribution centers in San Antonio and Canada to better serve our pressure pumping customers in the Eagle Ford and Canadian markets. Construction of our new manufacturing center for pressure pumping consumables is underway, with an expected completion date of late fourth quarter this year.

Our Infrastructure businesses, production equipment and valves, saw modest increases in revenue from the first quarter to the second quarter of this year. Much of our business is tied directly to the activity levels of global oil field service companies and of the North America land drilling companies. As North America and international markets are improving, we have experienced four consecutive quarters of record revenue and strong bookings.

We think the demand outlook for our equipment and products is favorable. Our third-quarter 2014 earnings-per-share guidance is in the range of $0.42 to $0.48 per share. Our focus continues to be on growth, operating performance, execution and margins.

Our CFO, Jim Harris, will now discuss our financial results in greater detail. Jim?

Thank you, Cris, and good morning. Consolidated revenues of $428 million for the second quarter are up 6% sequentially, and represent the fourth consecutive quarterly record for the Company. Our Drilling and Subsea segment revenue was $17 million higher than the previous record in the first quarter, primarily due to the high demand for subsea equipment and products.

Our Production and Infrastructure segment revenue increased 5% sequentially on higher sales of pressure pumping consumable products, valves and production processing systems.

Net income for the second quarter was $40 million, including $2.5 million in foreign translation losses, mostly attributable to the depreciation of the US dollar relative to the British pound during the second quarter and $700,000 of transaction expenses. We treat these book foreign exchange losses as non-operational, since they relate primarily to the translation of US dollar denominated receivables for reporting purposes only and have no economic impact in dollar terms.

Operating income, excluding the non-operational items, was $67 million, up $5 million, or 8%, from the first quarter. Drilling and Subsea operating income was up $3.3 million, with the increase coming in the subsea product line on a 20% increase in sequential revenue and resulting operating leverage. Production and Infrastructure operating income improved $3 million, primarily due to the increased revenue in our flow equipment product line.

Adjusted EBITDA margins in the second quarter at 19.4% came in as expected. We still aim to consistently achieve EBITDA margins of 20% and believe that even as we invest in new product development and operational improvement initiatives, we should be at that level in the second half of the year.

Adjusted diluted earnings per share for the second quarter were $0.44. We expect diluted earnings per share of between $0.42 and $0.48 for the third quarter.

A good portion of the customer orders received in the first and second quarters are for drilling and subsea capital equipment scheduled to ship in the second half of 2014 and into 2015. Given promised delivery schedules, revenue is expected to increase further in the second half of the year.

Our diluted share count for the second quarter was 95.7 million shares. We anticipate our diluted share count for the remainder of 2014 to be at about this level.

Net debt at the end of the second quarter was $404 million, down $7 million from the first quarter, even after the acquisition of Quality Wireline, as we continued to pay down revolver advances with healthy free cash flow. We generated $35 million in free cash flow during the second quarter before acquisitions.

Interest expense for the quarter was $7.7 million and is expected to be about the same in the third quarter. Corporate expenses were $10.4 million in the second quarter, and we expect the run rate for corporate expenses for the rest of the year to be around $10 million per quarter.

Capital expenditures were $17.6 million in the quarter and remain budgeted at $60 million for the full year. Depreciation and amortization expense was $16.3 million for the quarter, and is expected to be about the same in the third quarter.

Our effective tax rate for the second quarter was 28%. We expect our effective tax rate for the full year and the remainder of 2014 will be approximately 29%. For more information about our financial results, please review the earnings release on our website.

I will now turn the call back over to Cris for concluding remarks and to moderate Q&A.

Thanks, Jim. I am pleased with our performance in the first half of the year and believe Forum is well positioned as we enter the second half of 2014. We will continue our focus on growth, operating performance, consistent execution and margins. There is still much to do and plenty of opportunities for internal improvement remain.

I want to recognize and thank our employees for their good work and welcome the employees of Quality Wireline to Forum. I think we are coming together as a Company and are progressing on our objectives.

Thank you for your interest, and at this point we will open the line for questions. Crystal, let's please take the first question.

(Operator Instructions)

Jeff Tillery.

Hi. Good morning.

Good morning, Jeff.

I just want to make sure I have the moving pieces as you guys went through a lot of numbers. If I think about the sequential improvement and top line for the Drilling and Subsea business, is effectively all the revenue growth Q2 sequentially coming out of Subsea? Do I have the moving pieces right -- correct?

Subsea showed very good increases. The downhole tools business also increased. The drilling business was pretty flat quarter over quarter.

Okay. If I think about the -- capital equipment within Drilling and Subsea are lumpier, but if I think about the consumables businesses, just in aggregate, valves, downhole, the consumables within each of the frac and drilling-related businesses, what would that order total have done sequentially?

Was that up modestly? I'm trying to think through the moving pieces. It seems like it would be, but I'm just trying to make sure I have that correct.

Yes. The consumables businesses, flow equipment, downhole tools and the drilling side of the consumables would have been up. There were some drilling capital equipment items that we were working on that will ship here in the early part of Q2. The timing of that is hard to judge. Does that address your question?

It does. The last question I had, just the guidance range, if I think about for Q3, the low end implies a very slight sequential decline. I'm just trying to think -- if earnings declines is effectively that, just come down to an execution issue or timing run shipments, because it wouldn't seem like there's anything underlying that would drive a reduction in profitability.

As you can tell from our comments, Jeff, we are feeling positive about the trends in our business. Full stop. Nonetheless, it is difficult to project the actual deliveries of some items of lumpy capital equipment, and when customers will accept that.

We're just at the low end, just trying to cover an unforeseen event, when possibly a lot of capital equipment didn't ship when we expected it to. That's not certainly what we're working towards, but just trying to cover that possibility.

Okay that makes sense. That's what I presumed. Thank you.

Doug Becker.

Thanks. Cris, the rig count's higher, pressure pumping utilization is rising. This all really seems to be playing into Forum's consumables business. As we think about that translation from the industry indicators to Forum's revenues, should we think about a lag or should it be pretty instantaneous?

Yes, I think we are seeing continued improvement in our pressure pumping consumables business. We had in the first quarter a fairly significant amount of orders and some deliveries on those orders that were probably deferred from the fourth quarter and restocking that took place. Despite that very large step change in our Q1 activity, we saw further increase in Q2, and our outlook for that business continues to be positive due to the higher activity, as you point out.

On our other consumable products business -- downhole and the portion of drilling that is consumable, yes. We think that our level of revenue will reflect activity levels that are out there. And is the reason that we are seeing these increases in our business, and we expect further increases there.

Okay. Were there any other acquisitions beyond Quality Wireline during the quarter?

No. Just the one acquisition, Quality Wireline. We think that's a real good addition to our offering, similar to the coiled tubing strings, an important product that has a repetitive sales cycle.

Quality operates in a business that's fairly consolidated, very good reputation, although a newer company. We think that the opportunities to grow Quality are quite good. And we are already planning what we can do to increase their production capacity.

Okay. And accretive margins?

Yes.

And Jim, maybe just a quick one. If we think about your EPS guidance, what EBITDA margins embedded in there? Really, just trying to make sure that -- I know you reiterated the 20% EBITDA margin target. But it would seem like the embedded margin should be a little bit north of that to reach that annual goal.

Yes. Doug, the estimates that we have for the back half of this year are -- have us at EBITDA margins at that 20% level for the second half.

Okay. Thank you.

Blake Hutchinson.

Good morning, guys.

Hi, Blake.

Just -- you're trying to turn to delve a little bit into the margins and their impact -- the subsection margins and their impact on the divisions. From your revenue commentary, if we look at flat sequential margins for Drilling and Subsea, was everything more or less underlying fairly stable? And that is more indicative of the mixed shift towards Subsea?

We did have good improvement on margins in Subsea. In the second half, Subsea is expected to deliver on the strong orders it's had in the first half, so that will be helpful to margins in the second half.

Okay. Did the, did the Drilling subsegment reach 19% operating margin again?

The margins in the Drilling subsegment were down just a little bit in the second quarter, so not quite at that level.

Okay. And then similarly, as we look at production and infrastructure, again stable outside of perhaps a nice pick-up in the flow equipment margin to drive the improvement from 1Q to 2Q?

Yes. Stable across the product lines. Still expecting to see towards the latter part of the year some uptick in the valve activity as we deliver on the petrochem opportunities and quoting activity turns to orders. Late this year and early 2015, we're still expecting to see some uptick in that business.

Great. Thanks for the margin color. I'll turn it back.

Thanks, Blake.

Jonathan Sisto.

Good morning, gentlemen. Cris, could you maybe remind us what percent of revenue is consumables, as it was in the first half of the year, perhaps?

Yes. It would be just over 50% would have been consumable. In the first quarter, the capital side was more weighted towards drilling. In the second quarter, the capital side was more weighted towards Subsea. And we expect pretty well-balanced capital equipment deliveries in the second half of the year and the consumable business to grow with the activity levels in North America.

Okay. And appreciating that you guys have been consolidating and adding capacity, and the consistent messaging around EBITDA margins, am I correct to assume that there is still some room to chop, or wood to chop, if you will?

Jonathan, as we have discussed in the past, there is an opportunity in the margin expansion as we are gaining momentum on the initiatives we've talked in the past, procurement, the early results are pretty good. We will get some savings this year in procurement, which is the biggest opportunity for us. The manufacturing efficiencies, as not only we consolidate, but better manufacturing efficiencies, cycle time, lean time, all that is going to give us margin expansion.

But at the same time, as we discussed in the past, we are not happy with the product development spending, so we're going to take that spending for the next six to seven quarters and invest that in the product development, which will also fuel the organic growth. But we are seeing the benefits of our initiatives, so that is reflected in the numbers, but at the same time we are investing in the product development.

Thank you, Prady. Led to believe that four consistent quarters of EBITDA margins at or around 20% will lead to more acquisitions, Cris, just as a way of reminder, any specific business line or segment you would be focusing future acquisitions in?

There's a combination in the acquisitions activity of proactive things that we're looking for and then opportunities that come along. What the Quality Wireline, I think is in that, that proactive side, and reflects our focus on the well intervention and the downhole products area.

That is our proactive focus. But, John, there are also things that become available opportunistically that we will look at if they're good fits with our existing product line.

A lot of stuff up in Canada we've been hearing lately. Thank you, guys.

Rob MacKenzie.

Cris, I wanted to clarify something I think you said, make sure I got straight. You indicated that Subsea Technology's revenue was up 20% from the first quarter, and that Drilling Technologies was flat quarter over quarter. Is that correct?

It was down slightly, nearly flat.

Down slightly. So that means -- doesn't that -- that implies almost a doubling in downhole technologies quarter over quarter, right?

No. Downhole technologies was up, as Cris mentioned, I would say slightly. It was a small increase in the quarter, but we had a good increase in orders in downhole. Not all that has turned to revenue yet.

Downhole and subsea were up, drilling was down by a small amount, but up on the consumable side. Not soon the capital equipment deliveries.

Okay. All right. Maybe I'll try and follow up off line. I'm just trying to reconcile the numbers in the subsegments there.

Glad to do that.

Coming back to the margin commentary, right, you've been close to 20% for some quarters now, is there a cap on where margins can get to, given the nature of your businesses? Is 20% the end goal? Or do you see more upside beyond that as you continue to improve the business?

No, I would say that maximizing margins is not our goal. If it were our goal, I think we could certainly find ways to drive up the margins.

Our goal, rather, is organic growth in our EBITDA in our income, and we think the way to optimize on the growth side, as Prady said is to reinvest some of the margin improvement that we're getting at the gross margin line to add to our systems and process and engineering and new product development capability. Which will, not immediately, but within, we think, a short to medium term, result in higher revenue and higher earnings.

Great. Thank you for that. I'll turn it back.

Okay.

David Anderson.

Hey Cris, you just said there was 50% of your business was consumables. Can you just help me understand, how do you define consumables?

I think the easiest, simplest answer to that, David, is operating expense items.

So, when we look at that and then latest acquisitions on the wireline, the wire itself, how often do customers replace that wire? I'm just trying to get a handle on it, because it seems like there are a number of different ways to think about consumables, and there's different cycle times for all this stuff.

Right. The wire, it is a repetitive sales item. But, it can last a year or more, that is true.

Okay. I didn't realize it was that quick.

Unlike coiled tubing strings, three, four, five a year.

Okay. That's very helpful. The inventory correction, if you will, this quarter, I know we got a bigger surge in the first quarter. One of the big efforts you guys have made is to try to get a better handle on your customer inventory level. I would presume you have a little bit better line sight today than you did, say, 12, 18 months ago.

When you think about where we are in that inventory cycle -- and maybe you said this before and maybe I didn't quite hear you. Where do you think third quarter gets compared to first quarter? Do we get back to those first-quarter levels?

I'm just trying to understand where is that normal run rate for what we see in terms of activity levels out there today? I'm talking more specifically on the pressure pumping side related to North America land.

To be clear, our sales were higher in the second quarter than they were in the first quarter. I think they were higher on the repair items.

We did see in the first quarter some orders for complete manifold trailers that were completely outfitted, which would be more associated with capital addition for some of our customers. We delivered probably more of those in the first quarter than in the second quarter for us.

But, as we look ahead to later parts of the year, we are ramping up our production in anticipation of a need and demand for a higher level of the replacement items. And we want to also be able to supply complete sweeps of treating iron for these new units that are being ordered.

In anticipation of that, in that run-up, can you help me, and I think you just noted that you just built out -- you just completed a new manufacturing facility. Overall, are we still on one shift manufacturing-wise? And when do you start getting to the second?

Obviously, what I'm getting at here is to understand, when you hit that second, I would think that incremental growth starts to kick in. Are we close to that inflection point here?

No. We're ramping up from two to three shifts on our existing manufacturing facilities. Our new manufacturing facility for the pressure pumping consumables won't come on until nearly the end of the year. Of course, we're trying to bring that on as quickly as possible.

But we're going full out here. And fortunately, we have this new facility underway, and that will give us a step change in our production capacity for next year. We think that will be well timed.

Apart from adding the second and third shift which Cris talked about, additional machinery is coming in, too, to give us more capacity.

Okay. Great. Thank you very much, gentlemen.

Thanks, David.

Brandon Dobell.

Thanks. Good morning, guys.

Hey, Brandon.

Cris, your comments about continuing strength in land rigs and jack-ups, maybe focus on the jack-up market for a second. In your outlook, near term sounds pretty solid.

How do you think about the medium term? If you could frame out your exposure, or on order basis or a revenue basis -- I think that's near term for jack-ups, that would be helpful, too. Thanks.

Sure, yes. I think we all know there are a large number of jack-up rigs on order to be delivered over the next three years. Even this quarter, there have been a significant number of additional jack-up orders placed, as there is a need internationally for the higher specification jack-up rigs for different markets.

Our -- and this is really a bit of a new market for Forum that we didn't participate in previously to any significant degree, but now we're able to provide catwalks, iron roughnecks, handling tools, choke and kill manifolds. Our potential on a jack-up rig, $4 million to $7 million in capital equipment per jack-up rig for a new build unit.

Now, we are not on -- we're certainly not going to be supplying that for all 150 rigs out there, but we're making progress and getting into that market. It's incremental for us and it's something we're focused on getting and making progress and getting more of.

Okay, thanks. Then turning to the ROV segment for a second, do you guys think there's going to be some sort of a refresh or an upgrade cycle here in the next couple of years, given that we're coming on three, four years of pretty solid volume growth for the ROVs in general? Do you expect to see an opportunity to go back and fix, upgrade, that kind of thing, the fleets that are already out there?

Actually, we do see that. That's one of the big initiatives we have in the Company. We have about 400 ROVs, operational, different life cycles, of the ROVs.

And all that needs, over a period of time, upgrades, repairs, maintenance. That's one of the activities we've been focused on for the last three months. We do expect that a big growth market for us.

That's -- the 400 units that Prady's referring to is the number of our design, our build units that are out there in service with our customers. It represents a big and growing opportunity for the aftermarket.

Okay, great. Thanks guys. Appreciate it.

Darren Gacicia.

Thanks, guys for taking my call. Good morning. I wanted to ask -- I'm listening comments today, I'm thinking about comments the last couple quarters. There seems to be a balance between reinvesting in organically conceived products versus M&A.

It seems like over the last few quarters, the focus has been off M&A and towards internal projects, if you will. Is there a shift in mentality there at all in the last quarter in terms of where you're looking to spend your time and efforts incrementally, or am I just reading into things too much?

Sure, Darren. That's a good question. Following a very active period in M&A through July of last year, a year ago, we felt that changing our focus to one on consolidation and integration was appropriate, given that we had acquired seven companies within a six-month period prior to that. For 9 or 12 months then, we have been focusing on that integration consolidation, internal process improvement, execution, some additions to our Management team.

And we feel like, as I mentioned in my comments, we've made some progress over the past year on those initiatives and those objectives. And now, with the progress we've made, we feel we can now, in addition to that continued emphasis on the points that Prady was talking about that are internal improvement and organically-motivated, in addition to those, we can, again take on more M&A activity.

Quality Wireline was the first reflection of that renewed focus on M&A. We think there will be others. But we're not letting up on our internal focus on process improvement and quality and sourcing and supply chain that Prady was talking about earlier.

Sure. So on that note, this year, you've obviously -- and this quarter's results started to show some evidence of it, the flow of business was the focus for at least one of those projects, if you will. In recent dialogues, downhole tools and then the downhole business is maybe an incremental focus.

Obviously, you said that orders are picking up. That probably flows over the next 6 to 12 months, flows through earnings.

On the process and manufacturing side, what do you have in the queue? What's the type of margin improvement you may see from a refocus or next step on that business?

Procurement is our biggest cost in the business. We almost have a $1 billion buy. Every year, we're adding more procurement cost as we grow business. This year's another good example, we're going to add another $100 million of procurement buy. That's the biggest opportunity we've got from a cost standpoint.

We're seeing early results of the savings from a procurement standpoint, and we expect to reap the benefits as we get dual sources into play, as we make or buy decisions. We have 100 casting suppliers, as we consolidate the supply base, as we do the E-auctions. We have a lot of opportunity from a procurement standpoint. But, as we mentioned in the past, we are not happy with the product development spending, which is a big growth lever for us on a move-forward basis.

We're taking all that savings from a procurement standpoint, and for the next six to seven quarters, we're going to take that savings and put that in the product development. Once we reach a decent level of product development spend, you will start seeing that savings in the bottom line.

When do you think that the new product development spend starts to translate into orders and sale and revenue?

The product cycle depends on the size of the business. In some cases, within 6 months we'll start seeing the incremental growth, and in some cases, if it's a capital equipment product development, it may take 18 months before we start seeing the growth.

So, it depends on whether it's a consumable part of the product development or it's the capital equipment part of the business. But all business are actively looking at new product launches and over the next several months, we'll also talk about (inaudible).

We already have some new products that we've introduced. They're just being commercialized and ramped up, and will contribute more from here forward. But we're already seeing some results of that.

Is that the frac plug business for one? Is that something maybe where that's part of the orders that you've received, and that we may start to see some incrementals from?

Yes. Some additional size products in the frac plug space, in our coiled tubing and in our well intervention business. On the BOP side, we've introduced some additional units that -- different sizes and pressures that are going to find a good niche in the market.

The catwalk, which we're using the jack-up rigs in Southeast Asia, that's a product development, which we are seeing the benefits. A couple of products we have launched on the B&V and the Blohm + Voss piece where we have seen the early results of revenue, too, but they've got a lot of room there, too, from a growth standpoint.

Maybe these are things we know there's a market for, but we're now devoting the resources to develop the products and bring the market.

Got you. Where does that put you from a past capacity utilization standpoint on the manufacturing side? I know flow seems tight, but where are you with the rest?

The capacity expansion is -- we're looking across the portfolio in the downhole business. There is a capacity expansion on the drilling side, depending on what products on the -- from a drilling standpoint, there is capacity expansion. Flow equipment, we just talked about it.

In fact, the new acquisition, we just brought the Quality acquisition. We're making a 10% capacity expansion, and over the next 12 months, we're going to expand further by another 30%. So the capacity expansion varies, depending on what the product line is, but there's a lot of capacities across the portfolio.

There's been a fair amount done, but we have other plans that are either in the works or will be starting shortly.

Thank you very much. Thanks for the time and the color.

Dan Leben.

Great. Thanks for taking my question. First one, just on the capital equipment order side, have you seen anything, given all the announcements we've seen over the last couple weeks, have you started to see that flow in? Or is it just still at the expectation stage where you think the third quarter, we should start to see a step-up there?

On the land drilling side, yes, we have seen consistent, good flow of orders for capital equipment. The very recent announcements on the pressure pumping side have not yet been reflected in our backlog there. Of course, we're not -- we don't build the capital equipment, we don't build it -- the pumping units or the pumps themselves.

We supply the treating iron that would be used to outfit those new spreads that are now being ordered, so we're a little bit later stage there. It really depends on the market.

Now, on the ROV side, absolutely seeing an increase in capital units there. It's a good year for ROV orders for use with our customers, the offshore contractors who were doing the installation of all this subsea equipment that's been ordered over the past couple years.

Great. One other one for Prady, with the Quality acquisition, any changes we should expect in terms of the integration process, or when you were doing due diligence, just with the increased focus on execution and the internal initiatives?

Actually, the Quality acquisition comes with a pretty good team, from an execution standpoint. Where we see the biggest opportunity in the quarter is the growth.

The capacity expansion, we talking about is what -- anywhere from 10% to 40% over the next 12 months is what we see. Primarily it's a North America business, so as we globalize the business, we expect more growth from that business.

We're also -- a new product we're looking at, the Open Hole, which we're working on, and so which will also give us -- So, more products and globalization is our first focus in that business.

From a growth standpoint, yes, we will get some margin expansion from procurement and also a manufacturing standpoint. But I think the bigger benefit we're going to get in that business is growth.

Great. Thanks guys.

Thanks.

David Anderson.

Real quick follow-up on the ROVs. Some of the E&C companies, at least one of them, made a comment yesterday about the IOC's shifting CapEx from exploration and development, something we've known for a while.

Are you starting to see any signs of increased development spending? I know we've had a lot of products being delayed.

I guess I'm just curious around the commentary around ROV spending -- or ROV orders picking up. Is it from that replacement cycle you were talking about before, or do you think it's more from some of these projects that are moving ahead and your customers are ramping up in front of that?

It is both. There are replacement units. But I would say the bigger driver of this increase in orders that we're seeing is for additional vessels that are being used, that are being ordered, in order to do the installation work.

Great. Thank you, Cris.

Let's take one more question.

Maddie Everett.

Hi. Good morning. In your press release you indicated that the production infrastructure experienced lower demand for valves, primarily in Canada. I was wondering if you could address this and what you saw in terms of the recovery for spring break-up in Canada?

That comment was a year-over-year common, right? Not a sequential one. So compared to the second quarter of 2013, we saw a higher level of valves being ordered for big projects in the heavy oil-improved projects in Canada. And we didn't see that strong level of orders for the heavy oil projects this year.

But, in fact, our valve business has been fairly flat now for four successive quarters. It is down from the second quarter of 2013. That decline occurred, actually, in the third quarter of 2013 and has been fairly flat since then, Maddie. Up only -- up a little bit this quarter over the prior quarter.

We expect that the next inflection point for volumes in our valve business will be in conjunction with these large amounts of -- and very large petrochemical projects that are on the drawing boards, the engineering boards currently. And we expect to see orders begin to flow to us and the other valve companies later this year.

Right. Okay. What is your outlook as far as demand for downhole technology throughout the second half of the year? I believe it's your highest margin business. And how should we expect the flow of orders to play out throughout the rest of the year?

It's a business we expect to grow with the rig counts -- I'm sorry, with the well counts. We are making progress on our international expansion strategy. As noted, our orders were up nicely this quarter over the first quarter of the year. So, we expect a positive trend in that business over the second half of this year.

Okay. Thank you.

Thank you, Maddie. And folks, we appreciate your interest. If we weren't able to take your call, please give us a call after this and we'll address your questions. But thank you for your interest, and talk to you next quarter.

Ladies and gentlemen, that concludes today's presentation. You may now disconnect. Have a great day.