Flotek Industries Inc (FTK) 2013 Q3 法說會逐字稿

Good morning, and welcome to the Flotek Industries Inc. third quarter 2013 earnings conference call.

(Operator Instructions)

This conference is being recorded. At this time, I would like to turn the conference over to Mr. Robert Schmitz, Vice President and Corporate Controller for Flotek Industries. Mr. Smith, you may begin.

Thank you and good morning. Today's call is being webcast, and a replay will be available on Flotek's website. Our earnings and operational press release as well as our quarterly report with the Securities and Exchange Commission were filed and distributed last evening and are available on Flotek's website.

Before we begin our formal remarks, I wish to remind everyone participating in the call, listening to the replay or reading a transcript of this call of the following. Some of the comments made during this teleconference may constitute forward-looking statements within the meaning of section 27 A of the Securities Act of 1933 and section 21 E of the Securities Act of 1934 and other applicable statutes reflecting Flotek's views about future events and their potential impact on performance. Words such as expects, anticipates, intends, plans, believes, seeks, estimates, and similar expressions or variations of such words are intended to identify forward-looking statements but are not the exclusive meaning of identifying forward-looking statements on this call. These matters involve risks and uncertainties that could impact operations and the financial results and cause our actual results to differ from such forward-looking statements. These risks are discussed in Flotek's filings with the Securities and Exchange Commission. Now I would like to introduce Mr. John Chisholm, Flotek's Chairman of the Board, President and Chief Executive Officer.

Rob, thank you. I would also like to welcome each of you to Flotek's third quarter 2013 conference call. While we aren't Twitter and we doubt our call will give rise to many tweets, we are delighted you are here with us today. With me today are Rich Walton, Flotek's Chief Financial Officer; Steve Reeves, our Executive Vice President of Operations; Kevin Fisher, our Executive Vice President of Global Business Development; Chris Edmonds, our Senior Director of Corporate Finance and Strategy; Josh Snively, our Executive Vice President of Research and President of our Florida Chemical subsidiary; and Rob Schmitz, Flotek's Vice President and Corporate Controller.

A special welcome to Rob, whom many of you have met, as he formally participates in his first earnings call. Rob joined us several months ago, we are delighted to have him as part of the Flotek team. He most recently served as the Chief Accounting Officer of Champion Technologies, a well-known oil-field chemical Company that was recently acquired. He brings a wealth of experience and rounds out our financial team nicely.

Last evening, we filed our quarterly report with the US Securities and Exchange Commission. While we won't take your valuable time to regurgitate those filings, we will provide a summary of the results, attempt to add some color regarding current operations as well as a sense of our future and then be happy to answer your questions. However, before doing so, I am pleased to tell you that this morning, Flotek announced it has completed negotiations with a prospective Middle Eastern partner Tasneea Oil and Gas Technologies, an affiliate of Gulf Energy, and has signed a binding shareholder agreement to established companies to provide chemistry technology and research and development services in the Middle East and across the continent of Africa. The Company is a chemical manufacturing Company, and a research and development firm will be based in the sultanate of Oman and provide a wide range of chemical technology services to Middle Eastern nations that are members of the Gulf Coordinating Council or GCC as well as many African nation states.

When we initially announced this transaction in May, we were excited about the prospective opportunities in the region and believe that a central location in Oman with a partner like Gulf Energy will provide the best opportunity to establish a business in this important hydrocarbon-producing region. After working with our friends at Gulf Energy on these agreements and gaining a better understanding of the potential market, we are more excited than ever about the opportunities that we have in front of us. Not only do we believe that demand for technology to tap unconventional resources will grow in the Middle East and north and west Africa in the coming years, we believe Flotek's expertise in chemistry technology for conventional plays and enhanced oil recovery projects is also a remarkable fit in the region. We already are experiencing inquiries and even early orders for Flotek chemistries in the very nascent stages of our relationship.

While we are excited about the prospects of this long-term relationship, it is also important to understand there is plenty of work ahead in the coming months to construct and develop the infrastructure to run a new business halfway around the world. In the coming weeks, we will finalize the final corporate structure with the appropriate Omani ministries, establish formal plans for construction and necessary infrastructure and begin to identify the best leadership available for our venture. At the same time, our international sales and marketing team led by Gary Flock is already in the field promoting our new venture and working to secure prospective clients. Combined with the commercial opportunities to be presented by our Omani partners, we believe this effort established deliberately and executed properly will make a significant difference for Flotek and our shareholders for years to come. While this is a significant event in the evolution of Flotek, it is not the only important initiative underway for your Company, and we will share many of those in the next several minutes as we share our most recent results and our future with you.

I am more enthused about the future of Flotek today than ever before. However, as I said three months ago, Flotek is not willing to rest comfortably in the past, but rather, your Company will strive to reach for a future where our industry-leading innovation can create value for all of our stakeholders. As I said on each call since I took the helm now over four years ago, it continues to be my privilege to serve as president of your Company. I remain immensely proud and humble by the commitment and support of members of the Flotek team that believed, as a group, that they can make a difference in the future of Flotek and believed in our vision to restore stability and growth to the Company and continue to be enthused that through the efforts of our people, the future is filled with opportunities to create value for our stakeholders. With that, I would like to turn the call over to Rich Walton to review our third-quarter financial highlights and provide some additional color on certain financial issues.

John, thank you. As John mentioned, Flotek filed its form 10-Q for the quarter ended September 30, 2013 with the US Securities and Exchange Commission yesterday afternoon. In that report, Flotek reported that revenue for the three months ended September 30, 2013 was $98.4 million compared to $78.6 million for the three months ended September 30, 2012. Revenue in the third quarter increased $19.8 million when compared to the same period in the previous year. The increase in revenues was primarily due to the acquisition of Florida Chemical Company which contributed incremental revenue of $18.6 million during the third quarter. For the three months ended September 30, 2013, the Company reported net income of $9 million or $0.16 per share on a fully diluted basis compared to a net income of $9.8 million or $0.19 per share on a fully diluted basis for the same period in 2012.

Earnings before interest, taxes, depreciation and amortization or EBITDA for the three months ended September 30, 2013 was $19.2 million compared to $17.5 million for the three months ended September 30, 2012. Stock compensation expense for the 3 months ended September 30, 2013 totaled $2.9 million compared to $3.7 million for the same prior year period. For the third quarter of 2013, non-cash stock compensation represented approximately 15% of total selling, general and administrative expense. SG&A for the quarter ended September 30, 2013 increased by $2.4 million or 13.8% compared to the same period of 2012. Excluding the incremental SG&A cost of the Florida Chemical business acquired, SG&A costs increased $200,000 or 1.2% compared to the same period of 2012. SG&A costs as a percentage of revenue declined from 21.8% to 19.9% in the 3 months ended September 30, 2013 compared to the same period of 2012 as revenues grew significantly faster than SG&A costs.

The Company reported an income tax provision of $5.6 million for the quarter ended September 30, 2013, reflecting an effective tax rate of 38.6% compared to an income tax provision of $2.9 million for the quarter ended September 30, 2012, which reflected an effective tax rate of 23.1%. Accounts receivable at September 30, 2013 were $62.2 million compared to $44 million at September 30, 2012. The Company's allowance for doubtful accounts was 1.2% at September 30, 2013. As a result of the acquisition of Florida Chemical, Flotek modified its business reporting segments to better reflect the acquisition and changes to Flotek's ongoing business growth. We announced those segments last quarter.

In an attempt to more accurately describe our business, we modified the segments and now report in the following four business segments. Energy Chemical Technologies, Consumer and Industrial Chemical Technologies which was previously referred to as Non-Energy Chemical technologies, Drilling Technologies and Artificial Lift Technologies. Finally, as noted in the press release yesterday afternoon, the Company is experiencing the benefits of a fully functional accounting and reporting system, JD Edwards Enterprise resource planning system. The enhancements initiated in 2012 provide for better reporting, accounting and planning resources, which creates significant enterprise-wide efficiency. I would now like to turn the call over to Steve Reeves to discuss recent operating results and trends. Steve?

Rich, thank you. As noted earlier, consolidated revenue for the three months ended September 30, 2013 was $98.4 million compared to $78.6 million for the three months ended September 30, 2012. Revenue in the third quarter increased $19.8 million when compared to the same period in the previous year. Revenues in the Energy Chemical Technology segment for the three months ended September 30, 2013 were $51.7 million compared to revenues of $44.2 million for the three months ended September 30, 2012. Excluding the incremental revenue provided from the Florida Chemical acquisition, Energy Chemical Technology segment revenues increased $4.2 million or 9.4% for the quarter ended September 30, 2013 compared to the same period of 2012. Increased sales of stimulation chemical additives accounted for the majority of the revenue increase.

Energy Chemical Technology segment gross margins were 42.3% for the 3 months ended September 30, 2013, a decline from the 47% posted the same period in 2012. The decline in gross margin percentage for the three months ended September 30, 2013 was primarily attributable to product portfolio mix resulting from proportionately higher sales of non-proprietary products, partially offset by the supply chain benefit of the Florida Chemical acquisition. The Company continues the process of integrating the Florida Chemical assets and intellectual capital with the Flotek team, which has and should continue to provide new research opportunities and operating efficiencies. In addition, Flotek's Marlow, Oklahoma facility debuted its new 20,000 square foot warehouse in [truxales] in the first quarter, furthering the Company's bulk delivery and efficiency efforts.

Consumer and Industrial Chemical Technologies, CICT, revenue for the quarter ending September 30, 2013 totaled $15.3 million. Revenue for the third quarter and year-to-date period ended September 30, 2013 is incremental to the Company for both the periods as the segment is a new segment acquired during the second quarter of 2013. CICT revenue is primarily driven by demand for D-Limonene, a citrus terpene derived from the processing of raw citrus oils and other bio -based chemistries offered by the Company globally to a multitude of industries as well as from citric isolates produced for the flavor and fragrance industry. Revenue results are subject to market seasonality and availability of raw materials. CICT gross margin for the third quarter ended September 30, 2013 was $3.6 million or 23.5% of revenue. The primary drivers of the margin for CICT segment are demand for the Company's bio-based chemistries and the high-value flavor and fragrance isolates. The general direction of the citrus oil markets and the seasonality of flavor compounds can also impact margin results.

Drilling Technologies revenue for the three months ended September 30, 2013 totaled $27.6 million. Revenue for the quarter and year-to-date periods ended September 30, 2013 decreased $2.9 million or 9.4% for the same period in 2012. Revenue declines can be primarily attributed to the decline in actuated tool rentals. Continued market penetration especially with advanced technologies such as telegraph and the Company's drilling motors provided for a relatively strong result, especially in an environment that saw an 8.8% decline in the US active rig count and increased pricing pressure from competitors. Improved sales of centralizers, float equipment and motor parts and equipment in the Northeast, Bakken and Eagle Ford regions resulted from more competitive customer pricing due to better material outsourcing, new customer contacts and higher sales to existing customers.

Drilling Technologies gross margin increased to 39.3%, up from 37% compared to the same period in 2012. The rental mix change from lower margin actuated tool rentals to higher margin telegraph and other drilling tools helped to increase the overall gross margin percentages. During the quarter, Flotek relocated its mid-continent operations to a new advanced technology headquarters in Oklahoma City, which should provide for better efficiencies and operations, including the ability to service our down-home motors closer to market. The new facility also allows us to consolidate telegraph and other drilling technologies, providing more efficient sales and marketing efforts. The Company's measurement-while-drilling, MWD service continues to grow in both domestic and international markets with the Permian Basin continuing to provide robust opportunities. In addition, international markets in the Middle East and South America continue to fuel non North American growth.

Not only is telegraph continuing to provide growth opportunities, our stimulator product line is beginning its commercial rollout. While stimulator rentals in the third quarter were less than $100,000, October rentals were nearly $300,000 with acceleration expected to continue for the balance of the year. Revenue for the Artificial Lift Technologies segment for the quarter ended September 30, 2013 was $3.9 million compared to $4 million for the period ended September 30, 2012. Declining international valve sales following a 2012 contract were offset by increased pump equipment sales domestically. For the 9 months ended September 30, 2013, revenue increased by $2.9 million or 31.6% relative to the same period in 2012, and sales for pumps and pump equipment have increased due to rebounds in the gas workover drilling market, additional installs in 2013 and diversification into more oil related equipment sales in the Bakken region, including the marketing of new pumping units as alternatives to traditional pump jack systems.

The Company has continued to focus on the development of infrastructure to support its growing portfolio of oil field technologies. That said, the Company has managed to continue to develop infrastructure more efficiently than expected, spending approximately $10 million of its $19 million capital budget through the end of the third quarter, less than the $15 million spent in the same period a year ago. To date, projects include completion of production, storage and transportation enhancement to the Company's primary chemistry production facility in Marlow, Oklahoma; the construction and development of a state of the art technology facility for telegraph motors and Flotek's other drilling technologies in Moore, Oklahoma; the construction of a new facility to house the Company's expanded operations in North Dakota's Williston Basin, expansion of Florida Chemical's storage capacity in Waller Texas; the development of expanded laboratory facilities in the Woodlands to support the combination of Flotek and Florida Chemical's advance chemical research, production of new stimulator tools and capital for expansion to meet growth in Commercial and Industrial Chemical Technologies facilities in Florida and enhanced oil recovery infrastructure.

While we will remain vigilant in our careful watch of commodity prices and drilling activity, we believe we are well-positioned to continue to gain market share across segments and across geographies in the months ahead. What that, I would like to introduce Kevin Fisher to discuss recent chemistry initiatives.

Steve, thank you. Flotek continues to make very good progress in extending its market reach with both key Energy Service companies as well as exploration and production end users. We remain encouraged by the opportunities in front of us as we conclude 2013 and plan for the new year. During the third quarter, Flotek accelerated commercialization of the Company's next-generation CNF chemistry, commonly referred to as CNF 2.0. The next-generation product was pumped for three unique clients in the Eagle Ford Shale, the Permian Basin and the D-J Basin. The Company currently has additional commercial validation pilots underway for two clients in the Eagle Ford.

Adoption of CNF as a key chemistry and fracture stimulation project continues to increase across multiple plays, including the Eagle Ford, Utica, Bakken, and Woodford shales and in projects in the D-J and Permian Basins as well as a unique project in Indiana. The wider acceptance of our completion chemistries is validation of our end-user marketing efforts as well as a growing belief in the efficacy of our advanced industry technology. We believe our momentum with key pressure pumping companies and integrated service companies continues to improve. We are working with more service companies today than at any time in the past and believe that number should continue to grow both domestically and internationally as a positive impact of our chemistry on both production rates and reserves additions become more widely understood. The Company also continues to gain traction in the marketing and commercialization of terpene-based solvents to replace xylene, a known environmental contaminant, in the drilling, completion and production of oil and natural gas. We are working closely with a number of key customers on [V-Tech's] replacement programs and expect to have additional comments on our year-end call.

Flotek's enhanced oil recovery efforts continue to grow as well. During the quarter, the Company began work on several Texas and Louisiana remediation projects that should significantly increase the profile of Flotek's EOR capabilities. We continue to believe that EOR will become a more important part of Flotek's commercial portfolio in 2014 and continue to look for opportunities similar to the pending Eclipse transaction that will contribute to Flotek's comprehensive expertise and enhanced oil recovery projects.

Finally, like John and others have indicated, we are very excited about international market opportunities. This week's announcement regarding the development of unconventional resource opportunities around the globe strengthen our resolve that opportunities abound beyond our borders. Our Oman ventures, recent successes in Saudi Arabia, our project in the United Arab Emirates and others all should contribute to future revenues and profits. Moreover, we are hopeful that proposed changes in Mexico to provide opportunities for Flotek increase its presence in our southern neighbor. We will be deliberate in assessing and acting on these international opportunities, and we will need patience as we develop the right approach. However, Flotek's transformation into a global oil field technology provider should add meaningful value for you, our shareholders.

Thank you for your time and interest in Flotek. I'll now turn the call back to John. John?

Kevin, thank you very much. Before we take questions, I would like to add a couple of concluding thoughts.

The opportunities in front of Flotek, many of which you heard about today, make it very exciting to come to work each and every day. At the end of our last call, I indicated that in the balance of 2013, we now must focus on wisely investing capital to create optimal returns for our shareholders through a wise balance of intrinsic growth and external opportunities. We believe our recent investments, our pending investments and opportunities on our immediate horizon should do just that. In addition, we must be acutely focused on execution. Our leadership is more focused than ever on turning opportunities into action and prospects into enduring relationships.

While we won't convert every prospect, we believe our compelling technologies combined with the best people in the industry have us positioned to lead our industry in new customer growth. We believe the efforts of our entire team began to yield significant results in the third quarter, somewhat muted by the impact of Colorado, and continued into the early returns in the fourth quarter. Also implicit in successful execution is creating a more efficient work environment. The successful implementation of a new ERP system as Rich discussed earlier is a big step in the right direction. As a result, we have not only been able to improve data delivery to allow management to make timely and informed decisions; we are able to do so with a more focused staff and less recurring costs. We will continue to make look for ways to make your Company more efficient, allowing more of each dollar of revenue growth to create greater profitability along the way.

As noted in yesterday's release, our October revenues were in excess of $35.5 million, set a new benchmark for Flotek and were driven largely by strong growth in chemistry, especially CNF sales. As noted earlier this week, Colorado has also rebounded after a sluggish October start, and we expect that to continue. While the fourth quarter can be a bit tricky to predict due to holidays and weather, we like the new business that contributed to a strong October and is now up to us to work tirelessly to convert new customers to dedicated clients and grow those relationships. You have my word, I will be at the front of the line to deliver remarkable technologies, exceptional service and an overall client experience that will exceed the expectations of each of our new relationships.

Even before October, the revenue growth when you look back four years is truly remarkable. From a base of just over $10 million in quarterly chemistry revenue in the third quarter of 2009, the Flotek team has made great strides and created profitable opportunities for all of our stakeholders. We look forward to working hard to achieve industry-leading growth in the months and years ahead.

I would like to end with a comment regarding politics and recent elections. Earlier this week, the citizenry of a handful of Colorado municipalities voted to restrict fracture stimulation in their cities and towns. While respectful of their right to act and understand with the privilege of democracy sometimes come outcomes with which we do not agree, we are troubled by a movement that is rooted in emotion without regard for fact and absent any apparent understanding of the impact of their actions on the future of their communities and fellow Coloradoans. Let me be clear, we support responsible development of our country's oil and gas assets and are here to lead the charge on environmentally friendly development.

It is important to note that Flotek filed its first patent related to its biodegradable completion chemistry in 2003, well before environmentalism was a concern among the industry or activists. Today, we are a leader in sustainable chemistry, including our quest to remove xylene and other BTEX compounds from oil field chemistry. We both walk and talk the environmental line. That said, the position espoused by environmentalists that no frac is a safe back is simply devoid of reason. There are thousands of fracture stimulation jobs in the US and elsewhere that are not linked to any ill effects on people or the places in which they occur. Moreover, we are certain if you ask those who are universally opposed to fracking if they ever heard of Flotek, they would come up with a blank stare.

The real fact is that most of those opposed to fracking are opposed because someone told them they should be. And not a single member of the opposition can credibly espouse the position that all fracking is bad without at least considering the environmentally friendly chemistries provided by Flotek. Moreover, any credible advocate would at least acknowledge the widespread economic benefits of energy development and should want to at least consider ways to preserve such benefits. While the battle in Colorado is just beginning, it will be a difficult one for our industry. That said, we will do our part in trying to advocate for sensible environmental oversight of oil and gas development while continuing our quest to expand our suite of environmentally friendly chemistries used across the industry and join our clients and industry members in a program to educate the citizenry about the benefits of development while pursuing a rational dialogue about responsible ways to balance development and the environment.

Finally, as Monday is Veterans Day, we say an especially heartfelt thanks to all members of our Flotek family and their families who have served this great nation. From board members to those in the field, we salute you. Thank you for your service and sacrifice, and we are especially grateful for your commitment to our country and its people. Again, thank you for your interest in Flotek. While we are pleased with our third-quarter results, we are even more enthused about our future and energized by the opportunities in front of us. Most importantly, we appreciate the trust and confidence that you have placed in us and take the responsibilities of being the stewards of your capital very seriously. Operator, we will now open the call to questions.

(Operator Instructions)

Michael Marino, Stephens.

Good morning. Thanks. John, you mentioned in the remarks that, I guess there was some impact in October from the Niobrara. I was curious if you could quantify that? And do you think October included any catch-up given the break in activity there?

Yes, we are not exactly going to quantify it from a competitive standpoint, but there was a rebound after about the first 10 days in October of activity in the DJ basin. But again, you know as well as anyone there is a finite amount of fracturing equipment in that area, and it is not like you can catch up all at one time. The growth we experienced in October was not just limited to some type of improvement in the activity in the DJ basin.

That was my follow-up there, you mentioned new basins. Is it new basins that is driving October? Is it new customers or more of the same or all of the above?

I wouldn't say it is so much new basins. We feel like most of North America we have a presence in from a chemistry standpoint, Michael. There are new clients in the quarter, certainly in October that will continue into the fourth quarter in those basins that we have not experienced before now.

And what kind of visibility do you have with those guys? Are these programs do you think that are getting kicked into gear? Or is this just guys trying it?

Yes, as we have stated in the past, a lot of times how these programs start is with a five or a seven well pilot validation. Frankly, those validations are becoming a little bit easier because there's more and more data that we are able to share with these folks that are starting out using our complex nano fluids. Obviously we hope these validations lead to an ongoing relationship. As I mentioned earlier, they don't all happen that way, but there's more that are happening that way than ever before.

Okay. That is good to hear. Just shifting gears, maybe this is more for Josh. But trying to figure out how I should model the non-Energy Chemicals business. Seems choppy, and seasonally, are there certain quarters that are always going to be better than others? Or is it hard to predict? Maybe some color as it relates to the volatility in that business?

Right, Michael, that is a great question. There certainly is volatility associated with the natural raw materials that come from the citrus crops. Steve alluded to that earlier, that you do see some demand swings. Obviously we did swing down a little bit in the third quarter in our margins. That really can be attributed to the uncertainty associated with the crop fundamentals. US government did not release its USDA crop estimate to date. So that is information that the market is lacking, which certainly creates a little bit of softness in the market from a demand standpoint which does lead to a little bit softer margin as we experienced in the third quarter. It can be difficult to predict. Certainly in the fall, this time of year, with the crop estimates coming out, creates a period where it can be a little bit lumpy as customers wait to hear the data to make their informed decisions so they can position themselves appropriately on the raw materials from us.

Will Q4 see a pickup, or will that be a Q1 event?

I think we will see a little more clarity, certainly by Q4. I expect a pickup not to happen, though, until Q1.

So it is safe to say that is not an October number? The non-energy ramp.

Right.

Correct.

Okay. Thank you. That is all for me.

Brian Uhlmer, GHS.

Thank you. Hi guys. I wanted to ask a follow-up on EOR, it seems like you are not going to hit your target this year. How is that shaping up and what is slowing it down, in your opinion?

Yes, your question broke up there, Brian. But I think we inferred that you are saying we are not exactly pleased where we are with EOR, is that the question? For some reason we've got a bad connection there with you. Just an overview with EOR, for the benefit of the other folks listening in, our basis for EOR was to get to where we felt that by this time of the year, when I was talking about a year ago our expectation would be to have as much EOR activity on a monthly basis as we were generating internationally, which we felt would be in the neighborhood of $1 million. We are actually generating appreciably more than that internationally, just because of the growth that we have experienced internationally.

But the EOR effort, I think the folks that are dialed into that, the amount of publications, the amount of interest in EOR is very apparent, in terms of trying to understand that market and that segment of the market. And it is just taking us, quite frankly, a little bit longer than we thought it would to be embedded the way we wanted to be. Early on I said we have one chance to make a first impression, we still believe that in terms of the clients that we are engaging with that they are seeing improvement with. We are still committed to EOR. That is why we are in conversation with Eclipse regarding that acquisition. It also brings polymer technology into our EOR portfolio, and again, candidly, it is taking us a little bit longer than what we thought, but that does not deter us from where we think we will get to.

Rudy Hokanson, Barrington Research.

Thank you, good morning. A couple of questions. One, could you elaborate a little bit more on CnF 2, because I know in previous conversations we have talked about the fact that you essentially customize your CnF product as required for individual customers and where they are considering to use it. But CnF 2 is something that you have talked a little bit about in the past, and it seems to come up every now and then, and now it is more of an announcement. I was wondering if you could elaborate on that? And then I would like to have some update on your drilling technology, the SSI, the lift system and also in the artificial lift, the stimulator. What you are finding in terms of customer responses? Thank you.

Sure. Kevin, thanks Rudy, we'll answer those in the sequence of which they were asked. Kevin will take the first one on CnF 2.0.

Hi Rudy. As you may remember from the conference in Florida, the CnF 2.0 took about two years to develop. The primary objective with CnF 2.0 was something that our clients could pump at half the concentration. Pump half as much and get at least as good a result. We anticipate 2.0 will become a family of products to fulfill that need, but until the third quarter, we had pumped, I think, just a couple of jobs, and began gathering some production data in the third quarter it jumped up dramatically. We had multiple wells in three different basins for different operators, and since then, we have had a few more wells down in the Eagle Ford that have gone in the ground. By the end of this year, we expect to begin seeing the early returns of production enhancement from the CnF 2.0 in those basins. Right now it is a single product, we will be getting developing CnF 2.0 for other basins, but it appears to be performing at least as well as we anticipated. And after 90 days of production, we will have a much better idea where the 2.0 comes in. But we are really pleased on how it kicked off in a bigger way in the third quarter. I will turn it over to Steve for the SSI and stimulator discussion.

Hello Rudy. From the SSI perspective, the last couple of days I have spent up in Wyoming as we have been looking at our sales. We put out five units in the third quarter, and what is transpiring with that is the customers up in the northern part are doing a run and see during the winter months. Since it's new technology to them, it's new product for us putting out, they are wanting to make sure that the bitter winter in North Dakota months don't have a service effect on these units, which, since they were originated in Canada, we are not too worried about that, and we feel we will be fine. I expect more uplift in the second and first quarter of next year as we get more months of operating time and can go in and talk to the people, talk to the customers and clients about our performance in the nasty weather of the north. As far as the stimulators go, we are very excited about that. We finally, after several technology movements, adjustments to it, we got through in the third quarter, and we ran in the month of October three times the revenue that you saw in there that we did for the entire quarter of start up, and we are still seeing the steam on that a lot. It is just getting introduction with a brand-new product into the field, but we are as excited about it as we have talked all along. We see no reason to have a hiccup with it on a go forward, and we do expect to see in the following years substantial revenues contributed by the stimulator in all areas across the United States.

Okay. Thank you.

Roman Kuznetsov, Gates Capital.

Hi, it is actually Jeff. I have a couple of questions, the $3 million of sales that you lost in Colorado during the quarter, I guess it was CnF primarily. What would the flow-through gross margins physically be on that $3 million of incremental sales of that highest-margin product?

Yes, we don't really publicly put that out there, Jeff. I think everyone pretty well understands CnF is our prime gross margin product, but suffice it to say it had a measurable impact on the financial performance at the end of the quarter, that is for sure.

The other question I have, how should we be looking at the growth rate in the next two or three years on the core chemical side?

We put the statistic in there from where it was in 2009 until now for a reason, and that was to illustrate for folks who may not have track of just how far we have come, and what many people would describe is at least, if not a complete headwind, at least a partial headwind market. So with respect to CnF, we have consistently said by this time at the end of 2015, we expect to have three times as much activity with CnF as we do today. We see nothing that changes our view of that opinion. The core rest of the chemicals we expect to continue to grow at a rate slightly above wells drilled. I think everyone understands now that the rig count is an outdated measure of activity. It is now much more what people referred to as service intensity, and there appears to be an indication that these fracture completions are growing in volume which will drive more of the friction reducer and chemicals of that nature. So, again, we see nothing to make us waiver from our view that within two years, the end-up will be at pace of three times the activity of CnF that we are today.

Then my last question is, how would you handicap the integration of Florida Chemical so far, and how soon might you be ready to take on something else? On the acquisition side?

That is a great question. We would give ourselves somewhere around a B to a B plus, but we set a pretty high standard for ourselves. The integration of JD Edwards is moving quite nicely. All the financial numbers are blended through the central system, we'll be fully integrated with JD Edwards by the end of the year with Florida Chemical. For the folks who have been with us as long as you have, two years ago we made a statement that it would have been absolutely irresponsible for us to consider an acquisition of Florida Chemical size about an ERP system like JD Edwards. So the fact that we can have that completely ingrained within eight months or so, we are pretty proud of. And to directly answer your question, we would be prepared in 2014 to embrace, if the circumstances are right and the value is right, another meaningful acquisition, if that were in the best interest for Flotek.

And as far as other capital requirements, how much capital will Oman, your share of the Oman construction require in capital contribution? And what do you anticipate your range for CapEx for 2014?

Yes, so we consistently said about $6 million is our part of the Oman endeavor, and to be fully candid with you, we are in the planning stages right now for the 2014 plan. Inherent in that plan is what we expect capital to be. At the outset, going in, we don't expect it to be any more than what we had envisioned for this year. As you heard us say earlier, our actual capital is less through the third quarter than what we anticipated it to be. But we don't expect 2014 to be at a rate any higher than what we expected for this year.

Okay. Thank you.

Sure. Thanks for the questions.

Rudy Hokanson, Barrington Research.

Thank you. I was wondering, and I know you don't get that specific about this, John. But my impression was when customers approach you about using CnF, maybe this is something Kevin would like to comment on. But you do have a lab and do research on cores, and you look at what their formation is about and what you need to tweak with your particular cocktail or the ingredients for the CnF to be used there. I was wondering, is there a way to talk about backlog of customers waiting to find out what you can construct for them, or the number of customers maybe in queue waiting for interest? Rather than -- sometimes, and the reason I am asking this is, I gather that there might be more pent-up demand that the revenue numbers show, and it has to do with a matter of making sure that you have the right thing to go out and work with them, not just sell something off the shelf. If you could comment on that or talk about what you're doing to make sure you address everyone's needs?

Sure, I will answer that for just a second and then turn it over to Kevin. One thing we have certainly discovered through the commitment to research is the value of customized chemistry. It may or may not be written when the history books are written, but we really believe that we took a leadership role in illustrating that the shale is not the shale is not the shale. And at is all different. Now Kevin can talk to, maybe with a little more specificity, about your question about pent-up demand and backlog at our Woodlands research facility.

Yes Rudy, you are a perceptive guy. This lab tech we do for clients continues to build. Our win rate is pretty high. When we have a customer committed to provide his core, their oil samples, their frac fluid samples so that we can run the tests in our lab, we have a pretty high win rate from there. The backlog through the beginning of this year, the residence time in our lab of all of those samples in order to give a final answer of which product is best for the customer to use was about three weeks, and that number has been increasing. We have added people, we have added equipment, we are getting ever more of those samples in. The things we look at in the lab are things like the rock itself, how does it absorb and spend up our surfactants. The oil, what is the properties of the oil and what do we need to do in terms of thinning and demulsification and scrubbing that oil, the salinity of the frac fluid has a lot to do with performance. We have a number of tests that have to be performed. Typically with the backlog, it had been three weeks, it's probably more like four weeks in the lab now, but we have added, like I said, resources to address that. It is a very important part of customizing that chemistry, as John said, the shale is not the shale, it is not all alike.

So while you have been adding capacity, the backlog continues to go up?

That's correct. And we measure that backlog both in terms of number of samples in the lab to be tested and just that residence time of what how much time it requires to get a test that comes in today before we have the answer to the customer.

Okay. Can I ask, after you go through and have that answer to the customer, what is the normal time until the sale is realized? All the way from getting the okay from the customer to making up whatever kind of batch you need to make up and dispensing it or shipping it and recognizing it as revenue? What is the lead time, how long does it take when somebody comes in and says I heard about this, I really want to do it. How long do you have to say, well the fastest we can get it to you is X or something. Do you have a ballpark on that?

It really, Rudy, depends on the customer, what is his or her activity levels are. With the pad drilling that goes on today, where they are drilling multiple wells from the same pad, the amount of fracking that goes on 24/7 is quite a bit higher than when they were out there drilling the old leases because they can do things so much faster. So the time from the conclusion of a test can be anywhere from a week or so. If they have an ongoing pad that is being fracked every day out there, it can go fairly quickly. But some of these clients, the ones who are maybe not quite as active and the ones who are maybe a little more perceptive that come in with some lead time, their project may not start for a couple of months. It can range from a week away, to two or three months away, depending on when the client's project actually kicks off.

Just a question in regard to the pad drilling, as we are seeing more and more companies announce results of being able to go down through various benches, and again knowing that even though they might be standing on top of the same location, there could be several different formations that they are going through. Have you had to address somebody coming to you and saying, we really want to use it, but by the way, we've got two or three locations at the same time that we want to be doing?

Yes, the bigger players, the South Texas Eagle Ford has Buddha and Austin Chalk overlying that, Woodbine in some cases. The Bakken has Three Forks and Sanish and other benches above the Bakken. The Permian of course is famous for 1000 feet of stack pays out there. When we talk about running the samples and running the tests in the labs, we are running it for one of those pays. If they've got multiple pays and they are actually exploiting multiple pays, then there is more testing to be done. Because each pay, even though it is from the same pad or from the same county, can be different. One thing I will say though, is the pad drilling, my belief is it offers better opportunities for clients to really benchmark the performance of the CnF. Because now we are drilling 5, 6, 10 wells off of the same pad that are all pretty close together versus wells that are remote as they delineate the field, now we've got a great test case where they can pump CnF and in three wells and not pump CnF in three wells and directly compare those results from wells that are very close by. it's very useful for the operators and for us to be able to benchmark the performance of the CnF, and we are very happy with the pad drilling concept.

Okay. That is an interesting perspective. Thank you. Those are my questions.

Keith Maher, Singular Research.

Good morning gentlemen. Question about, just you are talking about the CnF and seeing some market penetration beginning to accelerate. And I know you touched a little bit on this, just a little more color there as to why you think this is happening at this point in time?

Well, the process takes time. We have tried, really tried to put this in a framework that it's not a step functional change in terms of activity, that it will take time to realize that. And it is a culmination, there is now more publicity, there is an American business congress meeting in Houston on the Eagle Ford completions, a particular operator by the name of Plains, that has now been sold to Freeport McMoRan. That operational CEO manager reviewed different technologies in that that they had tried to improve their EUR, and the one that they can see real benefit from was CnF. Two others didn't make the grade. That was a very important event for us in terms of having independent validation from an operator in that community, particularly with respect to the Eagle Ford, and there is just more and more acceptance that is developing in the marketplace. It is not atypical of this or other technologies, not only in this industry and others in terms of the growth that you expect, and that is the way it is playing out.

Okay. Great. That was helpful. Question on the terpene-based xylene replacement. I don't think you have revenues from that yet, but curious as to when you may, and are you looking, if you could talk about some of the markets beyond oil and gas where that might have some applications?

Right. Actually we do have revenues for xylene replacement initiative. We talked about early on in the quarter some revenues, and Josh can talk to you certainly in general terms of some activities with cleaning, steam cleaning of solvents and all of that, that we are trying to replace xylene with, completely unrelated to going in the oil and gas well. Josh an give you background on that.

The terpene chemistry xylene replacement, every day we continue to get more and more calls. We had a great meeting yesterday with a group that has the potential to expand to a couple million pounds of new volume next year. So we continue to get more calls from, whether it's the EMP companies or the service companies that are looking at alternatives. They are not completely, I mean they are not required to move, so there is a little bit of a slower play, but whether it is cleaning out dump trucks up in Canada that have all kinds of asphalt teams that make them less efficient. Whether it is going down into a well bore, whether it's cleaning well heads or other equipment, there is numerous opportunities for us to replace the BTEX compounds not only in oil and gas, but also in other related industries as we look across over to the CICT group as well.

Okay. Thanks. That was helpful. Question on SG&A. Obviously it ticked up recently as a result of the Florida Chemical acquisition, but it looks like it's come back down this quarter. I was hoping you could give some guidance going forward as to what level we should expect SG&A to be at?

Yes, from a pure dollars standpoint, we don't see anything materially that will affect the dollar number. We have done most of the heavy lifting to get us into a position to where it is now. So as a percentage of revenue, that SG&A number will continue to trend down. We look at it a couple of different ways. We slice it not only in the SG&A of the Company, but also what we would call the corporate SG&A, specifically dialed in just to the corporate, and that number over the last three quarters has trended down as well. So, we feel very good about where we are with the SG&A, and the ERP initiative actually has had a positive effect on that in terms of the efficiency of the accounting and finance effort at Flotek.

Mr. Chisolm, there are no further questions at this time, I will now turn the call back to you.

Thank you very much, and thank everyone for your support of Flotek. It is right before the holiday season, we hope everybody has great holidays, and we look forward to speaking to everyone again, early in the new year, and thank you again for your interest in Flotek.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.