Ion Geophysical Corporation (IO) 2013 Q3 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to ION Geophysical's third quarter earnings call. During today's presentation all parties will be in the listen-only mode. Following the presentation the conference will be open for questions. (Operator Instructions). This conference is being recorded, November 7, 2013. I would like to turn the conference over to Karen Abercrombie, Vice-President of Corporate Communications. Please, go ahead.

Thank you, Douglas. Good morning, and welcome to ION Geophysical Corporation's third-quarter 2013 earnings conference call. We appreciate you joining us today. As indicated on slide two our hosts are Brian Hansen, President and Chief Executive Officer, and Greg Heinlein, Senior Vice-President and Chief Financial Officer. Before I turn the call over to them, I have a few items to cover.

We'll be using PowerPoint slides to accompany today's call. There accessible by a link on the Investor Relations Page of our website, iongeo.com. There you'll find a replay of today's call following the call. Information reported on this call is only as of today, November 7, 2013, and, therefore, you're advised that time-sensitive information may no longer be accurate at the time of any replay.

Before we begin let me remind you certain statements made by ION during this call may constitute forward-looking statements, which are based on our current expectations and include known and unknown risks, uncertainties and other factors, many of which we are unable to predict or control that may cause our actual results or performance to differ materially from any future results or performance expressed or implied by those statements. These risks and uncertainties include the risk factors disclosed by ION disclosed by ION from time-to-time in our filings with the SEC, including our Annual Report on Form 10-K and are Quarterly Report on Form 10-Q.

Furthermore, as we start this call, please refer to the disclosure of forward-looking statements included in our press release issued yesterday and please note that the contents of our conference call this morning are covered by these statements. I'll now turn the call over to Brian Hansen who will begin on slide 4.

Thanks, Karen, good morning everyone. The first nine months of the year have certainly been disappointing. Our year-to-date revenues were down 6%, and the third quarter was picker particularly challenging, especially, in our multi-client business. During the quarter we recorded $182 million in restructuring charges in special items, including $73 million associated with our lawsuit with WesternGeco.

In a moment Greg will take us through those restructuring charges, along with the rest of our third quarter financials, but first I would like to share some perspectives on the quarter starting with an update on the lawsuit. Last month the presiding judge entered an order on supplemental damages, and ruled that the damages for the DigiFIN units, both in unsold overseas inventory and units sold since the trial date, should be calculated by combining the Gerry's previous reasonable royalty with loss/profit damages awards per unit.

As a result, right US GAAP dictates we increase our loss contingency accrual from $120 million to $192 million, recording an additional $72 million non-cash charged to cover these supplemental damage and interests. We have made good progress pursuing incremental support for the appeal bond, and are working with underwriters to firm that up now. While we're disappointed by this new development, we're highly confident in securing the bonding soon, and we believe more than ever we have a strong merit in our defenses.

We look forward to appealing the judgment, a process that could take up to two years after adjustment is entered. Now, I would like to walk you through some of the operational aspects of the quarter, starting with our multi-client business within our solutions segmentThe third quarter was a particularly soft quarter for multi-client sales recognizing only $17 million of revenue.

The overall industry has seen a softening in new venture activity and underwriting, which we believe has cause � has been caused, in part, by a reduction in proprietary surveys and access marine seismic data acquisition [precocity, creating incentives for contractors to keep their fleets utilized in multi-client programs and testifying competitionAs a result we have consistently delayed our investments in new programs, and sanctioned only when we saw appropriate underwriting levels.

In addition, data library sales are always somewhat unpredictable, but we haven't experienced a quarter this soft since the second quarter of 2010. Of course, in total that year turned out to be great, so the looming question one has to ask is what will the fourth quarter bring to bear? This year we've seen data library sales pushed out quarter after quarter, primarily due to delays and key licensing rounds in Tanzania and Greenland

While many of the deals that were delayed are either now closing or look promising, the previously mentioned competitive contractor market could put pricing pressure on our Q4 push. There is also uncertainty in the fourth quarter around the nature of our prospective customers in the sales pipeline. The pipeline itself has never been more robust, but the complexion of customers has shifted from the typical IOCs to more nontraditional independents, which have, historically, not been our bread and butter.

Generally, we have hypothesized that our traditional IOC customers are taking a spending pause acquiring exploration sense, as they focus on cash flow and return to investors in the short term, while the smaller independents are positioning themselves to take advantage of this pause and capitalize on potential upcoming asset sales. This uncertainty makes it very hard to predict the fourth quarter with the level of confidence I would like to have. That said we have a healthy, geographically diverse library, and we're appropriately positioned for upcoming license rounds this fourth quarter and through 2014.

To point out just few off the Canadian coast of Labrador where a round is expected to take place next year we recently completed acquisition of a 6500 km survey. In Greenland we have over 17,000 km of TD data, and a 50,000 square Kilometer of gravity gradiometry data, positioning us well for both the Kanumas awards anticipated this fall, and the ordinary round awards expected in the first half of 2014. We expect traction for our new 12,000 km survey, offshore Australia's northwest shelf, where 31 blocks are on offer.

Moving to Africa, as we mentioned on previous calls, we are currently managing the Tanzania licensing round for the Tanzania Petroleum Development Corporation. The round was officially announced last month, for which we have 20,000 km of 2D data offshore east Africa. This data is also relevant for the upcoming Kenya round which was delayed till next year. In Brazil, while the reduction in scope of the Pre-salt bid round was a bit of a disappoint, we're well positioned with 30,000 km of Brazil span data for the upcoming Pre-solve round expected to take place either next year or in 2015.

And we have another 34,000 km of greater Brazil span data, relevant for the 13th round slated for 2015. In addition, we're also well positioned upcoming license rounds for Caribbean, the Golf of Mexico, Indonesia, and Sri Lanka. Turning to our systems segment, in our second quarter call I mentioned that we have installed new leadership in our system segment and we're taking a hard look at managing the division for profitability. In the third quarter we restructured this segment adjusting it for long-term competitiveness and profitability.

We introduced refurbishment programs targeting our huge installed base of legacy towed streamer products, which should help expand margins. We also reduced the cost structure of our legacy towed steamer product line, shifting our focus, including all of our R&D efforts, to the seabed market where we see the greatest opportunity for ION. We also streamlined the cost structure of our business of our land censored Geofoam business to allow us to be more cost competitive in the price-sensitive geofoam market.

Overall, we reduced our systems division headcount by about a third, and have reduced our annualized operating costs by approximately $12 million, which will begin to show up in our fourth quarter operating results. These changes were difficult. It's never easy to let good people go and we're glad its behind us.

But these actions were necessary in accelerating our strategic shift from being a manufacturer of products for seismic contractors to leveraging our key technology and higher value integrated solutions we provide directly to E&P companies such as shooting seismic in the arctic and building an integrated seabed company. We believe this segment is now well positioned for profitability moving forward. I should also mention that in the third quarter our Nova joint venture initiated restructuring program in response to the continued softness in the land market and competition between land market providers. This restructuring is intended to enable the business to operate profitably at the lower revenue levels in $165 million to $180 million range.

Greg will expand on this later in the call. Our data processing had strong revenues driven by strong demand in Europe, the Middle East and the Gulf of Mexico, as continued demand for our broadband processing solution WiBand. However, as we indicated on our second quarter call we were unable to recognize $7 million of revenue for work performed for a large customer, as we're working on final execution of a new contract given to be worked through the amount allocated under the previous one.

We will be able to recognize those revenues once the contract is executed, which we expect to occur in the fourth quarter. We continue to expand our data processing infrastructure to accommodate increasing customer demand recently for higher end solutions, recently relocating our Houston data center and increasing our [compute capacity by 50%. Next, I would like to provide a brief update OceanGeo seabed JV.

While we are still holding ownership and this JV of 30%, we have made some good progress on secured backlog, and expect to have some positive news on increasing ownership soon. As we mentioned on our second quarter call, we have been assisting OceanGeo to aggressively move into the international market getting them prequalified (inaudible) through the tender cycle, and are tendering more than $1 billion of potential work.

We firmly believe that the market for seabed seismic continues to develop, and customers are being very supportive of our efforts. With that I'll turn the call over to Greg to take us through the financials, and then I'll provide a few closing remarks.

Thank you, Brian. Good morning, everyone. Before I get into our operating results by segment, I would first like to provide overview of the significant charges that we took this quarter resulting from our restructuring and though WesternGeco legal reserve. We reported a third-quarter GAAP net loss of $202 million, a loss of a $1.29 per diluted share. Included in this net loss are several restructuring and other special charges totaling $182 million impacting our diluted per share by $1.16.

Excluding these charge our net loss was $20 million, or a loss of $0.13 per diluted share. These restructuring and other special charge including $31 million impacting our cost of sales, of which $25 million related to inventory and severance charges within our system segment, and the $6 million partial write down of the land program in our solution segment. $11 million impacted our operating expenses, of which $9 million related to the write down of our receivables and equity in the OceanGeo joint venture, plus $2 million of systems severance charges.

$73 million impacting other expenses primarily related to increase in our legal reserve on the WesternGeco lawsuit. $62 million related to establishing a valuation [allowance on our net deferred tax asset. This one will take a little explanation. Because of the large litigation reserves and the other third quarter charges, a full valuation allowance was established to reduce deferred tax assets to zero. This means our effective tax rate should be significantly lower for the next couple of years, as we expect to begin utilizing our net operating losses that have been fully reserved.

Finally, $5 million related to the full conversion of our preferred stock in ION common shares. Our preferred shares are not [callable, nor do they have a maturity, and we been paying interest on these since 2005. We felt it was prudent to convert these in this $5 million present value on five years of future dividends. As we prepare our capital structure for greater flexibility, we felt it was prudent to convert these from this $5 million (inaudible) the present value on approximately 5 years of future dividends. Of the total $182 million of special charges only $16 million required using cash.

It's important to note that regarding our write down of OceanGeo we continued to assist the JV in securing new programs as quickly as possible. During October and early November we provided $4.5 million of additional financing to ready them for upcoming contracts.. However, until OceanGeo lands its next project award, we felt it was appropriate to write down our prior investments. With that, the remainder of this call will be focused on our poor results excluding restructuring and other special items.

Turning to slide 11, our third-quarter revenues were $79.8 million, down 41% of the third quarter last year. All three of our segments contributed to this decline. Solution segment revenues were $43.4 million, down 53%. System segment revenues were $26.3 million, down 16%. In software segment revenues were down $10 million, down 23%. I'm sorry, software segment revenues were $10 million, down 23%.

Our operating loss for the quarter was $14.6 million as adjusted for restructuring items, compared to an operating income of $25 million in the third quarter of last year. This decline in operating income was primarily due to the significant decreased revenues within our solutions segment. Now let's take a closer look at our third quarter performance starting on slide 12. Our third quarter solution segment revenues were down 53 there's year-over-year due to a 73% decline in our combined new venture and data library revenues, and an 8% decline in our data processing revenues.

The decline in our new (inaudible) was attributable to the overall softening in underwriting of new programs, while data library revenues declined year-or-year due to further delays and licensing rounds in key geographic locations. As suggested in our second quarter call, our data processing revenues were impacted by approximately $7 million of unrecorded revenues tied to a customer contract pending final execution. Heading back to this work performed in Q3 our third-quarter data processing revenues would have been up 17% over third quarter 2012.

Our multi-client investment during the first nine months of the year was $69 million compared to $106 million spent in the same period last year. We do expect to increase multi-climb program investment in the fourth quarter related to our expanding trading North American land programs, as well as several new 2D [million programs that are adequately under written. We now anticipate our full year investment will be in the range of $100 million to $120 million..

Turning to slide 13. Similar to what we've experienced last quarter, we saw a decrease in software segment revenues due to the continued impact from consolidation in our customer base. Our year-to-date software segment revenues are down 16% compared to last year. A bright note we continue to see increased demand for our 4D survey optimization services resulting in another record quarter for our service revenues.

Overall, operating margins remain good at 62% compared to 70% the prior year. Moving to the next slide, system segment revenues decrease 16% to $26 million. This decrease is primarily related to a decline in revenues associated with new positioning systems sells, partially offset by an increase in repair and replacement sales to our existing customer base. We experienced a decrease in system segment operating margins as adjusted to 14% down from 02%.

As a result of our third quarter restructuring, we would expect our operating margins in our systems segment to increase by 800 to 1000 basis points moving forward. Overall, we have reduced our systems operating cost by approximately $12 million per year. Turning to slide 15, INOVA's revenue in the second quarter was $61 million, and they reported a net loss of $$500,000, resulting in a small equity loss to our third quarter results.

Overall, INOVA experienced a 29% increase in revenues compared to the prior year period attributable to further increased sales of their G3i cable-based system. INOVA's operating margin in their second quarter was a positive 3% compared to a negative 8% one year ago. For INOVA's third quarter, we estimate revenues to be in the range of approximately $38 million to $42 million, which would be an approximate 60% increase to the third quarter one year ago. We expect their operating margins to break even.

As Brian mentioned during the third quarter, INOVA initiated a restructuring plan in response to continued softness in the land market. This restructuring, which reduced in INOVA's workforce by about 20%, is intended to enable the business to operate profitably in the $165 million to $180 million revenue range, and should reduce their operating cost by $7 million. As we report INOVA on the one fiscal quarter lag, our share of INOVA's restructuring charges will impact our fourth quarter results.

Turning to slide 16, as of September 30th, our cash balance stands at $88.6 million, down from $109.5 million in the second quarterCash from operations was a negative $6 million due to the low revenues overall, partially offset by reductions in our multi-client investments, and collections on our accounts and [undead receivables during the quarter. Turning to slide 17, we have full availability under our $170 million credit facility, which when combined with our cash on hand brings our total available liquidity to $263.6 million at September 30th.

Our net debt increased to $97 million during the quarter, primarily attributable to the $21 million decline in our cash balance. We are prudently managing our business to generate positive cash flow, and are comforted with the full availability we have under our credit facility, and the almost $90 million cash on hand at the end of September. Before I turn the call back to Brian for closing remarks I wanted to provide some brief thoughts on our reserve for the WesternGeco litigation.

In total we have reserved $192 million for this matter, which is an incredibly large number given the size of this [project, historical revenues and operating impact. To put it in perspective, the monitory damages on each DigiFINN unit recently assessed by the court are nearly 2 1/2 times our average historical sales price for that product. We are well along in our process of securing incremental bonding should it be necessary to cover the full amount of the award prior to proceeding with our appeal.

Within the court's recent order is the possibility to petition the court for a partial reduction in damages, as a result of the recent settlement between (inaudible) and WesternGeco. We look forward to initiating the appeals process to resolve the lawsuit as soon as possible. With that I'll turn it back to Brian.

Thanks, Greg. By all accounts our financial performance this year has been very disappointing. Due to the competitive dynamics the seismic market has clearly softened, and we've undertaken some integral realignment and restructuring that has caused significant mainly non-cash charges.

Nonetheless, we remain confident in our long-term strategy. Let me briefly recap some of the discussion from our second quarter call pertaining to our growth strategy. First, we have restructured our system segment adjusting it to operate more profitably with reduced revenues, and introduced a new business model around refurbishing the install base.

Second, our focus is on the lucrative seabed market, and I'm putting our industry leading Calypso technology to work in a service model and we're striving to do that in support of E&P customers currently evaluating our (inaudible). In addition, all of our systems R&D efforts are now focused on seabed acquisition and driving acquisition efficiencies. Third, we're expanding our E&P-facing relationships in our software segment. Our launch of our new Narwhal ice management system at the Society of Exploration Geophysicists show in September was extremely well received.

We have two commercial projects underway in the Canadian Northwest Passage and offshore Baffin Island and we look forward to providing more updates on Narwhal in the coming quarters. Next, we're still smartly but conservatively investing in our multi-client business, and are appropriately positioned for upcoming licensing rounds in key areas of the world. While these have not yet played out for us this year, we remain confident in their near-term value. In addition, we are well-equipped to enter and grow in the 3D marine market with our recently announced alliance with Polarcus for 3D multi-client programs to which we have access to Polarcus's world-class seismic fleet.

Next, our data processing business continues to grow nicely, and we expect additional growth through geographic expansions through southeast Asia and the Middle East, as well as from organic growth in our core regional centers in northern Europe, Houston and Denver. Finally, we continue to invest in our 3D land (inaudible) scan and micro seismic offerings from conventionals with two programs already sanctioned for 2014. So far it's been a rough year.

We have great people pursuing some fantastic programs and new offerings, and we remain convinced our evolution to a service provider and trusted adviser to E&P companies will build a quality consistent and more predictable business in the next 12 to 18 months. With that I will turn it back over to the operator for Q & A.

Thank you, sir. We will now begin the question-and-answer session. (Operator Instructions). Our first question is from the line of Georg Venturatos with Johnson Rice & CompanyPlease, go ahead.

Hey, good morning, guys.

Good morning, George.

I wanted to start on the new venture side. Obviously, it sounds like you've got some nicely underwritten work for Q4, but you do mention the delay in investments and new programs. I guess just looking out beyond 4Q, can you talk a little bit about what you've potentially got in the backlog of programs that are underwritten for 2014, or how do you kind of look at that at the moment?

Yes, that's a great question, George, and I can tell you that I'll be looking heavily at the fourth quarter and seeing, you know, there is a little bit of noise in the industry, and I'm very much interested to see how that fourth quarter plays out. But for 2014 we have a number of programs on the docket, but it's a struggle getting underwriting levels that are adequate, and we're not going to show a lack of discipline, and we're not going to go up there in 2014 and execute programs and take significant risk. It's not our model, and so we're hesitant to do that. I can tell you for 2014, we have two fairly meaningful land programs that are already sanctioned. Those programs have been sanctioned with underwriting levels that are north of 80%. And that's the kind of discipline we're going to impart for next year. I wish we had a crystal ball to tell what activities are going to be like next year, but time is going to show that to us.

Okay, yes. That was kind of my follow-up question, but I think you answered it in terms of how do you adjust to your threshold in terms of underwriting that is needed for these projects, but it sounds like the answer is you're staying pretty steady there with where you've been in the past.

You know, George, I would probably even say that we are probably going to tighten it up even a little bit more. We're going to be focused on generating positive cash flow in 2014, not taking unnecessary risk. We just see that -- if you look at the activities in the third quarter, a lot of competition in multi-client seems to be really taking a lot of risk in their programs. That's just not our model.

Okay, and then on the OBC side, obviously, you know, the road down receivables with that business, the JV at the moment, I know you're tendering for a number of projects out there, and it sounds like timelines are coming up to hear back. Can you remind us of what you, I guess, [bailing of tendered projects, could you remind us, maybe, of the number you would need to feel comfortable from a backlog standpoint to move forward with the JV, both maybe on a dollar value and kind of on a number of projects that that would represent?

Yes, I think that the--I'm not sure it's so much a dollar value, George, as much as it's seeing a clear path to keeping the crew busy. I think we clearly see that. The reason I say that is there are a few programs that we believe are going to be awarded very soon that will comfortably provide a six months, a five or six month window of workOn the heels of that there are several programs that are very large multi-year programs that could potentially fill the pipeline to keep that crew busy, certainly through 2015 and probably into 2016. And I believe that looking at the nature of the programs and the designs of the survey that they are very, very conducive to Calypso, so I believe the [business is really well-positioned to Windows awards. So, I would say that our confidence level is increasing around building a nice backlog, but I think we'll know more by the end of this quarter.

All right, appreciate the answers, Brian. I'll get back in the queue.

Thank you, our next question is from the line of Joe Maxa with Dougherty & Go. Please go, ahead.

Joe, you must be on mute.

Hello, guys. Can you hear me?

Yes. Good morning, Joe.

Okay. Sorry about that. Good morning. Yes, I wanted to follow up on the seabed side, and I'm really talking, you know, thinking about the Calypso [product. Is that still on track for commercial availability by -- was it at the end of the first quarter?

Yes. Great question, Joe. We actually have an one full array, one full 12 km array, that has been constructed, and it's on its way down to be put on a vessel, and be put through its final testing, side-by-side with the current BSO system. We'd expect that that will be completed by the middle of December, and then we'll roll into a full manufacturing process, and that (inaudible) speed of that process will be dictated by the nature of the surveys that were awarded, and the amount of kit that is going to be required on the vessels. But, certainly, Calypso will be, yes, it absolutely will be available, commercially, for the first quarter of 2014.

Thinking of how that's funded you're adding more money into OceanGeo now. Are they going to be able to -- is the joint venture going to be able to pay for that? How much risk are you taking in developing this product?

You know, we'll get into more specific details when we provide an update on OceanGeoI can tell you for the Calypso line, itself, we pretty much have already invested in a majority of the inventory to construct the systems. We've invested in the manufacturing facility. That's all built up, so the real question is how much incremental investment is needed, you know, to build the system to provide to the joint venture? And the answer to that is entirely subject to the nature of the surveys that were awarded. So on one hand, it could be very little. On the other hand, there are some [acute surveys out there that are multi-year surveys that may require a little bit more capital to be injected. But, overall, in both scenarios, it's not a stupidly unrealistic number. It's very appealing.

Okay. And then I wanted to just discuss a little bit of your alliance with Polarcus. When do you see this starting to materialize. Obviously, there have been concerns in the market, but what have your discussions been and what are you guys thinking about today?

It really depends on the quality of the program that you put together relative to being able to attract underwriting. We really believe that that's what we bring to the party with Polarcus. We can, you know, we've got quite a bit of geophysical expertise that will let -- that will bring to bear on that. So what we're doing today with Polarcus is our mutual teams are working through the various opportunities that we've identified. We're prioritizing them. We're trying to rank them, and then, mutually, we'll select programs and pursue underwriting levels. So, I would expect that it's probably going to be the first quarter of 2014 before we actually get to work on a program.

All right. Thank you very much.

(Operator Instructions). Our next question is from Rudy Hokanson with Barrington Research. Please, go ahead.

Good morning. I was wondering if you could talk a little bit more about the competitive nature of, you know, your software versus the competition. It came up in the second quarter, and, you know, I was just wondering if you can may be flesh that out a little bit, and if you're making any investment, or if you are seeing may be deterioration slowed down. Any kind of guidance on that?

Sure, first, I would step back and remind that you our strategy is one where we're shifting the focus of our business away from marine contractors and trying to provide solutions and offerings for E&P clientele. We're deliberately intending to becoming what we call a first check business versus pay second check business, where our contract is paid by E&P and then pays us. So our investments on the software side of the house on building up and offering that E&P clientele will value. That's where we're investing and that's where we're growing.

The first offering we're rolling out is the Narwhal offering, which I mentioned on this call and we officially launched in September. Its commercial. We've got two active programs going with it today, so we see quite a bit of growth opportunity there. If you want more information on Narwhal there is actually an interesting video on it on YouTube that we put out there. The (inaudible) part of our software business, the command and control part that the contractors use, you know, we're very well entrenched in that area.

There is one competitor of ours, CCG is -- has developed an offering of their own, and they are slowly converting their fleet over to their offering. That's where you've seen a decline in the business. The rest of the marketplace is actually quite solid.

Okay, thank you very much.

This are no further questions at this time. Please, continue.

Thank you for taking the time to attend our conference call, and we look forward to talking to you in the fourth quarter call.

Ladies and gentlemen, that does conclude our conference for today. If you would like to listen a replay of this conference call, please dial 303-590-3030, or 800-406-7325 and enter the access code 4644944. We would like to thank you for your participation, and you may now disconnect.