Natural Gas Services Group Inc (NGS) 2005 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the Natural Gas Services Group third quarter and 9-month financial results conference call.

At this time, all participants in a listen-only mode.

After the presentation, we'll conduct a question-and-answer session.

Operator assistance is available at anytime during this conference by pressing star 0.

Your leaders for today's call are Jim Drewitz, Creative Options Communications;

Wallace Sparkman, Chairman;

Steve Taylor, President and CEO.

I would now like to turn the call over to Mr. Jim Drewitz.

Mr. Drewitz, you may begin.

Thank you very much, welcome, ladies and gentlemen.

It's my privilege to read the forward-looking statement and let me get right to that.

Except for historical information contained herein, the statements in this conference call are forward-looking and made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements involve known and unknown risks and uncertainties which may cause NGS' actual results in future periods to differ materially from forecast results.

Those risks include, among other things, the loss of market share through competition or otherwise, the introduction of competing technologies by other companies, a prolonged substantial reduction in oil and gas prices, which could cause a decline in the demand for NGS' products and services, and new government safety, health, and environmental regulations which could require NGS to make significant capital expenditures.

The forward-looking statements included in this conference call are only made as of the date of this call and NGS undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances.

A discussion of these factors is included in the Company's Annual Report on Form 10-K filed with the Securities and Exchange Commission.

With that I would like to introduce Mr. Steve Taylor, President and CEO of Natural Gas Services Group.

Steve?

Thank you, Jim.

And thank you everyone for joining Wallace and me and Natural Gas Services Group's third quarter 2005 earnings call.

As announced this morning, the Company continues to grow at an exceptional pace, in all portions of our business and in all geographic areas.

I'll first review the financials, but as I compare earnings and income figures I want to remind everyone we're comparing operating results, and these do not include the financial effect of the extraordinary life insurance proceeds the Company received in comparable periods last year.

From a revenue perspective, third quarter of last year versus this year, we had $3.87 million in revenue last year third quarter, we had $12.46 million in revenue in third quarter this year.

That's a 222% increase we saw.

Comparable nine-month periods in 2004, our revenue was $11.22 million, our revenue the first nine months of this year was a little over $35.5 million for a 217% increase.

Our net income in the third quarter of '04 was $451,000.

Our net income in this third quarter of 2005 was almost $1.1 million, or 142% increase.

The comparable nine-month periods in 2004 our net income was $1.21 million.

Our net income this nine months was $3.06 million for another triple-digit increase of 153%.

Gas and operations, when comparing the nine-month periods in 2004, was almost $3.2 million the first nine months of this year, it was a little over $4.1 million for a 30% increase.

EBITDA, which is essentially a proxy for operating earnings, third quarter of last year was almost $1.6 million, third quarter of this year a little over $3.3 million for a 109% increase.

The comparable nine-month periods our EBITDA last year was $4.3 million.

This year a little over $9.3 million.

Again, a little more than double for 116% increase.

On an earning per share basis, looking at the fully diluted numbers, the comparable nine-month periods, 2004 our earnings per share was $0.19.

This year, $0.37.

It has almost doubled in spite of our outstanding shares increasing 32% over the same period of last year, the same nine months versus nine months.

Looking at quarter-to-quarter growth in earnings per share, our third quarter 2005 EPS was $0.12, our second quarter 2005 earnings per share was $0.13.

On a fully diluted per share basis we went down a penny, but our fully diluted outstanding shares increased by more than 700,000 shares, which is almost 9%, in the third quarter alone, and this is from our warrant exercise.

I'll talk a little about that later, but this dilution provides the Company with more than $9 million in total new funds throughout the year, which enabled us to do two things, reduce bank debt, and build more rental fleet compressors.

We now have a stronger balance sheet and even more potential earnings power going forward.

We are a growth Company and while growing quarter-to-quarter earnings are important, we also have to prepare ourselves for future earnings.

The bottom line is that we are growing vigorously in all facets of our business.

Now those comparisons are on a Company-wide basis.

But I also want to look at our two largest segments, which are compressor rentals and compressor sales.

Our compressor sales revenue can be variable on a quarterly basis, but we're seeing some good steady growth quarter-to-quarter.

First quarter this year our compressor sales revenue was $7.1 million, third quarter this year, $7.5 million.

Our year-to-date 2005 compressor sales revenue approximates our full year 2004 compressor sales revenue.

The gross margin in compressor sales has varied between 21% to 25% this year on a quarterly basis, and is averaging about 23%.

These are very high margins relative to the industry, in fact, almost twice as high.

Our core compressor rental revenue has grown from $3.1 million in the fourth quarter of 2004, to $4.4 million the third quarter of this year.

That's a 42% increase in compressor rental revenue in nine months.

Our gross margin was about flat between the second quarter and the third quarter of this year, being about 60% versus 59%, but it was down from the first quarter of this year.

We are seeing some gross margin pressure in our rental business from the comparable period last year, and there are three primary reasons.

But first, I quickly want to review where we were last year.

We were located in two growing areas, the San Juan Basin of northwest New Mexico and the Barnett Shale of north central Texas.

We had established infrastructure, and we had relatively minor incremental costs as we added equipment.

Today, we continue to set equipment in our existing areas at a high rate, but in a higher cost environment, while also moving into new areas.

The increased costs we see are primarily from three sources.

First, our basic costs of operations are increasing, and this is mainly labor, lubricants, and fuel.

Second, equipment running in the field is now one year older and we are naturally seeing an increase in maintenance expenses.

We expense these expenses instead of capitalizing them so they are showing up in the gross margin.

Third, we are expanding our operating areas.

This involves higher up-front costs so the revenue and profit lag is not unexpected.

In spite of this, though, we still enjoy very good gross margins in all segments.

Rentals have a gross margin of 61% year-to-date.

Compressor sales 23%, and our service and maintenance component is 35% year-to-date gross margin.

We watch our expenses closely but we will continue to have these same cost factors with us for sometime.

They are, however, we think, signs of a growing Company in a very active industry.

To help offset some of those costs, we implemented a 5.5% increase on all rental contracts not covered by minimum term obligations on September 1 of this year.

Our service and maintenance revenue has also grown.

We define service and maintenance as the services we perform on third party equipment, equipment our customers own, these are not our rentals.

Comparing nine-month periods, we are up 29% to $1.8 million in revenue for the first nine months of this year.

Our gross margin is 35% year-to-date.

Now this is a service line that we are deemphasizing currently.

This is primarily because skill compression mechanics are harder to get, and we are placing them in our higher margin core area of compressor rentals.

Our flare sales business is also very strong.

Revenue there through September 30 of this year is $1.2 million, with our gross margin averaging 61%.

This exceeds our revenue for all of last year in our flare sales business, which is approximately $1.1 million.

From a rental fleet perspective, we predicted that we would end up with 850 to 900 units by year end.

At the end of 2004, we had 585 units in our rental fleet.

At the end of September of this year, we had 805 units.

We have added 220 units through the nine months of this year, so we are solidly in the range of that 850 to 900-unit prediction by year end.

Confirming this growth is the fact that our utilization rate continues to be in the mid to low 90% range and was 94% on September 30.

This 94% represents 94% of our total fleet that is running and producing revenue.

If we count those units plus others that are committed to customers that have not yet been set and started earning revenue, our utilization rate runs up to 96%.

We have stated that our intent is to increase our higher margin rental revenue component as a percent of total revenue, and we're seeing progress in that respect, too.

Since the acquisition of SCS in January, our rental revenues have moved from 31% in the first quarter to 35% in the third quarter of total revenue.

The backlog at our SCS subsidiary in Tulsa also continues strong.

Our build schedule, which includes units for the rental fleet, is now out through July 2006.

Of the current 162-unit backlog, 63 of those units are slated for the rental fleet.

This fabrication mix at Tulsa coincides with our strategy and one of the reasons we did purchase SCS, and that was to increase our capacity to build more units for our rental fleet.

Our CiP product line of reciprocating compressors continues to grow through two avenues, sales to outside parties, and placement into our rental fleet.

This is a segment that we think will see much greater growth in the future as we continue to ramp-up production and our marketing efforts.

I characterize the CiP compression the same that we talk about Blue Bell ice cream down here in Texas.

For those of you who don't live here there is no better ice cream than Blue Bell, and their slogan is they eat all they can and sell the rest.

That's where we have been with CiPs, consuming all we can in the rental fleet and selling the rest.

Going forward we'll be striving to ramp-up to satisfy us internally in addition to our outside customers.

The majority of our compressors continue to go to our largest and busiest areas of the San Juan Basin and the Barnett Shale area.

We are also seeing good growth in the areas we previously announced we're expanding into and those are the Rocky Mountains and Appalachian area.

Real unit growth in the San Juan Basin through the first nine months of this year has been 46%.

We have seen 24% growth in Bridgeport and an aggregate of 38% in our other areas.

Now we're talking about growth and expansion and I want to take just a little time to discuss our direction and our place in the market.

We have a deliberate strategy and this will give some insight into growth and future prospects.

Our focus is on small to medium horsepower well head compressors and the majority of our operations are in non-conventional natural gas basins.

Non-conventional gas is natural gas extracted from coal beds, gas shales, and tide [PH] gas formations.

Although it's called non-conventional, it is the single largest and fastest growing source of natural gas supply in the United States.

It is bigger and faster growing than conventional offshore or onshore gas production.

In the DOE forecast, it will have the fastest growth rate going forward.

Non-conventional gas wells are typically less prolific than conventional wells drilled in the past and they produce at lower pressures.

More wells have to be drilled to deliver equivalent volumes of gas and they need compression sooner and with greater frequency.

Now from a geographic standpoint, again, according to the DOE, there are only three areas in the U.S. that are projected to grow over the next 20 years.

The Rocky Mountains, southwest U.S., and the northeast part of the U.S..

These are, not coincidentally, areas that we are presently in or are moving into.

In addition to these direct market factors, let me throw in a couple of macro economic and macro environmental factors that I think it's important to our growth prospects.

Gas demand in the U.S. continues to grow at two times the rate of supply.

Gas prices are not projected to decline in any significant manner going forward in the near future, and gas well decline rates are twice as fast as what they were in 1990.

When you combine all of this a compelling picture emerges.

The markets in geographical areas we have chosen to focus on place NGS in a very good position to grow and to continue growing.

Our chosen direction is being confirmed every day through our growth and opportunities for the future.

Our rental fleet doubled in 2004 in a unit size count, and is projected to do the same by the end of this year.

We can confidently say that we are very well positioned, that our strategy is sound, and that we are successfully executing it.

Let's touch on the balance sheet real quick.

I mentioned the warrants, they were redeemed in September of this year.

From net warrant redemption we received approximately $9.3 million in total proceeds.

Approximately $6.2 million of that was used for bank debt reduction with the balance of a little over 3 million going to buy rental compressors.

We had $2 million in restricted cash on the balance sheet last quarter, but negotiated with our bank to release that which enabled us to use a portion of the proceeds to retire the mortgage on our SCS manufacturing facility in Tulsa.

We also paid off our mortgage on our fabrication and office facility here in Midland.

So we now own our two largest fabricating facilities in the Company.

We have projected a capital expenditure budget of $16 million this year for rental compression, but we will actually spend closer to $18 million due to continued strong customer demand.

Our total debt to total capitalization ratio at June 30 of this year was 50.4%.

On September 30 of this year it was down to 38.9%.

Our current ratio went from 1.25 on June 30 of this year to 2.03 three months later on September 30.

Our cash flow increased from the principal and interest savings due to debt reduction is approximately $150,000 per month.

Our cash balance on the balance sheet increased to $5.8 million in this current period, and this is the highest balance we have had of any reporting period in the history of the Company.

We operate in a disciplined manner from the operating and income statement perspective, but we also vigorously manage our balance sheet.

Finally, it is satisfying to relate to our shareholders the success the Company is having.

It is a real testament to all involved when a third party recognized our efforts.

In their recent October 31 issue Forbe's Magazine named Natural Gas Services Group to the list of the 200 best managed small companies in the U.S.

In fact, we placed in the top 50 at number 46.

Describing the rankings, they said the list, quote, features solid and consistent hitters that have performed well when measured over the last 12 months and the past five years, end quote.

We are pleased when we receive independent recognition of our Company's solid long-term performance, especially when it comes from a source like Forbes.

To be cited by a respected publication like this is truly gratifying and a tribute to the hard work of everyone associated with the Company.

With that, I'll turn the call back over to the operator, and Wallace and I will take any questions that anybody may have.

Thank you.

Ladies and gentlemen, at this time we'll conduct the question-and-answer session. [OPERATOR INSTRUCTIONS] We are now ready to begin.

Our first question comes from Dominick Taetano [PH] with a private investor.

Please state your question.

With such a favorable financial report, I don't understand the price reduction at this time.

Would you explain that?

Price reduction for stock that is.

Steve, I'll try to answer that.

Sure.

I think that can be traced back and we certainly looked at it to find out why the volatility in the stock price and the volume, but a few weeks ago we were picked up by Investor Business Daily and ranked in their top 100 choices.

Actually, I think we started at Number 3 and then moved to Number 1 for some four -- three or four weeks.

Yes.

And -- and apparently momentum buying came in, our volume increased dramatically, and rather than looking at the fundamentals of the Company, and -- the stock price moved way up and then selling came in, and we think some short sellers also made hay during that period of time.

We have now dropped off of the IBD list and the stock has settled back down in price and also the volume seems to have stabilized.

And that's the -- the best way that we can account for that volatility, both in volume and in price.

All right.

Thank you very much.

All right.

Thank you.

[OPERATOR INSTRUCTIONS] Our next question comes from Jeffery Kerr with Kerr Financial Group.

Please state your question.

Good afternoon, gentlemen.

Question on the -- paying off the mortgages.

Can you explain -- I guess why you did that as opposed to paying off the debt?

Well actually we -- we did a little of both.

Okay.

We paid off some 10% subordinating notes we had out there.

Okay.

Essentially, it was a pretty good exercise, we took the note schedule went down and picked the highest -- the most expensive ones and paid those down.

We wanted to pay off about 6, 6.5 million and then use the balance for compression rental purchases to go into the fleet, so those fell into that sequence, and then the two main restricted cash -- just in negotiations with the bank we were able to retire that with a portion of though proceeds, about 1.5 million of those.

And what does the bank line look like now?

As far as outstanding debt?

Yes, I mean, before -- you know, I think we were drawing down on the bank line.

Oh.

Right.

Right.

Well, we have got a line we're drawing on.

We're probably getting pretty close to that terming out.

It was $10 million line.

Right.

Okay.

So we're within a million, million half of that terming out.

We have got a credit line also behind us so we're in -- actually with the -- the balance sheet getting firmer this last quarter from the warrant proceeds and paying off some of that debt, we're in real good shape, certainly with the bank and going the other way we want to go.

Okay.

And was it -- did -- did you guys discuss maybe issuing shares when the price of the stock was going so crazy, or did it happen so quickly that it wasn't -- wasn't something that was a viable option?

Well, again, I think as -- as Wallace mentioned, there was so much volatility in the price and the volume, I don't know if you could have -- I think that's one of those things you start chasing those, and I'm not sure where you end up.

Right.

Right.

Right.

Okay.

So we're just -- we -- we think the earnings will speak for -- you know for where we are and what this price ought to be, and, hopefully, the traders are have gone to some other game.

Right.

Right.

Let me ask you on the growth areas, the geographic areas, I think on the last call, as I recall, the Appalachian area was an area that you were trying to expand into, and the Rockies, do you foresee that being -- is that on pace as you kind of predicted before?

And can you give me some -- give us some indications of what '06 looks like in those areas?

Well it's on pace with what we have projected at the end of this year.

Now we're just getting started into those areas, but we have compression set, we've got other compressors committed going in there.

We're starting to place, hire and place service people into there.

NGS people or outsourcing that?

No NGS.

We're either transferring in or hiring locally based on what we need.

And this is one of the things I referenced with some of the gross margin pressure.

Right.

We operate these areas out of existing places until we can get a good foothold and then we bite the bullet a bit to go ahead and get in there and get everything set up from a service standpoint.

So we're in the midst of doing that.

From an '06 perspective, we haven't really thrown out any -- any numbers there -- I mean, just -- it looks good.

I think if you look at what -- just what the industry and the Rocky Mountains is going to be, it's going to be a great growth area, and we are going into what I consider the sweet spot.

The Peance Creek, Grand Junction, Rifle, Wamsutter, Vernal area.

Very, very active out there and, again, non-conventional gas.

It's a gas shale area.

So a lot of compression in there.

So we have some real high hopes for that, and that ought to be an area that will rival -- it will be the top three of our areas in the next 12 to 18 months.

Are current customers the ones that are in there now?

Yes.

Okay, so it's just an extension of the business relationships of --

Oh, no.

I'm sorry I misunderstood.

They are customers that sort of have existing operations in that area right now.

But no, a lot of these are actually new customers, -- which -- which is good.

Right.

And one of the things we want to do is, of course, spread that customer base.

Do you first -- do you see -- are you experiencing more demand on the rental side or sales side on that?

Well, we can -- yes, how is that? [LAUGHTER] There's -- there's -- there's demand everywhere, and really what we're trying to do right now is balance -- as we stated our strategy is to -- to shift more the -- the revenue component towards rentals being the higher margin business, and we're making progress in that respect, and that will continue to be the strategy but we also want to maintain the vibrant direct sales business we have there in Tulsa.

Right.

We're looking at all kinds of things from how we squeeze these things in, to second shifts, to outsourcing, to whatever we need to do to keep up with from a standpoint of our good, solid customers and also the new areas we're going into.

One final question and I'll get off then.

What does the competitive landscape look like -- in, specifically, the Rockies?

Well, really a lot like we -- we have seen some other areas.

As I mentioned, we concentrate on the small to medium horsepower wellhead stuff, and there's just a lot of work right there, because, again, when you start -- when the wells aren't as prolific you have to drill more for the same volume of gas.

The decline rate is twice as high.

So you are drilling twice as often, this is gas that has to be compressed from almost the first day.

There's really no lack of -- of opportunities in these areas.

From a competitive standpoint -- you know, we always hit competitors and we hit some local competitors and some regional ones, but we usually have pretty good luck on getting in there and either picking up new, or -- or taking some market area, and I think that's what we'll see the same thing here.

And, again, we're -- we're in this small to medium horsepower range, so we're just competing right there, and not having to -- to -- you know, beat each other up on some of the higher horsepower things.

That's why we are focusing there and we think we have a real good market.

Very good.

Okay.

Well, thank you, and congratulations.

Thanks, Jeffery.

Our next question comes from Greg Ashbian [PH], a private investor.

Please state your question.

Yes, my question is, has recently been in the news, things about liquid natural gas, and I was wondering if your services, or your rental business supports that sub-industry?

It really doesn't -- that's -- that's going to be an industry that -- when -- when you go and install your gasification plants, which if you look at a map of proposed and potential plants, there's probably 50 of them on the map and, best guess sources say, maybe 10 of those will go forward ultimately, due to permeating problems, finances, things like this, these are not cheap installations, these are billion dollar plants.

But all those do, they're regasification plants, so as LNG comes in on ships it's regasified, and then it's essentially just put back into the existing system, pipeline systems, or transportation systems that go to cities and homes, so where we concentrate is more the field level at the wellhead.

We take it from the well and put it in the same system but LNG brings it in from overseas and puts it in there at a different terminus.

Thank you and once again, congratulations.

Thanks.

Our next question comes from Perry Curtis of Wachovia.

Please state your question.

My question to you, gentlemen, would be have you considered from the financial aspect maybe doing a convertible bond issue for 25 million or 50 million to eliminate your bank debt?

And substitute that for your conventional financing?

Well, as I mentioned the -- where we have tried to get from a -- certainly from a balance sheet perspective, and -- is to where we might have options to go any where we want to go.

As everybody knows this is a capital intensive business, and in the past we have funded our capital needs with internal cash flow and -- and bank debt.

We think we're in the position to certainly grow our cash flow and that will -- that will help.

We're in real good shape with our bank.

So we can continue to go that way, we might -- we can go to some markets, or not.

We have just got a good choice of where we can go.

So we'll kind of tackle those things as we go forward and see what best fits our mix.

Thank you very much.

[OPERATOR INSTRUCTIONS] Our next question comes from Dominick Taetano [PH], a private investor.

Please state your question.

My question is would the publication of the financial report be available?

Yes, sir.

If you'll come through the website for NGS/GI and go to Investor Relations you can --

I'll be able to get it?

All right.

Either you can get it, there or if you want to communicate with the Company just e-mail WCS and NGS/GI.

And we'll be happy to send a packet out to you.

One more question is -- has NGS been approached for takeover by other companies?

Not to our knowledge.

No.

No.

That means we we should have a bright future.

Congratulations, sir.

Congratulations.

Thank you.

At this time we have no further audio questions.

Steve, you want to thank them?

Sure.

Well we appreciate everybody joins us today, we're happy we were able to report these earnings, and we look forward to a successful fourth quarter, and we'll talk to you at that time.

Thank you.

Thank you very much.

Bye.

This concludes today's conference call.

Thank you for attending.