Natural Gas Services Group Inc (NGS) 2013 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Natural Gas Services Group fourth-quarter 2013 earnings call.

(Operator Instructions)

Your call leaders for today's call are Alicia Dada, IR Coordinator; Steve Taylor, Chairman, President, and CEO.

I will now hand the call over to Ms. Dada.

You may begin.

Thank you, Erica, and good morning listeners.

Please allow me to take a moment to read the following forward-looking statement prior to commencing our earnings call.

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

Forward-looking statements, as you may know involve, known and unknown risks uncertainties, which may cause Natural Gas Services Group's actual results in future periods to differ materially from forecasted results.

Those risks include, among other things, the loss of market share through competition or otherwise; the introduction of competing technologies by other companies; and new governmental safety, health, or environmental regulations, which could require Natural Gas Services Group to make significant capital expenditures.

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

Important factors that could cause actual results to differ materially from the expectations reflected in the forward-looking statements include but are not limited to factors described in our recent press release and also under the caption Risk Factors in the Company's annual report on Form 10-K filed with the Securities Exchange [and] Commission.

Having all that stated, I will turn the call over to Steve Taylor, who is President, Chairman, and CEO of Natural Gas Services Group.

Steve?

Thank you, Alicia, and thank you, Erica.

Good morning, everybody, and welcome to the Natural Gas Services Group's 2013 full-year and fourth-quarter earnings review.

2013 was a good year for NGS and I'm happy to report that it was a record-setter in a few ways.

Rental revenues increased 22% over the year and net income and EBITDA each rose 13%.

This year we recorded the highest levels of rental revenue, gross margin, and EBITDA in the Company's history.

We did have some end-of-the-year adjustments that affected our fourth-quarter results, including a higher tax rate in the quarter and year-end inventory adjustments and these had a cumulative negative after-tax impact of approximately $0.04 per diluted share.

I will touch on these later but we are optimistic going forward and anticipate steady growth in 2014.

Looking at total revenue, 2013 full-year revenues were $89.2 million, a decrease of 5% from $93.7 million in 2012.

This decrease is attributable to the one-time sale in 2012 of $11 million worth of rental equipment.

If, however, 2012 total revenues are adjusted for the one-time sale, full-year revenues would have increased $5.5 million or nearly 7%.

While compressor sales were down as part of the -- at nonrecurring sale, compressor rentals grew vigorously and are up 22% on a year-over-year basis.

For the sequential quarters of the fourth quarter of 2013 compared to the third quarter of 2013, total revenues increased $1.3 million or 6%.

In the year-over-year comparative fourth quarters, total revenues decreased $400,000, or 2%, to $23.1 million, primarily due to a $2 million drop in compressor sales.

Compressor rentals in the same year-over-year quarters, however, increased 24% from the fourth quarter of 2012.

This dynamic demonstrates what I've mentioned in the past.

Since it is the volatile part of our Business, we have generally reduced our reliance on compressor sales and opportunistically shift sales fabrication space to rental fabrication, as required.

Looking at total gross margin and comparing the full years of 2012 to 2013, total gross margin increased $4.5 million, or 10%, to $48.3 million.

Total gross margin percentage increased from 47% to 54%, primarily due to our shift to higher-margin compressor rentals.

In the sequential quarters of Q3 and Q4 of 2013, gross margin was essentially flat, while the year-over-year comparative fourth quarters grew 4%.

SG&A continues to run in the 8% to 9% range for all applicable time periods.

Comparing the operating income in the full years of 2012 and 2013, operating income increased 9% from $20 million to $22 million.

In sequential quarters, operating income was down $140,000, while the year-over-year fourth quarter reflects a $570,000 decrease.

This was largely driven by increased depreciation of almost $700,000 this quarter for rental fleet growth additions versus a year-ago quarter -- or no, this quarter, actually.

Looking at net income, for the full comparative years, net income in 2013 was $14.4 million, which was a 13% increase from the $12.7 million earned in 2012.

In the sequential quarters of the third quarter of 2013 to the fourth quarter of 2013, net income dropped about $240,000 to $3.2 million, while a comparative fourth quarters of the respective years, shrank by 11.6%.

These decreases were mainly driven by higher depreciation, which increased 16% for the year, and an income tax rate that increased from 34.9% in the third quarter of 2013 to 38% in the fourth quarter of 2013.

EBITDA increased 13% from $35.9 million in 2012 to $40.7 million in 2013, a record high and a 74% increase over the past three years.

Sequentially, comparing the third and fourth quarters of 2013, EBITDA was essentially flat at $9.9 million, while EBITDA grew 3% from the fourth quarter 2012 compared to the same quarter in 2013.

EBITDA for 2013 averaged 46% of revenue.

On a fully diluted basis, earnings per share for the fourth quarter of 2013 was $0.25 per common share, with the full year finishing at $1.15 per share, a 12% increase compared to full year 2012.

As noted at the beginning of the call, we had a cumulative negative after-tax impact of approximately $0.04 per diluted share this quarter from the higher tax rate and inventory adjustments related to slow-moving and non-stock inventories.

Compressor rental revenue had a full-year increase of $12.6 million, or 22%, from $56.5 million in 2012 to $69.1 million for this current year.

Putting rental revenues, again, at a record level.

Sequentially, compressor rentals grew over 4% between the third quarter of 2013 and the fourth quarter of 2013, while the year-over-year quarterly change experienced an increase of 24%.

Gross margins were constant at 58% of revenue for both 2012 and 2013.

Without the inventory adjustment impact, gross margins between the third quarter and fourth quarter were essentially flat.

That's the quarters of 2013.

Our compressor overhaul expenses in both quarters continued to reflect costs at the higher end of our typical operating range.

As we have seen in the past, we expect these to be recouped through future revenues as the overhauled units are rented.

Fleet size at the end of the year was 2,556 compressors.

This is a net addition of 277 compressors for the year.

In the last three years, we have experienced rental fleet growth of 34%, with rental revenue growth of 70% to the combination of more units on rent, utilization growth, and higher rental rates.

Over 40% of our rental fleet is now deployed into oil shale or liquids-oriented plays.

We end the year of rental fleet utilization at 80% and horsepower utilization at 81%.

This compares to unit utilization of 77% at the beginning of the year.

While a 300 basis point increase may seem nominal, this was on top of rental fleet growth of about 12%, which resulted in 17% more compressors on active rental earning revenue at year-end 2013 compared to year-end 2012.

If we look at utilization a little deeper, while unit and horsepower utilization both grew over the year, utilized fleet horsepower growth was relatively lower than total fleet horsepower growth.

This means that we rented relatively more small horsepower units in 2013 than we did in 2012.

It's a small change and it doesn't initiate a trend but it is interesting because we are seeing some smaller units move into VRU and other lower horsepower applications.

From a pricing perspective, monthly rental on an average utilized fleet unit increased 5.3% in 2013 and has gained 10% over the last two years.

This is also evident from the 22% rental revenue increase in 2013 compared to our 12% rental growth -- rental fleet growth.

If you recall, we started 2013 projecting our growth capital needs at between $30 million to $35 million and we raised that to $35 million to $45 million mid-year.

We finished the year spending a total of $41 million in 2013 for rental fleet growth.

Looking forward to full-year 2014, we anticipate spending between $45 million to $50 million, a 10% to 20% increase.

To accomplish this level of build, we will need added capacity.

I have mentioned in the past that we looked at the option of outsourcing some rental fabrication or possibly adding internal capacity through facility expansion.

Based on a cost of outsourcing versus adding roof line, we have decided to move ahead with an expansion of our Midland fabrication facility.

This will allow us to increase our potential throughput by 40 to 50 units this year and approximately 100 units in 2015.

Construction will start within 30 days and should be completed mid-year, probably early in the third quarter.

Based on outsourcing costs versus this internal expansion, we will need only 12 to 18 months to achieve a breakeven point to pay for this project.

Since we started moving into oil shale basins in 2010, NGS has been one of the fastest, if not the fastest, growing rental Companies in relative fleet size.

This trend continues, with the latest available figures showing NGS as the second most active fabricator in the industry, as measured by units built, whether for rental or sales and including all of North America and all export markets -- markets we don't even participate in.

This demonstrates our continued higher relative rate of growth in the industry and corresponding market penetration.

Looking at sales revenue, for the full-year comparison of 2012 versus 2013, total sales revenue, which includes compressors, flares, parts, and rebuilds, dropped from $36 million in 2012 to $19 million in 2013.

But when we account for the one-time rental compressor sale in 2012, the decrease was equivalent to a $6 million drop to $19 million.

This lower level of sale is not only due to the prior one-time sale, but is also coincident with our emphasis on rentals and the use of more sales fabrications based at our Tulsa facility for rental fleet production.

Total sales revenues increased a little over $500,000 sequentially but was [off] $4 million in the year-over-year quarters.

Looking at compressor sales only, revenues decreased from $26.2 million in 2012, or approximately $15 million without the one-time sale, to $10.7 million in 2013.

In the year-over-year quarters, revenues were off $1.9 million, but up about $400,000 sequentially.

In spite of the revenue decreases, gross margins for compressor sales increased to 29% from 19% in 2013 compared to 2012.

We saw the same increasing trends for the comparative year-over-year of sequential quarters.

Our compressor sales backlog at the end of the year was approximately $3 million, which is about the level we expect going forward on a quarterly basis.

However, since the end of the year 2013, it has grown to roughly $7 million presently, due to additional contracts received in January and February.

As mentioned in the past, we expect our compressor sales revenues to run in the $10 million to $15 million annual range.

Looking at the balance sheet, our cash position was approximately $24.4 million as of December 31, 2013.

This is $3.7 million less than our cash on hand a year ago, due to a deployment of cash in the rental fleet expansion.

Our debt is less than $600,000 and cash flow from operations for the year was $39.3 million.

Referencing my comment about additional fleet capacity and our decision to expand our throughput, we obviously think that 2014 will be a growing year for the Company.

[Operant] equipment need will continue to be the wellhead gas lift type units that we are currently building for the oil- and liquids-oriented basins and they continue to be utilized at a 95% to 100% rate.

With any luck, we may also see smaller units going out.

We continue to see our largest opportunities in the Permian Basin, the Niobrara Shale, the Granite Wash, and the Utica Shale.

These are all areas that we are well-established in and should provide incremental growth to us.

The Bakken is anticipated to grow, but we think we are still a year or two ahead of the curve there, so it will be a measured growth this year.

Commenting on the Quad O and VRU landscape, we see a little movement there but not near what we thought it might be a year ago.

I think this will be a growing market, but it remains to be seen how fast and by how much.

Our custom fabricated sales business has had a strong start this year, with our present backlog at about 50% of what we anticipate to be full-year revenues.

As you know, this is the unpredictable and variable part of the Business and we have been using sales fabrication space as a swing component for rental fabrication.

Our planned expansion will enable us to take advantage of both the rental and sales markets, as required.

We think our business looks positive over the year and that commodity prices will generally hold on the oil side and potentially increase gas-wise towards the end of the year.

As everyone is aware, natural gas prices have spiked recently due to the severe winter weather experienced across the country.

But since it is weather-driven, there really hasn't been much of an increase in dry gas activity due to its temporary nature.

However, we have seen significant draws from natural gas storage.

We are presently 39% below the five-year average level.

Depending on the winter weather -- or, I mean, summer weather -- the hotter the better -- we may see relatively low level of storage going into fall.

If so, that may set us up for a better 2014 and 2015 winter from a dry gas activity perspective.

EIA expects that the Henry Hub natural gas spot price, which averaged $3.73 per MMBtu in 2013, will average $4.44 per MMBtu in 2014, or 20% higher.

This is an increase of $0.28 per MMBtu from the 2014 projection in EIA's short-term energy outlook just from last month.

WTI prices averaged, in 2013, $98 a barrel and EIA projects that it will average a little over $95 in 2014.

This is, of course, good enough pricing to keep activity at an active level.

We are encouraged by what we see and hear in the market and from our customers and anticipate another growing year from NGS.

That's the end of my prepared remarks, but I do want -- I may have bobbled the depreciation number.

I just want to give everybody that number again.

For full-year 2013 depreciation was $18.1 million, so that is a $2.4 million increase for the year.

So yes, the $700,000 I mentioned before was an increase in the quarter.

That's the end of my prepared remarks.

I'm turning the call back to Erica for questions that anyone might have.

(Operator Instructions)

Rob Brown from Lake Street Capital.

I'm wondering if you could give us a little more background on your decision to expand capacity?

Do you see the demand environment maybe ramping a little faster than you thought or do you have a little more confidence that it's going to last longer?

Maybe just give us an understanding of your thoughts on expanding capacity.

If you look at 2013, we felt like were not able to probably address all the markets.

The present markets, we're in fully, and there are still some other markets we wanted to move into a little bit.

So we are going to have to look at getting throughput up one way, either externally or internally.

And then just going back through our fourth-quarter projections, trying to get a [scald] on 2014 going forward, it looks like the projection [were] coming in fairly strong enough to let us take a look at additional capacity.

What swung it here, last 30 days, is the sales market has started out pretty strong for us and we have anticipated a little more activity there and we are about $7 million backlog now.

When you start looking at that, that was going to start taking a little rental space that we were using up in Tulsa, which our traditional sales facility, and so that might have started impacting the rental a little.

So, all that, just what our customers are telling us, what we saw last year and then some of the sales piece of it, and then again, as I mentioned, we don't see it really more than a 12- to 18-month payout.

That's what drove us to go ahead and pull the trigger.

You talked a little bit about gas price dynamics and thank you for that color.

How does -- or how and when does that start to impact maybe some of the smaller units you have?

When do people start to feel comfortable that that price environment is stabilizing and when do you start to see rental units come out of inventory?

That is a great question and it is a difficult one to really get a good handle on.

Every operator is going to be a little different; every basin a little different.

With gas price still at a relatively low level, you tend to generally think of the -- maybe if you can get in there to $4.50, $5, and hold -- it's the and hold piece of it that is the hard part.

Because again, you can get spikes, but unless the operator thinks it is going to hold in there for a little bit or he can afford to either install compression equipment and/or drill something, it doesn't make too much difference from an activity standpoint.

I've seen surveys that mentioned operators felt like they might see additional activity on a $5 plus handle that they felt might last.

My gut feeling is, again, gas is -- the swings in gas price are weather driven, so if we get a good hot summer, we have already had an excellent winter from our perspective, not from the people in the cold weather's perspective -- if we hold $4 through the year and start going into the fall at that or a little higher then -- and have a decent winter next winter, we can probably see some activity.

But, for example, you go to the Barnett and they've really got their costs under control quite a bit.

That is more of a mature area.

They can probably see a little bit more activity at a lower price than some of the other areas.

Highly dependent but I would guess we would go into fall $4.50, $5, we might have a chance of seeing some movement.

Thank you.

Thanks, Rob.

Joe Gibney from Capital One.

Morning Steve.

Hi Joe.

Just a quick question on your build profile into next year.

The incremental units from the capacity I understood.

Is your base level of building going to be commensurate with 2013 levels, in that 250 bandwidth, or is that exceptionally high?

Just trying to understand base level before you build on the capacity side.

The additional I mentioned was incremental additional so that will be on top of -- you have a 250, you have 270 range we hit this year, or in 2013.

So anticipating a 300, 320 range year.

Okay, fair enough.

Some of that is from -- we can't get the plant online until about Q3.

Any shift in the average horsepower per unit that you are targeting with the capacity expansion?

Or it's all going to be centered, as it has been mostly, on liquid units, 200 to 250 horse, or is it going to be a little bit of a shift in focus?

Right now, we anticipate being in the same sort of oil shale gas lift 200, 250 higher pressure units.

Again, like I mentioned, and it's not -- I don't want to mention it too much because everybody might think it is more important than what it is right now, but we have seen a little shift in some smaller stuff.

We haven't really -- and actually we have built just a few units on the small size because we have actually run out of some of the smaller sizes.

I don't want to put any credence to that yet because we are still a way from even saying that, that market is starting to move back, but there may be a little movement towards that, but predominantly it's going to be the oil shale type stuff.

Okay and then just last one for me, just curious, as expansion has ramped up a little bit more industry-wide, not just you guys -- but where are we on component lead times, in particular, engine lead times?

Is that creeping to the point where it is becoming onerous or is it still within manageable ranges around six months or so?

It is about the same.

You will get some [curve through] with shifts and stuff, but it is as manageable or as unmanageable as it has been the last six months.

Now, we made a decision in Q4 to go ahead and increase our engine orders for this year.

Granted, it was probably a little bit more of a gamble back then than now, because as we get into it, we think there is going to be homes for them.

But we have been able -- we saw more of a -- we saw a bump in deliveries towards the end of last year, so we wanted to get a little ahead of that.

Right now, for us, we're still into that six or seven month cycle, and haven't projected out that far but it is about the same as what it has been.

Okay, I appreciate it, I will turn it back.

Thanks.

Gary Farber from CL King.

Sure, good morning.

Just a couple of questions on the -- you said 40% of the -- is it the rental fleet is in liquids or shale plays?

Can you just take a guess or an estimate on how you think it might play out when we get to the end of this year?

I would say -- and again, it depends on if we get any movement on the smaller stuff because that will tend to damp down that percentage growth on the oil and the larger stuff.

[Savandark], I'd say could be in the 45% to 50% range, probably closer to 45% than the 50%.

Right and it was -- two years ago you would've say, it would be what?

10% to 20%.

Right.

I don't know if you -- I might have missed this on the call -- the overall utilization rate of the total fleet is now what?

80% by unit count and 81% by horsepower.

Okay and you are adding capacity.

There is obviously a fair amount of players in the space, but at the end of the day, a finite amount.

Do you get the sense that others are also seeing the same dynamic, that they don't have enough capacity?

It's a good question.

As I mentioned, we got some industry data a couple weeks ago that showed us as the second largest fabricator, which is -- we've -- which is significant from the point that we're not the second-largest fleet.

If you want to go down the list, you would think the number one, two, three, four, five sized fleets would bill about the same commensurate units.

Knowing that and seeing that, and also seeing that same data probably a couple years ago where we were one of the big -- still one of the biggest fabricators, we are still gaining share from that standpoint.

I don't know -- there is a little more capacity going into the industry, not a whole heck of a lot, and again, we are not doubling or something like that, we are doing very measured tones and we will add some this year and then with a full year next year we will have more capacity we can take advantage of.

So, we are still on the -- we are still gaining share in that perspective and it's showing up from that fabrication number.

Right.

Then just on the VRU side, it sounded like maybe it is possible you added some contracts in the quarter or just things picked up a little bit.

Is that accurate or--?

We are getting a little of both.

We're getting some VRU activity and, again, I want to caution everybody because we certainly thought was going to be more active last year than it has turned out to be.

As I mentioned, it is going to be a -- it is a market there, it's going to be a growing market, we just don't know how fast yet.

We have seen some of that, but we are also seeing just some of the smaller, lower-pressure, lower-volume units go out actually on some associated gas applications where they are not doing gas lift and they just need to sell some gas.

You were seeing a little mix of stuff, it's just the first time we have seen something show up in the numbers a little that we could comment on.

Again, if anybody is writing anything down, I want you to write it in pencil because that can change quarter to quarter as to what is moving out.

But it is just interesting.

Then just one last question.

If you're going to be adding units, and you have been at a pretty good rate, is the utilization rate still as relevant a metric as it was a couple of years ago or is that less of a focus because your denominator is growing?

We watch it, but it is not as direct an indicator of what is going on because, as you correctly point out, when you're adding 10%, 12% to the fleet each year, you tend to tamp down that calculation because that denominator is growing pretty quick, too.

So, we watch it and we track it and we track it by model; it is not -- I am not as worried about it quarter by quarter moving up or down a little as we were before when it was just indicating pure growth.

Now it's a combination of some growth and utilization.

We just have to -- you have to look at that now in conjunction with what is moving, what are the revenues doing, things like that.

Then just one last one.

I'm just curious -- did the weather in the first quarter, did that have any impact on anything there was going on in your business at all?

Besides the price -- just operationally, did that make any difference?

The only thing -- you always get a little jump in overtime, things like that just because when it gets so cold, when something goes down, it just stays down.

You have got to go out there and warm it up and it just takes some time.

So, overtime always jumps in winter, whether it's Q4 or Q1.

Then we have had some delays in moving equipment out into the field, from the point of operators holding off and things like that weatherwise; that will self-correct itself, of course, now as we go forward.

Right.

Okay, thanks.

Thanks, Gary.

Peter van Roden from Spitfire Capital.

Hello, Steve.

Hi, Peter.

How are you?

Good, how are you doing?

Good.

Can you talk a little bit about pricing trends in the new equipment that you are putting out?

It's -- the equipment -- the gas lift equipment, which is also the oil shale stuff, is our highest priced stuff, and what we would call our premium-priced offering and actually higher than the market.

We run about 5% to 10% higher rental price than the general market from what we can tell.

That pricing is going to stay the same.

We push that pricing every chance we get and it is typically not through over price increases, even on active stuff, those things tend to not be well-received.

We tend to push them more by models, by geographies, and/or even down to individual applications, if things are a little more distant or more difficult.

That's where you have seen our pricing come up, mainly driven by these oil shale units.

Because they do -- we do get a higher pricing because of utilization and we price off utilization quite a bit.

That is not the sole factor but we use utilization to set that pricing.

So when you got equipment that is 95%, 100% utilized, it goes out at a premium price and that's how it will stay going forward.

Got it.

If you think about, you are on track to add 320 units next year, assuming you get the new fabrication capacity up and running -- how much of that do you think is spoken for now versus you have to go out and sell?

I would guess -- we haven't tracked it that close, but I would guess probably one-third of it.

Okay.

That is a pretty decent amount.

Yes.

And on the gross margin side, they have been ticking down pretty significantly over the past couple quarters.

How much of that $0.04 impact in the quarter was allocated on the inventory side versus taxes?

Taxes lower $0.01 and so the balance was towards the gross margin.

Talk about that and clarify that just a little bit more, the -- as you saw, of course, in Q4 we had the inventory adjustment, but also, we have had -- our rental equipment overhaul expenses had been at a relatively high level in Q3 and Q4, still in what we call an operating range, but relatively high.

And in some quarters, it seemed like this might be the first time we've gotten two in a row like that.

Seems like sometimes we will have overhaul expenses in one quarter, the next quarter they will slow down, so we get a difference in gross margins.

We have had both Q3 and Q4 relatively higher overhaul expenses but again, that always is followed by that equipment going out on rental.

We don't overhaul just to have a constant flow of overhauls or as they come in or something like that.

We overhaul when we get a contract on a piece of equipment so there is, by definition, revenue coming after that.

It's a double-edged sword.

We would rather not have that expense, but that expense predicts future revenue, too.

Got it.

That's all I have.

Thanks, Steve.

Okay.

Thanks.

Craig Hoagland from Anderson Hoagland.

On the inventory adjustment, Steve, can you help us break that down between sales and rental and the dollar impact or the gross margin point impact on the rental side?

Yes, the majority of it was rentals.

It was a combination of some slow-moving and some non-stock inventory adjustments.

So the majority being rental and I tell you I don't have -- I know the after-tax amount -- I don't remember the -- but you can back calculate it, with the tax rate being about $0.01, at least about $0.03 on the inventory adjustment.

Okay, and then the overhaul expense, can you tell us how much that was?

That was running about -- I want to be careful because that's -- we don't release those numbers and this might be a little competitive.

Let me see if I can think of some way to characterize it.

What I would ask you to do is -- and not to put more work on you -- but go back and look at Q2 and Q3, you'll see a difference there and the majority of that is probably overhaul expense.

And the cost of the manufacturing expansion, the plant expansion?

It's going to run probably a total of -- with building and the equipment [at], because you have to a welding machine and stations and stuff like that -- around $2 million.

$2 million, okay.

And do you expect that to -- the new equipment to reduce your manufacturing costs at all or will there not be much effect?

We think it will.

We think we can -- not necessarily the equipment but how we are going to man it and staff it and things like that.

Yes, we think we will get some operating -- not really operating cost, because it is all capitalized, but we will get some advantage there.

Okay.

Great.

Great to see your business thriving, Steve.

Great.

Thanks a lot.

(Operator Instructions)

At this time there are no further questions.

Okay.

Thanks, Erica, and want to thank everybody for joining me on this call, but particularly recognize all of our employees.

Truly, they are the ones out there fighting it every day and deserve the credit for the results that we are able to talk about.

Thanks for your time this morning and we look forward to visiting with everybody again next quarter.

Thanks.