Natural Gas Services Group Inc (NGS) 2018 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Natural Gas Services Group First Quarter Earnings Call.

(Operator Instructions)

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

I would now like to turn the call over to Ms. Alicia Dada.

Alicia, you may begin.

Thank you, Ross, and good morning, listeners.

Please allow me 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 provisions as outlined in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements, as you may know, involve known and unknown risks and 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 and Exchange 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 Ross, and good morning, and welcome to Natural Gas Services Group's First Quarter 2018 Earnings Review.

NGS' rental revenues continued to solidify this quarter, and our rental backlog, including all horsepower classes, grew dramatically, portending further gains in rental revenue.

We continue to set our newer larger horsepower units and see a strong and growing backlog of orders.

Our total sales revenue were off this quarter due to a variety of factors, including lower flare activity, a large nonrecurring engine sale in the last quarter and delayed fabrication of some large horsepower compressor sales in favor of large horsepower rentals.

But this fabrication delay was a short-term impact in favor of a longer-term benefit.

And as our sales backlog indicates, those sales are only delayed and should materialize in later quarters this year.

We continue to report positive net income.

Our gross margins remained strong and SG&A decreased throughout the quarter.

Importantly, operating cash flow is solid, and our cash balance provides sufficient liquidity for fleet expansion.

I'll comment in more detail as we review the financials.

Our total revenues decreased in sequential quarters, primarily due to scheduled compressor sales of about $2 million being delayed to make way to build some of the larger 1,320-horsepower rental units.

I'll detail this later.

But looking at the year-over-year comparative quarters, total revenues decreased $4.2 million from $18.9 million in the first quarter of '17 to $14.7 million in the first quarter of this year.

For the sequential quarters of the fourth quarter of '17 compared to the first quarter this year, total revenues were off 12% or $1.9 million from nearly $16.7 million to a little over $14.7 million.

As previously discussed, this decrease is primarily a result of sales pushed out to later quarters.

While sales were down $1.9 million, rental revenues increased slightly from the fourth quarter at $11.5 million, making the second consecutive quarter of increased rental revenues.

Moving to adjusted gross margin and comparing the first quarter of 2017 to this current quarter.

Total gross margin was down from $8.7 million to $7.8 million, primarily due to the lower sales revenue.

However, our gross margin was higher at 53% of total revenue this quarter versus 46% in the first quarter 2017.

This timing in relative gross margin percentages was primarily due to higher sales gross margins and the mix shift towards relatively higher rental revenues as opposed to lower margin sales in the year-over-year period.

I'll note that this is our highest overall gross margin in the last 5 quarters.

Sequentially, total gross margin was essentially flat from last quarter.

Our selling, general and administrative expenses decreased by $1 million year-over-year and by almost $300,000 in the sequential quarters of the fourth quarter of '17 compared to the first quarter of 2018.

As you recall, last year, we had an added expense related to a noncash, nonoperational charge for accelerated stock compensation expenses of almost $1 million.

Those expenses did not repeat this year and were the majority of the decreases.

Operating income increased slightly in the comparative year-over-year quarters, up from $340,000 to $350,000.

Sequentially, operating income increased nearly $150,000, despite lower revenues, primarily as a result of greater cost efficiencies and lower SG&A.

In the comparative year-over-year first quarters, net income decreased to $225,000, down slightly from about $250,000 in the first quarter of 2017.

Sequentially, net income decreased nearly $18.5 million from almost $18.7 million on the fourth quarter of 2017 to $225,000 in the first quarter 2018.

However, recall from our year-end call, with the 2017 Tax Act, we saw a onetime positive deferred income tax adjustment of nearly $18.4 million that boosted our net income for fourth quarter of 2017.

Comparing net income before taxes for these sequential quarters, we were up slightly from approximately $265,000 to about $275,000.

On a year-over-year basis, adjusted EBITDA was essentially flat in the $5.7 million range for both quarters.

Sequentially, adjusted EBITDA increased slightly from a little over $5.6 million to nearly $5.7 million.

Although adjusted EBITDA has been roughly constant in these comparative quarters, the revenues have been higher in the other quarters, and I think it demonstrates significant strides in cost control and highlights the beginning growth in our rental segment, further strengthening our adjusted EBITDA margins.

NGS reported earnings per share this quarter of $0.02 per common share.

This compares to $0.02 in last year's first quarter and $0.03 last quarter, net of federal income tax benefit.

NGS continues to be one of the few companies in the OFS space, including competitors, that have reported positive net income in every quarter to date.

Total sales revenues, which include compressors, flares and aftermarket activities, in the year-over-year quarter decreased from a little over $6.6 million in the first quarter of 2017 to $3 million in the first quarter of this year.

For the sequential quarters, total sales revenues decreased $1.9 million from $4.9 million to $3 million.

Over $1.5 million of this decline was due to lower flare and part sales in addition to a onetime $700,000 engine sale in the last quarter.

We also had a fabrication schedule change, driven by one of our customers that represented over $2 million of sales dropping out of this quarter.

But the order will show up in later quarters this year.

Although it impacted the first quarter 2018, it enabled us to strategically shift some of the larger horsepower rental units up in the schedule and facilitate quicker rental contract starts for some of our customers.

Reviewing compressor sales alone, in the current quarter, they were $1.8 million compared to $5.6 million in the first quarter of 2017 and $2.1 million in the fourth quarter of 2017.

We expect to see more volatility in quarterly compressor sales as customer demands and schedules change as we shift resources between rental and sales fabrication with, given the choice, rentals taking precedent.

The 26% gross margin on our compressor sales this quarter compare favorably with the 15% in the first quarter of 2017 and the 11% gross margin we had in the fourth quarter 2017.

We see a fair amount of variability in the compressor sales margins due primarily to different margins being quoted on different sizes of equipment and a degree of cost absorption based on the utilization of shop space.

Our compressor sales backlog was roughly $8.5 million at the end of the first quarter of 2018 and is higher than the $7 million we reported in the fourth quarter of 2017, the prior quarter.

Rental revenue had a year-over-year quarterly decrease from $11.9 million to $11.5 million for the current quarter.

Adjusted gross margins decreased from 61% in last year's comparative quarter to 59% this quarter.

Sequentially, rental revenues increased from $11.4 million to $11.5 million with adjusted gross margin increasing to 59% for this current quarter compared to 58% in the last quarter.

In the past, NGS has been primarily focused on the wellhead portion of the business with compressor fleet units ranging from 100-horsepower to 300-horsepower per unit, and we have reported certain metrics on a per-unit basis.

As previously announced, we have started adding significant amounts of large horsepower to our standard fleet mix, and using the per-unit metric will not accurately reflect the addition of this larger horsepower, from a pricing or utilization basis.

As such, we will begin reporting these metrics on a per-unit and a per-horsepower basis for the balance of this year, after which we will move strictly to a per-horsepower report.

On a per-unit basis, average rental rates across the active fleet were flat when compared to the first quarter 2017 and were up a little over 4% over the fourth quarter of last year.

On a per-horsepower basis, we saw a 5% decrease and a 1% increase respectively.

Both metrics indicated an improvement in pricing in the most recent quarter.

Fleet size of the quarter ending -- ended of March 31, 2018, was 2,552 compressors or 378,826 horsepower, and we had a net addition of 6 rental compressors or 9,135-horsepower this quarter.

Our active fleet utilization at the quarter ended March 31, 2018, was 48% on units and 49% on a horsepower basis.

At the end of April, it was 48% on units and 50% on horsepower.

Our utilization improved in April and, just as importantly, our rental backlog of contracted fleet equipment substantially increased.

Additionally, we contracted 8 more large 1,320-horsepower rentals in April that should be coming online later in this year and the first quarter of next year.

This alone represents over 10,000-horsepower addition and almost $10 million in capital expense.

As mentioned, our rental backlog grew significantly in April and, net of any terminations, is encouraging as it progressed into 2018.

This backlog is large enough that we have had to make ready more equipment in our field offices than we usually do and have outsourced some of the make-ready work to meet deliveries.

Last call, I mentioned that we would earmark $20 million to $25 million for compression capital expenses in 2018.

And so far, we have capitalized $7.4 million in new compression units in this quarter.

And remember, this is all growth capital since we don't capitalize maintenance expenses.

Our discussion on CapEx is usually dedicated primarily to new compression equipment.

But as I announced last call, we're constructing an office building for our headquarters, and this quarter, we spent approximately $1.4 million on the construction.

Turning to the balance sheet.

Our short-term and long-term bank debt remains under $500,000 as of the end of the quarter, and cash in the bank was a little over $65 million.

Our cash flow from operations remained strong at nearly $5 million for the quarter, and free cash flow was a negative $3.6 million with our CapEx additions.

This compares to negative free cash of $5.5 million last quarter.

From this, we have spent approximately $11 million in growth capital on rental fleet compression over the last couple of quarters.

We actually had a higher CapEx spend in this quarter than last, but our operating cash flow was stronger this quarter so our net use of available cash was lower than last quarter.

Approximately 3/4 of the new capital equipment is committed to long-term, multiyear contracts.

There's a general uneasiness in the market about energy companies, particularly E&P companies, spending more cash than they generate.

But I want to explain that our -- why our spending is different.

It's based on no borrowed funds, this is money literally in the bank, and we have assured multiyear contracts which guarantee good returns on the capital invested.

This is a strength of the NGS model, having liquidity necessary to react quickly to solid opportunities.

NGS strategically built cash during the downturn so that we can opportunistically expand and reinvest into the company in periods when we have the chance to grow our business.

This will be the third cycle in 13 years that we have done this, and we think the model has proven itself.

We have consistently delivered positive net income, and our shareholder returns are over long periods of time in the top tier.

This is why our shareholders invest in NGS.

Summarizing the quarter, we had a lot on our plate.

Although some pricing and utilization pressures remain, our fundamentals and the markets are improving, and our development backlog indicates an active balance through the year.

Macro-wise, we're in an interesting time.

WTI crude oil prices have firmed in the mid- to high $60 per barrel range, primarily due to OPEC resolve, surprising in itself.

But we also have Venezuela imploding and, recently, the Iranian factor coming into play.

Needless to say, the crude oil market looks to be solid for the balance of the year.

The fly in the ointment is the price of natural gas, which continues to be range-bound below $3 per Mcf.

Although operators can make return at this price, especially on existing production, it's generally too slim to warrant increased drilling activity and, therefore, does not presently have the growth potential that comes with crude oil and associated gas activity.

Since the start of the shale oil growth in early 2010, NGS has pursued that market, and now more than half of our fleet and approximately 60% of our revenue is oriented towards associated gas activities.

Our moving to larger horsepower reinforces our belief in that market and enables NGS to be an active player in the larger horsepower arena.

NGS' financial results and shareholder returns continue to be among the best in the industry.

We are well positioned and, I believe, entering another growth period.

That's the end of my prepared remarks, and I'll turn the call back to Ross for any questions anyone may have.

(Operator Instructions) Our first question comes from Joe Gibney from Capital One.

Just a question on utilization outlook.

So your comments are certainly indicative of a growing backlog of demand here on the rental side.

Your build, at least in terms of fleet count, are pretty in line with what you'd advertise here on the CapEx front.

But -- anyway, bridging it to 2Q, just sort of help us gap a little bit from sort of this 50% utilization in April and the sort of maybe what you think you could trend over the next couple of quarters, given what sounds like pretty robust demand, building, particularly, on the higher horsepower side.

Well, what we're -- this is actually getting harder and harder to project.

What we're fighting is -- and it's a good fight and it's a good problem -- is the utilization, we -- it's growing because the business looks like it's growing.

But we're also adding to the denominator because we're building a lot of this new equipment.

So while we're increasing the numerator some, the denominator is also increasing.

So much as we saw in the last recovery from 2010 to 2014, the utilization grew at a slower rate than you would expect just because we were eyeing the equipment at the same time.

So it's going to be a little slower growth than what -- if you just took the number of units or the horsepower that's being put out and you didn't have any growth in the fleet.

But all this new horsepower, obviously, is new growth.

So that's going to tamp down just that growth in utilization somewhat and disconnect it a bit.

And I mentioned this last time, we're going to get a little disconnect between utilization and revenue growth over time.

But we are seeing some growth in the other horsepower ranges that we hadn't seen as much to this point.

So the 200 to 300 horsepower gas lift equipment is starting to move a little more.

The VRUs are staying very popular.

So from small to large, we're seeing some growth in this.

Now the big horsepower is the biggest piece, the biggest factor in growth right now, and of course, obviously, the biggest dollars and additive horsepower.

So it's -- I'm crawfishing a lot on this because it's hard to say, but that's what we're going to run into.

We'll -- I think we'll see the utilization grow, but not as quick as we'll see revenue grow.

Okay, fair enough.

Could you repeat the compressor sales gross margin?

Did you say 17%?

Or was it higher?

I missed that.

No, I think it's 25%.

Let me see here, 26% this quarter.

26%, okay.

Got it.

And then on the flare market, I know it's a small little piece, tends to be lumpy but can be high margin at times.

But you referenced a bit of a downtick there.

Is that just transitory or something that we should be thinking about moving ahead as an element that could continue to drop off?

No, I -- we think it's going to be pretty decent this year.

But what we had in the last quarter was just a lot of year-end orders come in, people rushing to get this stuff done by fourth quarter.

And we had a couple particular bigger orders that they wanted done by end of the quarter.

So the revenue level is still good.

We think it's going to stay good.

But the comp was kind of rough just because we had a year-end rush.

Our next question comes from Jason Wangler from Imperial Capital.

Was just wondering all this talk in the Permian specifically, but you're hearing it in the DJ and other areas too, about a need to make sure that they can capture their gas and flaring not being an option.

Are you hearing more about the ability to move units in or gas lift operations and reinjecting things over the last few weeks or so?

Because it seems like that's something that would be a potential solution for some of these folks, specifically in the Delaware.

And I know you're building more larger equipment, which that may need.

But just kind of curious if you're seeing any additional demand coming from that kind of a situation that we're seeing now?

You mean from a reinjection perspective?

Yes, just for gas lift operations?

Well, now you're talking about reinjection from a pressure maintenance standpoint or just reinjection for the gas lift?

Just reinjection from the gas lift.

Basically just finding a way to get -- to not flare or put the gas on pipe since there may not be pipe out there.

Well -- and that's the majority of what we're seeing.

I mean, all this large horsepower we've started putting out the last 2 or 3 quarters is all centralized gas lift.

And this is what we identified 2 or 3 years ago as to when we start -- first start moving into the [4 and 600,] that we were seeing more and more centralized gas lifts come along.

You're still going to have the wellhead gas lift like we've got, and we're well positioned for that, but this centralized stuff starts coming up too.

So all this big horsepower we see going out is centralized gas lift.

In addition to what we're starting to see now in this 200, 300 -- 200 to 300 horsepower smaller units that was more the wellhead gas lift stuff.

So that is the majority of what we're seeing right now.

Okay.

And are -- I guess like I said, I mean, it just seems like with the conversation, they're basically trying to give the gas away for free, if they can, in the Delaware specifically, but it's probably happened in the Midland too.

Do you think that that changes any of the demand for them?

Or is it simply just, "Hey, if we have a well coming on, we need this equipment, and do you have it or do you not?"

Or do you see that maybe if they really are giving it away for free at this point, they just need your equipment just to let the wells flow?

Does that change their activity level with you at all?

Or is it really just kind of the same thing twice?

No, I don't think it changes.

Because in gas lift, they're essentially not getting anything for that gas.

They're not selling, they're just recirculating it downhole to lift more oil out.

So you've already got the kind of the 0 net revenue from gas, but obviously, you make it from the oil lifted and oil produced.

Now there's a lot of talk about oil pipelines being a potential bottleneck out here.

And there's talk about it -- we haven't seen really too many pinch points from our perspective.

But there was an interesting article last day or 2 about a lot of the West Texas crude, since it has wider differentials to some of other benchmarks, is being shipped from here to the eastern refineries.

And they've been shipping it by -- pipelines are getting full.

They've been shipping it by ship actually, and now they're talking about more rail shipments.

So I think you got to a point to where the differential was attractive, where this crude now can absorb shipping cost to be moved around.

So that tells me there's not going to be a whole lot of bottlenecks -- not any more bottlenecks developing.

And since we haven't really seen an impact, we're growing in that part of it, I wouldn't expect to see too much hindering our efforts in that area in the future.

(Operator Instructions) Our next question comes from Rob Brown from Lake Street Capital.

Just wanted to follow up on -- I think you talked about an $8 million order in April for the high horsepower, I guess.

Congratulations there.

But also, what's sort of driving that market increase, I guess?

Are you gaining share?

Are you seeing demand growth?

And just a little color on the $8 million would be great.

Well, it wasn't an $8 million sale, it's 8 of the larger horsepower units for rental.

So it'll just be capitalized money.

But we're seeing both.

I mean, obviously, at least for probably the next year or 2, anything we get is a share increase because we're new to the market.

So we're taking it away from somebody that would've gotten it otherwise.

So until we establish maybe a little more depth in that market, which we intend to, everything we're going to get, I'd say, over the next couple of years is going to be a share impact.

But it's also due to the growth out here.

There's lot of compression going out here.

A lot of it looks to be big stuff.

We saw the big horsepower move first, and now we're starting to see some of the more medium wellhead type horsepower starting to move too.

So I think you can attribute to both.

Probably majority is just growth out here, but anything we get is share from somebody right now.

Yes.

Okay, good.

And then are 8 these units at sort of similar to your first group?

Are they good margins?

Are they long-term contracts?

Or just help me understand that.

Yes.

Yes, same sort of thing.

We're trying to keep pricing in a reasonable realm, which means little higher than market.

And these are multiyear rental contracts.

Okay, good.

And then maybe just -- I'd like to hear your comments on the supply chain.

Are you seeing availability of engines tighten?

And any cost kind of growth going on in the, I guess, supply chain?

Yes.

We're seeing deliveries.

The engine and compressor deliveries don't seem to be getting any worse.

They're developing the bottleneck and gas coolers, and we're seeing some of that.

What that means is it's not really impacting our ability to deliver.

It just means you've got to plan a little quicker out and/or sometimes you got to [quote] a little longer deliveries than people like.

But we're in no different shape than anybody else in that market.

Everybody buys from the same suppliers.

So there's -- you just have to get a little ahead of the calendar there a bit.

From a cost inflation standpoint, yes, we've -- the -- all the major components are going up, the compressors, the engines, coolers, steel is going up a little, everything else.

So yes, you're getting some inflationary cost increases in this market, some inflationary, which are market driven, and some that are just based on cost of goods.

But we are seeing some of that.

(Operator Instructions) And at this time, there appears to be no further questions.

Okay.

Thanks, Ross.

And appreciate everybody joining me on the call, and look forward to talking to you next quarter.

Thanks.

This concludes today's conference call.

Thank you for attending.