Solaris Energy Infrastructure Inc (SEI) 2017 Q4 法說會逐字稿

Good morning, and welcome to Solaris Oilfield's Q4 2017 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded.

I'd now like to turn the conference over to Kyle Ramachandran. Please go ahead, sir.

Thank you, operator, and thank you for joining Solaris' fourth quarter 2017 conference call. I'm joined today by our Founder and Chairman, Bill Zartler; our CEO, Greg Lanham; and our Chief Operating Officer, Kelly Price.

Before we begin our call today, we would like to caution listeners that some of the statements today will be forward-looking statements. Such forward-looking statements may include comments regarding future financial results and reflect a number of known and unknown risks. Please refer to our press release issued on March 6, 2018, and the Form 10-K filed yesterday along with other recent public filings with the Securities and Exchange Commission that outline those risks.

During today's call, we will discuss non-GAAP financial measures, which we believe can be useful in evaluating our performance. The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with GAAP. Reconciliations to comparable GAAP measures are available in our earnings release and the appendix of the aforementioned supplemental materials.

With that said, I'll turn the call over to our Founder and Chairman, Bill Zartler.

Thank you, Kyle, and welcome to Solaris' fourth quarter 2017 earnings conference call.

2017 was a very exciting year for Solaris. We accomplished a number of significant initiatives. First, we increased our fleet of Mobile Proppant Management Systems by more than 2.5x, while practically, being sold out the entire year. Second, we entered into a 7-year contract with our anchor tenant at the Kingfisher transload facility that we are constructing in the heart of the SCOOP/STACK play in Oklahoma. Third, we advanced efforts to digitize the Proppant supply chain through the acquisition of Railtronix, which expands our offering upstream and combines it with our last-mile supply chain tool called PropView. It allows us to deliver supply chain information to our customers from the mine all the way to the wellsite, including rail, transload, trucking and wellsite inventory and consumption rates. Fourth, we launched the belly dump unload kit that offers more trucking flexibility for our customers. And finally, we completed our IPO in May and raised additional capital through our following -- follow-on offering in November. We believe these accomplishments position us to continue to build upon our success and deliver innovative solutions to the industry.

Now speaking specifically to the fourth quarter. We continue to grow our market share through the deployment of additional Mobile Proppant Management Systems to the field. We added 18 systems in the fourth quarter, to end the quarter with 77 systems in the fleet, all of which were deployed to customers. That compares to 30 systems at the end of the fourth quarter in 2016. As of today, we have 91 systems in our fleet, all of them are deployed to customers. We believe this represents the industry's leading market share for the next-generation proppant-handling solutions. Based on an estimated 415 operational frac fleets in the U.S. today, we have approximately 21% market share.

The continued use of high volumes of proppant, the desire to frac efficiently and challenges in the trucking industry underpin the value-add that our systems provide our customers. Specifically, recent weather-related supply issues highlight the relative lack of storage capacity along the proppant supply chain. Among many other attributes, Solaris provides customers with high-capacity, high-efficiency inventory management solutions along with the

(technical difficulty)

With that, I'll turn it over to Greg to discuss some of our operational highlights for the fourth quarter.

Thanks, Bill. Good morning, everyone. We're very excited to walk through some of the highlights from the fourth quarter. Not only did we exceed previously provided system count guidance, but we also made significant progress with our Kingfisher facility and completed a highly accretive and strategic acquisition.

During the fourth quarter, we delivered 18 new systems to the fleet, ending the quarter with a total of 77 systems. The increase in our fleet size, growing customer demand and industry activity levels led to a record 6,146 revenue days during the fourth quarter, a 188% year-over-year increase, and a 35% sequential increase versus third quarter 2017.

During the fourth quarter, we continued to be effectively fully utilized. Customer demand for our systems has risen due to increased well-completion activity, increased proppant usage on average per well, and increased awareness of the advantages of our proven technology.

During the fourth quarter, we had a well-balanced customer mix. Approximately 50% of our revenue was sourced from operators and approximately 50% from pressure-pumping companies. We are very proud of our blue chip customer base, and we look forward to continuing to grow with our existing customers as well as adding new customers.

Our most active operator areas continue to be the Midland and Delaware basins, followed by the Eagle Ford, SCOOP/STACK, Marcellus/Utica and the Haynesville.

Now turning to our Kingfisher facility. As previously announced, we commenced transloading operations to the facility in January this year, meeting our original goal. Today, we are simultaneously advancing construction and providing our anchor tenant with manifest rail-to-truck service that significantly reduces trucking distances to their wellsites.

Finally, I'd like to discuss our exciting Railtronix acquisition that we completed in December. As a reminder, Railtronix is a leading provider of real-time inventory management solutions for proppant mining, rail shipping and transloading operations. We were introduced to Railtronix when evaluating different inventory management solutions at the Kingfisher facility. As we evaluated different options, we determined that Railtronix offer the greatest insight across the supply chain and be a logical extension of Solaris' strategy to digitalize the proppant supply chain. We were impressed by how much of the industry's proppant Railtronix touched, not only the transload facilities but also the source mines.

Today, we are providing real-time inventory through Railtronix across 60 facilities, including source mines and transloads. Since closing on the acquisitions in December, we have onboarded Railtronix' existing customers and have integrated Railtronix and PropView data for our anchor tenant at the Kingfisher facility. We are extending this integration to additional facilities for customers seeking to enhance and optimize operations.

I'd like -- now like to touch on what we're seeing in the market. As I noted on our last call, the U.S. oil and gas industry is rapidly adopting new technologies to handle the challenges associated with delivering ever-increasing volumes of proppant, while improving the health and safety at the wellsite. We have benefited from this trend as have several other companies. While we continue to see new entrants in the proppant logistics, we believe our leading market share, internal manufacturing capacity and differentiated offering will support our continued market share growth.

As an organization, we constantly focus on innovation and staying ahead of the competition. To that point, we've spent a tremendous amount of time and effort developing PropView and integrating it with Railtronix to provide an integrated view for our customers across their supply chain. We believe the reliability of our systems and this differentiated data stream are fundamental in making sure our solution remains sticky with our customers.

In addition, we have developed our nonpneumatic loading system, and it has been working in the field for several months. We've received positive feedback from our customers and significant interest from additional customers to use the nonpneumatic kit. Since deploying the first nonpneumatic system in November, we have made several engineering modifications to version 1, and we expect to deliver 2 additional nonpneumatic kits in the second quarter. We believe our nonpneumatic system is truly differentiated from other operants, because our customers are able to maintain the integrity of our original design of having multiple pneumatic loading points.

Based on our experience of operating more than 90 wellsite systems, trucks tend to bunch up and arrive in -- on-site in groups. In order to keep trucks moving, it is critical to be able to handle that surge through multiple unloading points.

I will wrap up my comments with an exciting milestone we expect to celebrate with our team very soon. Based on our manufacturing schedule, we expect to deliver our 100th system to the fleet in early April. We look forward to celebrating this milestone with our team. For some context, we celebrated the delivery of our 50th system only 8 months ago, in August of 2017. This milestone is a testament not only to our operations' team ability to accelerate production rate, but also speaks to commercial adoption of our solutions. We're excited about the outlook of our business in 2018 and beyond.

Now with that, I'll turn the call over to Kyle for a more detailed financial review.

Thanks, Greg. In the fourth quarter, we continued to grow our business, highlighted by a number of record operational and financial results, including 6,146 revenue days, $25.2 million of revenue, and adjusted EBITDA of $15.2 million.

Revenue for the fourth quarter increased 36% to a record $25.2 million from $18.5 million in the third quarter. This increase was primarily due to a 35% increase in the number of revenue days, driven by an increase in our fleet size and growing customer adoption of our patented technology.

Gross profit, defined as total revenue less the cost of proppant system rental, the cost of proppant system services and the cost of proppant inventory software services, excluding depreciation and amortization expense, increased 33% to a record $18.6 million compared to $13.9 million in the third quarter, primarily due to higher revenues and operating activity.

Selling, general and administrative costs, and salaries, benefits and payroll taxes increased to $4.9 million from $4.1 million in the third quarter. This increase was driven primarily due to an increase in bonus accrual and an increase in headcount, as we continue our transition to operating as a public filer.

Net income for the quarter was $9.2 million versus $7.4 million in the third quarter.

Adjusted EBITDA increased to a record $15.2 million, an increase of 37% versus the third quarter, reflecting the factors previously discussed.

In our press release issued last night, we presented adjusted pro forma net income, a non-GAAP financial measurement, for the first time. Simply put, adjusted pro forma net income, adjust for certain items that we believe are nonrecurring and importantly, assumes the full exchange of all outstanding LLC units and Class B shares not held by Solaris, Inc. for Class A shares. By assuming the full exchange of all outstanding Class B shares and Solaris LLC units, we can now present net income and earnings per share that is more comparative with other companies that have different organizational tax structures. In addition, this presentation should simplify the impact of any exchanges that take place during a reporting quarter as well as providing clean period-over-period comparison, because it eliminates the effect of any changes in net income attributable to Solaris, Inc. driven by increases in its ownership of our operating subsidiary.

With that said, adjusted pro forma net income for the fourth quarter was $8.9 million or $0.20 per share, versus $5.5 million or $0.13 per share in the third quarter.

I would now like to briefly review the impacts of the recently passed Tax Cuts and Jobs Act of 2017 on our fourth quarter financials. In the fourth quarter, the Tax Act had a net impact of approximately $700,000 of expense on our net income, primarily driven by the reduction in the corporate tax rate from 35% to 21%. This was addressed in 2 different line items on the P&L. First, we recognized a benefit of $21.9 million as a result of a reduction in payables related to the tax receivable agreement. Secondly, we recognized $22.6 million of expense as a result of a reduction in the value of our deferred tax assets. This expense was recognized in the provision for income taxes on our income statement. We believe both of these are one-time items and they have been adjusted in our presentation of adjusted pro forma net income.

Total capital expenditures for the quarter were approximately $49.9 million, for a total of $98.9 million of capital expenditures in 2017.

During 2017, we added 47 systems to our fleet, made significant construction progress at our Kingfisher facility, and acquired Railtronix. We believe these investments in our business will generate attractive long-term returns for our shareholders.

Regarding outlook. We're confirming our previous guidance of exiting the quarter with 96 to 98 systems in the fleet, and we are now providing guidance of 118 to 122 systems by the end of the second quarter of this year. We delivered 7 systems to the fleet in February and expect to deliver 8 systems in March.

We've increased our manufacturing cadence in the first quarter to meet growing customer demand for our Mobile Proppant Management Systems.

Relative to the fourth quarter of 2017, we expect rental rates to increase mid-single digits in first quarter of 2018. We believe the pricing increases indicate the value-added differentiation of our offering. Our lean operating cost structure and the new pricing agreements support the maintenance of our strong operating margins.

The first quarter pricing increases relate to new agreements that we have entered into with the majority of our customers. We would anticipate more modest, if any, pricing increases for the remainder of 2018, as we bring on new customers.

Finally, I'll wrap up by outlining our liquidity position. In the fourth quarter, we completed a follow-on equity offering and added approximately $44.5 million of cash to the balance sheet. We ended the fourth quarter with a cash balance of $63 million. In January of this year, we entered into a new credit facility that provides a revolver of $20 million and an advanced term loan of $50 million. Borrowings under the facility are subject to certain borrowing-based calculations, and the facility has standard financial covenants. Including the new undrawn credit facility, our liquidity at the end of February 2018 was approximately $108 million, including approximately $44 million of cash.

With that, we'd be happy to take your questions.

(Operator Instructions) And the first question comes from James Wicklund with Crédit Suisse.

Congratulations, the growth has been nothing short of spectacular. Let me ask you on utilization, which hit 98%, when we first started modeling this company, utilization was actually a variable that mattered. And now it seems that you guys have rolled all your contracts on to longer terms. Should we just be using 100% for utilization of the units from this point forward?

Jim. Yes, I think, I wouldn't go that far. We have rolled some of the -- majority of the contracts on to longer-term agreements. But I wouldn't say that we're -- 100% utilization going forward would be the right number there. You always have some amount of movement with customers. So in other words, we may have a customer that has a work program for 9 months, and at the end of that work program, there may be 2 weeks where we're transitioning to a new customer. So that -- you always have some amount of unutilized period of time. We take a very conservative measure in the calculation of utilization. It's really just a number of days that the systems are available, so that we don't take into account any downtime or anything like that.

And for the last 6 months, you've averaged 97%. Is that a good number to use, going forward?

Yes. I don't think we're going to provide guidance on utilization. But I think we will...

That's all right. That's all right. And you've answered the question, basically. I understand it won't be a 100%, but it'll be a lot higher than we originally assumed.

That's right.

Okay. That's all I wanted to get to. Okay. The second thing, you guys are, obviously, raving about Railtronix, and looking at their website, it's a stunning business. How sticky does this get your business? I mean, I know you have PropView, and everybody has an app on their phone these days for something. And I'm just -- assume the logic is to get more embedded in the supply chain and making -- switching cost higher to customers. I understand your exuberance about it, but can you talk about what that really means for a customer's stickiness and their supply chain? How easy is it to -- for somebody just to switch to another program?

Well, really, we're really excited about it, as we've mentioned. And the reasons for that are, basically, as you mentioned, being sticky. We add a lot of value to the supply chain of the customers, because you're giving them full visibility across the entire supply chain from source to destination. So you got customers who are able to aggregate what their proppant volumes are at the transload, then -- and also, with using PropView at the wellsite. So they're, basically, finally, going to be able to have the whole value chain or whole supply chain modeled. And what we're seeing is, we're getting a lot of excitement from customers. We're getting -- as we progress forward with the integration, we think that that's going to be very differentiating for us as we go forward.

And then specifically at Kingfisher, we are now providing, to our anchor tenant, information on several mines that are bound into the Kingfisher facility, inventory at Kingfisher, and then, inventory at the wellsite. So that's the first example of us really integrating that into a package.

And the way we see it, we believe that we'll be the only company that'd be able to give them full visibility across that supply chain.

Yes, that's true. Last one, if I can sneak one in, you're obviously taking the cadence from 6 to 8 per month. There was some discussion of how much you outsourced, and how much you build internally without adding more roofline. What can you tell us, product quality deterioration, what can -- what warm-and-fuzzies can you give us that, that won't happen?

Well, even though we outsourced some components, we still bring everything back to the facility for final testing and assembly. So everything meets our same quality-control standard, as if it came out of our own manufacturing plant. So we've been really diligent about that, even though we've been able to up the cadence, we've done it in a measured way, we've done it in a way that we can maintain our quality control and in fact, we've also maintained our cost discipline too by managing our own supply chain.

And importantly, these aren't new suppliers to us. We've been using them for more than 6 months, I'll say, at this point. So we've got history and experience there.

And the next question comes from Martin Malloy with Johnson Rice.

In your presentation, you talk about one of the bullet points of demand for the systems exceeding the fleet size. Could you maybe talk about how much of a view forward that you have in terms of how many months, if at 8 manufacturing systems per month, at that cadence, how many months of demand you have good visibility on?

Right now, we've got good visibility for the -- into the second quarter. And we've always maintained that. It's looking at about a quarter to maybe a little bit more ahead. And so that's how we made the decision to go forward as looking at that. We're not building these systems on spec. We have customers lined up, as they come off the manufacturing floor, and they go straight to work and straight to a location.

Okay. And just in terms of looking at the competitive environment, and what's out there in terms of the older-model proppant systems at the wellsites, can you maybe give us an update in terms of what you think the addressable market is, and what percent of the frac crews are still using older, not the latest generation Proppant Management Systems?

Yes. It's hard to get an exact number on that. But I would say, what I call, old generation systems, probably still 50% -- 40% to 50% of the market.

And the next question comes from Waqar Syed with Goldman Sachs.

Couple of questions. And number one, could you guide us on the CapEx for the year, and if not for the year for competitive reasons, then maybe for the first half?

Yes, we haven't provided guidance beyond, obviously, the second quarter. I can quickly here pencil out, while we're on the phone, what the first half CapEx looks likes if we, I'll just say, hit the midpoint of the 120 systems. So just give me a moment here, and I'll pencil that out, you can keep going.

Okay. And while you're calculating that, could you talk about the penetration of 2 silo systems? One of your customers wanted about 20% of the silos to be -- systems to be -- 2 silo systems on 20% -- that's 20% of the crews. Are you seeing penetration beyond one customer on that issue?

We are. There's been a lot of interest in it. Currently, we do have one customer with -- that has a 12-pack configuration. But I will say that we've got several others going out in the near future. And it's -- it varies a lot. So we've seen a lot of good traction on it, and anticipate that going forward. But it's something that we see -- as we -- as the proppant demand increases, particularly in certain areas, just forward staging makes it -- makes a lot of sense to put the -- pass the all location. We probably will see up to 4 this quarter.

And we -- I'm comfortable with $85 million to $95 million, in the first half of the year.

Okay, great. And then, could you talk about any changes to the competitive landscape that you've seen in the last several months?

Yes. I think we've been consistent that folks are adopting new technology, so we continue to see that. We have seen some folks, I'll say, rebranding some technologies around vertical storage. And I think that really speaks volumes to the -- to our belief that vertical storage is really the most efficient way to address this. And then when we look at vertical storage solutions, we believe we have the best product out there, and the product that we continue to refine. I think, one of the things we've heard from customers is an interest in using belly dump trucks. And we've, obviously, developed a kit to adopt right into our existing system to use belly dump trucks. But importantly, and I think really what distinguishes us is, we're maintaining the integrity of the multiple unloading points. We're not solely reliant on being able to unload belly dump trucks.

And do -- does that system comply with all the new OSHA regulations?

Yes. We're constantly being tested with, we're testing it ourselves. So in terms of our existing systems with the pneumatic loading and the belly-dump, yes, we're going through testing right now. And we're getting very good results.

Yes. And we -- this has been going on for more than a year, as far as testing our customer's tests. As Greg mentioned, we're testing. And it's important to keep in mind, because I think there's a general misconception around pneumatic trucks. But we -- our system was designed to fix some of the traditional or historical issues with pneumatic delivery of sand. So we've got a closed-loop system, the trucks unload, pneumatically, directly, into the silos, there's dust collector at the top of the silos. So that closed process does contain, and even the dust issues, historically, related to the pneumatic offloading of sand.

Sure. And then just one final question. You have in the past given out the trends in sand pump-for-well. Could you update on what you saw in the fourth quarter?

I think, we would say that we saw volumes on average in line with what we've seen through the first half in the third quarter of 2017. We tend to see more sand pumped per well than, I'd say, the industry averages, given the fact that we provide so much more storage on site.

And the next question comes from John Watson with Simmons & Company.

In late January, I think you all said that 40% of the fleet was on take-or-pays for 2018. Can you give us an update on that figure? And are any fleets contracted for 2019 as of yet?

In 2019, no. I think what we've done is set new pricing agreements and through most of 2018. Today, it's about 75% of our current fleet. And in the coming days, I expect that to be closer to 90%. Couple of guys just need to wrap up some paperwork. And so that, sort of, in terms of what's contracted, it's 75% today.

Okay. That's perfect, Kyle. We've heard lots of discussions about weather and sand delays impacting Q1 results. I wouldn't think that, that impacts Solaris in the same way. But can you speak to that, and also, speak to any potential delays on frac jobs that maybe don't impact Solaris results but impacts some of your customers?

John, as you know that we're on a monthly revenue basis with all our customers. So any weather impacts, any delays like that, won't affect us from a revenue standpoint.

Okay. But...

That answers the first part of your question.

Yes, absolutely. And then the second part, are you seeing delays on jobs that aren't impacting Solaris' results but might impact pressure pumpers?

No. Honestly, not really. We've seen some weather-related issues up in Oklahoma for the most part. There was an ice storm there. But -- and that impacted a little bit. But again, from a system revenue standpoint, it doesn't affect us.

Okay, perfect. And Greg, I think you mentioned 4 12-pack systems for Q1. Is that customer, do they have any interest in potentially moving to an 18-pack at some point? And having even more storage on site or is that not a possibility right now?

We haven't had that yet. So who knows in the future.

And the next question comes from Jason Wangler with Imperial Capital.

Kyle, curious on that -- on your percentages you gave on the contract, are those for 1-year contracts? Or are those just for the pricing agreements for this year?

It locks in term, and there's a component of those contracts that have termination penalties.

Okay. And then just, as a follow-up to -- on the Railtronix, PropView, as you guys are integrating that system, I think you guys talked about during the acquisition that the customer base was not -- there was not very much overlap in the customer base. Could you talk about, picking up those customers, bringing them in your side, and then just, kind of, how you see as that integration has been going for a couple of months now. How that's starting to go as you start to, kind of, roll the program forward built out, I would assume for systems and probably with other customers that are outside of your systems right now?

Yes. There's a fair amount of overlap. But I'm really happy with the way the integration is going. We're doing all the stuff in parallel, bringing out Kingfisher on, integrating Railtronix, PropView, at the same time. We're under ideal situation to use that as a test incubator and getting that right. So far, it's going very, very well now, that's with a single customer. But again, we've got a controlled environment, we feel good about that. We've got -- I think we've mentioned that we've got about 60 touch points, from Railtronix. Some of those overlap. Some of them are same companies, some are just certain transloads, some are of combination of the 2.

(Operator Instructions) And the next question is a follow-up from Martin Malloy with Johnson Rice.

I just wanted to ask about Kingfisher, if you could maybe give us an update on, kind of, the outlook for additional coverage, contracts?

Sure. It's going well. I mean, we hit our marks in terms of getting it on, start moving manifest volumes through there in mid-January, which was right on schedule. The silo construction is on schedule, and on budget as well, so we feel really good about that. We're moving between 50 and 100 trucks on average a day through there right now, which was, again, the plan to start with. We're seeing a lot -- we don't even think they're announced in terms of other contracts yet. But I will say that we're actively discussing those right now, and I'm hopeful that we'd be able to talk a little bit more that -- about that in the future.

And the only thing I would add is that, I think now that we've reached the milestone of actually running railcars and trucks through the facility, we're seeing, I'll call it, new interest from folks that were on the sidelines, say, at the end of 2017. Now that we've got something to show folks, there's new interest here as well.

Being a new facility, people are just now seeing it and seeing it up and operational, and we're getting a lot of traffic through there.

And there's nothing else at the present time, I would like to return the call to management for any closing comments.

Now I'd like to thank, everyone, for their time this morning. Appreciate your support of Solaris and the team. We were very excited about '18, and the progress we're making going forward. So again, thanks for your interest.

Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.