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Edited Transcript of CCLP earnings conference call or presentation 26-Feb-20 3:30pm GMT

Q4 2019 CSI Compressco LP Earnings Call

OKLAHOMA CITY Mar 17, 2020 (Thomson StreetEvents) -- Edited Transcript of CSI Compressco LP earnings conference call or presentation Wednesday, February 26, 2020 at 3:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brady M. Murphy

TETRA Technologies, Inc. - President, CEO & Director

* Elijio V. Serrano

CSI Compressco LP - CFO & Director of CSI Compressco GP Inc

* Jacek M. Mucha

TETRA Technologies, Inc. - VP of Finance & Treasurer

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Conference Call Participants

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* Gregg William Brody

BofA Merrill Lynch, Research Division - MD

* Praveen Narra

Raymond James & Associates, Inc., Research Division - Analyst

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Presentation

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Operator [1]

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Good morning, and welcome to CSI Compressco LP's Fourth Quarter 2019 Earnings Conference Call. The speakers for today's call are Brady Murphy, President for CSI Compressco LP; and Elijio Serrano, Chief Financial Officer for CSI Compressco LP and also for TETRA Technologies, Inc., which is the general partner of CSI Compressco LP; and Jacek Mucha, Vice President of Finance and Treasurer for TETRA Technologies, Inc. and CSI Compressco LP. Also in attendance today is Michael Moscoso, Vice President of Finance and -- for CSI Compressco LP.

(Operator Instructions) Please also note, today's event is being recorded.

At this time, I'd like to turn the conference call over to Mr. Mucha for closing -- for opening remarks.

Please go ahead.

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Jacek M. Mucha, TETRA Technologies, Inc. - VP of Finance & Treasurer [2]

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Thank you, Jamie. Good morning, and thank you for joining CSI Compressco's Fourth Quarter 2019 Results Conference Call. I would like to remind you that this conference call may contain statements that are, or maybe deemed, to be forward looking. These statements are based on certain assumptions and analysis made by CSI Compressco and are based on a number of factors. These statements are subject to a number of risks and uncertainties, many of which are beyond the control of the partnership. You are cautioned that such statements are not guarantees of future performance and that actual results may differ materially from those projected in the forward-looking statements.

In addition, in the course of the call, we may refer to EBITDA, gross margins, adjusted EBITDA, adjusted EBITDA margins, free cash flow, distributable cash flow, distribution coverage ratio, backlog net leverage ratio or other non-GAAP financial measures.

Please refer to this morning's press release or to our public website for reconciliation of non-GAAP financial measures to the nearest GAAP measures.

These reconciliations are not a substitute for financial information prepared in accordance with GAAP and should be considered within the context of our complete financial results for the period. In addition to our press release announcement that went out earlier this morning and is posted on our website, our Form 10-K is planned to be filed with the SEC on or before Friday, February 28, 2020.

With that, I will now turn it over to Brady.

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Brady M. Murphy, TETRA Technologies, Inc. - President, CEO & Director [3]

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Thank you, Jacek. Good morning, everyone, and thank you for joining our fourth quarter conference call. I will start with an overview of our performance and results and then turn the call over to Elijio Serrano, who will provide more details on our financial results and guidance for 2020.

CSI Compressco had another outstanding quarter and delivered another set of record achievements. The most significant one being, the highest adjusted quarterly EBITDA of $34.7 million since the acquisition of Compressor Systems, Inc. and the formation of CSI Compressco.

We also set an adjusted EBITDA margin record of 28.1% with continued strong utilization of our fleet at 90%, at the end of the quarter. Compression services revenue of $65 million was $200,000 higher than the third quarter with a gross profit of $33.6 million. We added 26,200 in new horsepower, focused around central gas lift for our key customers, with the vast majority of the new additions being deployed into existing clusters of equipment in the Permian Basin and South Texas.

Centralized gas lift demand has been growing over the last 2 years, and operators have increasingly moved towards utilizing larger horsepower units to perform gas lift on multiple wells, which is very efficient and cost effective, something that has benefited our business tremendously. The large horsepower fleet now represents 53% of our total fleet at year-end 2019, up from 42% of the fleet at the end of 2016, as we've made a conscious effort and capital investments to reshape our fleet horsepower. The 1,000-plus horsepower equipment was 97.9% utilized at the end of the year, essentially sold out and continues to generate approximately 20% returns on capital. Pricing remains strong for all the new additions to our fleet.

Since the beginning of the year, we have increased our horsepower by approximately 98,000, while keeping our technician headcount flat, leveraging our personnel and geographic footprint. Since 2018, we've added nearly 190,000 horsepower, almost all in the 100 -- in the 1,000 horsepower category, and over 80% of this equipment was set to increased liquids production. We're focused on migrating our asset base to those areas, where we can attain the highest returns on capital and where the earnings are the most predictable. In the last 3 years, from the end of 2016 to the end of 2019, we have increased our large horsepower fleet by 37% from 645,000 -- to 645,000 from 470,000, which is currently at the 97.9% utilization.

We've been selling or disposing some of our small and midsized horsepower units and using those proceeds to partially fund some of the larger horsepower additions. The fleet of equipment under 100-horsepower has been reduced by 16% from 183,000 to 153,000. The midsized equipment has been reduced by 9% from 461,000 to 418,000 horsepower. This redistribution of assets and the move to concentrate with our well capitalized core customers where we're adding the large units to existing clusters and to focus on centralized gas lift has been one of the drivers towards a significant improvements we are seeing in our gross margins and EBITDA.

Additionally, because of our vertical integration where we are fabricating our own units, we're putting out new units at lower cost than others in our industry.

Fourth quarter 2019 adjusted EBITDA of $34.7 million improved $700,000 sequentially and is up 15% from the same period last year, despite 11% revenue drop from the fourth quarter of last year. Sequentially, revenue increased by $9.8 million or 9%. Comparing to the third quarter of 2019, each of our 3 business segments increased revenue with aftermarket services revenue increasing by $3.7 million, equipment sales revenue increasing by $5.9 million and compression service revenue modestly increasing by $200,000.

As we guided you last quarter, we expect the aftermarket services to end the year -- we expected the aftermarket services to end the year strong, given the customer demands we saw for parts and services and a strong aftermarket services backlog, and we've delivered on that promise.

Fourth quarter orders for new equipment sales were $4.1 million. Our backlog as of December 31, was $36 million, reflecting shipments of $32 million in the fourth quarter. We continue to see a healthy pipeline of new unit sales opportunities; however, several large projects that were expected to be awarded into the fourth quarter 2019 have been delayed and pushed out. We still expect to receive those orders, but likely not until the second half of 2020. We believe that some of the order delays are also a function of decreased lead times on key components to manufacture compressor packages, which has come down materially since 2018.

Now I'd like to spend a few minutes recapturing some of the key accomplishments in the total year of 2019, as it's been a very successful year for CSI Compressco. Throughout the year, we continued to improve our financial performance, ending the year with total adjusted EBITDA of $128 million, up from $99 million in 2018, a 29% year-over-year increase.

I'm very proud of the effort from our employees this year, driving improved financial performance and safety performance and the commitment to our success in an industry that has seen the U.S. onshore rig count falling by 25% over the last 12 months and natural gas prices dropping below $2. Our total year revenue increased 9% from 2018 levels to $477 million and our utilization ended the year at 90%, up from 86.6% at the end of 2018. Our compression and related gross services -- gross margins improved to 51.6% in the fourth quarter of 2019, up from 43.6% in the fourth quarter of 2018.

During the year, we also improved the net leverage ratio to 5.1x from 6.3x at year end 2018, and a high of 7x in the second quarter of 2018. This is a tremendous improvement in only 6 quarters. We're making good progress towards our goal of 4.5 leverage ratio. We also fully redeemed the Series A convertible preferred units to avoid further distribution -- further dilution to the common unitholders with the last payment completed in August of 2019. To achieve this, we allocated $32 million of our distributable cash flow towards a Series A units redemption. In 2020, we will allocate that money quite differently.

Now I'll turn the call over to Elijio.

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [4]

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Thank you, Brady. Capital expenditures were $10 million for growth capital, net of cash received for the sale of used equipment. In the fourth quarter, we added approximately 26,200 operating horsepower to our fleet. All of the additions are for equipment over 1,000 horsepower per unit in size and almost 90% were set to address the growing demand for centralized gas lift to help drive liquids production. Also in the quarter, we invested $6.8 million for maintenance capital expenditures.

Distributable cash flow of $15.5 million improved 17% from the fourth quarter of last year and was essentially flat on a go -- from quarter-to-quarter. Our distributable cash flow coverage ratio was 33x, also essentially unchanged from the third quarter of 2019 and reflects our decision in December of 2017 -- 2018 to reduce the distribution to cash, redeem the Series A preferred units, with the final redemption completed in August 8, 2019.

In 2019, we invested an approximately $32 million of distributable cash flow for the cash redemption of the Series A units. Cash flow from operating activities was slightly negative at $100,000, down from a positive $27 million in the third quarter, driven primarily by a decrease in accounts payable in accrued expenses, such as unearned income due to the timing of shipments of new equipment sales.

Distributions paid in the quarter were $477,000 or $0.01 per unit. Net debt when computing our leverage metrics at the end of December 31, 2019, was $650,536 million. And as a reminder, we do not have any maintenance covenants to comply with. Our leverage ratio at the end of September was 5 -- at the end of December was 5.1x, representing another sequential improvement.

When annualizing fourth quarter adjusted EBITDA, our leverage ratio would have been 4.6x, approaching our goal of 4.5x that we committed to achieve at our Investor Conference in May 2018, when we reiterated our plans to reduce the distribution to improve our leverage metrics. Compared to a high of 7% at the end of Q2, 2018, our leverage ratio has improved significantly, given our capital disciplined policy, limiting additional debt and improved operating results.

This morning, we issued 2020 guidance. We expect 2020 total capital expenditures to be between $50 million and $56 million. We expect maintenance capital expenditures to be between $23 million and $25 million to reflect the addition of almost 190,000 horsepower over the last 2 years. We expect to limit our growth capital to be less than 50% of distributable cash flow and are targeting growth capital expenditures to be between $20 million and $25 million.

When comparing 2019 to 2020 and taking the midpoint of guidance into account, we will be reducing growth capital expenditures from $47.8 million in 2019 to approximately $22.5 million in 2020. We'll be reducing the amount of horsepower we're adding to the fleet from approximately 98,000 horsepower in 2019 to approximately 29,900 in 2020. The $47.8 million of growth capital in 2019 excludes almost $15 million that was funded by TETRA. Out of the 29,900 horsepower, we expect to have in 2020, only 10,600 is currently on order. We are being very diligent in committing to capital investments, and we'll maintain our 20% returns thresholds and are only ordering equipment on the back of customer commitments.

We expect to allocate $4 million to $6 million of capital expenditures in 2020 towards technology investments to continue to drive fleet reliability and margin improvements through efficiencies in our business. We are enhancing our telemetry system for both our units and continue to drive further functionality of our ERP system, which we believe to be best-in-class in the industry. Through this investment, we expect to improve remote monitoring our units, utilize predictive maintenance to further improve run time and reduce cost and increase the amount of real-time data we capture from our fleet to drive better business, decisions and efficiencies.

At this time, do -- we do not anticipate to have TETRA as our general partner to provide any capital to fund investments in 2020 like we did in 2019.

We expect total year 2020 guidance for revenue and adjusted EBITDA -- for revenue to be between $430 million and $460 million, and adjusted EBITDA to be between $125 million and $140 million. We also expect the first quarter of this year to be softer than the fourth quarter of 2019 due to the timing of equipment sales and aftermarket services.

First quarter 2020 revenue is expected to be between $90 million and $100 million and adjusted EBITDA between $27 million and $29 million. We expect to see a softer market for the build and sale of new units, but expect to see continued strength in aftermarket services and from our core customers that have strong balance sheets, with well-defined drilling programs focused on centralized gas lift. The weaker equipment sales revenue will be replaced by higher compression services revenue, at higher margins and strong aftermarket activity. Using the midpoint of our full year 2020 EBITDA guidance of $132.5 million and after accounting for approximately $48 million of net cash interest expense, $24 million of maintenance capital expenditures and $5 million of cash taxes, we expect to generate approximately $56 million of distributable cash flow. And as previously mentioned, we expect to use $20 million to $25 million of this distributable cash flow for growth capital expenditures and use the remaining balance of the distributable cash flow, primarily to reduce outstanding debt.

Our decision to focus on improving our leverage metrics has been consistent for over a year, and we've made significant progress. We are reducing our investments in growth capital to generate cash to reduce debt. We have seen a significant improvement in our leverage metrics, and believe we have positioned ourselves to refinance the August 2020, 2 unsecured bonds at attractive rates as soon as the markets are open. Once we complete the refinancing of our unsecured bonds and push all maturities into 2025 or beyond, we will revisit our capital allocation priorities.

To summarize a few key points before we open it up for Q&A: Number one, we hit the EBITDA target that we're aiming for in 2019, and the midpoint of our guidance indicates, we expect 2020 to be better despite some delays in new equipment orders. Number two, we are running at 90% utilization. We are holding firm on pricing and are obtaining 20% returns on capital from all new investments. In some instances, we are shifting the equipment to customers in areas that are producing the highest monthly rates with the best margins. Number three, we are migrating our fleet towards the larger units focused on centralized gas lift. And number four, we are materially reducing our growth capital in this environment of capital discipline in the entire energy sector.

All in all, we are very pleased with the progress we obtained in 2019 and are comfortable in the 2020 outlook, given our customer concentration, large horsepower fleet and improved leverage metrics.

With that, we'll open it for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question today comes from Praveen Narra from Raymond James.

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Praveen Narra, Raymond James & Associates, Inc., Research Division - Analyst [2]

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I am apologizing in advance if I missed this, but when I was looking at your 1Q guidance versus full year guidance, it seems like 1Q is coming in a bit softer than the fourth quarter run rate would imply. Can you walk us through, kind of, what's driving that quarter-over-quarter decline? And then why the ramp from 1Q through the remainder of the year or the step-up from there?

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [3]

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Good question, Praveen, Three data points: Number one, the revenue and margin from the fleet has been very consistent and steady on an uptrend. We expect Q1 to be the same way and continue to move that trend, especially if we keep deploying some of the larger units. All the movement that we're seeing in Q4 to Q1, that is a downward shift. If the timing of equipment sales, we had a really good quarter from new equipment shipments, all that left the floor and got delivered to customers. And then also, you saw that we had an incredibly strong fourth quarter aftermarket services. A lot of projects were completed and we were refurbishing the equipment. And then, we also had a lot of parts sales. That was an abnormal high peak. We expect that to slow down. And then based on the backlog and the timing of the projects that we have either for new equipment sales or for aftermarket services projects, we expect those to rebound beginning in Q2. So it's all around aftermarket services and equipment sales and the timing of those.

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Praveen Narra, Raymond James & Associates, Inc., Research Division - Analyst [4]

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Right. Okay. So -- but the ramp from 1Q onwards is a visible ramp, for which you have backlog and projects already slated to go for the second half?

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [5]

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So the only ones that are not out there is for the very tail end of this year on equipment sales. We've indicated that our backlog is mid-$30 million. Clearly, that's more than what we're expecting -- that's less than what we're expecting for total equipment sales. So we're expecting to pick up some new orders in the second quarter that will be delivered in Q4, and those are not yet firm. And then, also -- on it, Praveen, just recall that we're making the vast majority of our profit on the fleet of our equipment. We're delevering 50% margins on that. Aftermarket services is in the 20% range, and new equipment sales are in the 10% range. So if we're going to be short of anything, we prefer to be short on the equipment sales where the margins are the least.

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Praveen Narra, Raymond James & Associates, Inc., Research Division - Analyst [6]

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Right. You guys characterize pricing is still being strong. I did notice that quarter-over-quarter compression revenue per horsepower did come down a bit. Can you walk through what drove that? And then also, how should we think about that figure in the financial statements rolling forward, given pricing stability?

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [7]

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Yes. So recall, Praveen, I think we might have had this discussion in the past that the mix of our fleet with the small horsepower units run at a much higher per horsepower rate. They were in the $30 range. And then the large units are in the $14, $15 range. So the more large horsepower equipment we keep adding, it will average down the overall fleet. So it's simply a mix issue because we keep adding the big units at the $14, $15, $16 per month rate, relative to the -- GasJack unit is an example. They're in the $30-plus range.

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Brady M. Murphy, TETRA Technologies, Inc. - President, CEO & Director [8]

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Yes, Praveen, this is Brady. The other thing I will add to what Elijio mentioned is, we delivered probably our highest horsepower fleet in the fourth quarter, about 26,000 horsepower, and we did not get a full quarter revenue for that, as we delivered a substantial part of that actually in December. So you will see that in our Q1 results, but it's not in our Q4 results for a lot of that horsepower.

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Praveen Narra, Raymond James & Associates, Inc., Research Division - Analyst [9]

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Okay. So the last one. Just like-for-like on horsepower sizing, if we think of it, we model out our pricing per segment, small, medium and large did not change materially. It was largely a mix. And then as Brady -- as you mentioned on that 26,000 horsepower unit.

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [10]

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And the other thing that I want to make sure that we're also clear on, all the new units we're adding, we're adding at prices above the existing fleet. So all the new units are getting deployed, the monthly rate is higher than the existing fleet that we've got units that are few years old.

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Operator [11]

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(Operator Instructions)

Our next question comes from Gregg Brody from Bank of America.

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Gregg William Brody, BofA Merrill Lynch, Research Division - MD [12]

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Just -- you've done a really nice job getting your leverage down, and you're still focused on this -- on the 4.5x target. Could you talk a little bit about, if you think that number should come down in terms of the target? Is that something we could see changing, just based on what you're seeing in the industry? And then maybe you could talk a little bit more about, after this year, how are you thinking about the use of excess cash flow for further debt reduction?

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [13]

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Good question, Gregg. So we set the goal at the end of 2018, that we wanted to be at 4.5x. Right now, we're at slightly above 5x. And actually, if you annualize Q4, we're around 4.6x. We think that in 2020, through a combination of continued improvements in EBITDA, plus using some of the cash proceeds to retire some of the unsecured bonds that we can get into the 4.5 target that we've laid out. That's the immediate goal. If we achieve that goal, we will reassess our capital allocation priorities. If the market remains very challenging, and there is a lot of uncertainty in the market, it might be prudent to continue to reduce debt. If the market is rebounding and our customers are looking at opportunities to drill more and deploy more equipment and the returns on capital are attractive, I direct some of our capital in that direction. Also, we will evaluate how our equity is trading at, and if we believe that our equity is significantly undervalued after we hit our leverage target, we might look at how we reward our shareholders by moving capital in that direction. So I think doing it, understanding what the current financial environment looks like will be a good discussion, we'll have with our Board when we achieve our refinancing.

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Gregg William Brody, BofA Merrill Lynch, Research Division - MD [14]

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So if you're there on a run rate basis this quarter and I think you -- I guess you guided to maybe not being their next quarter. But at some point this year, you'll be there. Is it as simple as when you're there at the run rate that you will have a discussion? Or does it need to be on a last 12 months basis? What I'm really asking is, when do you have that conversation because it feels like you're close?

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [15]

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Right. So again, reiterate 3 points: Number one, we're already at 5.1x. We're at 4.6x on a Q4 run rate, but as we just had the discussion with Praveen. We expect Q1 to be slightly softer due to timing. However, on a trailing 12-month basis, we expect that we're going to be under 5x by March 31, 2020. We want to be around 4.5x on a trailing 12-month basis. I don't think that, that will be achieved until -- towards the end of this year. Now if the market for the unsecured bonds open up, and we are able to quickly refinance and then push all maturities into 2025 or beyond, I think we open up dialogue with our Board about the allocation of our capital knowing that at that point, we've got no maturities in 2025 or after that.

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Gregg William Brody, BofA Merrill Lynch, Research Division - MD [16]

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That's very helpful. And you -- obviously, you're -- in your centralized gas lift business, it's a high horsepower. You're -- it seems like you're almost fully utilized. Basically, full utilizers are able to hold in pricing. How do you -- where -- just can you remind us where you're concentrated? And if you're seeing differences in basins that are noteworthy in terms of maybe where markets are stronger or weaker?

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Brady M. Murphy, TETRA Technologies, Inc. - President, CEO & Director [17]

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Yes. I mean, I think, we've mentioned in the past, Gregg, our horsepower is pretty well allocated between 3 basins: The Permian Basin, South Texas and Mid-Continent. Most of the deployments that we have seen demand from our key accounts that we've aligned with, for 2019, and the same will be in 2020, is between the Permian and South Texas. And again, a lot of that is driven by centralized gas lift and the core customers that we're aligned with who rely on us for their deliveries. So...

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Gregg William Brody, BofA Merrill Lynch, Research Division - MD [18]

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Okay. And then maybe just one last one for you. I know M&A has been part of the longer-term strategy. Curious what the environment's like today? And what you -- if you're seeing potential for an uptick?

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Elijio V. Serrano, CSI Compressco LP - CFO & Director of CSI Compressco GP Inc [19]

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So there have been some transactions recently. A private company is coming to market. We've evaluated some of those opportunities. Just like we are very disciplined with our cash flow for growth capital, we're very disciplined at any opportunity that we look at for acquisitions. If we think that the price is not appropriate, if we think that the opportunities to gain synergies is not appropriate, if we think that the fleet profile is not appropriate, we will pass on those opportunities. And since we have not done M&A since the CSI acquisition, it tells you that we've walked away from opportunities simply because we didn't think it was a good fit for us. We will continue to evaluate them, and if there's opportunities and on the back of a transaction to further improve our leverage ratios, we're open for that dialogue, but we're not going to acquire for the sake of acquiring.

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Operator [20]

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And ladies and gentlemen, at this time, we've reached the end of the question-and-answer session. I'd like to turn the conference call back over to Brady Murphy for any closing remarks.

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Brady M. Murphy, TETRA Technologies, Inc. - President, CEO & Director [21]

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Okay. Thank you. We appreciate your interest in CSI Compressco. And thank you for taking the time to join us this morning. This concludes our call.

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Operator [22]

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Ladies and gentlemen, that does conclude today's conference call. We do thank you for joining. You may now disconnect your lines.