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Edited Transcript of ESN.TO earnings conference call or presentation 8-Aug-19 4:00pm GMT

Q2 2019 Essential Energy Services Ltd Earnings Call

CALGARY Aug 10, 2019 (Thomson StreetEvents) -- Edited Transcript of Essential Energy Services Ltd earnings conference call or presentation Thursday, August 8, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Garnet K. Amundson

Essential Energy Services Ltd. - President, CEO & Director

* Jeffrey B. Newman

Essential Energy Services Ltd. - VP of Finance & CFO

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Conference Call Participants

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* Josef I. Schachter

Schachter Energy Research Services Inc. - Author & President

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Presentation

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Operator [1]

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Good day, ladies and gentlemen. Welcome to the Essential Energy Services Ltd. 2019 Second Quarter Results Conference Call and Webcast.

I would now like to turn the meeting over to Mr. Jeff Newman, Chief Financial Officer. Please go ahead, Mr. Newman.

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Jeffrey B. Newman, Essential Energy Services Ltd. - VP of Finance & CFO [2]

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Thank you, Vera. Good morning, and thank you for joining our second quarter conference call. Garnet Amundson, President and CEO, is with me on the call today. We will give you an overview of our second quarter results and speak to the outlook. At the completion of our formal comments, we will open the line for questions.

In this conference call, we will be discussing financial measures, including certain non-IFRS financial measures such as EBITDAS and bank EBITDA. Please see our August 7, 2019, second quarter news release for definitions of these terms.

Today's call may include forward-looking statements. Such statements are given as of the date of this call and involve risks and uncertainties. A number of factors and assumptions were used to formulate such statements. Actual results could differ materially, and there can be no assurance of future performance or market impacts. For additional information with respect to the forward-looking statements, factors and assumptions, refer to our August 7, 2019, second quarter news release.

In this call, we will refer to Essential Coil Well Service as ECWS. We will also refer to IFRS 16, which is the new international financial reporting standard related to lease accounting.

First, a few words about our quarter. Similar to the first quarter, the Canadian oil and natural gas industry experienced a difficult second quarter. Drilling activity and well completions were both significantly below the prior period -- prior year period. Political, regulatory and market access issues reduced E&P spending, which in turn reduced oilfield service activity. In addition, second quarter activity is always impacted by spring breakup conditions.

In the quarter, Essential generated $27 million of revenue. This was $11 million lower than Q2 '18. EBITDAS of $1.4 million was only $0.4 million lower than Q2 '18. This was due to cost management and the impact of IFRS 16.

On a year-to-date basis, revenue was $75 million and EBITDAS was $9 million, both below the prior year period.

Throughout this prolonged downturn, we set an objective to maintain debt at a low level. On June 30, long-term debt was $7.5 million and funded debt-to-bank EBITDA was 0.4x. Working capital at the end of the quarter, consisting primarily of inventory and accounts receivable, was $48 million, well in excess of debt.

Looking at each of our businesses. ECWS reported Q2 '19 revenue of $16 million, 23% lower than Q2 '18, in line with the 26% quarter-over-quarter decline in industry well completions. While activity was down, pricing was generally consistent with Q2 '18 and a sequential Q1 '19. ECWS had a seasonally slow start to the quarter, but activity improved in June and was not overly impacted by wet weather. We continue to be pleased with the demand for our Gen III and Gen IV coil tubing rigs and quintuplex fluid pumpers, the equipment that is suitable for deep, long-reach horizontal wells.

Despite the low revenue, gross margin as a percentage of revenue improved significantly from 10% in Q2 '18 to 16%. This was due to effective cost management, including wage reductions and a stronger focus on variable costs. Gross margin also improved with the adoption of IFRS in Q1 '19.

On a year-to-date basis, ECWS revenue was $42 million, 21% lower than the prior year period. Revenue -- gross margin, pardon me, as a percentage of revenue, increased from 15% to 21%, reflecting proactive and effective cost management practices.

With respect to Tryton, Tryton experienced a more difficult second quarter, reporting revenue of $11 million, 35% lower than Q2 '18. Conventional tool sales, which are primarily for production and decommissioning work, increased compared to Q2 '18. However, a sharp decline in MSFS activity, as customers differed and reduced their completion programs.

Looking at the revenue split between MSFS and conventional tools and rentals. 14% of Q2 '19 revenue was from MSFS activity. This is not atypical of our past experience. In Q2 '15 and Q2 '16, revenue from MSFS was 16% and 15%, respectively, as a percent of total Tryton revenue.

Gross margin for Tryton was 12% for Q2 '19, below the prior period quarter due to lower activity and fixed cost comprising a greater portion of revenue. On a year-to-date basis, Tryton reported $32 million of revenue, 27% lower than the prior year period. Gross margin was 18%.

Garnet will now comment on Essential's capital spending and speak to the outlook.

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Garnet K. Amundson, Essential Energy Services Ltd. - President, CEO & Director [3]

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Thanks, Jeff. Good morning, everyone. Capital spending continues to be modest and primarily focused on maintenance capital.

On a year-to-date basis, $3.3 million was spent, more than half funded by the $1.8 million of proceeds from the disposal of older assets. Our 2019 capital forecast has been increased from $6 million to $8 million, primarily due to additional maintenance capital in ECWS.

We assessed the nature of work and the anticipated demand from our ECWS customer base and determined that our fleet needed an additional generation for long-reach, conventional coil tubing rig. As a result, we are reactivating another of our Gen IV rigs, rig 2050, and have engaged NOV Hydra Rig to complete a retrofit. This retrofit is planned to be identical to ECWS' popular and successful rig 2049, which was introduced to the market in October 2018. Rig 2050's in-service date is expected to be in December 2019 so that it is available for the busy winter 2020 season.

Despite the prolonged downturn, ECWS has been constantly upgrading our fleet, our coil fleet depth and our pumping capacity since the Precision deal in late 2016 that added deep coil tubing rigs and quintuplex fluid pumpers to the fleet. At the same time, we have been deactivating shallower coil and fluid pumping units. This approach is critical to stay relevant and competitive in this changing market.

Now from an outlook perspective, from Essential's perspective, third quarter activity is expected to reflect a seasonal recovery, but within the confines of reduced industry activity. To date, in the third quarter, activity has been consistent with our expectations, but with some weather-related delays in July. We believe we have reasonable clarity regarding customer plans for the remainder of the quarter. Service pricing is expected to remain flat and competitive.

The fourth quarter, however, is still unclear and activity will depend on whether producers exhaust their capital spending budgets earlier in the year. As a management team, we are now well-versed in managing dramatic short-term changes in customer programs, including how we manage our cost structure.

Last week, the Petroleum Services Association of Canada released an update to its 2019 Canadian drilling activity forecast, announcing that they expect 5,100 wells to be drilled in Canada. If accurate, this will be a 31% decrease from 2018, and this implies a tough second half 2019. Pipeline and egress issues remain significant hurdles for the industry to overcome. This, along with political and regulatory uncertainty, has significantly impacted investor confidence, and in turn, the amount of E&P activity and demand for oilfield services.

Lower North American commodity price expectations are also concerning to our customers' outlook. The fate of the industry is unfortunate, not only for the oil and gas industry, but frankly for all Canadians. This negatively impacts the Canadian economy. We must have a federal government that is supportive of the industry, one which recognizes that the Canadian oil and natural gas industry is a technical leader on a world scale and subject to some of the most stringent environmental safety and labor standards in the world.

In this challenging environment, management continues to be focused on what we can control: cost management; capital discipline, ensuring our service offerings meet customer demand; and allocating free cash flow to maintain our low long-term debt. Wage and cost reductions remain in place due to the uncertainty we see in the second half of the year. Low debt and a lean cost structure are competitive advantages as we navigate another difficult year.

Thanks to our staff for their patience and dedication as we continued to perform relatively well in a very difficult environment. Operator, at this time, we would like to open the call up for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from Josef Schachter of Schachter Energy Research.

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Josef I. Schachter, Schachter Energy Research Services Inc. - Author & President [2]

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A tough quarter, no question about it. On ESG, a lot of companies are talking about looking at using e-frac equipment. Is coil tubing something that would start using electricity and going from diesel? And does that -- is that something that you're going to need to look into doing or changing? And how costly is that to convert to if ESG becomes an issue for coil tubing and all of the industry tries to continue to move to cleaner tech?

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Garnet K. Amundson, Essential Energy Services Ltd. - President, CEO & Director [3]

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Yes. Thanks for the question. So first of all, we are, I'll say, increasingly aware of ESG questions and concepts, including the one that you're speaking to about -- frackers talking about -- and I think it's been a bigger phenomenon in the U.S., but frackers declaring that their entire frac fleet is electric and the frac fleets are running on natural gas off the well converted into generators and then, I believe, operated electrically that way. The advantage that a fracker would have when you've got those large fleets of equipment staying on one location for a longer period of time, that's probably feasible. A lot of our jobs with our heavy coil and pumpers, we can be there for 2, 3, 4 days or maximum probably a long job would be 10 days or even 2 weeks. What we need is -- our fuel systems, we typically run them on diesel and we end up with -- I don't know if we'd be able to get the same, I'll say, efficiency gains for investing in that capital, considering we would not be able to use electricity nor do I think the frackers can for sort of moving around the highway and jumping between jobs. So I don't think it works yet, but the way the industry is going with more large customers spending longer periods of time on pads, if our workload continues to change in that direction, we will certainly revisit the idea.

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Josef I. Schachter, Schachter Energy Research Services Inc. - Author & President [4]

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Okay. Second question from me, the East Duvernay, a lot of companies have been talking about good success there. Are you getting more business in the East Duvernay, and is it noticeable in terms of your activity and bookings?

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Garnet K. Amundson, Essential Energy Services Ltd. - President, CEO & Director [5]

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Yes, I think the -- it's hard for me to give color on more business, but we are definitely an active player with customers in the East Duvernay. The advantage, when we talk about some of the sort of long-reach deeper horizontal multi-pad work, the sort of Montney has some shallower work than it has some of those deep wells, but Duvernay, we talk about quite a bit and the next one, which is I'll say that it's conventional Duvernay. And the East Duvernay, which is in the sort of old foothills area of Alberta, we've done a lot of work in that area and expected to continue to happen. Our customers seem to be having success. And again, the same equipment that I talked about in the formal comments are long-reach coil and these bigger fluid pumpers, they are perfect for that area. Similarly, our tool business. What we're seeing right now in terms of completion techniques is I'll say a lot more tool experimentation by our customers, because it is so darn competitive, they're all looking for that next advantage. So we're right there, ready to compete and I think have relationships with the right customers in the East Duvernay.

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Josef I. Schachter, Schachter Energy Research Services Inc. - Author & President [6]

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Okay. Good. And the new Gen IV, the 2050, have you got work for it starting in December?

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Garnet K. Amundson, Essential Energy Services Ltd. - President, CEO & Director [7]

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We believe we do, and that's how we came to that conclusion. It was a, I'll say, a very thorough assessment by our sales and operational staff. And one of the things -- if you take a look at our fleet, we've -- on our Gen II fleet and Gen III fleet, we've only got basically 3 conventional units and then our Gen IV rig 2049. And then we've got a reel trailer that operates with one of the Gen II conventionals. And now we'll have one more conventional unit. So our fleet size on the, what I'll call, the deep conventionals is not what I would call huge relative to being in a very slow market in Canada. So we basically pulled our existing customer base that prefers these conventional units and also spoke to some of the customers that we perhaps aren't working with today, because we didn't have the equipment and felt that this was a prudent move to expand that portion of our fleet.

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Josef I. Schachter, Schachter Energy Research Services Inc. - Author & President [8]

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Hang in there through the fourth, the next quarter.

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Garnet K. Amundson, Essential Energy Services Ltd. - President, CEO & Director [9]

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Yes. We are feeling -- actually we're very pretty optimistic about -- given the second quarter and our balance sheet, we feel like the guys did a heck of a job on the second quarter. I just wish the industry was a little healthier.

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Operator [10]

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(Operator Instructions) There are no further questions registered at this time. I would now like to return the meeting back over to Mr. Amundson. Please proceed, sir.

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Garnet K. Amundson, Essential Energy Services Ltd. - President, CEO & Director [11]

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Okay. Well, thank you for joining us today. And I appreciate the interest in Essential, and I hope everybody has a good day.

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Operator [12]

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Thank you. The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.