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Edited Transcript of KEG.N earnings conference call or presentation 26-Feb-19 4:00pm GMT

Q4 2018 Key Energy Services Inc Earnings Call

HOUSTON Mar 1, 2019 (Thomson StreetEvents) -- Edited Transcript of Key Energy Services Inc earnings conference call or presentation Tuesday, February 26, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* J. Marshall Dodson

Key Energy Services, Inc. - Senior VP, CFO & Treasurer

* Katherine I. Hargis

Key Energy Services, Inc. - Senior VP, General Counsel & Corporate Secretary

* Robert J. Saltiel

Key Energy Services, Inc. - President, CEO & Director

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Conference Call Participants

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* Daniel Joseph Burke

Johnson Rice & Company, L.L.C., Research Division - Senior Analyst

* Michael William Urban

Seaport Global Securities LLC, Research Division - MD & Senior Analyst

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Presentation

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Operator [1]

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Good morning. My name is Dennis, and I will be your conference operator today. At this time, I would like to welcome everyone to the Key Energy Services Fourth Quarter 2018 Earnings Conference Call. (Operator Instructions)

I will now turn the call over to Ms. Katherine Hargis, Senior Vice President, General Counsel. Please go ahead.

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Katherine I. Hargis, Key Energy Services, Inc. - Senior VP, General Counsel & Corporate Secretary [2]

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Thank you, Dennis. And thank you all for joining Key Energy Services for our fourth quarter and full year 2018 financial results conference call.

This call includes forward-looking statements. A number of factors could cause actual results to differ materially from the expectations expressed in this call, including risk factors discussed in our 2018 and other reports most recently filed with the SEC, which are available on our website at www.keyenergy.com.

This call may also include references to non-GAAP financial measures. Please refer to our previously posted earnings release, which can be found on our website for a reconciliation of any non-GAAP financial measures provided in this call to the comparable GAAP financial measures. For reference, our general investor presentation is available on Key's website at keyenergy.com, under the Investor Relations tab.

On the call this morning is Rob Saltiel, Key's President and CEO; and Marshall Dodson, Key's CFO.

I'm now going to turn the call over to Rob.

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [3]

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Thank you, Katherine, and good morning to everyone joining today's call.

Our fourth quarter revenues came in at $117.3 million, lower than our third quarter numbers due primarily to the seasonal effects of holidays and shorter days coupled with lower completions activity. Declines in the oil price and a premature exhaust in some of our client's budgets throughout the quarter contributed to slower activity as well. However, our bottom line result was cushioned to a significant degree by the improvements in our cost structure that we've implemented as well as higher pricing for many of our services in certain markets. In total, our fourth quarter adjusted EBITDA of $3.9 million was only $1.7 million lower than the third quarter despite a $17.5 million decline in revenues.

I will now provide some color on the fourth quarter results and an outlook for each of our 4 business segments. In our Rig Services segment, fourth quarter revenues were $69.1 million versus third quarter revenues of $77.2 million. Lower well service rig completion activity, especially in the Permian Basin accounted for nearly half of the quarterly revenue decline as clients slowed down their completions when faced with lower oil prices and evaporating 2018 budgets. Over the fourth quarter, we averaged 11 24-hour completions rigs as compared to about 17 in the third quarter. Our production, maintenance and work-over activity, which accounts for the bulk of our Rig Services work, saw a fairly typical seasonal decline.

Our EBITDA margins in the Rig Services segment in the fourth quarter benefited from price increases that were implemented in the fourth quarter as well as our cost-reduction efforts. As a result, our adjusted EBITDA in this segment came in at $11 million, a decline of less than $1 million despite an $8 million drop in revenues quarter-on-quarter.

Fortunately, we have seen our Rig Services segment activity improve as we moved into 2019. For the month of January, we averaged 13 24-hour completions rigs across the company. And our Permian completions rig count has returned to third quarter levels. We expect the total 24-hour completion rig count to continue to improve towards the mid-to-high teens as we move into the better weather of March. We expect that the Rig segment will see higher average revenue per rig hour in the first quarter versus the fourth quarter as a result of better pricing secured late last year and in January. I will add that we have not seen much in the way of wage inflation pressures so far this quarter, likely due to adjustments we made in the back half of 2018.

We continue to receive requests from our clients for additional rigs and one challenge in capturing this growth is in the shortage of qualified rig workers in our industry. We've initiated or expanded multiple recruiting, training and retention initiatives to grow our talented Rig Services team here at Key. We expect that these initiatives will allow us to increase our footprint and market share in the coming quarters.

Fluid Management Services segment generated revenues of $20.8 million in the fourth quarter, down approximately $1 million from the third quarter. Revenues were impacted primarily by seasonality effects and lower completions activity, but these negatives were offset partially by activity increases with assets that were redeployed into better markets. Truck hours overall declined 3% to 174,000 in the fourth quarter. The redeployment of assets in the markets with better pricing and utilization coupled with the conclusion of repairs and improvement work in some of our Permian Basin saltwater disposal wells in the third quarter benefited our bottom line results for the fourth quarter. As a result, adjusted EBITDA for this segment increased to $1.9 million in the fourth quarter from $1.6 million in the third quarter.

In 2019, our Fluid's business activity is expected to track with higher realized oil prices and increased completion activity, as flow back volumes from fracking work return to third quarter levels. While we continue to see pressure on labor costs in our Fluid segment, we've been fairly successful in achieving higher pricing in most of our markets to offset pay increases for our employees that were implemented in the second half of last year.

Fourth quarter revenues in our Fishing & Rental segment came in at $16.9 million, down slightly from our third quarter results. Adjusted EBITDA was essentially flat at $4.4 million versus $4.5 million in the third quarter. While overall activity declined seasonally, our revenues benefited quarter-on-quarter from additional equipment deliveries and higher pricing. We continue to add rental equipment that is in high demand today either on a standalone basis or working along with Key rigs to service our clients’ needs.

The Fishing & Rental segment has been our fastest-growing segment over the past few quarters. Our results for January and activity levels in February suggest that this trend will likely continue through 2019 as completion activity picks back up and our geographic footprint grows.

Finally, our Coiled Tubing Services segment experienced the most significant revenue decline of any of our segments, with fourth quarter revenues coming in at $10.5 million. Lower completion activity by our clients coupled with the relocation of some of our larger coiled assets to new markets drove the revenue decline. We average work approximately in 2.5 large diameter units defined as 2 3/8 inch diameter or greater in the fourth quarter as compared to 5 average units working in the third quarter. Reduced activity impacted our margins as we finished with a slightly negative EBITDA in this segment for the fourth quarter. The good news is that our Coiled Tubing activity has picked up so far in 2019. By the end of January, our average large unit working count was back up to around 3. And today, we're seeing many days with 4 or 5 large units working. We will likely average between 3 and 4 large units working for the first quarter, but we expect to enter the second quarter averaging around 5 large units working. As long as oil prices stay at or near current levels, we expect to be able to have 6 to 7 units working consistently for the back half of this year.

I will return with some closing comments after Marshall provides more details on the financials. Marshall?

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J. Marshall Dodson, Key Energy Services, Inc. - Senior VP, CFO & Treasurer [4]

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Thanks, Rob. As Rob mentioned, consolidated revenues fell $17.5 million from the third quarter to the fourth quarter of 2018. Our consolidated operating loss improved though from a loss of $17.1 million in the third quarter to $15.1 million in the fourth quarter. Included in that change was a reduction in depreciation and amortization expense of $2 million as we had a number of assets reach the end with their book depreciable lives in the quarter.

The fourth quarter loss from operations also included gains on assets of $2.2 million as compared to gains of $1.9 million in the third quarter of 2018. Stock-based compensation expense was also lower in the fourth quarter of 2018 at $1.3 million as compared to $1.6 million in the third quarter.

Our adjusted EBITDA, which excludes these expenses, fell to $3.9 million in the fourth quarter of 2018 as compared to $5.6 million in the third quarter of 2018, a decline of $1.7 million on the $17.5 million revenue decline for a 10% decremental margin impact.

In our Rig Services segment, our average rigs work declined to 180 in the fourth quarter, down from 193 in the third quarter, due to seasonality in the decline of completion activity. As Rob mentioned, we benefited from price, which added about 230 basis points of margin in the fourth quarter and offset some of the impact from lower completion activity.

Operating income fell $0.4 million to $4.1 million and benefited from the pricing and cost structure changes as well as by depreciation and amortization expense being $0.6 million lower in the fourth quarter than the third.

Our Rig Services adjusted EBITDA declined $0.9 million over the lower activity, with our adjusted EBITDA margin improving around 60 basis points to 16%. With the way 2019 started and the weather so far in an already short February, we expect revenues in our Rig Services segment to be fairly flat to Q4 next quarter.

In our Fishing & Rental Services segment, the impact to the revenue decline of $0.6 million was largely offset by pricing and cost structure improvements. Our operating loss narrowed slightly to a loss of $1.2 million in the fourth quarter from an operating loss of $1.4 million in the third quarter. Depreciation and amortization expense fell by $0.3 million to $5.7 million in the fourth quarter. Adjusted EBITDA, which excludes depreciation and amortization expense benefit, fell only $0.1 million to $4.4 million. Like with our other segments, it was the end of January before activity recovered from the holidays, and we expect that and weather to have revenues down a few percentage points from the fourth quarter levels in the first quarter of 2019.

Coiled Tubing Services was impacted by the drop in completion activity, with labor and other cost inefficiencies weighing on our margins. Our operating income of $0.4 million in the third quarter of 2018 declined to an operating loss of $2.3 million in the fourth quarter of 2018 and reduced our adjusted EBITDA down -- fell from $2.8 million to $1.8 million in the third quarter to negative adjusted EBITDA of $0.9 million in the fourth quarter of 2018.

With the tight labor market for skilled coiled tubing crews where in many cases employees require minimum level of hourly pay, labor inefficiencies can have an outsized impact on margin when activity falls until the equipment and employees can be redeployed to markets where they have revenue-generative work opportunities. We've made those changes, but the additional cost impacted our results in the fourth quarter. We expect labor inefficiencies to continue to weigh on adjusted EBITDA margins until our average working unit count recovers.

Our Fluids Management Services revenues declined 5% in the fourth quarter of 2018 from the third quarter of 2018, as we had an overall decline of truck activity, but had activity increase in markets where we redeployed assets. Our Fluids Management operating loss declined $1.5 million to a loss of $1.3 million for the fourth quarter of 2018. The operating loss benefited from lower depreciation and amortization expense, which declined $0.8 million quarter-on-quarter.

Adjusted EBITDA also improved from the third quarter of 2018 to the fourth quarter of 2018 from $1.6 million in the third quarter of 2018 to $1.9 million in the fourth quarter, due to activity increases in markets with better economics and lower cost associated with disposal wells, which combined to improve adjusted EBITDA margins 200 basis points in the fourth quarter over third quarter levels. We expect revenues flat to up a couple of percent in the first quarter of 2019.

Our G&A for the fourth quarter of 2018 was $20.3 million as compared to $23.9 million in the third quarter of 2018. Included in the G&A for the fourth quarter was $1.3 million of equity-based compensation expense as compared to $1.6 million in the third quarter. Excluding these items, G&A was $19 million in the fourth quarter of 2018 as compared to $22.3 million in the third quarter of 2018. Looking forward to the first quarter of 2019, we expect our G&A to be around $23 million, inclusive of approximately $1.5 million in equity compensation expense with the increase being largely a result of higher bonus accruals and a 401(k) mass that we've implemented for our employees.

In the fourth quarter of 2018, depreciation expense was $19.8 million as compared to $21.8 million in the third quarter of 2018 as a number of assets reached the end of their book depreciable lives established in 2016. We expect depreciation expense of around $15 million a quarter in 2019. Interest expense for the fourth quarter of 2018 was $8.7 million and we expect this to be consistent over 2019.

Cash flow from operations was $13.2 million in the fourth quarter and operating use of cash over the full year of 2018 was $1.8 million. Our capital expenditures were $9 million for the fourth quarter of 2018 and $37.5 million for the 12 months of 2018. We have also had $15.4 million in proceeds from assets or other sales over the 12 months of 2018, resulting in a net spend of $22.1 million. We expect total CapEx spend for 2019 to be around $17 million, with approximately $12 million of asset sale proceeds.

Turning to our balance sheet. Cash stood at $50.3 million at the end of the fourth quarter of 2018. And we had $24 million available under our ABL credit facility, which is undrawn. This combines for a total liquidity of $74.3 million at the end of 2018.

Looking out into Q1 of next year, with the flow through of lower Q4 and Q1 revenues, payments of annual costs as well as the 150-basis-point Q1 impact from employment taxes, we expect to see our liquidity low point in the first quarter, then expect liquidity to increase from there within a new liquidity in 2019, no worse than where we ended 2018. And at this time, we do not foresee any debt compliance issues in 2019.

The asset coverage ratio under our term loan stood at 1.9x at the end of the fourth quarter as compared to the minimum required of 1.35x.

I'll now turn it back over to Rob. Rob?

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [5]

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Yes. Thanks, Marshall. I'll conclude with a few points before opening it up for questions.

Despite the drop off in our results in the fourth quarter, we're beginning 2019 with renewed optimism. Our completions-related rig activity has already recovered to pre-holiday levels. Based on the many discussions we have with our clients, we expect to see additional demand for all our services as we move into March and the second quarter.

We also believe that our bottom line will strengthen throughout 2019 due to the realization of structural cost reductions, our continued focus on efficiency and price improvements across our service lines. We believe that Key can and will capture additional market share and grow our top line in 2019. However, we recognize that our growth depends on attracting and retaining the best people and continuing to deliver the safest, the most reliable service to our clients. That is why we're undertaking numerous people-focused initiatives that are aligned to enable us to grow while enhancing our reputation for service excellence.

Even though our business continues to be very competitive and difficult to predict, we expect 2019 to be a better year than 2018 for our company. Volatility and uncertainty are part of the oilfield services segment, but the recent rise in commodity prices over the past few months has been very welcome to our clients and provides impetus for future service demand growth. We believe that Key posses the industry-leading franchise, assets and people to garner more than our fair share of this growth in 2019.

Operator, this concludes our prepared remarks. We'll now open the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And your first question is from the line of Mike Urban with Seaport Global.

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Michael William Urban, Seaport Global Securities LLC, Research Division - MD & Senior Analyst [2]

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So it sounds like you had some success in getting some pricing improvement push through in the fourth quarter despite pretty tough environment, I guess, primarily on the well service side, I guess a little bit of a cost-push in Fluids as well. Has that momentum stalled out given the volatility that we saw in Q4 in some of the delays that we've seen and reduced expectations for activity? Or do you still have some ability to move pricing higher just given the tight labor environment out there?

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [3]

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Mike, this is Rob. We -- it really depends on market and service line. But I will tell you that, as I mentioned in my prepared notes, we have gotten some price increases this year already in 2019. Some of that depends on when some contracts may be running out with clients, some of it depends on the local supply-demand. But this space is pretty much limited in terms of how much capacity you can deliver due to a tight labor market. So there are still pressures out there for prices to move forward. Obviously, the swing in oil prices that occurred in the fourth quarter took some of the wind out of those sales, but I will tell you that the recovery in oil prices here in 2019 has probably rejuvenated some of that momentum. So I think it's going to be episodic by client and by market, but to answer your question generally, yes, there is still some opportunity for price improvements here in the first quarter and as we move through 2019.

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Michael William Urban, Seaport Global Securities LLC, Research Division - MD & Senior Analyst [4]

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And as we look at the different business lines and appreciate the guidance. So well service, you talked about kind of flattish revenues and higher average pricing. And I guess, you have the reset on payroll taxes. Should we think about kind of EBITDA or gross margin kind of flat to down as a result of those changes?

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [5]

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Yes. Mike, Rob, again. We're going to choose not to give any guidance on EBITDA margins or the number itself. We did say in our prerelease and now that we think revenues will be up 1% to 5% across the board. But we're going to choose not to give any margin guidance.

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Michael William Urban, Seaport Global Securities LLC, Research Division - MD & Senior Analyst [6]

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Okay. Got you. And then, I guess, one housekeeping question then, what were the trucking hours in Q4?

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J. Marshall Dodson, Key Energy Services, Inc. - Senior VP, CFO & Treasurer [7]

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174,000, I think.

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [8]

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Yes. That was my in comment, 174,000.

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Operator [9]

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Your next question is from the line of Daniel Burke with Johnson Rice.

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Daniel Joseph Burke, Johnson Rice & Company, L.L.C., Research Division - Senior Analyst [10]

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Maybe just a few questions on the coil business. Q4 was challenged for a lot of good reasons for you guys and some others in the space. You also did mention relocating some coil assets. So can you talk about just the landscape you see right now in large diameter coil? Are you encountering pricing pressure, or are you just kind of moving through some short-term utilization shop as we sit here in a market that's starting to get a little more active?

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J. Marshall Dodson, Key Energy Services, Inc. - Senior VP, CFO & Treasurer [11]

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I think we talked about that on our third quarter call that we saw some pricing pressure in that segment. That was one of the segments that we did not see price increases last quarter. But it's very market dependent. I think the takeaway capacity and the slowdown of completion activity in the Permian pushed a lot of units back out of that market that went into other markets. And so the industry has been shuffling units around, which causes local supply-demand imbalances, but we expect and believe that as we move through this year, we'll see many of those units go back to work in the Permian and activity will pick up in general across U.S. that should lead to pricing opportunity at some point in the year, but right now it's getting better. And we're anxious to see how things unfold in March and into the second quarter as the weather improves and many customers get busier with their completion activity.

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [12]

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Yes, Daniel, I'll also add, as Marshall presented in his opening comments, the Coiled Tubing business can tend to have high volatility and you asked the question about price, but really utilization is very key to this business, because the labor is invested on a call-out basis and more on a fixed cost basis, the utilization up or down can really swing revenue and margins. And I think we saw quite a bit of that in the fourth quarter. And as Marshall said, you got some markets that were oversupplied, and I will tell you, one off those being the Permian given the slowdown in activity there. And yet we had other areas we did quite well, but in aggregate, it was down across the board and, of course, the EBITDA itself was not very good because of that. But as we've said, the activities pick back up and we're really going to be focused on utilization. I mean, price, it's obviously nice to get, and we have seen some of that but it's really more about putting your assets where you can get high utilization because that's really what would drive profitability in that segment.

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Daniel Joseph Burke, Johnson Rice & Company, L.L.C., Research Division - Senior Analyst [13]

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And then just a few other ones left more on the cash flow side of the equation for 2019. I applaud that the CapEx was straight announced today. But I was also curious, you mentioned that you guys will continue to harvest a little bit of cash on asset sales. Can you allude to maybe what's -- that's really a continuation to what we saw in 2018, but can you allude to maybe what's targeted for divestiture?

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J. Marshall Dodson, Key Energy Services, Inc. - Senior VP, CFO & Treasurer [14]

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Yes. So right now we've identified what we think will bring in about $12 million in proceeds. We do not sell our used well service rigs. We tend to cut those off and get rid of them as scrap metal. We don't want that coming back into either compete against us or to allow for someone else to compete against us from people, which is truly what's scarce right now. But we've got a lot of real estate that we're not using and a lot of other smaller older obsolete assets that we plan to get rid off. But as you can imagine, we've got a lot of real estate. And so we're working to monetize many of those properties that are no longer used.

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Daniel Joseph Burke, Johnson Rice & Company, L.L.C., Research Division - Senior Analyst [15]

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Okay. Helpful. And then maybe a last one for you Marshall. Any thoughts, I guess, it will depend on how the year progresses, but it looks like you have a pretty good working capital harvest in Q4. As we think about 2019, any thoughts about the ability to hold sort of working capital flat? Or whether it looks like it will trend towards more of a source or uses of funds?

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J. Marshall Dodson, Key Energy Services, Inc. - Senior VP, CFO & Treasurer [16]

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We're doing everything we can to hold it flat. We watch and manage our working capital very tightly, very closely. We've got great collections processes and track it down to the days. So we're very focused on driving further efficiencies in that. Don't see it as a big used or a source of cash as we move through 2019.

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Operator [17]

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(Operator Instructions) And at this time, there are no further questions. Please continue with any closing remarks.

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Robert J. Saltiel, Key Energy Services, Inc. - President, CEO & Director [18]

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Okay. I'll turn it over to Katherine.

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Katherine I. Hargis, Key Energy Services, Inc. - Senior VP, General Counsel & Corporate Secretary [19]

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Thank you, Dennis. Thank you, Rob. This concludes our call. A replay of this call can be accessed on our website at keyenergy.com under the Investor Relations tab. Also under the Investor Relations tab, we have posted a schedule of our quarterly rig and truck hours. Thank you for joining us today.

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Operator [20]

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Ladies and gentlemen, this does conclude the Key Energy Services Fourth Quarter 2018 Earnings Conference Call. You may now disconnect.