U.S. Markets close in 2 hrs 47 mins

Edited Transcript of NGS earnings conference call or presentation 9-Mar-17 4:00pm GMT

Natural Gas Services Group Inc Earnings Call

MIDLAND Jun 12, 2019 (Thomson StreetEvents) -- Edited Transcript of Natural Gas Services Group Inc earnings conference call or presentation Thursday, March 9, 2017 at 4:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Alicia Dada

* Stephen C. Taylor

Natural Gas Services Group, Inc. - Chairman, President & CEO

================================================================================

Conference Call Participants

================================================================================

* Robert Duncan Brown

Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst

* Tate H. Sullivan

Sidoti & Company, LLC - Former Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning, ladies and gentlemen, and welcome to the Natural Gas Services Group 2016 Fourth Quarter Earnings Call. (Operator Instructions) I now welcome your host, Alicia Dada. Please begin.

--------------------------------------------------------------------------------

Alicia Dada, [2]

--------------------------------------------------------------------------------

Thank you, Donna, and good morning, listeners. Please allow me a moment to read the following forward-looking statement prior to commencing our earnings call.

Except for the historical information contained herein, the statements in this morning's conference call are forward-looking and are made pursuant to the safe harbor provisions as outlined in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements, as you may know, involve known and unknown risks and uncertainties, which may cause Natural Gas Services Group's actual results in future periods to differ materially from forecasted results.

Those risks include, among other things, the loss of market share through competition or otherwise, the introduction of competing technologies by other companies and new governmental safety, health or environmental regulations, which could require Natural Gas Services Group to make significant capital expenditures.

The forward-looking statements included in this conference call are made as of the date of this call, and Natural Gas Services undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances.

Important factors that could cause actual results to differ materially from the expectations reflected in the forward-looking statements, include, but are not limited to, factors described in our recent press release and also under the caption Risk Factors in the company's annual report on Form 10-K filed with the Securities and Exchange Commission.

Having all that stated, I will turn the call over to Steve Taylor, who is President, Chairman and CEO of Natural Gas Services Group. Steve?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [3]

--------------------------------------------------------------------------------

Okay. Thank you, Alicia and Donna. And good morning, and welcome to Natural Gas Services Group's fourth quarter 2016 and full year earnings review.

Apparently, we had some trouble with the phone number this morning, so hopefully everybody got in that needed to.

As everyone is well aware, this past year is one of the toughest on record for the energy industry. Crude oil set a low price of $26 in February, and the rest of the year reflected a continuing slowdown from that collapse in commodity price.

NGS, however, continued to have positive earnings throughout the year and delivered an enviable flow of free cash. We preserved our margins by maintaining relatively better pricing and stringent cost controls.

It appears that utilization is bottoming, but we continue to think that our production-oriented business will continue to see pricing pressure in the midyear. While I'm fairly confident that we're seeing early signs of recovery, it won't be without its fits and spurts. Longer term and over the next couple of years, in particular, NGS is well-positioned in markets that should prosper. And along with our expanded product offerings, we think we can deliver notable incremental earnings.

Additionally, and we will talk to the details later, this fourth quarter had a couple of extra moving parts in it, primarily the retirement of some rental fee equipment and inventory adjustments due to lower cost to market and obsolescence reviews and a positive tax rate.

Now with all that said, let's move to the financials. Starting with total revenue and looking at the year-over-year comparative quarters, our total revenues decreased by $9 million from $25.8 million in the fourth quarter of '15 to $16.7 million in the fourth quarter of '16. Rental revenues were off $5.1 million this quarter compared to the same quarter last year, while compressor sales revenue was down $4.4 million.

For the sequential quarters of Q3 '16 compared to Q4 '16, total revenues were up about 3% or a little over $500,000 to $16.7 million. Our rental revenues decreased by $660,000 or 5% this quarter. Our total sales saw an increase of $1.3 million over Q3 '16 and drove total revenue growth for the quarter.

On a 12-month full year basis for 2016, total revenues decreased 25% to $72 million with rental and sales revenues off 26% each.

As I refer to gross margin on this call, what I'm describing is a non-GAAP adjusted gross margin that does not include depreciation.

Looking at gross margin and comparing the fourth quarter of '15 to the current quarter, total gross margin declined from $13 million to $9.1 million. Our gross margins in all 3 segments, rental, sales and service and maintenance, were as strong or stronger than last year's fourth quarter. And overall gross margin grew from 51% to 55% of revenue compared to last year.

Sequentially, total gross margin eased over $200,000 to $9.1 million, which was 55% of total revenue. Gross margin was up as a percent of revenue in all segments except rental, which was 62% compared to 66% last quarter.

Recall that last quarter's rental gross margin was a record high, and this quarter's 62% is more typical of our operations.

On a full year basis, 2016's gross margin was $39.8 million, and we maintained it at the same 56% of revenue level that we recorded in 2015. In fact, on a full year basis, in 2014, we delivered a 56% gross margin, too. That was a record at the time. Being in the midst of a severe downturn, we have been able to maintain that same level in 2015 and 2016.

Selling, general and administrative expenses for the year-over-year quarter declined 23%, and we're at 13% of revenue in the fourth quarter 2016. Sequentially, SG&A was up 4%, but down 18% in the full year period.

While we have maintained SG&A at a low level, a large part of these current savings are due to noncash stock expenses, primarily from extended vesting periods and reduced awards.

In this fourth quarter, we retired 63 units from our rental fleet and recorded a $545,000 charge. This is approximately 0.3% of our total book value of compression equipment on our balance sheet. These units were all of our designs and vintages that were primarily underutilized dry gas equipment. They have an average age of over 14 years and an original cost of $4.7 million.

Considering the rental revenue generated, the original cost and the cost of maintenance over life of the equipment, we made an average annual return of almost 17% on this equipment.

Operating income in comparative year-over-year quarters is down approximately $3.7 million to nearly $1 million. This is primarily due to lower revenues, a higher level of relatively fixed preciation (sic) [depreciation] expense and equipment write-off. Sequentially, operating income fell from $1.8 million to $1 million, with the largest as being the decline of rental margins and the equipment retirements.

On a full year basis, operating income was $8.4 million in 2016 compared to $15.1 million in 2015.

In the comparative year-over-year fourth quarters, net income decreased to $1.2 million this year compared to $3.3 million in the fourth quarter 2015. Sequentially, net income declined from $1.5 million to $1.2 million, and the full year decline was from $10.1 million in 2015 to $6.5 million in 2016.

I do want to point out that we had a positive tax impact in the fourth quarter that resulted from research and development tax credits over the past 3 years in a domestic production deduction. This resulted in an effective tax rate for 2016 of 23.6% compared to 30.4% last year and a net tax credit of $174,000 this quarter.

Now as I refer to EBITDA on the following discussion, it is the non-GAAP measure of adjusted EBITDA, which is the same as the EBITDA we have used in prior years, but without any impact for the noncash equivalent retirements we experienced this quarter and last year.

On a year-over-year quarterly basis, EBITDA declined from $10.2 million in the fourth quarter '15 to $7 million in this current fourth quarter '16, while sequentially EBITDA decreased 4% from $7.3 million to $7 million.

Comparing the full years of 2015 and 2016, EBITDA decreased from $42 million to almost $31 million, and averaged 44% and 43% of revenue for the respective years.

On a fully diluted basis, earnings per share this quarter is $0.09 per common share with our full year EPS of $0.50 per common share. This compares to $0.79 for 2015.

Total sales revenues, which includes compressors, flares and aftermarket activities for the year-over-year quarters declined from $7.8 million for the fourth quarter '15 to $3.9 million in the fourth quarter of '16.

For the sequential quarters, total sales revenues increased over $1.3 million from $2.5 million in the third quarter of '16 to $3.9 million in the fourth quarter of '16.

Reviewing compression sales alone, in the current quarter, they were $2.6 million compared to $7 million in the fourth quarter of 2015 and $1.7 million last quarter.

We ended 2016 with $10 million in compressor sales compared to $13.8 million in 2015, with both years being within the $10 million to $15 million range I had forecast on previous calls. This is the same range we're aiming for in 2017.

Our sales revenue held up fairly well. The gross margins declined from 26% to 18% for the comparative years led by a decline in compressor sales gross margins from 21% to 12%. Part of this decline is from an inventory write-off in our fabrication operations due to obsolescence and lower of cost our market evaluations, with the remaining impact being due to competitive pricing in 2016.

Without the inventory adjustments, our sales gross margin this quarter would have been at 15%, an excellent margin in a market where we have seen single-digit margins being quoted.

As mentioned, during this quarter, we also took some charges against our inventory, primarily in fabrication, which totaled $566,000.

Our compressor sales backlog was strong at approximately $6 million as of December 31, 2016. This compares to $4 million as of the end of December 31, 2015 as well as 2014. We estimate that this will be built out over the next couple quarters, but it's encouraging that this represents 50% of 2016's compressor sales revenue and approximately 60% of the lower end of our 2017 sales projection.

Rental revenue had a year-over-year quarterly decrease from $17.6 million in the fourth quarter '15 to $12.5 million for this current quarter. The gross margins held at 62% for both quarters.

Sequentially, rental revenues were lower by $660,000 to $12.5 million, with gross margins of 62%. This was down from 66% in the previous quarter, but recall that 66% was a record level, and I mentioned in the last call that it wasn't likely to be repeated.

There are variations quarterly on our rental margins primarily related to overhaul cost, which I'll remind you that we expense, no capitalize, and field employee overtime in winter months due to tougher operations.

However, our full year average gross margin came in at 64%. Looking at rental revenue on a full year basis, revenues were down from $76.4 million to $56.7 million.

Significantly, our gross margins for rental revenues have actually expanded during this downturn, averaging 60% in 2014, 62% in 2015 and 64% in 2016.

From a pricing perspective, our average fleet rental rate this quarter was down less than 1% from the year-ago quarter and actually up 1.5% from the last quarter.

On a spot pricing basis, which is the rental pricing on newly set equipment over the last 12 months, we've got some anomalies in the data. That being the wide variation in pricing we see between the small VRUs and the large horsepower equipment. Since that equipment has been a significant part of a newly set of equipment over last year, we are seeing wide swings on a monthly basis for average new set rental unit pricing. As such, the data doesn't tell us much. However, we reported an average 15% lower pricing on new sets in last quarter's call. I'll estimate that we are still seeing market pricing down 12% to 15% year-over-year.

Fleet size at the end of 2016 was 2,530 compressors. In 2016, we added 18 new units, 15 of which are our new VRUs and 3 are new larger horsepower units. This is down from our 2015 year-end fleet size of $2,622 (sic) [2,622] due to retirements and some fleet sales. Our fleet utilization this quarter was 51% and reflects what we think may be a bottoming of a downward trend we saw all through 2016.

As I postulated in the past, pressures on utilization and pricing will likely continue in the first half of this year, but it appears that the extreme deterioration is past us.

In 2016, we spent a total of $4.3 million in capital expenses with approximately $3.6 million of that on the new fleet compression already mentioned. This amount is down significantly from the past couple of years when our total capital spend was over $53 million in 2014 and $12.5 million in 2015.

In 2017, we project total capital spend between $5 million and $10 million, with 9% plus being from rental fleet additions. As of today, we have already committed $5 million towards new higher horsepower equipment, meaning engine compressors are ordered and fab space is allocated.

Summarizing the net impact of the extra items we had this quarter, which were the equipment and inventory adjustments matched against the positive tax impact, we had a negative net income statement effect of $386,000 or approximately $0.03 per common share.

Now going to the balance sheet. As of December 31, 2016, our total debt remains less than $500,000 with cash in the bank of approximately $64 million.

Our cash flow from operations was $32.8 million in 2016 compared to $41.6 million in 2015. As a percentage of revenue, free cash flow averaged 40% of revenue in 2016. We also went back and looked at a couple of other longer-term value indicators in our business. Those being shareholder equity and retained earnings.

For the past 5-year period, during which at least half of that was the recent downturn, NGS' shareholder equity per share grew 36.5% and retained earnings per share grew 68.8%. While we can deliver excellent operating metrics on a quarterly basis, we also delivered longer-term value for our shareholders.

Now every day, there are articles saying 1 or 2 things about the future of oil price. It's either going up or it's going down. However, based on what I can discern, the upside is greater than the downside. Among some of the more visible macro factors, we are just starting to see the impact from the OPEC oil cuts in November. Crude oil shipments out of OPEC countries and others are, in fact, lower.

Inventories will trend lower over 2017 due to this development. And the fact that oil revenues in most OPEC countries fuel their social and infrastructure programs means that they need the higher price as much as we do in the U.S.

Global demand is also stronger than estimated just a few months ago. Now from an industry-specific perspective, we're seeing higher rig counts and pressure pumping drillers and proppant companies are starting to raise prices, and operators have almost universally increased their capital budgets.

On this scenario, then, NGS is well-positioned to take advantage of any result in activity increase. Specifically, what I mean by that is multidimensional. We have established operations in prominent oil shale basins that will likely provide most of the activity. We have maintained our margins during the downturn, we have protected our pricing in a relatively better manner than the market, we have expanded our product offerings in the VRU and higher horsepower segments and we have maintained a debt-free structure.

We think we can grow back into the market over the next 18, 24 months with very little capital required. This is unusual for a capital-intensive company in a cyclical business, but this is what I mean when I say we think we will see strong incremental earnings over the next couple of years.

We do think the year will be back-end loaded as far as growth, but we are positioned and prepared and praying. That's the end of my prepared remarks, and I'll turn the call back to Donna for questions anyone might have.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question is coming from Jason.

--------------------------------------------------------------------------------

Unidentified Analyst, [2]

--------------------------------------------------------------------------------

I appreciate all the commentary. I was just curious. Again, I think the rental business is going quite -- as you've expected. The product sales side continues to do very well and you kind of walked through the numbers of the backlog. Could you maybe just talk about, are you just continuing to see a lot of domestic demand or is that changing as well, or is it mostly still kind of international stuff that you're working on, on that side of it?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [3]

--------------------------------------------------------------------------------

That's a combination of both as it has been probably over the last couple of years. As I mentioned in the past, we've got a couple of legacy U.S. customers that have continued to buy through the downturn. And then we have been able to capture some international business, primarily Mexico and Argentina. We've had a couple in Mediterranean area also, but it's about same as what we've seen. Combination and it varies percentage-wise, quarter-to-quarter whereas 50-50, or 2/3 or 1/3 domestic and international. But the -- that backlog is probably about half-and-half, the same as we've seen in the past.

--------------------------------------------------------------------------------

Unidentified Analyst, [4]

--------------------------------------------------------------------------------

Okay. And then maybe one on the rental side. With what we've seen in gas prices of late of maybe kind of too real time for you to maybe comment, but are you seeing a resurgence of the pricing pressure discussion just because the year seemingly started out pretty strong, specifically on gas, but for both commodities, and obviously, this week included, we're starting to see some concern on the prices. Or is that probably is too soon to tell from your aspect?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [5]

--------------------------------------------------------------------------------

This gas price thing is -- you're talking about moving target. And probably a couple of calls ago, I don't know if we talked about it. I don't know if it's just you and I just on the call or had some discussions with investors and, of course, everybody got really excited 3, 4, 5 months ago about gas price. And yes, I don't get excited about too much anymore as far as gas price goes. And certainly, it went away pretty quick. The price pressures we're seeing are actually from competitors and not as much from customers. Obviously, the customers are ones asking for it because the competitors continue to go out into the market with low pricing. And we had talked about this before a little, I think, and most of our competitors are MLPs and they've got high distributions, high debt loads and cash came to them. And we still cut [ph] net income. So we're still seeing that pressure from the market. But again, it's emanating more from competitors with some high cash requirements and a lot of equipment in the yard. And we've got a lot of equipment in the yard, too, but we've chosen to more so, just like the last downturn, take more of a margin and profitability approach to this than a market share approach.

--------------------------------------------------------------------------------

Unidentified Analyst, [6]

--------------------------------------------------------------------------------

Okay. And then if I could sneak one more in, Steve. Just the credit facility. I saw it went current and obviously, you don't have much on it. Could you just maybe talk about the plans there as far as you're reupping it or even letting it expire given your cash balance?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [7]

--------------------------------------------------------------------------------

Yes -- no, it's going to be renewed. So they're part of -- I mean, plans -- I'll say the plans are probably the same as the last 6 or 7 years we've had it. It's nice to have. We don't anticipate any current requirements, obviously, with our cash position. But you'll never know if this market takes off quicker or some other opportunity comes along. But no, we intend to maintain it.

--------------------------------------------------------------------------------

Operator [8]

--------------------------------------------------------------------------------

Our next question is from Rob.

--------------------------------------------------------------------------------

Robert Duncan Brown, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [9]

--------------------------------------------------------------------------------

You mentioned the high horsepower market seeing some additional CapEx spending in that business. Could you just give us some color on how that business has ramped up and what kind of demand drivers are there?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [10]

--------------------------------------------------------------------------------

We -- when we first introduced that product, if you recall, we introduced the 400 horse, if my year is right, 2015 and then we introduced the 600 horse last quarter -- actually, on last call, so last half of the year. All that -- all the equipment we have is rented. So I will point out that's 100% utilization, but it's only 10 to 12 units. So we're building more because, obviously, in this market, you've got to have this stuff in inventory. Nobody waits. A down market like this, with as much surplus equipment around there, nobody waits around for equipment. So you don't have to. So we're building up some more 400- and some 600-horsepower units so that we've got them in the yard, ready to go and we can put them out. And I said, $5 million. I projected $5 million to $10 million capital spend in '17. We've already committed the half of that, $5 million of it, and it's all that 400- and 600-horsepower.

--------------------------------------------------------------------------------

Robert Duncan Brown, Lake Street Capital Markets, LLC, Research Division - Senior Research Analyst [11]

--------------------------------------------------------------------------------

Okay. And then on your fleet size, you took some out of the fleet this quarter. What -- how would you characterize the fleet at this point? Is it -- is there any more that kind of older, underutilized equipment left? Or how much of that cash equipment is still available?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [12]

--------------------------------------------------------------------------------

Yes. I mean, we think -- yes, I'm going to sound like a broken record probably if anybody -- I don't know if anybody's got a long enough memory. If you remember back to Q2 of '15 when we did the first write-off, and that was about $4.4 million. So we took a lot more equipment of about 250 units back then, and I think I got the same question. Of course, at that time, we felt that was adequate. Yes, little did I know we'd have 2 more years downturn. And this was relatively minor as far as dollars go, and this is essentially 95% of depreciated value. So yes, we're comfortable with the fleet and think if we are in an upturn that we'll start seeing this stuff go back out. This equipment is just like the stuff we retired in 2015. See, it's rentable equipment. There's nothing mechanically wrong with it, but it's been chronically idle. Dry gas equipment, and we're into seventh or eighth year from that gas downturn in '08 through '10, roughly, and that market just has not come back. Just like Jason mentioned, the gas price just teases everybody every year. So to shorten the comment, we're comfortable with the fleet right now. I don't anticipate any more, especially if we're heading into a recovery period, which we think we are, or we think odds are that we are. We think we're probably adequately situated.

--------------------------------------------------------------------------------

Operator [13]

--------------------------------------------------------------------------------

(Operator Instructions) Our next question is from Tate.

--------------------------------------------------------------------------------

Tate H. Sullivan, Sidoti & Company, LLC - Former Research Analyst [14]

--------------------------------------------------------------------------------

Just a little more on the expected life of your equipment, too, following up that comment. I think you said the equipment you retired had a 14-year life. Is it a useful life if most of your equipment is 15 years?

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [15]

--------------------------------------------------------------------------------

Yes. Well, yes, probably confused that a little. We do booked depreciate of 15 years. Just had an average -- the stuff we retired had an average usage of 14.2 years. So essentially, 95% of the book life was used up.

--------------------------------------------------------------------------------

Tate H. Sullivan, Sidoti & Company, LLC - Former Research Analyst [16]

--------------------------------------------------------------------------------

And then, I mean, if you don't have any more write-downs with the recovery, I mean, will your depreciation expense meaningfully drop in recovery? But I guess, the extra equipment you're adding will more than...

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [17]

--------------------------------------------------------------------------------

Yes. You'd like it to, but of course, it takes a longer time. Every once 15 years. So we saw a little drop last year with the equipment last year. This is going to be pretty negligible. There's not that much to it. A little over $500,000. Like I mentioned, less than 0.3% of the net book value on the books. So you're not going to see much positive impact from it (inaudible) depreciate in any way.

--------------------------------------------------------------------------------

Tate H. Sullivan, Sidoti & Company, LLC - Former Research Analyst [18]

--------------------------------------------------------------------------------

Okay. And then, I mean, with $64 million of cash on your balance sheet, $5 million to $10 million of CapEx in '17, I mean, how have you talked historically about looking to initiate a nominal dividend through the cycle? I mean, I would imagine that opens you up to more potential investors too.

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [19]

--------------------------------------------------------------------------------

Yes, we're actively considering all these options as far as this cash goes. We're going to take a look at how quick the market tries to recover here over the next couple of quarters. Again, I don't think we'll need $60 million over the next couple of years. We'll probably take advantage of it. But if you go back to 2010, 2011, we're coming out the last one in those 2 years, and those were just starting years into recovery. We spent $20 million, $30 million. So it can go pretty quick, but we are actually considering uses of cash as far as whether fleet growth, of course, that depends on the market, or dividends or whatever it may be. But as I mentioned, we think probably in the next 18 to 24 months, we won't need appreciable capital to participate in the -- in any upturn that comes up. So there's plenty of cash there and maybe some other opportunity comes along that we don't anticipate right now, but we're looking at all those avenues.

--------------------------------------------------------------------------------

Tate H. Sullivan, Sidoti & Company, LLC - Former Research Analyst [20]

--------------------------------------------------------------------------------

Okay. And a couple ones, I think your K will probably come out here, but can you comment ahead of that on your customer mix in '16? Did it change meaningfully? I think in '15, you identified Devon and OXY as your largest customers.

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [21]

--------------------------------------------------------------------------------

Right, right. No, that -- it usually stays the same. If you look back over 5 years, you get some movement in it. But year-to-year, those guys are still going to be our biggest players, whether it's rental or sales, and -- unless something else comes up. But yes, we'll -- I imagine there's a couple of years that we won't see much change in those.

--------------------------------------------------------------------------------

Operator [22]

--------------------------------------------------------------------------------

(Operator Instructions) There are no more questions.

--------------------------------------------------------------------------------

Stephen C. Taylor, Natural Gas Services Group, Inc. - Chairman, President & CEO [23]

--------------------------------------------------------------------------------

Okay. Well, thanks, Donna, and thank you, everyone for joining me on this call. I appreciate your time this morning and we look forward to visiting with you again next quarter. Thank you.

--------------------------------------------------------------------------------

Operator [24]

--------------------------------------------------------------------------------

This concludes today's Natural Gas Services Group 2016 Fourth Quarter Earnings Call. Thank you for attending.