Q1 2023 NCS Multistage Holdings Inc Earnings Call

Participants

Michael L. Morrison; CFO; NCS Multistage Holdings, Inc.

Ryan Hummer; CEO & Director; NCS Multistage Holdings, Inc.

Presentation

Operator

Good morning, and welcome to the NCS Multistage First Quarter 2023 Conference Call. (Operator Instructions) I would like now to turn the conference over to Mr. Mike Morrison, CFO of the company. Please go ahead.

Michael L. Morrison

Thank you, Caroline, and thank you for joining the NCS Multistage First Quarter 2023 Conference Call. Our call today will be led by our CEO, Ryan Hummer, and I will also provide comments. I want to remind listeners that some of today's comments include forward-looking statements such as comments regarding our future expectations for financial results and business operations. These statements, including our financial guidance and expectations are subject to many risks and uncertainties that could cause our actual results to differ materially from any expectation expressed herein, including the impacts of inflation, central bank actions to combat inflation, distress at U.S. regional banks and Russia's ongoing invasion into Ukraine on the global economy, oil and natural gas demand and our company.
Please refer to our most recent annual report on Form 10-K for our latest SEC filings for risk factors and cautions regarding forward-looking statements.
Our comments today also include non-GAAP financial measures, including adjusted net income, adjusted earnings per diluted share, adjusted EBITDA, free cash flow and net working capital. The underlying details and reconciliations of non-GAAP measures to the most comparable GAAP financial measures are included in our first quarter earnings release, which can be found on our website at ncsmultistage.com.
I'll now turn the call over to Ryan.

Ryan Hummer

Thank you, Mike, and welcome to our investors, analysts and employees joining our first quarter 2023 earnings conference call.
Our performance in the first quarter of 2023 was largely in line with the guidance we provided in early March with revenue slightly above the low end of the range and adjusted EBITDA near the higher end of the range.
I'll briefly discuss our results and outlook for each of the U.S., Canada and international markets. Starting with the U.S. Our revenue of $11.3 million in the first quarter fell below the low end of our guidance of $12 million to $13 million, reflecting reductions in activity by certain customers that are focused on natural gas production and lower-than-expected perforating gun sales.
Despite the reduction in industry drilling and completion activity targeting natural gas, we expect to return to modest sequential revenue growth in the U.S. in the second quarter.
The operational performance of our perforating guns in the field was very strong in the quarter. We also made good progress in introducing these products to additional customers, that has taken time to migrate customers from trials to steadier ongoing work, which is what led to the lower-than-expected sales volumes for the quarter.
Offsetting the lower perforating gun sales, we saw increased momentum throughout the first quarter in PurpleSeal composite plug sales for Repeat Precision, which has continued into the second quarter.
Our Canadian revenue of $30.7 million in the first quarter was near the midpoint of our guidance range of $30 million to $32 million. We had strong increases in revenue as compared to both the first and fourth quarters of 2022 with the fourth quarter having been impacted by customer budget exhaustion.
We continue to grow product sales volumes across sliding sleeves and well construction products and the impact of the pricing increases we achieved in the second half of 2022 are reflected in our product margins, which I'll touch on a bit later.
I'd like to highlight how one of our customers in Canada is leveraging our technology to drive asset performance and operational efficiency.
The customer recently completed two 4-well pads, eight wells in total in a project with over 220 sliding sleeves per well on average.
During the completions, they utilized the simul-frac technique, optimizing the surface footprint and horsepower and orchestrated the activity across the wells with several coiled tubing units.
Operationally, the customer utilized our Shift-Frac-Close process, which provides operational flexibility and helps to ensure that proppant placed in the formation stays in the formation, minimizing the need for post job cleanouts. The Shift-Frac-Close operations in these high-intensity completions also highlight some of the key features that differentiate NCS from our competition, including the quality of the seals and our sliding sleeves and the repeatably robust performance of our frac initiation assemblies, which benefit from features protected by our intellectual property and which leverage our extensive track record.
We've also continued to execute on opportunities to grow our market share in composite frac plugs in Canada. We've committed additional field support to the product line and are benefiting from some of the customer consolidation that's been taking place in the Montney and Duvernay.
We continue to monitor the wildfire situation in Western Alberta to ensure that our people are safe. We expect that our Canadian business will exhibit typical seasonality in the second quarter with a period of lower activity through May before recovering in June, which could be exacerbated by the impact of the wildfires on operations for certain customers.
We're encouraged by the discussions we've had with customers about both the timing and scope of their expected activity after spring breakup. Peak activity in the third quarter of 2023 in Canada could be as robust as the first quarter.
Our international operations were seasonally slow in Q1, with revenue of $1.6 million coming in just above the midpoint of our guided range of $1 million to $2 million.
We've mentioned in the past the attractive opportunity for our tracer diagnostics product line in international markets and we will highlight one recent project. NCS ran tracers on a Middle East miscible gas flood project, injecting tracers in 7 wells and collecting samples from 17 producing wells. The analysis of the recovered tracer from the producing wells provided valuable insights for our customer. This diagnostic technology and evaluation provided critical information regarding reservoir connectivity, gas breakthrough patterns and optimization opportunities for gas injection and condensate production.
Further tracing is planned in this area to help refine reservoir simulation models as our customer updates their field development plan. The continuous monitoring of tracer results will be crucial for the ongoing success of this project.
Our international activity has begun to improve in the second quarter, and we believe that will continue to increase as we move to the second half of the year as installation and service activity increases in the North Sea, as tracer projects pick up in Argentina and as we grow our revenue base in the Middle East and in Saudi Arabia, in particular.
A bright spot for the quarter for us was our gross margin, which at 43% exceeded our guided range of 38% to 41% and was higher than any quarter during 2022. We previously discussed the cost increases that we incurred in 2022 before we were able to achieve pricing increases with our customers, which were primarily realized during the second half of 2022.
The benefit of these pricing gains shows up most clearly while looking at the gross margin on our product sales, which was 40% during the first quarter of 2023 as compared to 32% in the first quarter of 2022, and also drove an overall gross margin improvement of approximately 450 basis points between the two quarters.
We continue to pursue additional though more modest pricing improvements with our customers which are necessary to offset the impact of costs incurred across our supply chain, especially the cost of oilfield tubulars, which despite some recent moderation remain more than 100% higher than they were in early 2021.
We maintain our strong balance sheet with approximately $5.2 million in net cash and an undrawn revolver as of March 30, 2023. In addition, our net working capital, excluding cash and short-term debt, at March 31 of over $61 million exceeds our current market capitalization by nearly $15 million.
Our net capital expenditures for the quarter were $0.5 million, highlighting both the capital-light nature of our business and our continued financial discipline.
Before I ask Mike to discuss our financial results in more detail, I'll address the litigation provision that we booked during the first quarter. On May 2, 2023, a jury issued a verdict against us, awarding approximately $17.5 million in damages, resulting in us accruing a contingent liability. The matter related to well damages for four wells in 2018, resulting from an alleged product effect related to components provided by a third-party supplier of ours. We expect a large portion up to all of the awarded damages to be covered by insurance which would offset this liability. And we would, therefore, expect that the matter once resolved, do not have a significant impact on our financial position or on our operations.
In addition, we intend to appeal the judgment and believe that we have strong arguments that could lead to the reversal of some or all of the awarded damages.
Over to you, Mike.

Michael L. Morrison

Thank you, Ryan. As reported in yesterday's earnings release, our first quarter revenues were $43.6 million, 11% higher than the prior year's first quarter. Our U.S. and Canadian revenues increased by 25% and 8% respectively, with our international revenues slightly up compared to one year ago.
On a sequential basis, revenue in the first quarter was 8% higher than revenue in the fourth quarter of last year with a 24% increase in Canada, partially offset by declines of 16% and 19% in the U.S. and international markets, respectively.
Our gross profit, defined as our total revenues less cost of sales, excluding depreciation and amortization expense, was $18.5 million in the first quarter. Our gross profit percentage improved to 43% compared to 38% for the same period one year ago and 40% sequentially.
This improvement was due to in part, our customer pricing increases and a higher utilization of our manufacturing capacity and field service personnel more than offsetting our higher supply chain costs.
Selling, general and administrative costs were $16.2 million in the first quarter, slightly up compared to the first quarter of last year. Our salary and wage-related expenses are up due to increases in our headcount, merit raises and higher incentive bonus accruals, which were mainly offset due to decreases in our share-based compensation and professional fees compared to one year ago.
For the first quarter, we reported a net loss of $15 million or loss per share of $6.10. As Ryan mentioned moments ago, our first quarter results were impacted by a $17.5 million charge related to a jury verdict against us last week. While we expect most, if not all, of the award to be covered by insurance, we have not yet recorded the insurance recovery as an asset to offset this legal contingent liability. We currently expect to book the offsetting insurance recoveries in the coming quarters as they become more supportable and realizable for GAAP accounting purposes.
Excluding this litigation charge, net of tax, our adjusted net income was $1.2 million, or $0.50, per diluted share, an improvement over the adjusted net loss of $1.8 million or a loss per share of $0.73 in the first quarter of 2022.
Our adjusted EBITDA for the first quarter was $4.9 million, an improvement of $2.6 million compared to one year ago.
Turning now to cash flow items and the balance sheet. Cash flow from operations and free cash flow or use of cash of $1.6 million and $2.0 million, respectively. While we continue to anticipate being free cash flow positive for the full year of 2023, our negative free cash flow for the first quarter was primarily due to an increase in our net working capital of $6.5 million, which totaled $61.7 million at March 31.
On March 31, we had $13.6 million in cash and total debt of $8.4 million, resulting in a positive net cash position of $5.2 million. As of March 31, the borrowing base available under our undrawn ABL facility was $21.1 million.
Turning now to a few points of guidance for the second quarter. We currently expect second quarter total revenues of $27 million to $30 million. We expect U.S. revenue of $12 million to $13 million, international revenue of $2 million to $3 million and we expect Canadian revenue of $13 million to $14 million, reflecting the seasonal impact of spring breakup. We expect our gross margin percentage to be between 34% and 36%, an improvement compared to the 33% gross margins we experienced in the second quarter of 2022.
Due to the seasonal impact of spring breakup, we expect our adjusted EBITDA to be between a negative $3 million and $2 million before turning positive again in the second half of the year. We expect our second quarter depreciation and amortization expense to be approximately $1.1 million.
I'll hand it over to Ryan to discuss our 2023 full year guidance and for closing remarks.

Ryan Hummer

Thank you, Mike. We're making slight adjustments to our full year guidance for 2023. We currently expect full year revenue of $170 million to $185 million and full year adjusted EBITDA of $20 million to $25 million, consistent with the calculations in our earnings release. This new revenue range is $5 million below the prior range, but we have maintained our adjusted EBITDA guidance, reflecting better expected gross margin performance as seen in the first quarter and slightly lower expected SG&A expenses for the remainder of the year.
With the improved performance in the first quarter of 2023, as compared to the same period in 2022, our adjusted EBITDA for the trailing 12-month period is $17.7 million.
We expect our gross capital expenditures for 2023 of $3 million to $5 million, which is reduced [well into] the range by $1 million from the prior guidance. We continue to expect to be free cash flow positive in 2023 after accounting for both capital spending and investments in net working capital to support our growth.
As we move past the second quarter of 2023, we expect our spending on litigation matters to moderate meaningfully, which should allow us to convert a higher percentage of adjusted EBITDA to free cash flow in the second half of this year and going forward.
Underpinning our revenue growth expectation is anticipated year-over-year average annual industry activity growth of up to 10% in both Canada and the U.S. The activity in the U.S. is expected to remain below the levels reached in the fourth quarter of 2022, primarily as a result of a decline in natural gas prices.
Furthermore, we expect international industry activity to grow by at least 10% in 2023. We expect our revenue growth to exceed that of the underlying industry activity by achieving market share increases in selected product and service lines, growth in international markets and continued adoption of newly introduced technologies across our product and service lines.
We also expect that the full impact of additional price increases that we achieved with our customers to offset cost inflation will provide a positive impact, especially in the second half of the year.
Due to the seasonality of our business and consistent with prior years, we would anticipate that the achievement of our annual adjusted EBITDA guidance range will be weighted to the second half of the year.
As discussed earlier, we believe that the recent jury verdict against us will be covered by insurance with the award potentially reduced through appeal in time. We believe that the final resolution of the matter, which could take several quarters, will not have a significant impact on our financial position or operations.
Before we open up to Q&A, I'll close with a couple of brief comments. We continue to build on our strong performance over the last several years as we execute on our growth initiatives. NCS has the infrastructure in place to support revenue growth in each of our geographic markets, providing leverage to grow future earnings.
As demonstrated by our guidance for 2023, achieving the midpoint of our guidance range would grow our annual revenue by 14% and further increase our adjusted EBITDA margin to approximately 12.5% for the year.
We maintain a strong balance sheet and liquidity position with a cash balance of over $13 million at the end of the first quarter. In addition, we expect to add to that cash balance by generating positive free cash flow in 2023, providing us with financial and strategic flexibility.
Finally, we continue to benefit from the successful introduction of new technologies that meet the needs of our customers, adding to our portfolio and expanding our addressable market.
I'm in Calgary this morning and after the call, we'll attend a breakfast event showcasing how our technology can support our customers as they complete ever-longer laterals to improve their capital efficiencies. This includes our AirLock casing buoyancy system as well as our proprietary AirLock Infinity solution, which pairs the airlock with an innovative disruptor composite centralizer to reduce sliding friction, increased hook load and reduce drag to get casing to its intended depth in less time and without the need to rotate the casing strength.
We'll also be highlighting the success of our fracturing systems technology and extended laterals, where we routinely work with customers to efficiently complete high-stage count wells with laterals exceeding 2 miles, including a couple of wells with lateral length of over 3 miles.
Looking forward to spending time with our customers and other service providers at breakfast later today.
And with that, we'll welcome any questions from the audience.

Operator

(Operator Instructions) It appears we've got no further questions. I will turn it back to Ryan Hummer, CEO of the company for any closing remarks.

Ryan Hummer

Okay. Thank you, Caroline. So on behalf of our management team and Board, we'd like to thank everyone on the call today, including our shareholders, analysts and especially our employees. .
I truly appreciate the tremendous work and dedicated -- dedication demonstrated by our team here at NCS and Repeat Precision as we implement our long-term strategy. We're only as good as our people, and I'm proud to be a part of the best team in the industry.
This team continues to provide excellent service to our customers and is developing new products and services that will enable our customers to be ever more successful. We see the potential for a multiyear cycle of improved growth prospects for our industry, and I'm excited by how NCS is positioned to participate in that growth and to deliver benefits to our employees, customers, shareholders and other stakeholders.
We appreciate everyone's interest in NCS Multistage and we look forward to talking to you again on our next quarterly earnings call. Thank you.

Operator

Thank you all for attending today's presentation. This conference has now concluded. You may now disconnect. Have a good day.