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Newpark Resources Inc. (NYSE:NR)

Q4 2007 Earnings Call

February 22, 2008 10:00 am ET

Executives

Ken Dennard – Managing Partner, DRG&E

Paul Howes – President & CEO

James Braun – VP & CFO

Bruce Smith – President Drilling Fluids

Analysts

James Rollyson - Raymond James & Associates

Vijay K. Singh - Janco Partners Inc.

John Flanagin - First Analysis Corp.

Karen David-Green - Oppenheimer & Co.

Larry Callahan – Huntley Securities

Robert Young - W.M. Smith Securities

Operator

Good morning ladies and gentlemen, welcome to the Newpark Resources fourth quarter 2007 earnings conference call. (Operator Instructions) I’d now like to turn the conference over to Mr. Ken Dennard with DRG&E, please go ahead sir.

Ken Dennard

Good morning everyone. We appreciate you joining us for Newpark Resources conference call today to review fourth quarter results. We’d also like to welcome our internet participants listening to the call as its being simulcast live over the web. Before I turn the call over to management I have the normal housekeeping items to cover.

For those of you who did not receive an email of the release this morning and would like to be added to the distribution list, please call our offices at DRG&E and that number is 713-529-6600 and provide us your contact information. Or you can email me directly and I’ll put you on that list. Also there’ll be a replay of today’s call and it will be available by webcast on the company’s website at www.newpark.com. There’ll also be a telephonic recorded replay which will be available until February 29 and that information to access that is in the press release.

Please note that information reported on this call speaks only as of today, February 22, 2008 and therefore you are advised that time sensitive information may no longer be accurate as of the time of any replay listening. In addition the comments made today by management of Newpark during the conference call may contain forward-looking statements within the meaning of the United States Federal Securities Law. These forward-looking statements reflect the current views of the management of Newpark however various risks, uncertainties and contingencies could cause Newpark’s actual results, performance or achievements to differ materially from those expressed in the statements made by management. Listeners are encouraged to read the company’s annual report on Form 10-K for the year ended December 31, 2006 to understand all those risks, uncertainties and contingencies. Also during the course of this call management may refer to certain non-GAAP measures. The listener is also encouraged to read the non-GAAP disclosure contained in this morning’s press release.

And now I’d like to turn the call over to Newpark’s President and CEO Mr. Paul Howes, Paul?

Paul Howes

Thank you Ken and good morning to everyone. We’d like to take this opportunity to thank all of you for joining us today for our fourth quarter conference call. With me today is Jim Braun, our Vice President and Chief Financial Officer, and Bruce Smith, President of our Drilling Fluids business. Bruce is joining us today to share first hand some of the positive activities happening in our Fluids business. Before we go through the quarterly results I would like to highlight some of the significant events that happened during what was clearly a challenging quarter in our Mats business and Jim will discuss some of the corrective actions we’re taking to overcome these challenges and position the company for continued growth. After outlining these items I will turn the call over to Bruce to cover the Drilling Fluids and Jim who will cover Mats. I will then conclude with a discussion of our market outlook before opening the call up to Q&A.

Now turning our attention to the fourth quarter, allow me to make a few broad observations. The quarter continued to be a challenging environment for oil service companies in North America. Many of the headwinds the industry faced during the third quarter remained in affect to the end of the year. Nevertheless in spite of this uncertain and soft market our Fluids business showed strong revenue growth and improved margins on a sequential basis. We continue to grow this business and gain acceptance in the marketplace as a leading provider of Fluids and related services.

In a recent independent customer satisfaction survey conducted by Energy Point Research our Fluids business received a top rating in its product category. The survey went on to say, and I quote “Although the company is materially smaller than market share leaders MI, Halliburton and Baker Hughes, Newpark’s ratings suggest it performs well as a provider of Fluids in its chosen markets.”

Turning to the international market, drilling activity continued to show strength as results from our overseas operations remained robust during the quarter. We benefited greatly from this long term trend as our AVA business grew 41% in 2007 with much of this growth due to a strong North African market. We successfully completed our second test well in Egypt which now puts us in a position to grow our business in this important market. Our AVA business which consists of operations in North Africa and Europe continue to perform well generating $87 million of revenue for the full year compared with $62 million in 2006. In addition, AVA was awarded new contract for offshore work in Libya. We also saw revenues from Brazil for the first time as we are now providing both Fluid and services to land based rigs. As you all know we hope to leverage our presence in Brazil and expand into the country’s deepwater market.

Now let me turn to the pending sales of the Environmental Services business. Things continue to move towards an expected close in the first quarter of this year. Although this business is not reported as part of our continuing operations, I would like to acknowledge the efforts of the [inaudible] team and thank them for continued strong financial performance during the sale’s process. Revenues were $13.4 million in the quarter with operating margins approaching 19%.

As I noted in the press release I am pleased to report that our Board of Directors this week authorized a $25 million share buy back. Jim will provide more details later in the call. Now looking at the quarter’s results.

For the fourth quarter ended December, 2007 we reported total revenues of $160 million up 9% from the fourth quarter of last year. Sequentially revenues were up 4% from the third quarter of 2007. In conjunction with a new credit facility entered into during the quarter there was a one-time $4 million charge which lowered earnings per share by about $0.03. As a result the company reported income from continuing operations of $5.5 million or $0.06 per diluted share. The quarter benefited from a lowering of the full year income tax rate to 32% from 35%, our previous full year estimate. The impact on the quarter was about $0.01 per share. In the fourth quarter of 2006 income from continuing operations was $7.4 million or $0.08 per diluted share.

Now let me in introduce Bruce Smith. Prior to joining Newpark in 1998 Bruce was the Managing Director of a North Sea based drilling fluids company. He became the President of Newpark Drilling Fluids in 2000 and has been at the helm during the period of Newpark’s revenue, profitability and market share growth over the past several years. With that I’d now like to turn the call over to Bruce.

Bruce Smith

Thank you Paul and good morning everyone. This morning I will present a review of the Fluids Systems and Engineering segment. Revenues in the fourth quarter were up 5% to $136 million as compared to the third quarter of 2007. Despite a flat sequential rig count our US Fluid revenues grew 4%. Revenue growth of 14% in the Texas Gulf Coast and 11% in our Oklahoma Completion Fluids and Services business more than offset a decline in the Louisiana Gulf Coast. Our deepwater revenue was $2.5 million in the quarter. Canada remains weak despite a $1 million sequential revenue gain. Total Fluid margins were up 100 basis points sequentially from 11.9% to 12.9% due to the higher margin international work and improving US profitability.

On a comparable year over year basis, Fluids revenues in the fourth quarter were up 6% compared to Q4 2006. The revenue increase was largely driven by continued strength in our international markets. AVA continued to perform well with fourth quarter revenues of $26 million up 32% from a year ago. In the US revenues were relatively flat. Our Oklahoma Fluids business was the best performing unit growing revenue by 42% which helped offset a 24% drop in our Louisiana Gulf Coast business. Fluids operating margins of 12.9% were down from 16% a year ago. Lower operating margins were the result of higher bay right, transportation, fuel and labor costs that could not be fully recovered through customer pricing increases. In addition, the margins in the fourth quarter of 2006 were unusually strong.

On a full year basis Fluids revenue grew 9% on a 7% increase in the US rig count and operating margins declined slightly to 12.6% down 13% in 2006 excluding hurricane related insurance gains.

In closing I would like to point out a couple of highlights in addition to what you’ve already heard about AVA and our Oklahoma and Texas Gulf Coast businesses. During the quarter we gained additional work with a large independent in the Rockies where we are currently providing Fluids and services to all the rigs in this region. Regarding Brazil, over two years ago we made a commitment to Brazil and its offshore market. We started modestly with the intent of introducing ourselves to and gaining knowledge of the marketplace. With some new work and the prospect of future business opportunities we have committed to the construction of a $4 million mud plant to serve this growing market. This is an important development in our long term strategy and is indicative of our commitment and confidence in entering into new contracts in the near future.

With that I will now turn the call over to Jim.

James Braun

Thank you Bruce and good morning. First let me review our Mats business and follow-up with a discussion of the balance sheet. On a quarterly sequential basis our Mats and Integrated Services revenues decreased 1% to $23.5 million. Removing the impact of a full quarter of SEM our Q3 acquisition of Pionce, revenues were down 14% due to continuing weakness in the southern Louisiana land market. There were an average of 28 rigs working during the quarter which is down 7% from Q3 resulting in some of the smaller service companies lowering price in response to the more competitive conditions. Average rental rates dropped 16% during the quarter. Mat sales were strong in the quarter at $6.4 million although down $1.3 million from Q3. Due to these factors and the high fixed cost component in our cost structure Mats operating margins dropped to 5.7% in the quarter. We have taken action to address the cost structure by reducing headcount, redeploying equipment and cutting discretionary spending.

Compared to the fourth quarter of 2006 revenues were up 33% driven by the SEM acquisition and higher composite Mat sales. Our core well side construction business in South Louisiana was down 18% from last year where we saw 35% decline in the number of rigs working. SEM contributed as expected on the top line; however their profit contribution fell short of expectations during their integration. And finally as previously disclosed Paul will take the reins in running the Mats business while we search for a permanent replacement for the former President who’s taken a medical leave of absence. For the full year Mats and Integrated Services revenues dropped 10% from 2006 while their operating margins decreased to 14.2% down from 15.1%.

Our G&A expense of $5.1 million in Q4 was about $1 million lower than a year ago quarter which included legal and consulting fees related to our strategic planning projects. The G&A was $0.5 million more than the third quarter of 2007 due primarily to the final closing of our former headquarters in New Orleans. Before turning to the balance sheet let me summarize the full year 2007. We reported revenues of $613 million which were up 5% from 2006. Our income from continuing operations was $0.28 per diluted share for 2007 compared with $0.31 in 2006. Excluding the $0.03 impact of the fourth quarter refinancing charge and the $0.01 impact of the litigation settlement in the first quarter, 2007 earnings from continuing operations were $0.32 per diluted share.

Now turning to the balance sheet. At December 31, working capital sits at $283 million with a cash balance of $8 million. Total debt ended the year at $170 million leaving our total debt to capital ratio at 33% as compared to 40% at the beginning of the year. During the year we reduced total debt by $36 million which includes the funding of $23 million for the acquisition of SEM and two smaller deals in our Fluids business. The pending of our Environmental Services business should improve our leverage as we initially plan to use proceeds to pay down debt. Applying the $81.5 million in gross proceeds against our debt our pro forma debt to capital ratio would be about 21%.

Last December we secured a new $225 million credit facility which was used to repay the balance on our long term loan and revolving credit arrangement. As Paul mentioned earlier, the termination of these old facilities required the write-off of $4 million of debt issuance costs which is reflected in interest expense in the quarter. Our new facility which expires in 2012 gives us lower borrowing cost and improves operating flexibility to execute on our strategic plans. Better pricing and overall lower market interest rates have reduced our current weighted average interest rate to less than 6% down from about 8% in our previous facility.

The new facility provides us greater flexibility in the areas of acquisitions, capital investment and share buy back. For the year our capital expenditures totaled $22 million including the transfer of $4.5 million of composite Mats into the rental fleet from salable inventory. Depreciation and amortization was $19 million and we project our 2008 capital expenditures will be approximately $25 million. And finally for 2008 we estimate our tax rate to be 35%.

Now let me take a minute to comment on the share repurchase program. As Paul mentioned our Board’s authorized a $25 million share buy back. With the stock trading at historical lows, we believe the use of some of our debt capacity to reduce the share count is a prudent way to manage the capital structure of the company. In addition to returning some cash back to the shareholders, the repurchase program will help us manage the increase in the share count resulting from our various employee stock programs. And even with the $25 million repurchase we believe we have sufficient capacity in our new financing arrangement to make investments to grow the business.

Before turning the call back over to Paul, I’d like to briefly address the issue of earnings guidance. We’ve decided that we will continue to give broad guidance in certain key financial areas but that we will not give specific EPS guidance in part due to the uncertainties that exist in some of our key markets. We will continue to reevaluate this position as we move through the year. And with that I’d like to turn the call back over to Paul for his concluding remarks.

Paul Howes

Thanks Jim. Although conditions in the North American markets remain mixed our core Drilling Fluids business has continued to perform well. Based on feedback from our customers we believe that US activity on balance will be up modestly in 2008. Certain areas, like the Rockies, Oklahoma and Arkansas offer upside potential. We do not anticipate any near term improvement in the South Louisiana land or shelf market. Regardless of activity levels our focus in the US Drilling Fluids market is to gain share. We believe we can accomplish this by continued focus on performance and exceeding customers’ expectations.

Internationally we expect to see further gains in our Fluids business. Our AVA operation should continue to see strong gains from North Africa and Eastern Europe. And additionally we plan to aggressively expand our business in Brazil. In closing 2007 was a successful year on many fronts. Over the past 12 months we’ve built a solid foundation and I believe we have the right organization in place together with the right financial structure to continue our growth. With that we will now take your questions.

Question-and-Answer Session

Operator

Your first question comes from James Rollyson - Raymond James & Associates

James Rollyson - Raymond James & Associates

Good morning guys, question I guess I’ll start with the bad news first. In the Mats side of things you talked about what you’re trying to do to stem the margin problems with what’s going on with Louisiana, how long do you suspect Paul it’ll take for the headcount reductions and equipment relocations to actually start impacting, helping out the margins?

Paul Howes

We’ve already started on that in the January time frame and we should be pretty much completed I would think through the end of February, into March.

James Rollyson - Raymond James & Associates

So margins there start trending back up into the double-digit range or the higher single-digits or kind of what would you suppose might be the case?

Paul Howes

I would expect to move back up into the double-digits in the second quarter.

James Rollyson - Raymond James & Associates

Okay and as a follow-up just on the good news side, you’re obviously working in Brazil onshore building a plant, can you maybe give us a sense of timing when you think you might see operations in the offshore, deepwater arena and maybe how those margins compare to the onshore.

Bruce Smith

Yes, I think take a short historic step back, when we went to Brazil we recognized we had a two year period where we had to really understand the market, understand the needs of the customers in that market and for them to understand the competence that we bring to them in that marketplace. To all intents and purposes we’ve achieved that part of it now and we’re ready to move forward on the operational side. A best guess would be third quarter of this year I think we will be active in offshore operations in Brazil.

James Rollyson - Raymond James & Associates

And the margins comparatively between offshore and onshore?

Bruce Smith

We really don’t know at this time because as we haven’t had any offshore work yet, we’re just currently in the bidding process it’s difficult to establish but offshore should be significantly better than the onshore work.

James Rollyson - Raymond James & Associates

Excellent, thank you.

Operator

Your next question comes from Vijay K. Singh - Janco Partners Inc.

Vijay K. Singh - Janco Partners Inc.

Hi Paul and Jim. I have a couple of questions. One is at last conference call you mentioned a couple of offshore projects that you were in the bidding process. I just wanted to see if you can give us some update on your offshore efforts in general, not Brazil.

Bruce Smith

Throughout our company in different areas we’re bidding constantly on offshore work domestically and internationally. Recently as we announced we have received a significant offshore project, offshore Libya and many other projects are being bid on as we speak. So it’s a constantly moving target and we are picking up offshore work continuously. That’s really where we are and that’s the focus we have.

Vijay K. Singh - Janco Partners Inc.

And currently what’s the mix in terms of your drilling business in offshore work?

Bruce Smith

On the Gulf Coast area which we’ll talk about first that’s a smaller percentage on land are obviously more rigs we have operating on land than offshore. Internationally that mix changes somewhat with the AVA Company’s revenue mix coming more perhaps from the offshore side than the land side. So throughout the company there’s a nice balance between the offshore and the onshore work. But domestically here our revenue base is predominantly onshore with offshore gaining ground.

Vijay K. Singh - Janco Partners Inc.

On the Mat business the headcount reduction, equipment relocation that you mentioned, what timeframe, well you talked about that but more importantly how much of that after the relocation is done how much of the Mat business is likely to come from the Southern Louisiana area?

James Braun

Well that Vijay, the business still has a high concentration in south Louisiana and to a lesser degree south Texas. We have diversified with the acquisition in Colorado which will help that situation. But still we’re heavily dependant on that region and our business there will ebb and flow with activity levels in south Louisiana land.

Vijay K. Singh - Janco Partners Inc.

Okay and on the pricing side of the Drilling Fluids pricing what kind of increases did you see this quarter and what’s the outlook and then on the costs side, how do you plan to control that which whatever is within your control?

Paul Howes

On the pricing side, again we didn’t see any real strong pricing movement. You know the margin improvement driven a lot by mix. So that was one of the factors in driving it. On the cost side of the equation certainly in 2007 we experienced a lot of volatility in the costs of our [bare right] ore specifically as it relates to the transportation cost to bring that ore from China here to the US market. We’ve seen the freight rate stabilize in the fourth quarter of ’07 and anticipate a much more stable environment in 2008. Though I would also say though that we have active programs where were enjoying fluids to improve margins based upon leveraging our purchasing synergies and also looking at our total logistics infrastructure in the US market.

Vijay K. Singh - Janco Partners Inc.

Okay great, that’s all I have.

Operator

Your next question comes from John Flanagin - First Analysis Corp.

John Flanagin - First Analysis Corp.

Good morning all, question on the Mats side and specifically the SEM acquisition, I heard a reference to the integration having an adverse impact on margin. Is that integration affectively completed and should we expect margins to perform more in line with expectations there?

James Braun

John that’s true. We would expect that to return to kind of our expected levels of margin in that business.

John Flanagin - First Analysis Corp.

Great and then down to Brazil question I guess for Bruce. On the land based Drilling Fluids revenue I think I heard a reference in a previous call to about $500,000 revenue and I’m wondering if revenue and margin on that project had been in line with your expectations.

Bruce Smith

Yes that’s correct, it’s actually $600,000 is the reality so it’s in line with what we expected to this point.

John Flanagin - First Analysis Corp.

And how long will that project go do you think Bruce?

Bruce Smith

Its open ended. There are many drilling campaigns on land that just continue one after one another. So based upon our performance and we continue to perform well I see no reason why we won’t continue forward with those projects as they develop.

John Flanagin - First Analysis Corp.

Thank you, that’s all for me now.

Operator

Your next question comes from Karen David-Green - Oppenheimer & Co.

Karen David-Green - Oppenheimer & Co.

Thank you and good morning. Just wanted to follow-up to see if you could maybe give us a little bit more color on the environmental sale, I know that’s been somewhat delayed. Do you feel very confident that that will happen within the next month?

Paul Howes

Yes Karen, we feel confident that it’ll close by the end of the first quarter. We have filed the HSR filing and that initial 30-day window expires at the end of this month, at the end of February.

Karen David-Green - Oppenheimer & Co.

Okay and in terms of the sale, are there any changes to the terms?

Paul Howes

There has been no change to the terms.

Karen David-Green - Oppenheimer & Co.

Okay, in terms of the deployment of capital once you do divest fully of that segment, can you walk through some of the areas that you’re looking at for potential growth and maybe how that’s changed if at all over the past few months in terms of acquisitions and the outlook and also valuation metrics.

James Braun

In terms of the use of the proceeds, certainly you heard we have a plan to increase our capital expenditures; we have a $4 million mud plant in Brazil that we’re going to build so that’s certainly where some of the cash will be used. We’re also, as we expand in the AVA business into either new countries or growing our operations, we’ll continue to invest in inventory. We had inventory build from a year ago but it’s in places where we’re going to generate business in the future. In terms of acquisitions there are some things we continue to look at that are on our plate and we feel we’ll be able to redeploy that capital in a timely and prudent manner to replace the earnings of the Environmental business.

Karen David-Green - Oppenheimer & Co.

Great, thank you.

Operator

Your next question comes from Larry Callahan - Huntley Securities

Larry Callahan - Huntley Securities

Good morning, I just wanted to clarify on the 10D5 plan you mentioned with regard to the stock repurchases, this was a 10D5 plan for insiders to purchase stock or to sell stock. They’re usually associated with selling at least in my mind.

James Braun

They are Larry but they’re also a plan that can be used by companies in share repurchases and the advantage for us is that it allows us to put the program in place and then for the bank to go out and buy and execute during blackout periods where the company normally wouldn’t be able to purchase shares. So we’re working to get that in place so that we can continue to buy shares through our bank based on some broad instructions we give them during blackout periods.

Larry Callahan - Huntley Securities

The release makes it sound like its the company’s management who is buying, are you talking about company repurchases or insider?

James Braun

No this is a company repurchase program that we will be buying shares and putting them into treasury.

Larry Callahan - Huntley Securities

Okay thanks and then did you give a number for your 2008 CapEx and how it’s split between the Mats business and the Fluids business?

James Braun

It was, it was $25 million and the majority of that is going to the Fluids business for Bruce.

Larry Callahan - Huntley Securities

Thank you very much.

Operator

Your next question comes from Robert Young - W.M. Smith Securities

Robert Young - W.M. Smith Securities

Good morning. Can you guys just talk a little bit about the fact of possibly companies and/or equipment moving from Canada to the Rockies area?

Paul Howes

I think what we’re seeing certainly with the slowdown that’s occurred in the Canadian market a lot of the rigs that there have been historically in Canada have been moving down into the Rockies from Wyoming down into the Pionce where we’re seeing a lot more activity. So we’d expect some continued movement of rigs in that direction. Bruce would you like to add some comments to that?

Bruce Smith

I think the Pionce area for the Drilling Fluids Company is strong and will remain strong going forward. We performed very well in that region to this point and I feel strongly we will continue to perform going forward in that area assuming the fundamentals remain strong in the industry.

Robert Young - W.M. Smith Securities

Okay great and then just maybe expand a little bit on just the competitive environment there, are you seeing a lot of competition just from other types of servicers or how is that working?

Bruce Smith

From the Drilling Fluids standpoint we’ve always been in a fairly competitive market. We have our major competitors of course who are MI, Halliburton and so on, but with any segment of our business there’s always the mom and pops and the different smaller companies that compete in given areas and that area is no different. There are some smaller companies that we compete with but overall I think we’ve grown that business in that region successfully year over year and we’ll continue to do so.

Paul Howes

I think one of the things we referenced in the call was that we had recently won a fairly large contract with a large independent driller up in the Jonah-Pinedale and we were able to win that business from one of the three large competitors that we deal with every day so I think that speaks volume to the products and the services that we offer and the differentiated value we provide to our customers.

Robert Young - W.M. Smith Securities

Okay great and then what’s the competitive landscape essentially in the same region with SEM?

Paul Howes

Well SEM is a much more in the Pionce specifically, it’s a much more fragmented competitive environment, a lot of smaller what I’ll call mom and pops that play in that region so fairly competitive environment as is the oil fields services business but no different than what we’re experiencing in other areas.

Robert Young - W.M. Smith Securities

Okay great, well thank you for your time.

Operator

Mr. Howes I was just going to say there are no additional questions at this time; I’ll turn it back to you for any closing remarks.

Paul Howes

I would like to thank you all once again for joining us on this call and for your interest in Newpark Resources. We look forward to talking to you again after the conclusion of our first quarter. Take care.

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