Heckmann's CEO Discusses Q3 2012 Results - Earnings Call Transcript


Heckmann (HEK) Q3 2012 Earnings Call November 9, 2012 1:00 PM ET


Brandy Fullburg - IR

Dick Heckmann - Chairman

Jay Parkinson – CFO

Charles R. Gordon - President and COO

James Devlin – Recycling Division

Mark Johnsrud – CEO Power Fuels


Hamzah Mazari - Crédit Suisse AG, Research Division

R. Scott Graham - Jefferies & Company, Inc., Research Division

Brian W. Post - Roth Capital Partners, LLC, Research Division

Gerald J. Sweeney – Boenning and Scattergood

Eric Stine - Craig-Hallum Capital Group LLC, Research Division

Spenser Joyce – Hilliard Lyon


Ladies and gentlemen, thank you for standing by, welcome to the Heckmann Corporation 2012 Third Quarter Conference Call. Today’s presentation, all parties will be in a listen-only mode. Later we’ll conduct a question and answer session. [Operator Instructions]

Today's conference is being recorded today, Friday November 9, 2012.

I would now like to turn the conference over to Brandy [inaudible] with Investor Relations. Please go ahead.

Brandy [inaudible]

Thank you, operator. Hello everyone, and thank you for joining us to discuss Heckmann Corporation's 2012 Third Quarter Financial and Operating Results. Some of the comments we will make today are forward-looking. Generally, the words: aim, anticipate, believe, could, estimate, expect, intend, may, plan, project, should, will be, will continue, will likely result, would and similar expressions identify forward-looking statements.

These statements involve a number of other risks and uncertainties that could cause actual results to differ materially from those anticipated by these forward-looking statements. These risks and uncertainties include a variety of factors, some of which are beyond our control. These forward-looking statements speak as of today, and you should not rely on them as representing our views in the future. We undertake no obligation to update these statements after this call. For a more detailed described of these risk factors, please refer to our filings with the United States Securities and Exchange Commission, including our Annual Report on Form 10-K, as well as our earnings release posted on the Heckmann Corporation website for a more detailed description of the risk factors that may affect our results. Copies of these documents may be obtained from the SEC or by visiting the Investor Relations section of our website, www.heckmanncorp.com. Also, please note that certain financial measures we may use on this call, such as adjusted EBITDA, are non-GAAP measures. Please see our press release for a reconciliation of these non-GAAP financial measures.

Joining us on the call today from Heckmann Corporation are Dick Heckmann, Executive Chairman, Mark Johnsrud, Vice Chairman and Chief Executive Office, Jay Parkinson, Chief Financial Officer, James Devlin, President of the Recycling Division, and Chuck Gordon, President of the Fluids Management Division.

With that, I would now like to turn the call over to Dick Heckmann.

Richard J. Heckmann - Chairman and Chief Executive Officer

Thanks, Brandy, and good afternoon everybody. Thanks for joining us. We’re doing things a bit different this quarter so we could take advantage of the quarterly to announce the results of our shareholder meeting earlier today. And as we get larger, it gives us an ability to do more for you and get more transparency to you.

As announced in the release, the shareholders overwhelmingly approved all three of our proposals, over 88% of the shareholders voted with well over 95% approving each proposal. So we’ll plan to close the Power Fuel merger as soon as we can get it done.

We will – we have put on the company’s website, actually a hour ago, a presentation reviewing the quarter. In a few minutes we’ll take you through that presentation with discussions from Jay Parkinson, our CFO, Chuck Gordon, President of our Fluids Handling Division, James Devlin, the Chairmen of the Recycling – President of the Recycling Division, Mark Johnsrud, the Chairman and CEO of Power Fuels. And we’ll take you through each segment of the business to give you an update on where we are and what we think of the marketplace and where we think we’re going.

Without Power Fuels – well, to summarize, we had a very strong quarter considering the natural gas prices and some of the [inaudible] of those who compete in parts of our business. But it was for us a very strong quarter. Without Power Fuels, Heckmann revenues grew 95% year-over-year to 93.1 million over the third quarter of last year, and up sequentially from second quarter.

Pro forma with Power Fuels, our revenues would have been 190 million for the quarter. Again, without Power Fuels, our adjusted EBITDA grew 57% to 17.3 million. We did not adjust any startup or onetime operating cost that we’re going to talk about here, resulting in a sequential decline, although GAAP EBITDA was sequentially up 9% with margin improvement.

With Power Fuels, Pro Forma adjusted EBITDA was 53 million for the quarter. Our liquidity improved very significantly, and as you can see, we not only delivered, but we also reduced capital spending as we said we would last quarter.

Now I want to take you through the presentation of – for those of you who have it, it’s on our – have access, it’s on our website and for those of who don’t, we’ll try to give you as much color as we can, without you having it in front of you. And I would take everybody to start at page 5, and take a look at a map that shows you the kind of massive coverage change that’s taken place in our company over the last 18 months.

18 months ago, we were in the Haynesville. Now, as you can see we’re in virtually every significant shale. We will talk about those as we go through this presentation, but we clearly, with the merger of Power Fuels become one of the company’s – one of the country’s leading providers. Certainly, as far as we can tell, the largest in what we do. And the combined company now operates in every major unconventional oil and shale, oil and natural gas shale basin.

I’ve also said before that every single one of the top ten producers in the country, are customers of ours regularly. So we think that one of the reasons, and we’ll talk about this as we go through the call. One of the reasons they’re customers of ours regularly is because we can offer them service in every shale, and the same kind of service.

Also, as a result of the transaction with Mark, over 70% of our revenues will come from the oil shale business, which obviously eliminates a bit of the pressure caused by gas prices. Although we still have a great position in the gas business, and as gas continues to recover, we think we’ll be where we need to be.

On page 6, we also are going to talk about an inflection point that we think we’ve hit. We are not a commodity trucking company. We don’t wait for people to bring wastewater to us. We’re providing a full cycle compliance. Water can only move through trucks and pipes, it can’t move any other way, and we’ve got them both. It also doesn’t get driven around in a circle. You got to do something with it when you take it off the site.

So what we’ve done is in all of the shales with yards, dispatch people, trucks, disposal wells, rental equipment, we have set up a full-cycle capability, which now we are expanding on fairly dramatically with James’ business in the recycle end, so that we can offer the customer not only the transportation to get it off their site, but then we can take it, and we can treat it or recycle it. We have now three plants up and running that recycle, reuse water. There will be many more. But in the basins where that’s important, we’re there with technology. We continue to look for further technology improvements.

And then in the basins where the best choice is to dispose, we own our disposal wells, or we are acquiring and drilling wells. So the thing that really differentiates us, we think from everybody else’s, in all of these basins, across this country, we can provide the same service and the complete service.

As I said, Chuck, James, and Mark are going to take you through the individual basins, but before that, I’m going to turn it over to Jay Parkinson, our new CFO who will take you through the numbers.

Jay Parkinson

Thanks, Dick. If everyone could please turn to page 8 of that presentation, I want to review some financial highlights for the third quarter. I’d like to note at the beginning that these only pertain to the legacy Heckmann business. The Power Fuels results are not on this page but we’ll get to those.

So for the legacy Heckmann business as Dick mentioned, revenues for the quarter came in at 93.1 million of note. That’s a sequential increase over Q2 and obviously a pretty dramatic increase over the prior year’s quarter.

As Dick mentioned, business conditions were challenging, yet we grew revenues during the quarter with minimal CapEx of just something we’re very proud of, and we really think speaks to the differentiation of the business model and the recurring nature of the revenue stream that we’ve built up here.

Adjusted EBITDA for the quarter came in at 17.3 million. I’d like to note there that we took no operating adjustments to that number for the quarter. The only adjustments that we’re recording here are adjustments for stock-based compensation. So transaction costs for the Power Fuels merger, and there’s also a non-cash loss in there under disposals, some older assets we acquired in the past, but have since replaced with newer assets.

As you can there on the right part of the page as well, we saw both gross margins and reported EBITDA margins increase sequentially from Q2 to Q3. And another point I want to talk about here is our capital expenditures, because I think this is a very important point to talk about here, and I think really represents a real change in the business on a go forward basis.

For the third quarter our CapEx was $7 million. If you give us back the cash proceeds from asset sales, the net cash CapEx number was 2 million for the quarter. And I think the point that I’d like to make is that both the Heckmann and the Power Fuels business have really reached an inflection point on the CapEx line.

As Dick mentioned, both businesses have built out, leading transportation, distribution and delivery systems in our respective shale areas. Doing that is a very capital intensive investment as you can see from our past results. But the point here is that the system has been built. And going forward, the task is going to be to optimize and lever it. So you’re going to see that the CapEx numbers are much lower on a go forward basis. And that really – that’s a point that we hammered on this quarter.

This leads me to the next point, which is our cash and debt balance. We ended the quarter with cash of 11.7 million, that’s an increase of 6.5 million from the second quarter. And we had at quarter end an undrawn revolver, total debt of around 270 million. The debt was all stable long-term financing. 250 million of unsecured notes, and the balance is equipment financing.

If you could please turn to page 9, I want to give some highlights of the Power Fuels financial performance during the quarter. Revenue came in at 96.5 million, EBITDA was 36.1 million, there’s no adjustments to the EBITDA line. So that implies a margin of a little bit above 37%.

Mark’s going to talk more about this in the presentation, where we see a normalized margin going, so I’ll hold off on that. But we’ll have some discussion later in the presentation.

In short, what I would say is we’re very pleased with the performance of the Power Fuels business in the third quarter, and see significant opportunities to leverage the network market built in the Bakken to continue to actively grow that business.

And I also want to talk briefly about CapEx in this business as well. Power Fuels CapEx for the third quarter was 15.4 million or 5.4 million if you add that – if you add back asset sales, the net cash CapEx is 5.4 million.

And again, similar to the legacy Heckmann business, Power Fuels has also reached that inflection point where the networks been built, the CapEx has been spent, you’re going to see it much, much lower on a go forward basis.

So when you look at that on a combined basis, third quarter revenues are 189.6 million, adjusted EBITDA of 53.4 million, total CapEx of 22.4 million, or net cash CapEx of 7.3 million. Again, CapEx well inside of EBITDA, the EBITDA less cash CapEx number was a little north of $46 million on a pro forma basis for the third quarter. So we’re very pleased with the trajectory of the business there.

If you can please turn to the next page, page 10, I just want to briefly review the merger and where we stand there. And also talk about where the financing stands on that point. As Dick mentioned, our shareholders just voted overwhelming to approve the issuance of common shares to complete the Power Fuels merger. We expect the transaction is going to close very shortly.

Power Fuels shareholders, as we’ve said before, just to review it that we’ll receive 95 million Heckmann common shares. The shares are subject to 2 year lock agreement. They’ll also receive 125 million in cash, and Heckmann will assume and refinance approximately 150 million of Power Fuels debt.

So if you add that up, the cash needed for the transaction is the 125 of cash, plus the 150 of debt, plus season expense and that all totals to 296.5 million. To fund this cash need, as I’m sure everyone saw, we recently completed $150 million add-on to our existing unsecured notes, and we’re in the process of amending and upsizing our current revolving credit facility.

The new credit facility is going to be a $325 million facility, and we will draw 146.5 million to balance out the cash portion of the funding. So on a Pro Forma basis, using the 930 balance sheet, this leaves us with liquidity of about $178.5 million. So we’re very pleased with what we’re doing with the liquidity profile of the business.

One point I want to just talk about, you might have seen. We originally talked about a $300 million revolver, and I referenced 325. We actually received extremely strong interest from our banks during the syndication process. So we ended up upsizing the revolver side to 325. And that will just be incremental liquidity in the business.

From a balance sheet and liquidity perspective, just to conclude my section here, I want to say that the Power Fuels merger is a significant deleveraging event for the business, it also dramatically increases our liquidity. Debt to EBITDA falls to about 2.6 times. And as I said, our Pro Forma liquidity is now around $180 million on a go forward basis.

With that, I want to turn the call over to Chuck Gordon to talk in more detail on operations.

Chuck Gordon

Thanks, Jay. If you turn your presentation, I’ll start on page 12 with the Eagle Ford. We had a solid quarter in the Eagle Ford. We continued to add drivers, we have 26% more drivers at the end of the quarter than we had at the beginning of the quarter. And we ramped up the driver population to support one of our big integrated customers that asked us to increase our presence on their site by about 60%. We’re just starting that ramp up now. We really didn’t see the benefit of the ramp up until November. But we started adding drivers throughout the quarter.

Secondly in the Eagle Ford, and this goes back to mirroring some of the product lines that Power Fuels have, we become very, very aggressive in expanding our product offers. We’re doing a lot more work around rigs, hauling both mud and cuttings, and also in the rental business.

And finally, in the Eagle Ford, we have two significant Power Fuels customers that have asked us to work with them in the Eagle Ford and we’re starting to see the benefit of leveraging some of the good relationships that Power Fuels has in North Dakota with some of the same producers that are operating down in the Eagle Ford.

In the Utica, we acquired a disposal well. That disposal well is in startup right now. We should start taking commercial water the beginning of next week. We have a second well that’s set to close by the end of this month. That water will be taking commercial – commercial water by the end of December.

And again, we have a very good opportunity with one of Power Fuels large customers to potentially do a lot more work in the Utica. We have a – we have a trucking operation in the Utica that we’ve just started up at the end of Q3, and we’re very excited about the opportunity in the Utica.

We made a significant investment in the Mississippian Lime in terms of operations over the course of the – at the end of the quarter, and beginning in October, we’ve moved 30 trucks in to Oklahoma, Kansas. We have three yards established. We’ve hired about 40 drivers and continue to hire drivers. And interestingly enough, again, it was another one of our multinational integrated producers that asked us to come to the Mississippian Lime. And they’ve really given us a strong position in Kansas.

So we have three yards there. We have a very strong beginning of a rental business. We’ve moved about 250 different rental assets in Kansas and Oklahoma. We’re very excited about that opportunity. Very, very little of the results from the Mississippian Lime showed up in Q3. We expect to see those in Q4 as we start leveraging the assets.

Moving on in to the gas plays. I think you can see what natural gas did over the first half of the year. Clearly the recount and the completion activity in the natural gas areas weren’t as strong as we had hoped, particularly in Haynesville. I think the good news for us in the Haynesville is that the pipeline volume stayed very steady in Q3 at about 50,000 borrows a day, which is essentially what it was in Q2. So very stable business.

And our overall trucking business stayed very stable. Remember in the Haynesville we converted the business from a mixture of produced water and completion business to all produced water, and that business is very stable quarter-over-quarter. But obviously with the lack of activity, there wasn’t a large growth opportunity there.

In the Marcellus Shale, we have two big large producers that we do have contracts with that we do a lot of work with. The contract in the northern Marcellus is very stable. The one in the southern Marcellus, we expect to grow by about 50% over the next 6 months. We’ve been hiring drivers right along to invest in that growth. And both these large producers have very stringent operating requirements for being on their site. So our – the investment we need to make in training and in drivers is significant before they can work on the customers acreage. But in the – we will see significant growth over the next 6 months.

The good news in both the Haynesville and the Marcellus in talking to our customers is we’re starting to hear that beginning next year they’re going to start moving some rigs back in to the – in to these regions. And I think we’re going to be positioned perfectly for that to happen. It’s been a – obviously 2012 been a difficult year in the dry gas plays, but we expect to see increased activity in Q1, assuming the gas prices move as forecasted. And as that happens, we’re going to be positioned very well.

The final thing that I wanted to talk about, and then I’ll turn it over to James, is that going in to the quarter, we had talked about utilization and capital utilization being very important in one of our goals. During the course of the quarter, we actually sold 50 trucks to keep our fleet fresh. We didn’t acquire any new trucks, and we moved 30 of our trucks to the Mississippian Lime. So what we’ve been able to do is maintain our trucking revenue and actually grow it slightly, but significantly reduce the number of trucks we have in the legacy plays, by driving utilization of those assets up.

And finally on the DSO front, we managed to drop a couple of days off our DSO during Q3. The good news is, is we had a significant improvement in October, and have a target to reduce DSO to about 85 days by the end of the year. So overall, it was a solid quarter for us, certainly some difficult headwinds in the dry gas areas. But I think we’re positioned very well as we move forward both in oil plays and the dry gas plays.

With that, I’ll turn it over to James who – and he’ll explain what we’re doing with the AWS investment. James.

James Devlin

Thanks a lot Chuck, I appreciate it. If you’ll look at slide 14 on our deck. Many of you are aware that we closed the AWS, at least our majority investment in it, in September 10. We wanted to highlight this, it’s not large in and of itself, but it’s really an example of our strategy to move beyond trucking, being an integrated environmental services provider. And it’s really the epitome [inaudible]

… with respect to disposal and reprocessing, and eliminate a lot of unnecessary trucking out of the Marcellus. So again, it’s economically sustainable, and clearly it’s environmentally sustainable, given a reuse of that water, and it’s a good win for our customers and a really good project.

The other thing I’d like to do at this time is point out some personnel that’s really responsible to make that happen. And that John Luey’s, Heckmann Corp. EBP of business development really led that along with Chuck Gordon, just really an example of getting close to our customers, trying to understand what their needs are in developing solutions that are good for our shareholders, and certainly good for our customers in the environment. So a nice win there.

Again, as we look at the project thus far, our Pro Forma [inaudible] contemplated about 3,000 barrels a day. Just last week we ramped up to 4,000 barrels a day. So we’re pleased that we’re ahead of our Pro Forma, which we thought was very, very obtainable. And we anticipate the plant ramping up to honor about 6,000 barrels a day in Q3 of 2013. So we’re exceeding Pro Forma. It’s got extremely attractive internal rates, returns that are in significant access of our weighted average cost of capital. So very, very important as we think about capital efficiency and utilization. And it’s got the capability of processing up to 12,000 barrels a day, and there’s additional footprint to expand if our customers need us to do so, or introduce other process and technologies at that site to take advantage of it, assuming that permitting will allow us to do that.

In closing of that, again, a great project and we’re very, very excited about the first steps of it.

If you’ll go to slide 15. Again, another great quarter for the recycling division, formally Thermal Fluids. And I’d like to really recognize the executive team at Thermo Fluids, Ted Sinclair, overseeing the operations, Mark Kuleck, Chief Financial Officer and also Todd Bogart, Chief Marketing Officer, along with great field leadership from our regional managers. They put in another solid quarter and they continue to build on gains in the business. And we’re really excited about where it’s going.

On the year-to-date basis, our TPM EBITDA is 2 million than same period prior, so we continue to build on our record. TPM EBITDA and we continue to perform the business well, and we’re really excited about it. It generates, and continues to generate outstanding cash flow. Our maintenance capital expenditures, year-to-date and also in the quarter, are less than 4% of our total generated EBITDA.

So again, low capital intensity, high, high cash flow and very good earnings, visibility, and I’ll talk about that in a minute, how we price and how we preform relative to some of the energy indexes, of which we try to compare ourselves against.

In the quarter in Q3, our revenues were up 14% year-over-year. Our reprocessed fuel oil, basically what we sell on the backend. Unit price went up about 11% in the quarter compared to same period prior. But at the same time, WTI oil was only up 3%, and the other index that we compare against, which is flat 6%, was actually down 1%.

So again, our pricing strategies appear to be working well, our allocation strategy on where we sell in the selection, the vertical markets that we sell our reprocessed fuel oil is working very, very well. And I credit the entire team for making that happen.

During the quarter, some other positive developments. We renewed and extended a contract with one of our larger refining customers that will result in approximately $5 million in incremental annualized EBITDA. We’re very pleased about that. And also, another feature of this contract, and it matches up with our strategy of being able to pass through fuel surcharges through our transportation network, back to our customers and users. We really got that accomplished over the last year and a half. Our customers, which we truck to. Our next step was on rail, to be able to pass through the rail fuel surcharge. So that is yet another element of volatility of which we insulate ourself. And we have better transparency in our future earnings as well.

Additionally, we did enter the California market, which is the single largest market in California. It’s about 100 to 120 million gallons a year, and we’ve got a great deal of traction with respect to growing organic volume. Our sales, organic pipeline is already around 1.7 to 2.2 million gallons of growth. And the exciting part is, that’s a market that’s been under service and it’s at significantly lower purchase oil cost in our company average. So it’s going to be highly accretive as we continue to grow that business. We managed to leverage the existing capital infrastructure, and it’s all incremental to grow that from there.

Lastly, talk about two internal projects that are coming online that I referred to last earnings call. Our antifreeze plant expansion to double capacity at our Las Vegas antifreeze remanufacturing plant is on track and are batch processing today. We’ve doubled capacity enabling us to sell and additional or incremental million gallons a year of reprocessed antifreeze. It’s going well. And we should be in full production within the next couple of weeks, is their expectation.

In addition to that, our filter processing plant, which is our third one, will be coming on line in Texas, and be coming online probably the end of November, and will begin contributing. Both those projects have return on invested capital. The antifreeze plant is about 120% return on invested capital and our filter plant’s about 60. So really good projects, really efficient, enables to be vertically integrated for our customers and also get a great return for our shareholders.

In closing, we’re very, very excited about the trajectory of this business and we expect a good finish to the year, based upon what we’re looking at now.


Mark Johnsrud

Thanks, James. I’d just like to take a few minutes and provide an update on the Bakken. The Bakken, in general – in the general area is about 15,000 square miles, but in the last year to year and a half we’ve started to see it grow because we’re starting to take a look at the Montana side of the Bakken, continues to expand. And companies drilling in that area are having very good results.

I’d say overall we are seeing technology becoming a bigger and bigger factor in the region, and we’re seeing more down spacing. Rigs are much more efficient than they were before, and as the area grows, we’re just seeing more activity outside of the normal traditional area.

We’re hearing a lot of questions about where returns are at, and we’ve seen one leading operator recently has stated that at a $60 oil price, they’re still seeing internal rate of return of in excess of 20%.

One big factor that’s realized that has changed in the last three to four months, is that the discount WTI that has been a problem for Bakken producers, is starting to change, because they are able to deliver oil to the Louisiana sweet market as refineries are able to accept rail cars. And that is making a difference of anywhere from 5 to $20 a barrel. And so it’s a very big positive impact for the basin.

Oil production in the Bakken continues to increase. For the month of September, the oil production will be over 750,000 barrels a day. At the beginning of the year it was just a little over 500,000 barrels of oil produced per day.

There’s currently approximately 5,000 Bakken and Three Forks wells in production. And we believe based on the current number of rigs in the basin, that we’ll drill an incremental 2,500 wells in 2013.

Each of the wells creates a multi-year annual revenue opportunity for our company.

With regards to efficiencies, because I think that’s something that companies are really focused on, is how do they operate more efficiently. One thing we want to note though, is the rig count, we do not believe is a very good proxy for industry activity. Drilling completion efficiencies have made a significant difference for overall operations with rig count. You know, the efficiency would be somewhere between 20 and 40% positive for companies that will have – excuse me. Drilling days have reduced from 30 days to 20 days. And the impact is somewhere between 20% to 40% increase in overall activity.

We seek – please turn to page 17. Power Fuels, our activity was extraordinary strong in the first half of 2012, and with activity normalizing in the second half of the year. We believe that most operators spent quite a bit of their capital budget in the first half of 2012. Many were not inclined to expand budgets from the year because they were concerned of fiscal cliff, political uncertainty and economic conditions, both in the U.S. and in Europe.

We see that in 2013, we will – companies will reset their – they’ll reset their capital budget. So far what we anticipate is that in North Dakota, with the current number of drilling rigs, we will see 2,500 wells drilled, but at the same time, there’s approximately 188 rigs in North Dakota. And we will see about 25 to 28 rigs in Montana. And that’s a big difference versus last year. Because last year at this point there was only one rig. Again, as I said there’s 25 drilling in Montana. And as a result, we will – we have not really seen a major decline in rigs in the Bakken.

For the first half of – the second half of 2012, per the proxy statement, we are anticipating revenue of $180 million, 58 million in EBITDA, or that would equate to about 32% EBITDA margin.

The fourth quarter of this year results, we’ll see some more normalized margins. And we will – and we’ll see a few less days as the results of work days as a result of holidays.

Unidentified Company Representative

Thanks Mark. Okay, that’s kind of the review. If you go to the final page 18, the Power Fuels integration along with our company. We never competed with Mark. We’ve not had any overlap with customers where we had to compete. So the transition should be seamless. We’re going to maintain our existing regional offices, maximizing best practices obviously. We’re not expecting nor are we projecting cost synergies. These are going to be revenue synergies as Chuck talked about in the Eagle Ford and the Utica just to start. There are customers of Power Fuels that have asked us about Power Fuels to move in to those shales with them. And of course, that’s exactly what we’re doing.

We are establishing a common accounting platform. The HEKnet system is really attractive to our customers. They want it installed as fast as we can do it. We need to have a common platform to do that. So we have picked a platform that we already had installed, and we’re going to use it across both the recycling business of James, and across Mark’s business, and that is the paperless collection and safety and compliance records that we do for the customers.

As we said on the last call, one of the customers has reduced its invoices from an annual run rate of 18,000 to 48. So it’s a big deal. We also are the only company that’s allowed to file the environment forms in Louisiana electronically. We expect to continue to be approved by other states to do that, taking that burden off the customer, and giving us more products to sell and to deliver.

And then with respect – you know, I’ve said on lots of calls, Mark built his business internally, no acquisitions. And as we have gone through the diligence, we’ve learned a lot and we’ve seen him doing things that frankly never occurred to us. Maybe it was because we were so busy or maybe it’s because he’s just smarter than we are. But we have seen some things that he does, and we have already begun as Chuck said, to deploy some of these ideas. Not only the rental business, but also we’ve looked at the way he configures his trailers. We think there’s a big advantage for us in that.

And then as we have been working on this transaction for the last several months, there will be lots of HS&E conformity across the company’s, purchasing, fleet management, regulatory compliance, benefits and insurance. I mean, you just go down the list. SOX compliance, accounting, and as I said at the outset, you can see from this presentation and as we go forward, at our size now, we will be able to offer you the transparency that this was very difficult to offer when we were a lot smaller.

So really, with that, I think that summarizes everything we wanted to talk about. It should give you a flavor of everything from Louisiana to North Dakota. And now we’ll take questions. Operator.

Question-and-Answer Session


(Operator instructions). Our first question is from the line of Hamzah Mazari with Credit Suisse. Please go ahead.

Hamzah Mazari - Crédit Suisse AG, Research Division

Good afternoon. Thank you. The first question is just on CapEx. You know, you folks talked about being at an inflection point. Maybe if you could give some color on what is normalized CapEx for both your businesses and it seems like you’re still in a build-out stage on the recycling side, but I assume that that doesn’t cost a whole lot. If you want to just talk about that?

Jay Parkinson – CFO

Hey, Hamzah, it’s Jay. I think that what you’ll see, you know, for a pretty aggressive maintenance CapEx line for this business, the combined business going forward, you know, you’re probably somewhere close to the run rate depreciation, so maybe in the $80 million range and then there’s some growth CapEx above it. That is very flexible. As you can see, we can scale the CapEx, even the maintenance CapEx up and down very quickly to react to market conditions, which is something I like about this business.

I think that growth CapEx on what you’ll see going forward is we’ll be able to tack onto the network to lever the network but the CapEx number will be – the growth CapEx number will a lot smaller just because a lot of the really intense capital investments are behind us. So I would look for something probably half again on what the maintenance CapEx line is, you know, on a go-forward basis for something in the normal range.

In any case, we see it being well inside of EBITDA.

Hamzah Mazari - Crédit Suisse AG, Research Division

That makes sense. And then could you talk about if you saw CapEx differ or increase incrementally as you went through the quarter? And any trends in Q4 that you can talk about. You know, are you seeing deferrals of CapEx accelerate and what gives you confidence that, you know, 2013 they’ll be a reset?

Mark Johnsrud – CEO Power Fuels

Hamzah, this Mark. Say, I would say from a CapEx from our customer’s standpoint, we’re really not seeing, you know, we’re seeing some deferral, but at the same time, in North Dakota anyway, we’re – in September, there was a record number of drilling permits issued. So there’s maybe a little bit, like everybody’s been concerned about the political environment, the fiscal cliff, and I think that everybody wanted to work inside a cash flow. You know, not all customers, but I’d say categorically that’s kind of what we were hearing and – but I think on the positive side is, you know, in September, as they’re anticipating next year that with record number of drilling permits, Lynn Helms who runs the Industrial Commission, the Minerals Resource Group in Bismarck, he’s forecasting next year that we’ll see more rigs drilling next year and I think that’s kind of what we’re hearing across the board for basin.

Jay Parkinson – CEO

Yeah, and I think, Hamzah, the same thing as Chuck told you, we’ve got some very large customers that are just plowing through this. I think – I think one of the things that happened, Mark alluded to it, I think it’s important that the spud-to-spud, the time of drilling per rig has been dramatically reduced. So what we think we have seen is that a lot of the producers have really kind of gone through their capital equipment budget quicker than they through they would because of advances made in technologies. And so they’re – you know, kind of coasting to the end of the year, but we just haven’t seen anybody that’s bearish about next year in terms of the customer’s profile.

And as Chuck said, even from the standpoint of natural gas, we hold these prices or go up from here, you’re going to see drilling again next year.

Hamzah Mazari - Crédit Suisse AG,

Great. Thank you.


Your next question is from the line of Scott Graham with Jefferies. Please go ahead.

R. Scott Graham - Jefferies & Company, Inc.,

Hey, good afternoon. So the – if I’m calculating this correctly, the Heckmann Water business looks like it increased revenues on a comparable basis by something in the 20% territory. Does that sound right?

Jay Parkinson – CFO

Oh, that’s probably a little more than that year over year. I guess the other point I’d talk about, you’ll see all this – this is Jay, you’ll see all this when it comes out. The water business also grew revenues sequentially quarter over quarter as well.

R. Scott Graham - Jefferies & Company, Inc.,

Yeah, no, I’m calculated that. Keystone was – I’m talking about actually the organic and if I wasn’t clear, sorry, but there’s Keystone in there as well, right? So whatever the case, you know, 20, 20% plus, so that’s a – that’s a pretty good number. I think that the, you know, just the question from here is that if you’re – you’re obviously gaining share because of the activity that’s slowed down. The share gain is coming from getting into being – becoming larger in some of the – adding more shales. So I guess I’m wondering when do we – is this – let’s say if the growth or if we get a zero growth and maybe even negative growth right now in the spending that’s taking place, let’s say second half of this year, maybe even first half of next year, what is your thinking that you can maybe beat that and outperform the market by? Is this a quarter where we can extrapolate for a couple more quarters in terms of how much you can beat the market by?

Charles R. Gordon – President, COO

That’s a good question, Scott, and I think one thing we did see in this quarter is you did see – in particularly the legacy Heckmann basin, you did see guys reign in and we were able to grow our share. I think there’s two things with that. Number one, is unlike a lot of the other guys, because as you point out, I don’t know of really anyone else that I’ve seen at least that’s operating in the shale to some degree to sequentially be able to grow revenue. One thing that’s different about our business model is we have a very high degree of recurring revenue that’s going to – it’s really a function of marginal cost economics. So if on a GAAP level, if you think of a marginal cost economic is somewhere in the $0.75 per mcf range, you know, we have a lot of production water and a lot of recurring revenue basis built up and we think we’ll continue to grow and is not a function of, as Dick alluded to, what is the rig count this month versus last month. That’s been a big part of the business. And I think the other thing that we see going on with this quarter is, the reason we’re able to grow the revenue business despite the market environment is we’re really coming to size and scale and network and we’re really getting to the point where we can lever the network. A lot of the conversations we have with customers as the shales consolidate tend to be a national level, you’re seeing more customers operate in multiple basins and we’re really getting the opportunity to rationalize and lever the system we put in place.

James Devlin – Recycling Division

Scott, I’d make one other comment. When Mark and I, right after the transaction, went around to see some customers and we met with one of the very largest customers in the world and the first question he asked was, okay, we love this deal, how fast can you get bigger? So I mean, they want big vendors who they can count on for [inaudible], that they can count the fact that – and in fact in this particular case, we’ve hired 65 drivers. We’re in the process of hiring 65 drivers and we’re going to train them for 90 days before they can ever drive a truck and create a revenue because that’s what the customer wants.

R. Scott Graham - Jefferies & Company, Inc.,

Fair enough. Two questions now for Mark and kind of Chuck here as well. When we look at the EBITDA margin for the Power Fuels business, it’s, you know, obviously a step down from where it was upon the announcing of the deal and you know, you disclosed a lot of that in your filings. I get that. I was just kind of wondering what, you know, Mark, you were seeing that was really the driver of that margin decline. When we say that’s a more normalized, is this a number or can we get back up over 40 when, you know, activity kind of reaccelerates or is – what do you mean by normalized exactly, I guess would be my single point question.

Mark Johnsrud – CEO Power Fuels

What I’ll say is that there was a – there was a lot of activity in the first half of 2012 without question. And we worked very hard and we were able to obtain a higher margin. If we go back and take a look at some normalized pieces as we disclosed in the past, we look over the last four years, it takes us back into 34% EBITDA margin. And so I think that, you know, that’s more of the normalized mid-30s is what our business space really looks like to me.

Dick Heckmann - Chairman

Scott, and I – we made this transaction knowing that there was a spike in the Bakken and we knew what his normalized margins were and so did Mark and we – as you properly point out, we pointed those out very specifically in the proxy materials. And you know, we’d really rather deal with a normalized margin. I think the answer is mid-30s is his normalized margins and Chuck, do you want to talk – do you want to say anything about where you’re going with yours?

Charles R. Gordon – President, COO

Sure. I think that as we look at the HWR margins, it’s important to remember that our margin is, today is primarily a trucking margin and we believe we can get the trucking margins up over 20% going into next year. Our challenge now is to move into some of the additional product lines that Mark’s doing, particularly rentals. We’ll certainly enhance the EBITDA margin of our business. And I haven’t put all that together yet for next year on what we expect a weighted average to be, but certainly as we move into some of the product lines, some of the rig work that Mark does, some of the trailer configurations he has, and then also expand our rental business outside of North Dakota, there’s a significant opportunity for margin enhancement on the legacy HWR business.

Dick Heckmann – Chairman

And I would add, Scott, I would add that we also are going to be real happy about rising natural gas prices because of the pipeline is a huge EBITDA contributor with very – almost no marginal costs for additional revenue. So I think that the big operation that we built in some of these dry gas plays, those margins will improve with the gas prices.

R. Scott Graham - Jefferies & Company, Inc.,

That’s fine. That’s actually where my final question was going. Mark, based on your and chuck now have been working together for a little while here and I know that Chuck, you’ve been developing a number of metrics to improve the operations. I was kind of wondering how that was progressing because you know, while you’re saying, Chuck, 20% plus EBITDA margin in water, you know, a lot of that is D&A, right? So the – so the operating margin, you know, carve out of that, it looks like about 7-percent-ish, which is a lot higher than where it is now, but is that kind of the limitation that you think or you know with these enhancements, can you get that to a double-digit operating margin and hopefully, Mark, you can weigh in on this question as well.

Charles R. Gordon – President, COO

Well, I’ll take the first shot and the have Mark follow up. We need to get the operating margin double digit and that’s certainly what we’re going to be targeting to get through, you know, as we go forward here to get the kind of return on capital that we know we need to get, that operating margin needs to be double digit. And I think we can get there. It’s going to be a combination of, as Dick said, the gas plays needs to come back and I think we see the beginning of that now. We certainly have to increase the – continue to increase the utilization of our trucks and we made significant progress this quarter but we still have work to do. And then we need to enhance the product lines and change the portfolio a bit with more rental, more rental business and more rig business. And I think we – as we tie that together with the recycle strategy and come out with a full service offer, we have a significant opportunity to hit those kinds of targets. Mark?

Mark Johnsrud – CEO Power Fuels

No, I completely agree, Chuck, especially with regards to the recycle. I think it’s very much underestimated [inaudible] earnings projects like the Appalachian Water Program pulls together because now you’re [inaudible] for the consistent use of fracing. And I just think there’s a – that there’s something that we really can help our margins out by adding incremental services to what we have today.

Charles R. Gordon – President, COO

Like everything else, Scott, the product makes business.

R. Scott Graham - Jefferies & Company, Inc.,

Nope, I’m in agreement and it sounds to me like, you know, from what I’m hearing from you, Mark, is that you think that the water margins on the Heckmann side, you’re in agreement that they can be a lot higher potentially, you know, north of double digit?

Mark Johnsrud – CEO Power Fuels

I’m going to say, yes, but I think it’s, as a combination of providing more services. If we’re just going to say we’re going to do it better, cheaper, faster, I don’t think that’s right. I think it’s how do we add value to what we’re doing and we do that by adding other services.

R. Scott Graham - Jefferies & Company, Inc.,

Got it. Thank you. And not to forget the other gentleman in the room, James, it looks like your operation had a nice quarter. Congratulations.

James Devlin – Recycling Division

Thanks a lot, Scott.


Thank you. Our next question comes from the line of Brian Post with Roth Capital Partners. Please go ahead.

Brian W. Post - Roth Capital Partners, LLC,

Good afternoon. Thanks for taking my call. I guess the first question is about what’s going on in the Mississippi Lime. That’s a pretty significant investment. Is the revenue that’s going to come for that purely incremental or did the reallocation take it away from somewhere else?

Charles R. Gordon – President, COO

No, what we were able to do is actually move into the Mississippi Lime. Our investment is in driver hiring and training costs. We were able to move trucks out of the existing plays and not lose any revenue at all. We just – we’ve continually driven the utilization of the trucks up. But we’ve moved, I think probably by the end of this month, or certainly by the end of the year, we’ll have 40 trucks and all in the Mississippi Lime working. And we won’t have – shed any revenue in the other plays.

Brian W. Post - Roth Capital Partners, LLC,

Okay. And then a follow up on the AWS acquisition. Two parts to the question. What – there’s clearly running below maximum utilization. What were the things that were holding that back and what can you guys do better as a new majority owner?

Dick Heckman – Chairman

If you look at that business, it’s hitting exactly – actually, it’s over our pro forma so it’s beating our expectations thus far on pro forma. It was scaled up at such a size, at 12,000 barrels per day, you know, we do expect that looking at where we are today, if we stay at a ramp and say 4,000 barrels a day up to six, that would be a 50% improvement on where we are today and we’ll be achieving and beating our pro forma, again, which is in significant excess of our weighted average cost to capital, so we’re very happy about that investment. It’s sized to do significantly more but you know, we’re going to make the returns that we projected we would.

Dick Hartman - Chairman

Brian, the other side – the other part of that answer is this is – that question goes to everything this company has been doing for the last 2 ½ years. And that is, you build it, they’re going to come. And this plant is built for an expansion of the Marcellus and has every new well goes into the Marcellus, more water needs to be recycled and reused and you can’t recycle 10,000 barrels a day until you can recycle one. And the same plant that recycles one doesn’t make any sense recycling one unless it can recycle 10 or 12. And it’s the same thing with our yards and the system. And as Jay and I have both pointed out, and Mark has alluded to this inflection point where we think we are now, where we are in every shale with these services and Appalachian was underutilized because there wasn’t enough water in the area to go there. But the producers up there literally came to us and said, would you please buy this and would you please do this and if you do it, and run it, we’ll get you the water because we want to know when we start drilling these well, we’ve got to know where that water’s going to go. And we’ve got to know what the rules are. So this is kind of this classic inflection point where we invest in the assets and then wait until they come. And Chuck – the same thing with the 40 trucks going to the Mississippi Lime, you can’t possibly be efficient in the first six months you put trucks on. You know, your dispatchers have to learn how to do it. I mean, in the [inaudible], we’ve gone from one ship to two ships. So we’ve got the same truck driving twice as much, hauling twice as much water, which elevates, you know, which gives us the ability to take – put it somewhere else. And that also comes as the water volume goes up, when 2,500 more wells go into the Bakken next year, there’s going to be a lot more water and you’ll get more efficient at it. We will get more efficient at it.

Brian W. Post - Roth Capital Partners, LLC,

Great. Thanks. As far as the valuation you guys paid for, was it done in a traditional Heckmann multiple or did you guys get that a discount? For the AWS.

Jay Parkinson - CFO

You mean traditional in that we always get great deals?

Brian W. Post - Roth Capital Partners, LLC,

That, but usually you [inaudible] target 4 to 5 times EBITDA.

Jay Parkinson – CFO

Yeah, I think that’s one that’s ramping up. I think, you know, you’re probably directionally correct and I think the other way we like to look at these is not just EBITDA multiple but what is the return on capital profile look like for the business. And I think as James alluded to, we believe the return on capital there significantly [inaudible] our cost to capital. And then if you – we also, again, isn’t reflected purely in the pro forma numbers but that’s a very strategic transaction for the company going forward as well. There’s a lot of additional you can put on that.


Now, we’re nearing our end time. We do ask that you please limit yourself to one question. Our next question. Our next question is from the line of Gerry Sweeney – Boenning and Scattergood Please go ahead.

Gerald J. Sweeney – Boenning and Scattergood

Good afternoon, guys. I have one question, but it may have three short pats. Hopefully that will do. I’m fairly interested on the Recycling side. You know, TFI, obviously the recycling of sands, muds, drilling, I think that’s exactly where TFI is looking to go and expand their product offering. How big is that market? What type of margins were people getting and what do you need to expand TFI/Recycling to start getting into the other markets? What needs to be done to sort of expand that?

James Devlin – Recycling Division

We’re currently fine tuning the size of the market. It was more significant than we even imagined. You know, so we’re very comfortable that if we could make this drill cutting in mud, we could make this a 5 to $750 million a year business and still have market share less than 10 or 15%. So we see plenty of room to run there. You know, the – some of the projects that we’ve looked at thus far, which we’re engaging in pursuing have EBITDA margins north of 50, but more to Jay’s point, have return on invested capital in significant excess of what our weighted average cost to capital is today. You know, we hope, but there’s no guarantee that we might be in a position to move towards an LOI in the very near future as we’re looking at two projects as we sit here today.

But again, a significantly sized market. And then also, we’re interested in the disposal too. We want to be vertically integrated. We’re going to process three and recycle that volume to the extent possible, but we think that we can squeeze more margin out with a vertical integration play for a Class C exempt disposal site and we’ll be looking hard at that as well.


Your next question is from the line of Eric Stine with Craig Hallum. Please go ahead.

Eric Stine - Craig-Hallum Capital Group LLC

Hi, everyone. Thanks for taking the questions. All right, I was just wondering if you can touch on the competitive environment in the Bakken and I guess I’d like to focus on the equipment leasing part. You know, hearing that it is getting a little more price competitive. So number one, are you seeing that and number two, just wondering how you see that playing out longer term just because – I mean, I know that’s your highest margin business. You know, but arguably the lowest entry too.

Charles R. Gordon – President, COO

You know, good question. I guess the way I’d take a look at it is we are seeing more companies up there. We’re seeing more competition. But at the same point, I think that as we become – and we’ve been pushed very hard on is to become a one-stop shop. It’s a lot easier to do business with one company that provides all those services then to go out and do – try to work with four or five vendors. That’s what we’re hearing from our customers.

The second part is that as there gets to be more and more of a focus, as consolidation happens at the EMP level, they’re taking a look at how do they reduce the number of vendors that they’re working with, number one. And number two is that they have to make sure from an HS&E standpoint that everybody’s compliant. So if there gets to be groups up there that have smaller product lines, we’re being asked by our customers today to either – if there’s something that we can’t provide, that we can help them get it because they’re not wanting to hand out additional master services agreements. So we see that there’s other barriers that are coming in not only the assess so that you can do it on a, you know, from a small standpoint, the larger companies are not wanting to add additional vendors. Does that answer your questions?


Our last question is from the line of Spenser Joyce with Hilliard Lyon. Please go ahead.

Dick Heckmann – Chairman

This will be the last one we can take.

Spenser Joyce – Hilliard Lyon

Thanks, guys. I’ll make this one pretty quick for you. Can you talk just a little bit about driver retention and training, any color there? Are we seeing any kind of streamlining to that process as far as finding willing and talented guys, getting them and keeping them on the road or maybe on the flipside, are there any frictions or inefficiencies we could still potentially look to iron out going forward?

Charles R. Gordon – President, COO

Well, you know, in start-up businesses like this, there’s always lots of frictions and efficiencies. And we’ve learned a lot about that. I think what we’ve learned the most – the single biggest thing we’ve learned from watching Power Fuels is their driver retention and the fact that they were the first ones that we’ve seen that they certainly were way ahead of us in understanding the importance of driver housing. Your retention goes up, your safety record gets better, your customer care gets better, obviously, with the longer-time drivers and the get tired to sleeping in their cars and in Wal-Mart parking lots. And what we are now doing as we move into other areas is we are providing some of the things that Mark started providing years ago and I think that is a great advantage that we have. And as I mentioned earlier, we got customers that force us to train for 90 days before we can let them loose in a truck. You can’t train a guy for 90 days and then lose him. And so driver retention is – I think going to be one of our great advantages. The other thing I would say is that the bigger these customers get, the more control they want over our driver training and driver retention in terms of oversight and so I think you’ve hit really right at the core issue of I think one of the great advantages that we come to here is what we started there and we’re spending a lot of time with it.


And now we are out of time for questions. I’d like to turn it back to management for closing remarks.

Dick Heckmann – Chairman

All of you folks know where to reach us and we really appreciate your time and your patience on the call. We know it’s tough to do it during the middle of the day and during the market but given the regulations and the constraints that we have, we thought it was the best – the only way to do this and to the extent that you need to talk to us, give us a call and we’ll be happy to give you color. The K will be filed this afternoon, very, very shortly so you’ll get all the detail out of the K – the Q I mean. And the 8-K will be filed and then you’ve got this presentation on the website if you want to go back to it and then call us with questions. Thanks for your time.

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