Natural Gas Services' (NGS) CEO Stephen Taylor on Q4 2017 Results - Earnings Call Transcript

Natural Gas Services Group, Inc. (NYSE:NGS) Q4 2017 Earnings Conference Call March 8, 2018 11:00 AM ET

Executives

Alicia Dada - Investor Relations

Stephen Taylor - Chairman, President and Chief Executive Officer

Analysts

Robert Brown - Lake Street Capital Markets LLC

Michael Urban - Seaport Global Securities LLC

Joseph Gibney - Capital One Securities, Inc.

Jason Wangler - Imperial Capital Group, LLC

Operator

Good morning, ladies and gentlemen, and welcome to the Natural Gas Services Group Fourth Quarter Earnings Call. At this time, all participants are in a listen-only mode. [Operator Instructions] Your call leaders for today's call are Alicia Dada, IR Coordinator, Steve Taylor, Chairman, President and CEO.

I’ll now turn the call over to Ms. Dada. You may begin.

Alicia Dada

Thank you, Erica. And good morning, listeners. Please allow me a moment to read the following forward-looking statement prior to commencing our earnings call. Except for the historical information contained herein, the statements in this morning's conference call are forward-looking and are made pursuant to the Safe Harbor provisions as outlined in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements, as you may know, involve known and unknown risks and uncertainties, which may cause Natural Gas Services Group's actual results in future periods to differ materially from forecasted results. Those risks include, among other things, the loss of market share through competition or otherwise, the introduction of competing technologies by other companies and new governmental safety, health or environmental regulations, which could require Natural Gas Services Group to make significant capital expenditures.

The forward-looking statements included in this conference call are made as of the date of this call and Natural Gas Services undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances. Important factors that could cause actual results to differ materially from the expectations reflected in the call include but are not limited to factors described in our recent press release and also under the caption Risk Factors in the Company's Annual Report on Form 10-K filed with the Securities and Exchange Commission.

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

Stephen Taylor

Thank you, Alicia and Erica, and good morning. Welcome to Natural Gas Services Group’s fourth quarter 2017 and full-year earnings review. We are pleased with our full-year 2017 results and are encouraged that our fourth quarter results provide an indication of recovery in our business.

For the first time since the first quarter of 2015, the beginning of one of the worst cyclical downturn in our generation we saw a quarterly increase in rental revenue. Our sales revenue for compressors and aftermarket partner services were also strong throughout the year.

Additionally, pricing has shown some recent strength something we are certainly please to see. Our growing contracted rental demand we have the largest backlog of compression fabrication working over four years. As we have previously announced we entered the larger horsepower arena now two years ago and recently accelerated our penetration into that market. Our activity in this segment is going well and we look for it and the rest of our business to grow in 2018.

As we review the financials I’ll note that this fourth quarter had a couple of moving pieces in it. Primarily the reduction in the federal income tax rate in Q4 and the attended very large increase net income and some minor inventory adjustments due to lower of cost to market in obsolescence reviews. Considering all these factors are part of our earnings per share this quarter was $1.42. However, without the effects of the tax decrease and the inventory adjustments our adjusted earnings would have been $0.05 per share.

Now with all that said, let's get to the details. Starting with total revenue and look at the year-over-year comparative quarters. Our total revenues were essentially flat running to $16.7 million in both the fourth quarter 2016 and 2017. Rental revenues were up approximately $1.1 million this quarter compared to the same quarter last year, our total sales revenue was up a little over $1 million.

For the sequential quarters of the third quarter 2017 compared to the fourth quarter total revenues were up about 5% or nearly $750,000 to $16.7 million in the fourth quarter 2017 from $15.9 million in the third quarter 2017. Rental revenues were up by a little over $120,000 this quarter in total sales increased over 15% or $650,000 compared to the third quarter 2017. This is the first quarterly increase in rental revenues we have seen since the first quarter of 2015.

On a full-year basis for 2017 total revenues decreased 5.5% to $68 million; we saw a significant shift in our mix between higher margin rental revenues and medium margin sales revenue. In 2016, our mix was 80% rentals and 20% sales and shifted in 2017 it was 70-30 mix. As I refer to gross margin on this call I am describing a non-GAAP adjusted gross margin that does not include depreciation.

Looking at our gross margin comparing the fourth quarter 2016 to the current quarter, total gross margin declined from $9.1 million to $7.9 million. This decrease was due to a combination of lower overall revenues, software margins in sales and rental this quarter and a mix shift toward sales.

I’ll get into the specifics on these as we talk about the individual product launch. Sequentially, total gross margin decreased a little over $385,000 to $7.9 million, which was 47% of total revenue. On a full-year basis, 2017s gross margin was $33 million, a decrease from 2016s gross margin of $39.8 million.

Selling, general and administrative expenses for the year-over-year quarters increased a little over a $100,000 which was down 1.5% of the sequential quarter. SG&A increased 12% in the full-year period, primarily due to non-cash stock option acceleration charge taken in the first quarter 2017.

Operating income and comparative year-over-year quarters were down approximately $750,000 get slightly over $200,000, primarily due to the rental sales and mix shift we experience in a high level of relatively fixed depreciation expense.

Sequentially, operating income fell from $600,000 to a little over $200,000, primarily resulting from the decline in rental margin and $273,000 inventory charge related to lower cost of market and obsolescence adjustments in the fourth quarter. Without this adjustment, operating income would have more than doubled to almost $500,000.

On a full-year basis, operating income was $1.6 million in 2017 compared $8.4 million in 2016. The current quarter and full-years net income was dramatically impacted by the recent tax changes and the impact from the lower statutory tax rate.

As such I will discuss net income with or without the legislative impact. Including the tax impact, in a comparative year-over-year fourth quarters, net income increased to $18.7 million this year compared to $1.2 million in the fourth quarter 2016.

Without the new lower tax rate, net income decreased about $350,000 this year compared to $1.2 million in the same quarter in 2016. Sequentially, with the tax law changes, net income rose from a little over $500,000 to $18.7 million. That’s the tax law changes, net income declined $170,000.

The full-year comparisons for 2017 show an increase of $13 million from 2016, including the tax effect and a decrease of $5 million without the impact of the tax law changes.

You can see that NGS recorded very large net income gain of $18.35 million because of recent tax law changes, which resulted in a reduction of the statutory rate of 34% to 21%. This large gain was by the way, the non-cash item, extends from the new lower 21% tax rate being applied to our deferred tax assets and liabilities, thereby reducing the liability on our balance sheet.

Going forward, we expect, although a lot of variables can change this that our total effective tax rate including state taxes will be in the 15% to 18% range, compared to our historical rate of 28% to 30%. However, we would likely not see a significant increase in the available cash in a lower rate because we have historically been able to defer for a large amount of our federal cash taxes due to our higher levels of investments over the years.

As I refer to EBITDA in the following discussion, it is the non-GAAP measure of adjusted EBITDA, which is the same as EBITDA we have used in prior years, but without the impact from the non-cash equivalent retirements we experienced in 2016.

On a year-over-year quarterly basis, EBITDA declined from $7 million in the fourth quarter 2016 to $5.6 million in the fourth quarter 2017, largely due to the mix shift between rentals and sales and lower rental gross margins.

Sequentially, EBITDA decreased $5.9 million to $5.6 million. However, taking into account the previously mentioned inventory adjustments, sequential EBITDA was essentially flat. Comparing the full-year of 2016 and 2017, EBITDA decreased from almost $31 million to about $23 million. EBITDA margin this year average 34% of revenue.

On a fully diluted basis earnings per share this quarter was $1.42 per common share with the tax changes or $0.03 per common share without the tax impact. Our full-year EPS was $1.51 per common share including the tax changes and $0.11 without. Without the non-cash inventory adjustments and the 2000 tax adjustment, EPS was $0.05 per common share this quarter.

Total sales revenues which include compressors, flares, and after-market activities for the year-over-year quarter increased $1 million or 27% to $4.9 million in the fourth quarter 2017. The largest sales increase we saw were in flare sales and compressors parts. Our margins decreased from 29% to 21%, but this is primarily due to an excessively high margin sale we had in the fourth quarter 2016.

For the sequential quarters, total sales revenues increased over $650,000 or 15% to $4.9 million in the fourth quarter 2017, again led by flares and one-time sale of gas engines that contributed to higher part sales. Margins decreased from 24% to 21% due to the inventory adjustment were recorded in the fourth quarter 2017. Without that adjustment the margin would have increased to 26%.

Total sales revenues for the comparative annual periods were up 48% or $6.6 million to $20.2 million. Compressor sales were half of that increase with flares and part sales splitting the balance of the incremental revenue growth. Total sales gross margin increased from 18% last year to 19% this year. Compressor sales for the fourth quarter were $2.1 million and an 11% margin, compared to $2.6 million in the fourth quarter 2016 at a 25% margin. This slight variance in margin was the multiplying effect of a highly profitable compressor sale last year and the inventory adjustments in each quarter.

Considering these changes, the margin would have essentially been the same between periods. Revenue last quarter was $2.7 million at a 17% margin. Although the gross margins have been somewhat variable, we continue to deliver industry leading margins. Our sales softened a bit in the fourth quarter. We ended 2017 with $13.4 million in compressor sales, a third higher than the $10 million recorded in 2016. Additionally, our compressor sales gross margins increased from 12% last year to 13% for the full-year. Without the inventory adjustment, our compressor sales gross margin would have been close to 15% for 2017.

Our compressor sales backlog remain strong at an approximately $7 million as of December 31, 2017. This compares to $6 million at the end of December 31, 2016. Rental revenue decreased from $12.5 million in the fourth quarter 2016 to $11.4 million for this current quarter. The gross margins coming in at 58% for the current quarter. Sequentially, rental revenues slightly increased from $11.3 million to $11.4 million. Again, the first sequential increase in three years.

Gross margin decreased to 58% this current quarter compared to 62% in the prior quarter. This decline was primarily due to higher lubricating oil costs and increased makeready and overhaul expenses. Most likely we have seen in past periods of increasing activity, we will likely experience higher makeready expenses going forward as we prepare rental equipment to go out on new rental contracts. Without these higher expenses, rental gross margin would have been 60%.

Looking at rental revenue on a full-year basis, revenues were down from $56.7 million to $46 million with our gross margin averaging 61% throughout 2017. From a pricing perspective, our average fleet rental rate this quarter was down 6% from the year ago quarter, but up almost 1% from the prior quarter. In the past, I have also reported what I called our spot rental pricing which was the average new set pricing in the most recent quarter. Now however, with more of the larger horsepower equivalent being set, those average rental prices are being skewed so they are no longer meaningful, and I will discontinue reporting them.

Fleet size at the end of 2017 was 2,546 compressors or approximately 370,000 horsepower. This is a net addition of 16 new rental units for the year all of which were either larger horsepower units or VRUs. We are putting our money where our mouth is, and dedicating a vast majority of our capital spending which reflects our strategic commitment to these relatively new compressor classes. Our fleet utilization this quarter was 49.5% to 50%, depending on whether you look at unit or horsepower utilization.

Even though we saw an increase in rental revenue this quarter, the utilization is not that reflected that because of the interplay between the larger horsepower units going out which continue more rental revenue per unit in the smaller horsepower lower revenue equivalent that might come back. We should see some upward changes in the utilization as we get more of a balance between the different horsepower classes going out and coming back.

In 2017, we spent a total of $8.3 million in capital expenses with approximately $6.6 million of that on the new fleet compression. 85% of the spending was in the last half of the year for larger horsepower rental units. This is an increase from 2016 expenditures, which were a total of $4.3 million was $3.6 million dedicated to compression. For 2018, we project capital spending of between $20 million to $25 million for rental fleet compression, with 85% to 90% of that being for large horsepower.

We have also committed to constructing a headquarters building for NGS here in Midland. Line has been purchased and constructions starting with anticipated occupancy in the first quarter 2019. Total cost of the building would be a little over $13 million including the land, but we will occupy only 1/3 of it. We expanded the square footage so that other tenants in the building will essentially pay our way.

Our current lease is going to expire mid-year. As we start to canvass the market, we were surprised to discover that the cost to rent office space in Midland is now higher on average in Dallas and Houston. This will enable NGS to break in on this investment after 1 or 2 typical lease terms here in addition, being cash flow and earnings accretive.

Going to the balance sheet, as of December 31, 2017, our total debt remains at less than $500,000, with cash in the bank of approximately $69 million. Our cash flow from operations was $17.5 million in 2016, or 26% of revenue. This compares to 2016 when cash flow from operations was $31.8 million, with the majority of the year-to-year difference being changes in working capital account with the biggest range being the inventory increase to build a larger horsepower equipment.

As I've discussed on prior calls, NGS is present expanding our large horsepower rental offerings. We have historically participated in a small to medium horsepower market, it has served us well and we will continue to compete vigorously in net but the request of customers a couple of years ago, we entered the 400 horsepower and 600 horsepower market.

Although this was at the depth of the downturn, there were indications that larger horsepower equivalent could be a good market and we started to move into it. Recently, we had the opportunity to move in even larger 1,300 horsepower market, again at the request of some customers, and this is what we are presently building. This is an opportunistic situation but we were able to take advantage of it due to our cash availability and our engineering and fabrication expertise.

It's also the right time to enter this market based on its fundamentals. The large horsepower market is experiencing very good utilization; pricing strength is growing and increasing scarcity of this equipment makes the market attractive. We also think there's a fairly along runway of activity to keep the demand for this equipment is relatively high level. The size of the higher horsepower market is approximately 75% larger when measured by horsepower with a number of our present customers using the size equipment.

We should also open up new geographical areas and customer segments for us to penetrate. We also see the operating profile as being advantageous. A built-in density of horsepower, higher revenue per location, a tendency towards longer average contract terms and potentially higher incremental margins. It will take some time, but most of our capital build program is directed to this market, and you'll see our fleet makeup change over time towards higher horsepower.

[Indiscernible] add that we are not abandoning in our core fleet, and we have seen our smaller equipment start to move. And we will use that cash flow to help move funding to move into higher horsepower. Supporting this initiative is our continued strong operation ability and balance sheet. We continue to have no debt, almost $70 million in the bank and we are only a handful of companies in the oilfield services space that's never had negative quarterly earnings.

From a macro perspective, activity levels are always subject to oil and gas price dynamics. And counter intuitively, our growth is geared more to oil price and natural gas now. The near-term process and average looks strong and I'm cautiously optimistic about the longer term.

U.S. is now the second largest producer of crude oil in the world, and we'll deliver approximately 80% of the incremental oil supply required globally over the next few years. This of course, means that the Permian basin will lead that effort. With all that, we think 2018 will be a growing year for the Company, and I look forward to reporting on our progress in the future.

That's the end of my prepared remarks, and I'll turn the call back to Erica for questions that anyone might have.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Rob Brown from Lake Street Capital. Please state your questions.

Robert Brown

Good morning, Steve.

Stephen Taylor

Hi, Rob.

Robert Brown

On a larger horsepower market, you talked about kind of a runway there of demand. Can you give us a sense on what's driving that and your view on the – with the runway?

Stephen Taylor

Well, as we mentioned a couple of years ago when we first started looking at 600,000 horsepower, back then we saw three primary drivers. Number one was just larger wells. We're getting extreme lateral lengths, a huge number of stages and frac jobs in these wells. So we're getting bigger wells, number one. So the main thing to remember is more volume means more horsepower. So larger wells, number one.

We saw a trend towards certainly pad drilling. I think 3/4 of the wells now are pad-drilled, so you've got multiple wellheads per location. That aggregates gas, it means a bigger horsepower. And then you start seeing some centralized gas lift facilities. Still a lot of gas lift is done on a wellhead, well-by-well basis. We're starting seeing some centralized facilities too, where they're bringing in multiple wells into larger horsepower.

So we saw those three things going on two or three years ago when we started moving into the 400 to 600. This larger market is – these initial jobs we've got our centralized gas lift, so we're seeing that. Plus, we're seeing just a lot more midstream activity in some of these.

And in this 1,300 horse range is pronged in the smaller to middle part of any midstream requirements, but you're starting to see more pipeline activity out of that, too. So yes, those four items look to be driving all this. I don't think you're not going to reverse any of those items because they're all, number one, the midstream activity is driven by just the number of wells being drilled, gas need to be moved and out of basins, and the other three are economic factors that the operators continue to dwell on.

Robert Brown

Okay, thank you. And then on the make-ready activity, how long do you think that you'll see some margin degradation because of that?

Stephen Taylor

That's a double-edged sword, we kind of hope for long-term because that means there's revenue coming after it. But again, it impacts the margins somewhat. So the only thing I've got to go on is if you look back in coming of the 2008, 2009 downturn heading oil shale stuff in 2010.

And we had quite 12 to 18 months of some pressure on margins, due to some of this make-ready activity. Now again, as we've fairly quickly, as so it's a good thing, but you have to remember, when look at the loan margin that there's revenue coming behind it

And in addition, that's good margin revenue because those incremental margin on the stuff going out. If we're doing make-ready, it's obviously that's the equipment shipping the yard, so incremental margins on this stuff going up is very high. So you have to spend that money before you make that revenue. But I would estimate – boy, this is rough estimate. As long keep growing that rental piece of it, it will – yes, we can see 12 to 18 months of it.

Robert Brown

Okay, good.

Stephen Taylor

I’ll remind everybody also we expensed all that. A lot of peers, I think all of our peers capitalized a fair amount of that some of the maintenance. So ours is all expense, so we take the full hit at that time. So at least, you don't have to worry about showing up later somewhere else. So it's all fully absorbed when we spend it.

Robert Brown

Okay, good. And just to clarify on the CapEx, if you can give some numbers $20 million to $25 million? Was that just the fleet piece, or did that grew the building?

Stephen Taylor

Yes, just the fleet.

Robert Brown

Okay. Thank you.

Stephen Taylor

Yes. And both of those would be spaced throughout the year. Whether you're building the equipment now. The equipment we have more – the engines and compressors are coming in certainly beforehand on that. So the money going out for capital will be spaced up throughout the year, it's not all going to hit at one-time. So whether it's a building or the fleet growth, we'll see it spaced out. And then certainly from a fleet standpoint, as this stuff starts going into – yes, this is all contract – well, 80% of the build is contracted, so as we see that stuff go into service, that will contribute some operating cash back into it, too.

Robert Brown

Okay. Thanks a lot Steve.

Stephen Taylor

Okay. Thanks Rob.

Operator

Our next question comes from Mike Urban from Seaport Global. Please state your question.

Michael Urban

Thanks. Good morning.

Stephen Taylor

Hi Mike.

Michael Urban

So you're talking a little bit faster, my fat fingers could type there, on the inventory charge, was that all in the sales side or was that some of that allocated to the rental piece?

Stephen Taylor

No. Probably I think 90% of it was on the sale. So it's primarily fabrication inventory.

Michael Urban

Okay. Gotcha. And you talked a little bit about the makeready and startup costs, which makes sense, and as you said, kind of a positive essential to meet demand is going up. But what about underlying cost inflation excluding that? In other words, it's a very tight market out there, you are seeing a little bit of pricing at this point, but not a ton? And presumably you've got – presumably you've got to compete for labor with some of the other parts of the oil pads. What are you seeing on that front? And is that something that you're able to fully offset either from an efficiency or pricing or pass-through perspective?

Stephen Taylor

Well, it's tight. That's not new news to anybody out here. Yes, I think the nationwide unemployment for, and I think I heard it’s about two. So everybody wants to work, it's working. And there's not a – there's not a pool of people sitting around and looking for a job. So it gets competitive, but we see this every time in these markets. So you end up having to usually pay a little more to get people in. And this is primarily on the fabrication piece.

The field side isn’t quite as bad. Yes, the problem you have here in Midland is everybody's in the Midland now. And when activity ramps up, you've got a population base out here between Midland and Odessa of probably no more than 300,000 to 350,000 people. So you don't have a big labor pool from. That's why unemployment goes down so quick. So the field doesn't have near as much a pronged because it’s more scattered out, you can pull from a lot of different places.

Fabrication here tends to be the issue. But yes, you have to pay a little more, you have to make a little – better place to work and things like that. But we see it every time. We're able to overcome it every time. As far as covering those costs, it takes all those – trying to push pricing a little. Certainly, efficiencies wasn't what we're doing, costs control and things like that. It's just a multitude of things that we try to do to keep it intact. But there's – there will be constant pressure for a while on it.

Michael Urban

But net-net, I mean you think you can at the very least can hold the margins flat, and maybe improve a little bit of the pricing dynamic gets better, is that a decent way to think of it?

Stephen Taylor

So I think now are you looking at two pieces that were here. One is the sales pricing, if you're building stuff to sell and that's typically you can more so pass it along. Because we know those costs, we're bidding those costs different everyday, so those costs are going up, our prices going up. So sales is pretty easy to handle.

Certainly, you've got to still be efficient from a competitive standpoint, but it’s an easier time to pass this cost through. The rental standpoint, those costs get capitalized into the equipment. We had to be careful with those right there as far as how that goes out.

Now that’s where probably on a more direct operating basis – you have the field comes in to play more so, who were going to watch the labor out there from a gross margin standpoint. Yes, so again like I say, it's a combination of what you can pass through and how efficient you can be in all aspects of the operation.

Michael Urban

Okay. Gotcha. And then last one for me, the timing of the rollout into the market of the large horsepower units still the same unscheduled there fairly kind of ratable deployment schedule over the next year or so?

Stephen Taylor

Yes, I think we had a total of 17 big units awarded to 3 or 4 are already out in 2017. So we've got – there are some gaps in the schedule and the schedule moves a little over once in a while. Generally, you could say over the – through the end of 2018 is they're going to be fairly prorated over that period with - you might have some bumps and grinds along the way – but we intend on having all built by the end of the year. And then maybe some drift into first quarter of 2019 as far as rental rates are implemented.

Michael Urban

Okay. Gotcha. That’s all for me. Thank you.

Stephen Taylor

Okay. Thanks Mike.

Operator

Our next question comes from Joseph Gibney for Capital One. Please state your question.

Joseph Gibney

Thanks. Good morning, Steve. Just a question on your mix, your average horse lot of changes certainly where we've been historically and where we are going now with 1,300 units. But I'm just curious, so out of the – so 85% to 90% of your spend in 2018 on the larger horsepower?

Are you including 400 to 600 in that large horsepower designation or you strictly talking about the 1,300 units there? Just trying to understand sort of your build in 2018 there from an horsepower perspective. And I'd be just curious as you exited 2017, what was your 400 to 600 percentage of your fleet mix? I think you're kind of are on 25%-ish? I'm just curious where that's exiting the year?

Stephen Taylor

Yes, a question – I should have clarified that a little. Yes, when we're talking about – price is a bigger horsepower, we're including the 400 and 600 horsepower units in there, so probably more of a mid to big horsepower build. So the 85% to 90% of the capital going towards big horsepower, we're referencing 400 horsepower and higher. So it's included. Now tell me again on exiting 2017, what were you looking for there.

Joseph Gibney

The 400 and 600 horse – basically the large horsepower percentage of your fleet mix, and was it in that 25% ballpark? Or isn't that moving higher now that you have three or four these largest 1,300 horse units in the fleet?

Stephen Taylor

No, 25% – well you’re talking about the build?

Joseph Gibney

Maybe total number - yes, in total number of units maybe is probably an easier way to think about it?

Stephen Taylor

Well in 2017, we didn't – I think we – what was our – in 2017, we had $6.6 million in new fleet compression. 85 of that was spent in the last half of the year on larger horsepower. And really that – there was probably – there might have been 200 or 300, 400, 600 in there. But the majority of that half year spend was the big 1,300 units.

Joseph Gibney

Okay, okay. And this shift in utilization, I just want to understand sort of what you're indicating there. Obviously, you've got and as you indicated puts and takes with larger horsepower going out in the field and then some come back on the smaller horsepower side.

But you kind of sort of expecting flattish here in 1Q and 2Q as we get going, kind of bouncing along in low 50s or upward bias of second half weighted? I was trying to understand what specifically you're talking about in the cadence of the utilization list.

Stephen Taylor

Yes. Well, I think the bias will be upwards and the pressure will be upwards. But just to resolve this quarter, we had increase from top and the pressure will be upwards. But just to resolve this quarter, we had an increase from rental revenue at really no move – maybe 20 basis point movement in utilization. Not really much to talk about.

So what we're seeing is the bigger horsepower is starting to go out. And we have historically measured on the buy per unit on a unit utilization, which totally changes as we start moving to bigger horsepower. And we're going to need to start reporting on the horsepower and a unit utilization basis going forward in all aspects whether it's utilization or costs and stuff like that.

So I think we'll have probably, your rented bottom trough have been they're essentially all of 2017 that utilization has been held in there, that 49%, 50% range. But I think now we'll – maybe quarter two, it might still be in a trough, but the pressure starts coming up a little from the point that certainly, horsepower-wise it will, but on unit utilization, I think it can take a little longer to start showing some appreciable movement on it. But horsepower will see a pretty quick, I think, as we roll through the year. So that's a – probably not answer.

But generally, upward bias, I expect us to see a greater utilization growth in horsepower then units just because the big difference we had in those units. On a revenue basis and horsepower roughly, these bigger 1,300 horse units are average horsepower before this movement in the big horsepower is about a 140, 150 horsepower.

So you're getting almost a 9:10:1 ratio on horsepower on a per unit basis. So that's the dilemma we're seeing in utilization right now. It's not going to be a real good indicator. Obviously, I’m going to put you more towards revenue and how that represents the growth for the next couple quarters.

Joseph Gibney

Okay. It makes sense. And last one for me and I'll turn it back. Just an update on the VRU market. You referenced that few units can put out there just anything new on that front and what you're seeing in that market will be helpful. I appreciate it.

Stephen Taylor

Yes. We are continuing to build those, I think we've slotted – I know we slotted some more into the build schedule this year. These guys will probably get the big horsepower at one end then you go look in the 50 to 100 horsepower VRU market, and we're sold out. So it’s the big or the small right now that's active. So we're still putting those out and still building them and will be as long as that market continues to be active and looks like it might stay active.

Joseph Gibney

Okay. Thanks Steve.

Stephen Taylor

Thanks Joe.

Operator

Our next question comes from Jason Wangler from Imperial Capital. Please state your question.

Jason Wangler

Hey. Good morning, Steve.

Stephen Taylor

Hey, Jason.

Jason Wangler

I was curious just to make sure the uptick in costs on the rental side, that was or I should say on the revenues that didn’t have anything really to do with pricing that was more of something you're seeing in first quarter or even more in real time, is that correct?

Stephen Taylor

Yes. It’s not pricing. We saw a little about a 1% increase in pricing sequentially, but a lot of that was from the bigger equipment to, the contribution it was making. But no, there's not been a whole lot of pricing impact to drive revenues up. It's just been on activity.

Jason Wangler

Okay. And then the larger units, I’m assuming the answer is the Permian, but could you just maybe talk about – you talk about the addressable market being pretty significant. Is that specifically in your backyard there? Or are there some other areas that you guys are kind of initially working on as you kind of get into that market?

Stephen Taylor

Well, the Permian is going to be the driver, as it is in anything, right, right now. So that's going to be the biggest piece of it in and these results are getting our Permian base. But we think this gives us entree into the Marcellus which has been a big horsepower market for long time, very little wellhead out there. So we think this gives us an opportunity to start talking to people there.

The other areas, everybody needs bigger horsepower essentially in some respects, so we think there's opportunities in the Oklahoma area on it. Some in the Rockies, maybe, probably a little more limited there. But yes, you got some of the basic areas of Permian, Oklahoma and a little less, Marcellus. So I think those – mainly what you look at. The other thing we see is the opportunity now to start talking to a little more Midstream companies.

We're restrictively wellhead. Midstream guys don't need wellhead compression. It's a segment you don't worry about. But now moving up into the bigger horsepower, and this is more of the bigger horsepower than the 400 to 600. The bigger stuff, you see a lot more opportunities there to start talking to people. So we think there's some geographic expansion. We can accomplish besides just some customer penetration in different segments.

Jason Wangler

I appreciate it. I’ll turn it back.

Stephen Taylor

Thanks Jason.

End of Q&A

Operator

At this time, we have no further questions.

Stephen Taylor

Okay. Thank you, everybody for joining me on the call. I appreciate your time this morning and look forward to visiting with you again next quarter. Thanks.

Operator

This concludes today’s conference call. Thank you for attending.