CSI Compressco LP. (NASDAQ:CCLP) Q1 2019 Results Earnings Conference Call May 8, 2019 10:30 AM ET
Owen Serjeant - President
Elijio Serrano - Chief Financial Officer.
Michael Moscoso - Vice-President of Finance for CSI Compressco LP.
Conference Call Participants
Selman Akyol - Stifel
Good morning and welcome to the CSI Compressco LP's First Quarter 2019 Earnings Conference Call. The speakers for today are Owen Serjeant, President for CSI Compressco LP; and Elijio Serrano, Chief Financial Officer for CSI Compressco LP and also for TETRA Technologies Incorporated, which is the general partner of CSI Compressco LP. And also in attendance today, is Michael Moscoso, Vice-President of Finance for CSI Compressco LP. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded.
I would now like to turn the conference over to Mr. Sergeant. Please go ahead.
Thank you, Nancy [ph]. Good morning, and thank you for joining CSI Compressco's first quarter 2019 results conference call. I would like to remind you that this conference call may contain statements that are or may be deemed to be forward-looking. These statements are based on certain assumptions and analysis made by CSI Compressco and are based on a number of factors. These statements are subject to a number of risks and uncertainties, many of which are beyond the control of the partnership. You are cautioned that such statements are not guarantees of future performance and that actual results may differ materially from those projected in the forward-looking statements.
In addition, in the course of the call we may refer to EBITDA, adjusted EBITDA, free cash flow, distributable cash flow, distribution coverage ratio, backlog or other non-GAAP financial measures. Please refer to this morning's press release or to our public website for reconciliations of non-GAAP financial measures to the nearest GAAP measure.
These reconciliations are not a substitute for financial information prepared in accordance with GAAP and should be considered within the context of our complete financial results for the period. In addition to our press release announcements that went out early this morning and as posted on our website, our Form 10-K is planned to be filed with the SEC on or before May the 09, 2019.
I will start with an overview of our performance, then turn the call over to Elijio Serrano, our Chief Financial Officer, who will provide more details on our financial results and projections.
Our Compressco sales business continues to do extremely well. Compressco sales revenue of $63.1 million increased 4% sequentially, the 8th consecutive quarter of sequential improvements. More importantly, gross profits increased from$26.4 million to $30.4 million, the highest since the first quarter of 2016.
Gross margins were 48.2%. Sequential incremental margins were 76% which represents incremental gross profits relative to incremental revenue compared to the first quarter of this year to the last quarter of 2018.
This high fall reflects price increases we are attaining, improved cost controls, and the higher rates that the new equipment is being deployed at. Deployed horsepower increased 3.4% sequentially. Our gross margins continued to improve. February or March gross margins were each 50% and we expect that they will be above 50% for the remainder of the year. All this is consistent with the goals and objectives we laid out at the investor conference we hosted last May in New York City.
Total adjusted EBITDA in the first quarter was below the fourth quarter consistent with our internal expectations. We had indicated on the last earnings call that the first quarter new unit sales and aftermarket services will be sequentially down to the timing of several large projects and we also indicated that the fourth quarter for both new unit sales and aftermarket services were exceptionally strong.
Nonetheless, we expect a meaningful ramp up on both unit sales and aftermarket services in the second quarter, also due to the timing of several large projects. Second quarter equipment sales will be approximately $50 million compared to $27 million in the first quarter and $55.6 million in the fourth quarter of 2018.
We continue to see a strong demand for incremental field compression, a healthy new equipment backlog of $94 million and robust demand for aftermarket services, which increased significantly up at the start of the first quarter.
We further expect 2019 to be another successful year for CSI Compressco and remain comfortable with our total projected adjusted EBITDA of $125 million to $140 million. Our industry continues to have a shortage of large horsepower equipment, which has allowed us to deploy new equipment at the highest monthly rates we've seen in our history.
We are able to deploy new large horsepower units above the existing unit prices allowing us to achieve 65% to 70% fall through margins that are driving 20% returns on capital. These units are for our customers who require more equipment deployed on their existing fields as they continue to grow production levels. These new units are addressing both gathering system requirements for the increased volumes of associated gas, and also meeting their requirements with centralized gas lift.
The need for centralized gas lift continues to grow in support of initial early life oil production requirements of our announced oil recovery from those wells as their production output depletes overtime.
All of the new orders on order for our fleet have cost them competitive -- commitments and we do not build anything on a speculative basis. This discipline allows us to respond to the opportunities where we are attaining 20% returns on capital.
As contracts in our existing horsepower equipment rollover, typically we are seeing price increases in the high single digit percent increase range. For new contracts for high horsepower equipments on a spot price basis, we are seeing price increases year-over-year in the order of magnitude in the high teens.
I will recall that last year we increased our prices up an average of 15 % with some increases being much higher. The more we scale up our compression services business in key markets with key customers, the more we are able to improve our profitability by adding minimal cost with each additional unit deployed.
First quarter bookings for new equipment totaled $11 million and were lower than prior quarter as customers have temporarily delayed committing to new orders. We believe that portion ordering is just temporary as our customers are focused on building up their full infrastructure, including pipelines and fractionation capacity before they purchase any further newer compression equipment.
Our new equipment pipeline of identified opportunities is in excess of $250 million. We have not seen customers cancel opportunities, just delay some of the decision making for new unit sales. We expect our pipelines to materialize orders as the year progresses, and we expect to fill out our order book to support our 2020 equipment sales.
I'll now spend a few minutes on each of the individual lines of business, and provide some perspective on how they are performing. Our Compression service business segments continues to be robust and growing. We've increased revenue for eight consecutive quarters and continue to project sequential improvements into 2019.
We've also exited the quarter with compression sales of margin of 50% a great improvement of where we were several quarters ago. As mentioned, these improvements are driven by the high horsepower units we are deploying to our existing customers at rates above the current fleet.
Increases in contract prices as contracts roll over are from cost optimization efforts. Our 2019 capital expenditures that we expect to form from cash on hand or from cash flow from operations are expected to be between $60 million and $65 million inclusive of $18 million to $20 million for maintenance capital expenditure.
Our capital investments for this year have not changed since our last conference call. We continue to be disciplined in our growth. The aforementioned capital program does not include the agreement with our general partner, which specifies that TETRA will buy, and lease towards an additional $15 million of high horsepower equipment that equates to approximately 20,700 horsepower.
Between our growth plans and TETRA support, we expect to deploy approximately 99,000 of new horsepower into our fleet in 2019. As mentioned before, all this horsepower is spoken for by our core customers commitments.
To the end of the downturn in 2017, we have placed for orders for approximately 196,000 horsepower. A further 39,000 new horsepower of this was added into our fleet in the first quarter.
During this quarter, we surpassed 1 million active operating horsepower for the first time in the company's history, which is a big milestone for us and one which makes me and the entire team extremely proud.
The vast majority of the additions can continue to be for a large gathering system units or centralized gas lift units each over 1000 horsepower in size for which demand has not slowed down and continues to outpace supply.
We are focused on our customers with the strongest balance sheets, in the shale bases with plentiful gas production and on concentrations of equipment that gives us the best returns. We have not deviated on this strategy and will continue to target our best customers.
Simply put, we will not take any projects that do not produce at least 20% return on capital. Our compression services margins are increasing in part because we are able to leverage our footprint due to increased fleet size.
Our equipment sales activity was lower than the fourth quarter due to the timing of when equipment is completed and shipped, following an extremely strong fourth quarter. This decline was expected. The business is impacted by the timing of when orders are received completed and shipped. We expect second quarter revenue from equipment sales to be approximately $50 million compared to the first quarter of 2019 and should be of the highest of any quarter in 2019.
First quarter bookings were $11 million for new equipment orders, on our $50 million year-to-date to yesterday. We ended the quarter with a healthy backlog of $94 million all of which is expected to be delivered in 2019. While the orders for new equipment slowed down over the last several months, we believe there will be material pickup as the year goes on based on our order pipeline, and commentary from some of our key customers.
Our pipeline for new equipment has grown not only domestically, but also internationally, as some of our international customers are running into similar problems with high volumes of associated gas and the increased need for compression equipment.
Overall, this business will be strong in 2019, and we expect the order book for 2020 to start feeling good in the upcoming months. After a record high quarter in our aftermarket service business, during which we completed several major overhauls for our customers equipment, we had a slower quarter with revenue of $13.6 million, but still at good margins.
Just like equipment sales, this temporary slowdown was known and highlighted on our last call. Also, as with equipment sales, our order book has gotten much stronger as we progress in the quarter, and we have no doubt that this business will be much stronger as the year progresses, are more representative of the business you show in the second half of 2018.
Also, the more new equipment we sell, the more opportunity we have for our aftermarket parts sales and services. Our customers continue to come to us and ask for more compression equipment as they produce higher volumes of associated gas from their shale play drilling programs, and our business has directly benefited from that across all our business lines.
Our utilization for 1000 higher horsepower equipment focused on gathering systems and centralized gas lift was 95.6% at year end, up 60 basis points from the end of 2018. We are essentially at full utilization for the large horsepower equipment. We deployed an incremental 38,900 of active horsepower during the first quarter, increasing the amount of deployed horsepower to 1,017 [ph] million.
Overall utilization of the entire fleet is at 87.2%, up from 86.6% at the end of the fourth quarter and up from 84.2% at the end of first quarter 2018. The vast majority of the increase continues to be deployed in the areas with the most activity and demand including the Permian, Eagle Ford, SCOOP/STACK areas in Oklahoma and in South Texas where approximately 70% of our operating horsepower is deployed.
In summary, the Compression industry is in great shape and demand is strong. Nothing in this industry has changed since the beginning of 2018 and based on the current outlook we don't expect this industry to slow down anytime soon.
With that I'll turn it over to Elijio to provide some financial details on the quarter. Then we'll open it up for questions.
Thank you Owen. First quarter revenue decreased by 25% primarily by the timing of new equipment shipments, and from the timing on the completion of overhauls in aftermarket services.
Compared to a year ago, revenues up 21% with the increase coming from much more robust compression services in the higher equipment sales. Aftermarket Services revenue saw a slight decline of 3% from last year to $13.6 million but is expected to significantly pick up in the second quarter and beyond.
Compression services gross margins was 48.2% in the first quarter. Excluding the fourth quarter, $2.1 million non-income tax expense compression services gross margins increased sequentially by 110 basis points as pricing continues to improve, and we leverage our infrastructure to reduce labor and other operating costs.
And as Owen mentioned, we continue to deploy new equipment with returns on capital of approximately 20% driven by the higher pricing on the new equipment and by deploying new units to existing clusters with her strongest customers.
Aftermarket services revenue was $13.6 million with gross margins of 17.3%. Our quarterly sales dipped at the beginning of the year we continue to see strong demand and growth in this area and believe the first quarter was an anomaly for the year.
We saw a big push from some of our customers to complete projects in the fourth quarter, as well as to buy additional spare parts to exhaust for 2018 budgets, and this push cost some over expected first quarter revenue pool for 2019 to be pulled into the earlier quarter.
Our order book is getting stronger and we believe the rest of the year looks promising. Equipment sales were $26.8 million with gross margins up 9.6% which is a 20 basis point improvement over the fourth quarter margins. This is down from the record quarter we had in the fourth quarter. Again, due to the timing of shipments.
We expect the second quarter to rebound to around $50 million like we saw in the fourth quarter. Backlog at the end of the first quarter of 2019 was $94 million after receiving $11 million of orders in the quarter.
For some orders placed in the second quarter of this year it could still be converted to sales. Most will be designated for 2020 delivery, given the lead time on key components that go into our compressors.
So far in April, and in the first week of May. We have secured or are in the process of securing $14.5 million of new orders, which will be on top of the $11 million we secured in the first quarter.
Adjusted EBITDA in the fourth quarter was $26.8 million, a $3.4 million decrease from the prior quarter, due to the timing of new equipment sales, and the completion of major overhauls by our aftermarket services segment.
Our coverage ratio was 13 times. And as a reminder, on December 20 of last year, we announced plans to reduce a quarterly common unit distribution for the fourth quarter from $18.75 per unit or $0.75 per unit, per year that was previously in place to a penny per unit, per quarter or $0.04 per unit for the full year.
Our intention continues to be to review this reduction in the distribution in the second half of 2019, and determine the best use of cash going forward after reviewing the remaining amount of the Series A Preferred unit.
On May 8 of this week, the outstanding balance on the Series A is down to $13.3 million redeemable in cash. Once a Series A preferred unit are fully redeemed, we will determine our plans for the deployment of free cash flow that will create the most value to our unit holders.
To make the determination of how the fourth quarter of 2019 and all the 2020 free cash flow will be deployed, we will carefully assess our unit price is trading, the price of the unsecured bonds are trading, our ability to continue to push higher prices on new equipment being deployed, then make appropriate determinations.
We will not commit to a firm path. We are continuously reviewing and assessing the market. At the midpoint of our full year adjusted EBITDA guidance of $132.5 million and after accounting for $49 million of interest expense, $90 million of maintenance capital expenditures and $4 million of cash taxes, we expect to generate over $60 million of free cash flow.
This year $30 million of this was directed towards cash redeemed in a Series A Preferred unit. However, I will commit to is that we will not invest all of the free cash flow into growth capital. We are moving towards a 50-50 split of free cash flow going towards high return growth capital opportunities and towards returning cash to our stakeholders, being both debt holders and equity holders.
We are committed to improving our leverage ratio to 4.5 times or better. If our unsecured bond stayed [ph] at a material discount, it will likely take the opportunity and move some of the available free cash flow towards retiring unsecured bonds, accelerating our path towards 4.5 times leverage ratio.
As part of our 50-50 growth versus stakeholder return, we'll also evaluate the manner of the distribution. Our focus is on improving our leverage metrics to enhance unitholder value creation, while taking advantage of the high return opportunities from our major accounts that have strong balance sheets and we'll continue to do field through periods of oil price volatility.
In the first quarter distributable cash flow was $6.3 million down from $13.3, that's a fourth -- from the fourth quarter of 2018 reflecting that in the first quarter we recorded all of our 2019 potential tax expense. Cash taxes for the remainder of the year will be minimal.
On the press release we released this morning we provided total year guidance for 2019 which is consistent with the guidance we provided on our last conference call and on December 20, 2018. We have seen no change in our customer spending patterns to change our totally your expectations.
We expected some volatility in the first quarter on new equipment sales and aftermarket services and that was built into our total year expectation. The key points from our guidance are as follows; first, we'll continue to expect our 2019 adjusted EBITDA to be between $125 million and $140 million, up from $99 million in 2018. This represents a year-over-year growth of between 26% and 41%.
We continue to see the cumulative impact of pricing increases as contracts roll over. Stronger market demand for more horsepower, new investments coming online delivering 20% tight returns plus continues strength that the aftermarket services and strong backlog are expected to deliver the 2019 guidance.
We have seen a few consecutive months of our compression services gross margins being 50% or higher and expect them to remain at 50% or higher for the rest of the year. I would like to emphasize a point that Owen made earlier when comparing compression services gross margins in the first quarter to the fourth quarter.
Our incremental margins were 77% on compression services, meaning that for every incremental dollar of revenue we generated in the segment, we achieved in the first quarter 77% of it was converted into gross margin. We expect 2019 revenue to be between $490 million and $520 million, an increase of approximately $50 million to $80 million from 2018.
Second, we continued to work on improving our net leverage ratio with a goal of taking it from down from the current levels to 4.5 times or better which is consistent with the message from our Analyst Day in May 2008. We're making progress toward that goal as earnings improve.
Based on our 2019 adjusted EBITDA guidance, our net leverage ratio will be in the 4.5 times range by the end of the -- at the high end of the adjusted EBITDA range to 5 times at the low end of the adjusted EBITDA range, a materially improvement from our current levels reflecting the strong rebound in adjusted EBITDA that we are seeing.
Improving our leverage metrics is one of our main priorities. Third, we made a decision in December to reduce the quarterly common unit distribution with the intention of using the retain cash from the reduce distributions to cash redeem the remaining outstanding Series A preferred units in order to avoid further diluting and existing unit holders.
We are focused on proper capital allocation. And as mentioned we are leaning towards a 50/50 mix I mentioned earlier to meet client demands for we are generating 20% returns on capital plus increasing stakeholder value by returning capital to stakeholders, some of which will most likely be in the form of debt reduction.
Our decision will be based on how the common unit and the unsecured bonds are trading. Fourth, we expect 2019 total capital expenditures to be between $60 million and $65 million inclusive of $18 million to $20 million for maintenance capital expenditures. Our growth capital expenditures are estimated to be between $42 million and $45 million and we expect to self fund with cash on hand or cash flow from operations.
We do not intend to issue equity nor incur additional debt on our growth capital expenditures. And as previously mentioned, TETRA as our general partner has agreed to purchase $15 million or $20,700 horsepower of compression equipment that will be deployed to our fleet to meet customer demand.
These 20,700 horsepower will be lease from TETRA with CSI Compressco having the right to buy the equipment anytime over the next five years at CSI Compressco sole discretion. Between TETRA’s commitment to support us in our own capital plans we believe we will satisfy our clients customer demands and at the same time grow within our cash flow.
We will continue to be very focused on returns and margins as we grow and we'll maintain a very capital disciplined approach as we grow the business in 2019. We will be prudent in answering our customer demands and focus only on those growth opportunities which provide the highest returns.
With that we'll now open the call to question.
Thank you. We will now begin the question and answer session. [Operator Instructions]. The first question comes from Selman Akyol from Stifel. Please go ahead.
Thank you. Good morning. Thank you for all the detail. Couple quick ones for me. First of all, you talk -- you referenced your long lead items. I'm just curious is it getting any easier to get in terms of I guess high horsepower engines?
Yes it has. It's alleviated, I think last year we were talking about the really large engines have being approximately 50 week in terms of lead time. And that's come down quite dramatically. Probably about 36 to 40 weeks now. So that has improved. Sort of the mid range high horsepower units they've never really been on the critical path as such and being 25 to 30 weeks. On the compression side that's on some applications with some type of cylinder arrangements on there, that could be the high poll attends [ph] but there's nothing beyond the sort of the 36 to 40 weeks we have at the moment, which is obviously improvement for what we would talk about, no middle Australia.
Very good. And then I guess just sort of thinking about the Permian and potentially M&A out there in terms of among the E&P producers. Does that outlook at all affect you guys? Are you seeing anything potentially down the road that gives you concern or pause?
No, not really no. Just like what Elijio said we're highly focused on just a handful of really key customers that are no higher up in the food chain in terms of their size, in terms of the acreage that they have in the Permian and if any things they'll probably be -- they over time may well be the acquirers of all the assets out there which will continue to put us in a good position. So given all the profile of our customer base out there, no, we don't see that as a threat.
And Selman also remind you that the swap out cost are very expensive for customers to try to change service providers if they consolidate. When you look at the mobilization cost of bringing in that replacement service provider and the cost that they will have to pay to demobilizing existing service provider, plus taking the network down as they swap out equipment is too cost prohibitive for them to do that. So, we don't believe that M&A activity from the operators would impact the service providers on the compression side.
Point well taken. And then you see more in E&P companies focusing on cash flow or you seeing any more and more I guess demand for them taking on fleets turning them into leased fleets?
Not yet. Clearly, we're pushing pricing up or improving returns. We want to be cognizant that if we push them too high they might evaluate whether they should insource the equipment, But given all the focus on living within capital for the operators we think that they will continue to outsource all field compression opportunities.
Got you. And then just the last one for me. The SG&A between the quarters, 4Q and 1Q ticked up. Anything behind it?
Nothing significant. I would suggest that the total year you should continue to model the Q1 run rate.
Thank you very much again.
[Operator Instructions] This concludes our question and answer session. I would like to turn the conference back over to Owen Serjeant for any closing remarks.
Thank you, Nancy. We appreciate your interest in CSI Compressco. Thank you for taking the time to join us this morning. This concludes our call.
The conference is now concluded. Thank you for attending today's presentation. You may now disconnect and have a great day.