Good day and welcome to Energy Recovery's Second Quarter 2015 Earnings Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Chris Gannon, CFO, Energy Recovery. Please go ahead, sir.

Good afternoon, everyone, and welcome to Energy Recovery's earnings conference call for the second quarter of 2015. My name is Chris Gannon, Chief Financial Officer of Energy Recovery. And I'm here today with our President and Chief Executive Officer Mr. Joel Gay. To begin, some of our comments and responses to questions may contain forward-looking statements about market trends, future revenue, growth expectations, cost structure, gross margins, new products and business strategy. Such forward-looking statements are based on current expectations about future events and are subject to the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act. Forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and other factors that could cause actual results to differ materially from those discussed. A detailed discussion of these factors and uncertainties is contained in the reports that the company files with the U.S. Securities and Exchange Commission. The company assumes no obligation to update any forward-looking statements made during this call and except as required by law. Before we begin our discussion today, I would like first to thank Joel and the Board for affording me the opportunity to join Energy Recovery as its CFO and to lead the company along side the other members of the executive leadership team. Now, turning to the financials. I will begin with a brief analysis of our financial results on a consolidated basis followed by a segmented examination to provide further transparency and clarity to our business. As such I will be discussing our three segments namely water and oil and gas as well as corporate. On a consolidated basis the company generated healthy revenue of $10.5 million representing a 64% increase over the second quarter of 2014 and 79% increase sequentially, which is to say as compared…

Thank you, Chris. Now, for a commercial and strategic update on the company, beginning with brief commentary on the second quarter, as a general matter, I'm very pleased with our performance especially when examining such on the normalized basis, which is to exclude the aforementioned $2.7 million in non-recurring costs. We are beginning to discern results from the strategic operational and organizational changes made earlier this year in particular austerity measures that will continue indefinitely. While we have sustained nearly $5.7 million in non-recurring expenses on a year-to-date basis, the depth of our cost rationalization program is particularly evident in the quarter's results. You will recall that we are targeting breakeven profitability at $46 million in revenue, 62% gross margins and $28 million in OpEx, a normalized loss per share of $0.01 against $10.5 million in revenue is notable progress towards this near term objective. Conversely, while I'm pleased with the quarter's results on a relative basis more over as it relates towards our [trek] [ph], towards breakeven profitability, I'm entirely displeased with the performance of our share price. You will note in our Form 10-Q that we have for the first time provided segmented financial data. This aligns with our commitment to transparency as well as how we see the business from a resource allocation standpoint. Namely a portfolio of assets, consisting of a cash cow, our desalination business, an early stage if not pre-revenue enterprises that can be conveniently thought off as call options. Understanding that our desalination business consumes less than $10 million of our annualized operating OpEx on a standalone basis. We believe such is conservatively valued at $4 to $5 a share. This assumes $43 million in revenue growing at 7% perpetually a 62% gross margin, an effective tax rate of 25%, depreciation and amortization…

Thank you. [Operator Instructions] And we will go first to Laurence Alexander with Jefferies.

Hi, this is [Geoff] [ph] on for Laurence. Thanks for taking my question.

Hi, Geoff.

How are you doing? Does Energy Recovery have the appropriate resources and market acceptance to have testing in multiple parts of the industry or we need to remain more focused in the beginning say this Liberty Oil test process, so specifically to oil and gas?

Yes. Great question. In terms of actual field trials, we currently only have one in motion and that is with Liberty Oilfield Services, the installation that we brought on line was Saudi Aramco that was a bonified commercial transaction and it is actually in production. Now, while it is under going or concluding a three-month observation period that is not a trial per se. So the answer is, yes, we do have the resources to execute a number of trials in various markets or verticals, and yes, we are focused only on one, which is to say fracing.

Got it. And then as you look at your portfolio of products to what extend to the savings being generated by your products exceeding the customers' normal productivity targets, so I imagine the process – the proposition becomes a lot easier if you are exceeding their 2% to 3% per year goal and achieving 5% to 6%. So is there a way to quantify what over the customers need that you are able to obtain?

It's a different answer for each market and vertical, let's take oil and gas specifically gas processing, we have a few units installation or rather in production let's talk first about the unit with Saudi Aramco, the IsoGen turbo generator. As I stated in my commentary we were able to crystallize the value proposition which is to say discern the reduction in specific energy consumption as compared to what our models would have suggested in a simulative sense. And it is outperforming to those expectations, which is to say it is outperforming on a efficiency standpoint and therefore, it is outperforming in terms of the energy recycled or the specific energy consumed reduced. With respect to the fracing opportunity, again, we are not going to characterize specific results from that test and in terms of any sort of customer expectations as it relates to our value proposition there aren't any customer expectations because we have created or rather we are attempting to create a market in fracing which is to say we do not have a substitute technology. There isn't another technology that allows you to frac a well by bypassing the existing pumps and that's what we do.

Great. Thanks very much.

You are welcome.

And we will go next to Craig Moss with Morgan Stanley.

Hi, Joel. I was just curious, have you seen any interest from majors like Schlumberger or Halliburton being able to use this technology?

Yes. Craig, how are you? So we don't comment other than Liberty Oilfield Services on engagement that we have had with potential either strategic partners or customers, what I can tell you is that, it's called 80% to 85% of the global fracing industry is at some level of engagement with our company. I would submit that the lion share of that 80% to 85% have been through our offices to take part in technical and commercial presentations. So if we could mirror the interest that the fracing industry has shown in our product to that of what we'd have liked the street to do, we might be in a different place. But, yes, we can't comment on exactly who has come through but, if you look at the top 50 frackers, like I said 80% to 85% of them have and you can figure out who that is.

So listening to your part of the presentation Joel, if I understood it correctly, you mentioned that you thought that the desal business alone was worth approximately $5 a share presently and you didn't mention any value on the oil and gas business. How do you – I mean, how do you basically overcome the lack of – I guess valuation that this street is giving you right now, what's in place to try and –

Craig, are you still there?

Yes.

Okay. I wasn't sure whether or not you are finished with your question. So yes, we think that desal is conservatively valued at $4 to $5. I provided a walk that will allow any financial analyst to peg that at a – as a growing perpetuity or I think you can go ahead and do a full fledge DCF. With respect to value in the other businesses, which we characterized as call options. We think it's a very least that you command a neutral valuation, we are not going to speculate beyond that. We don't have the track record to do so. Fortunately in desal, we are 15, 20 years in consistent revenues, consistent cash flows, consistent premium gross margins whereas in oil and gas and chemical processing we are very, very early days. We have invested heavily. And so therefore what we can do is continue to try and accurately depict the potential of those products and then focus 10x as hard on bringing to the floor actual results in the form of contracts and the liking. That's what we are doing.

All right. Well, I mean it sounds very promising and hopefully we will start to see some of those results soon so. Thanks for your – thanks for the taking the questions.

Craig, thanks for the questions. I appreciate it.

And we will go next to JinMing Liu with Ardour.

Hi. Thanks a lot for taking my question. First, regarding the VorTeq technology, Joel, you mentioned the potential to replace current centrifugal pumps. Are you going to work with specialty pump companies or are you can just use the off-shelf pumps?

They are not off the shelf pumps, JinMing. But these – they are readily accessible, this centrifugal pumping technology that that we referred to what are known barrel the fuser pumps. You will find the barrel the fuser pump or multiple barrel the fuser pumps on virtually any multigenerational offshore rig. So this is technology that's probably been around for 40 or 50 years. But, we would never represent that there isn't a fair amount of R&D that would have to take place to bring this new pumping model to the floor. And so as we evaluate our progress in the existing field trials and prepare for what we hope to be in a commercialization, we will continue to sharpen our pen on the design effort as it relates to the centrifugal pumps as well as the centralized power package to power the spread.

Okay. Switching to desal, how much of the OEM shipment different in the second quarter?

OEM revenue in the second quarter was –

$4.7 million.

$4.7 million. Thanks Chris.

Okay. And the MPD shipment expect in the third quarter?

Oh, the MPD shipment that we expected in the third quarter that was about $1 million.

Okay. Got that. Lastly, I mean regarding your leasing model for your PX devices to the desal industry, what kind of energy price is in your assumptions because we – now-a-days we see a some very low CPA price with some smaller projects but just want to see what energy price put in your assumptions?

The answer JinMing is that it depends. So I was very careful not to quantify the 10 million cubic meters per day and here is the reason why, number one, we are still doing our home work in terms of arriving at an appropriate cost per kilo watt hour by region, by country, by sub-country if you will. And then number two, we are still ascertaining exactly what type of legacy technology is in this 200 to 400 plant sample size, okay? So if it's a pelton wheel then the energy delta is going to be larger and we can extract greater rents versus if it's a turbocharger that as a higher efficiency, the price that we would charge would be lower. So we are going to spend the next three to six months figuring all of that out and at that point we will be able to quantify the market for you. But we are already moving there, we are preparing proposals, we are submitting proposals and we are confident that we can create some incremental value for our company. And understanding that I mean look – we are a $40 million to $45 million company what we consider to be material is probably a lot lower than what others consider to be material. So we are excited about the opportunities in that new market segment per se.

Okay. Got that. Thank you.

Thank you.

[Operator Instructions] And we will go next to Patrick Jobin with Credit Suisse.

Hey, guys. This is Jennifer on the line for Patrick. Thanks for all the color on the different segments, I was just wondering if you could give us a sense of timing and ramp up?

No. That's always the tough tag we – we don't provide guidance on our at least top line guidance on our desal business, which is relatively predictable as compared to this emerging markets. And if we don't provide top line guidance there Jennifer, it would be reckless for us to provide any sort of guidance on our emerging market segments. What I can tell you is, we are striving for breakeven profitability in the near-term. How we get there from a revenue mix standpoint remains to be seen but that's what we are focused on. And in terms of bringing forward contracts and the like, we are just not going to speculate on that or on the pipeline, when we have contract in hand we look forward to announcing it and characterizing it in such a way that our investors can appreciate it.

All right. Thank you.

And we will go next to David Rose of Wedbush Securities.

Good afternoon and thank you for taking the call.

Good afternoon, David.

Just one housekeeping item and then just two points of clarification, you had the litigation reserve of $1.9 million in the first quarter and so the payout was $1.7 million. So was there a reversal then of about $200,000 in the second quarter, is that right or no?

Yes. That's about right. There was a reversal of close of $300,000, I believe.

Okay. That's helpful. And then as we look at non-recurring expenses in Q3 and Q4, can you give us an idea of what we should expect in this non-recurring expenses in Q3 and Q4?

Yes. David, we do not expect any more non-recurring expenses for the year, of course, that could change where we stand today. We do not expect any more and we believe you will see that $7 million to $7.5 million quarterly run rate manifest in Q3 and Q4. So as you look at the second quarter normalized OpEx of $6.3 million that's obviously low that's low by virtue of the reversal that you just mentioned as well as the timing of certain R&D expenses. So we basically didn't spend as heavily as our run rate would imply. And that's just based on project timing and the like. So as we step into the third quarter, you will see that that targeted run rate of $7 million to $7.5 million manifest.

Okay. That's helpful. Thank you. And then just a point of clarification you had mentioned that the desal business was a cash cow and I look back the best years in the business in 2010 and 2011 on a revenue basis and those years were cash flow negative, so is my understanding when you say cash cow, you mean kind of the new run rate, is that how you think about it kind of the new OpEx level over the last couple of quarters not really but just historically?

No, no, no. But, that's a good observation David. When we characterize the desal business as a cash cow, it's under the assumption that we require less than $10 million of our current OpEx to run that business, okay? So if you look at our segmentation, we are currently on track for about $7 million to $7.5 million year in terms of water segment or desal segment OpEx. You think you are going to need a couple of million dollars more from a back office in administration standpoint. So if you were to look at desal on a standalone basis, we certainly wouldn't be carrying around $28 million to $30 million in OpEx. That number would be well below or significantly below $10 million. So when you start with that top line of $40 million to $43 million on a high 50s low 60s gross margins you can quite easily back into what we consider to be a cash cow.

Okay, great. Thank you.

[Operator Instructions] It appears that there are no further questions at this time. I would like to turn the conference back over to management for any additional or closing remarks.

Thank you for participating. We will talk to you in 90 days time.