Ladies and gentlemen, greetings and welcome to the Energy Recovery's First Quarter 2019 Earnings Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this program is being recorded. It is now my pleasure to introduce your host, James Siccardi, Vice President of Investor Relations. Thank you, sir. You may begin.

My name is Jim Siccardi, Vice President of Investor Relations with Energy Recovery. I’m here today with our President and Chief Executive Officer, Mr. Chris Gannon; and our Chief Financial Officer, Mr. Joshua Ballard. During today’s call, we may make projections and other forward-looking statements under the Safe Harbor provisions contained in the Private Securities Litigation Reform Act of 1995 regarding future events or the future financial performance of the Company. These statements may discuss our business, economic, and market outlook, the Company’s ability to achieve the milestones and commercialization of the VorTeq licensing agreement, growth expectations, new products and their performance, cost structure and business strategy. Forward-looking statements are based on information currently available to us and on management’s beliefs, assumptions, estimates, or projections. Forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and other factors. We refer you to documents the Company files from time to time with the SEC, specifically the Company’s Form 10-K and Form 10-Q. These documents identify important factors that could cause actual results to differ materially from those contained in our projections or forward-looking statements. All statements made during this call are made only as of today, May 2, 2019, and the Company expressly disclaims any intent or obligation to update any forward-looking statements made during this call to reflect subsequent events or circumstances, unless otherwise required by law. In addition, we may make some references to non-GAAP financial measures during this call. You will find supplemental data in the Company’s earnings press release, which was released to newswires yesterday and furnished to the SEC earlier today. The press release includes reconciliations of the non-GAAP measures to the comfortable GAAP results. At this point, I'd like to turn the call over to our Chief Financial Officer, Joshua Ballard. Josh, the floor is yours.

Good afternoon, everyone. I appreciate you joining the call today. The first quarter started the year off strong reflecting the strengthening the water demand that we highlighted on the recent calls. For the first quarter ending March 31st, 2019, we generated total revenue of $19.8 million, representing 43% year-over-year. This top line growth translated into a product gross margin of 69% and an overall gross margin of 75%. In addition, we reported GAAP net income for the quarter of $2.7 million, or $0.05 per diluted share. Our water business alone generated $16 million of revenues during the first quarter of 2019, growth of 45% over the first quarter of 2018. This strength continued to be driven by mega project demand. Those projects that generate over 50,000 cubic meterliters of water or more per day. While we are proud of the quarter remain very bullish on 2019, you should not expect such year-over-year growth experienced in this first quarter to be representative of the remaining year. As often happens in our business, you'll likely see quarterly volatility due to the timing of our larger OEM and mega projects sales. We expect our revenue to remain robust but it will moderate throughout the year and Chris will touch upon our expectations later in this call. Our Oil and Gas business generate a total revenue of $3.8 million for the first quarter of 2019. Of this total $3.7 million was related to ASC606 recognition of VorTeq license revenue. Our overall operating expenditures grew 3% year-on-year to $12.1 million. Please keep in mind that Q1, 2018 included a one-time expense of $1 million related to the CEO transition last year. Removing this, our recurring operating expenditures grew 12.4% year-on-year. This increase occurred in R&D in support of our water growth initiatives, and general and…

Thank you, Joshua. And thank you everyone for joining us today. As in the past, I will begin with a brief review of our strategic objectives. First, in our water business we are focused on growth and reinvestment. Second, in our oil and gas business, we are focused on VorTeq commercialization. I am very pleased with the progress in both areas. I'll begin with our core water business where we continue to build on our momentum from last year. We have executed against our record-breaking backlog resulting in an extremely successful first quarter generating $16 million in revenue and a gross margin of 70%. This represents the largest revenue generating first quarter in our history. Before I go any further, I want to celebrate an internal milestone we accomplished during the quarter namely the shipment of our 20,000 PX. It took 15 years from 1997 to 2012 to ship our first 10,000 devices. Now in less than half that time, we've doubled that number. This is the testament not only to the growth of Seawater Reverse Osmosis desalination or SWRO, but also to the global acceptance of our PX technology. Today, PX's are found on all seven continents save nearly $2 billion in global energy costs annually and help meet the fresh water consumption needs of roughly 52 million people. We expect our installed base will continue to expand rapidly delivering even further greater benefits. In fact, favorable industry demand trends our based business as well as our water growth initiatives give me great confidence in the potential of our water business. Leading macro indicators of growing water demand include population growth, industrialization, rapid urbanization and climate change. These trends are all connected to fresh water scarcity. Importantly, the recent United Nations worldwide water report stated that water has risen…

[Operator Instructions] Our first question comes from the line of Joseph Osha from JMP Securities You are now live.

Well, hey, I feel like I just won some kind of prize. I'm wondering if we might talk a little bit, thank you for the comments on M1. Whether we might talk a bit about that VorTeq commercialization comment you made particularly in the context of your relationship with Liberty. Could you help me understand a little bit more what you're thinking there?

Well, yes, we are focused naturally on commercializing the VorTeq technology for both our product licensee and our product partner. They are the most important customers to us on this product. And so we're doing everything that we can at our testing facility to meet their needs and move the technology forward as rapidly as possible, which will ultimately benefit them.

Okay but you have one missile right can only be in one place at one time, is the idea still that the primary emphasis here is on M1 and Liberty after that or build another missile. I guess I'm trying to understand operation way a little more what's --what the plan is here.

Well, yes, so we're in our facility right now testing and we are making great progress there right. And so just because we only have one missile that does not get in the way of us advancing the technology with both parties whatsoever.

Okay so when we --

We need to built more missiles. Yes, when we need to, we'll build more missiles, we're not at that stage yet.

Okay and then finally on that point you had indicated to us at one point that it's quite a long lead time associated with building this expensive and a verified piece of machinery. I think I heard six to nine months or something like that. Would there be a point maybe at some point this year given the progress you're making that we might hear that you're going to start building some more of these machines?

Yes. I mean when we're ready for effort like first production release, we'll definitely let everybody know.

Our next question comes from the line of Tom Curran from FBR. You are now live.

Good afternoon, guys. Let me pick up Joe's line of questioning and try to approach it from a different angle. At one time, Chris, it sounded as if there was a possibility and maybe even increasing one that Liberty might be ready to deploy its first unit before you'd be at a point where it made sense to resume and attempt to accomplish M1. Is that scenario still in play? And where it to materialize would you be willing to deploy that initial unit with Liberty and perhaps delay M1 until Liberty was maybe between jobs or even as long as it would take to manufacture a second unit or are you going to move forward and prioritize resuming and achieving M1 before you consider deploying unit for Liberty even if Liberty decides they're ready to go before M1 has been accomplished.

Yes, sure. I got your question. Thanks for that. I mean our focus is developing a technology that is ready for commercialization for both parties right. And so our testing and doing M1 for example or testing outside of M1 because again it's not mutually exclusive. And so we can --we are everything we're doing is advancing the technologies for both parties. So I don't see a specific difficulty in doing that right now with our current VorTeq. As we prove out the reliability of our system, as it stands today then will we continue to reevaluate that. Whether we are ready to develop or sorry produce the first production release.

Okay. And then for the new commercial development center, would you update us on how the staffing is progressing? Where are you at in the hiring process both for crews out in the field and then for the facilities such as machinist and quality control personnel?

Yes. So we're going to roughly double our personnel over the next call it year or so, but we staff where we need to be for right now. So what we're trying to do is going down two paths. One where we are hiring field personnel and we're also hiring some machinists as well who that we're training so that when we get that --we're training here at our facility in California and ultimately those machinists will transfer down to Houston when we have our facility up and running. Our other goal right now is to move to seven days a week of testing. And so as a result, we're hiring some additional personnel to accomplish that as well.

And when at this point would you expect to start construction on the actual building at the CDC?

We've already basically broken ground. So that's in the works right now. And so that should be, our goal is to complete that prior to yearend.

Okay, great. And then, Chris, it wouldn't be an earnings call if I didn't include my routine request for the breakdown of waters revenues or perhaps it's better for Josh now, yes.

Yes. I can give you that now. So our mega-projects made up 60% of revenue this quarter. OEM, 28% and aftermarket 12%.

Our next question comes from the line of Mike Urban with Seaport Global. You are now live.

Thanks. Good afternoon, guys. So clearly a lot of exciting things going on the water side of the business and you talked about some of the investments that you've made, and kind of increasing the scope of the market growth. So you had what you thought was a good bit of capacity to grow. You have the good problem of needing to grow again. So the investments you're making on the manufacturing side, how much I guess I'm trying to kind of the scalability here and kind of where would that leave you relative to kind of the growth assumption you have now, and you know kind of how much further would you be able to scale that up, if this does continue to grow as it has here over the last couple years.

Sure, great question. Let me comment on a couple parts. So this facility that we're in right now was originally designed to more than double capacity. And we over the years have added some incremental capacity. We're now at a stage where all of what we see over the next call it three or four years of growth, we would be able to accomplish here at this facility. We were -- it was designed now to scale very easily. So all of that call it civil work has already been done which is a great thing for us which means that we just need to simply buy the kilns and the other machinery to accomplish that. And that's what we're doing. So that's where we're at and so our goal is to add the capacity that we're seeing over that longer-term horizon as we and we're also seeing right now is this continued acceleration of projects. They're getting lot more and more quickly.

Okay, great, that's helpful. And in the past you talked about potentially trying to increase your addressable market. And maybe expand and into some adjacent verticals. Where you stand on those efforts? Whether that's internal, organic or potentially some kind of tuck-in, where-- if you could just update what's on your thought curve?

Yes, sure. One area that we're seeing actually an increase in the total addressable market is there's really that thermal discussion right, where we're seeing these retrofits occur. And so we're seeing a substantial opportunity there in the coming years that frankly last year wasn't as prevalent. In addition, those initiatives that I talked about in the past are also focused on addressing or growing the total addressable market in sea water reverse osmosis desalination. That said, we have not spent a tremendous amount of time on adjacent markets yet. That's something we're going to start looking at this year. So I don't have a lot to say about that today. But our growth is focused on organic growth meaning designing and developing new technologies in-house and partnerships. And so we're in active discussions with many different players. And I'm not at this stage ready to talk about those discussions.

Our next question and to follow up from the line of Joseph Osha with JMP Securities. You are now live.

Hi, hello again. I'm not going to ask about oil and gas. Given following on from the previous question and obviously perhaps not dragging in some of the additional addressable markets that you don't want to discuss yet, Chris. Would --could I get you to put a sort of a rough two to three year kegger out there for your water business? How might we think about it in 2020 and 2021?

I mean one of the things that I've always said and this is going to be contradictory a little bit. One of the things I've always said was that I don't really like to talk about demand multiple years out because of potential credit shocks and whatnot when we think about that. Though we have a great deal of line-of-sight too, a tremendous amount of project activity in --out in those years. But one thing that I cannot predict of course is credit availability. That said we, what we're seeing is immense amount of projects being brought into those years. And discussed and even being less. So we're starting to see a great, great deal of activity which is very encouraging. So I'm not going to address that specific question in terms of the exact amount. Over the next two years though we're looking at low double-digit growth. And the market again is the strongest we've ever seen at Energy Recovery. And I think that if you were to talk to others in the industry, they're probably saying much the same thing.

And I would assume given your dominant position ,obviously, you're executing well but what you're seeing is probably more reflective of the market than of market share gain. I mean, obviously, SWRO is gaining thermal but within your tam, I mean you know how that much market share lot to gain right. So what we're seeing here is your market expanding.

That's correct. That's correct.

Okay. So but I guess not to press you I understand you don't want to get dragged into a conversation about credit or emerging market debt crises or whatever, but a logical person might conclude that barring those scenarios showing up that this is sustainable, yes.

Well. That's one of the reasons why, yes, the answer is yes. And the other is that's one of the reasons why we're doubling our capacity.

Yes, okay, thank you. And I'm sorry to press you.

No, no. These a great question. Thanks so much Joe and again go blue.

Ladies and gentlemen, we have no further questions in queue at this time. I'd like to turn the floor back over to Chris Gannon for closing comments.

Well, thank you everyone for joining us today. We look forward to talking to you next quarter and updating you further on our progress. End of Q&A

Thank you, ladies and gentlemen. This does conclude a teleconference for today. You may now disconnect your line at this time. Thank you for your participation. And have a wonderful day.