Greetings and welcome to the Energy Recovery Quarter One Fiscal Year 2020 Earnings Call. At this time all participants are in a listen only mode. The question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to Jim Siccardi, Vice President of Investor Relations. Thank you. Please begin.

Good afternoon, everyone, and welcome to Energy Recovery's First Quarter 2020 Earnings Conference Call. My name is Jim Siccardi, Vice President of Investor Relations of Energy Recovery. I'm here remotely today with our Chairman and Interim President and Chief Executive Officer, Bob Mao; and our Chief Financial Officer, 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 under 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 on 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, April 30, 2020, 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 the newswires and furnished to the SEC earlier today. The press release includes reconciliations of the non-GAAP measures to the comparable GAAP results. At this point, I'd like to turn the call over to our Chairman and Interim President and Chief Executive Officer, Bob Mao. Bob, the floor is yours.

Thank you, Jim, and thank you, everyone, for joining us today. I want to start today's call with the sincere hope that everyone listening and their respective families are safe and well. I'm happy to report that the energy recovery team remains healthy and well. The COVID-19 pandemic has turned our personal and professional lives upside down. All any of us can do in response is rise to the challenge that is presented. To that end, I'm tremendously proud of our team's response. Our employees have displayed a remarkable calm and determination that has allowed us to navigate these uncertain times. Two considerations have guided our response, how do we protect the lives of our employees, while protecting our business and by extension, the livelihood of our employees. It is with great pride that I can report we have not laid off or furlough any employee due to COVID-19. We're also in the fortunate position of being able to give back, including donating personal protective equipment from our manufacturing facilities to healthcare providers. The safety of our employees has been our primary focus from the beginning. Prior to the implementation of the state and local shelter in place orders, we had already determined that all employees who could work remotely should do so. As a result, with the exception of our manufacturing activities, nearly all of our functional business areas continue to operate fully and efficiently, though remotely in most cases. On March 19th, when the bay area sheltering in place was announced, we elected to temporarily suspend manufacturing activities at our San Leandro headquarters to assess the impact of those orders. Review additional local, state and federal guidance and to implement health and safety measures recommended by health officials to protect our employees that are required to be present…

As Bob mentioned, this was a very good quarter. We generate a total revenue of $21.5 million representing 9% year-over-year growth. Our water business generated $19 million in revenue or 19% year-over-year growth. Mega-project revenue grew 50% so both OEM and aftermarket experienced decreases of 20% and 48% respectively. The decreases in OEM and aftermarket should not be attributed to COVID-19 or any other macroeconomic challenge, but we're simply normal quarter-to-quarter fluctuations. No mega projects were delayed due to COVID-19 and the value of any delay orders and our other channels were immaterial in the first quarter. Given these decreases mega-projects made up 76% of our water sales, OEM was 19% and aftermarket 5%. We recognized $2.5 million of revenue for the first quarter of our oil and gas business. This is lower by nearly 32% over the last quarter, but is in line with our guidance for this year. As a reminder, this decrease was planned as we extended more resources on achieving a live well frac with our product partner, which is not directly related to the ASC 606 recognition of the VorTeq license revenue. At this time, my guidance of $12 million to $14 million in license revenue for the year has not changed. However, revenue recognition is highly dependent on use of our resources on live well tests with our partner and on one test directly related to VorTeq license revenue. Therefore, revenue will likely increase to our more typical $3.5 billion [ph] level in the second quarter. Assuming we pivot away from live well tests and back to milestone one. This will be good of a moving target in the coming months. Our product gross margin was 70%, an increase of 80 basis points over the first quarter of 2019 and that's the upper end…

Thank you. At this time, we will be conducting a question-and-answer session. [Operator instructions] Our first question is coming from the line of Pavel Molchanov of Raymond James. Please proceed with your questions.

Thank you for taking the question. You reaffirm guidance and I just want to be very clear on this. In March, you were targeting water segment revenue growth of 20% to 25% versus last year's levels, and that still remains the case, correct?

That's correct, Pavel.

And what gives you the confidence that even with the reduced utilization or the slower pace of manufacturing in San Leandro, you can accommodate all of the customer demand at the levels prior to the pandemic.

First of all, we have a healthy inventory. Secondly, we also expect our Tracy [ph] facility to come online the second half of the year. And also we were working on one shift before.

Understood. One last question, are you aware of any decell construction projects that have been delayed or slowed because of lockdowns or other social distancing regulations?

No, we are not aware of any. That's why we have the confidence that we will deliver the guidance.

Very clear. Thank you again.

[Operator Instructions] Our next question comes from the line of Mills Thompson [ph] of [indiscernible]. Please proceed with your questions.

Hi, Josh and Bob. Thank you for taking my question. Just to make it clear, because last earnings call you guided for 2021 revenue 10% to 15% growth in the water segment. Given that you're not mentioning anything now, does that mean you're officially retracting your guidance for 2021 revenues?

We are not retracting at the same time, yes, we're not reconfirming. Because we do see some delay two to three months in some of the announced bidding. Although we have not seen any cancellation of the announced bidding. So we should have a better picture at the July call.

Okay, thank you.

Our next questions come from the line of Pavel Molchanov of Raymond James. Please proceed with your questions.

I just wanted to ask one about the Schlumberger relationship. You mentioned not having any dialogue with Schlumberger recently, but you are planning to attempt them one in the next I think you said 60 days Q2. Given that oil prices right now are obviously 20-year lows. Is there a risk that the same kind of cancellation may happen with M1 as what happened with Liberty? Where that frac was canceled?

First of all the M1. We can do M1 our own and document M1 presented to Schlum. And also we can request that Schlum will do one with us after we documented our own M1 that is to do at the Schlum's facilities. And this is not a live frac. So therefore, it does not contribute to the oversupply of oil.

Okay. So --

Pavel, we will do M1 first ourselves. Just to be sure that we pass all the requirements. And then we will per -- in fact per contract, we will request to do M1 was Schlum. Although the completion of M1 is not dependent on Schlum to win M1 but we need to document that we have the one.

And who determines whether you get the $25 million?

Of course eventually it is Schlum who has to pay it. So, there, that says they determine Pavel. But first thing is we have to demonstrate and document that we have accomplished M1. Then, as I said, just now that we really, it's been a long time since signed the original contract with Schlum much has changed, particularly much have changed in recent weeks. And that affects the outlook for the next year or two or maybe longer. So, therefore, I expect that we will actually go into a comprehensive discussion review our respective operational commercialization plans. So M1 will be viewed in that overall context.

Okay.

But first thing we have to demonstrate we have done them.

Alright, thank you again.

[Operator instructions] We have reached the end of the question-and-answer session. I will now turn the call back over to management for any closing remarks.

Well, this is Bob Mao. I will thank you all for joining us this afternoon. In fact, we see close to 80 participants joining us this afternoon. We look forward to speaking with you in July. In the meantime, please keep yourself and your families safe. Please also check our IR website for updates. Have a good day and the evening. Thank you.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation and have a great day.