Good morning, and welcome to the Flotek Industries Incorporated First Quarter 2012 Earnings Conference Call. [Operator Instructions] This conference is being recorded. At this time, I would like to turn the conference over to Mr. Glenn Neslony, Vice President and Treasurer for Flotek Industries. Mr. Neslony, you may begin.

Thank you, and good morning. Today's call is being webcast, and a replay will be available on Flotek's website. Our earnings and operational update press release, as well as our quarterly report with the U.S. Securities and Exchange Commission, were filed and distributed last evening and are also available on the Flotek website. Before I turn the call over to Flotek's Chairman and President, John Chisholm, I wish to remind everyone participating in this call, listening to the replay or reading a transcript of this call of the following. Some of the comments made during this teleconference may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, reflecting Flotek's views about future events and their potential impact on performance. Words such as expects, anticipates, intends, plans, believes, seeks, estimates and similar expressions or variations of such words are intended to identify forward-looking statements but are not the exclusive means of identifying forward-looking statements on this call. These matters involve risks and uncertainties that could impact operations and the financial results and cause our actual results to differ from such forward-looking statements. These risks are discussed in Flotek's filings with the U.S. Securities and Exchange Commission. Now I'd like to introduce Mr. John Chisholm, Flotek's Chairman of the Board, President and Chief Executive Officer.

Glenn, thank you. I would like to welcome each of you to Flotek's first quarter conference call. With me today are Johnna Kokenge, Flotek's Chief Accounting Officer; Jempy Neyman, Flotek's Executive Vice President of Finance; Steve Reeves, our Executive Vice President of Operations; Kevin Fisher, Executive Vice President of Global Marketing and Business Development; and Glenn Neslony, Vice President and Treasurer. Last evening, we filed our quarterly report with the U.S. Securities and Exchange Commission. While we won't take your valuable time to regurgitate those filings, we will provide a summary of the results, attempt to add some color regarding current operations, as well as a sense of our future, and then be happy to answer your questions. By just about any standard, Flotek's first quarter results provide a sense of just how far the company has come since we began our repositioning journey in September of 2009. In fact, we were positive that through the focused efforts of every member of the Flotek team over the past 2-plus years, we've returned Flotek to financial normalcy, instilled in the Flotek culture an expectation of success and set in place the intellectual and physical infrastructure for the next chapter in Flotek's corporate evolution, one focused on technological innovation, which we believe will lead to unprecedented growth and value creation for our stakeholders. In short, we position Flotek to truly live our 2012 mantra: making a difference. We believe Flotek is now in position to make a difference for our clients, our communities, our team members, and most importantly, you, our shareholders, the owners of our company that have been committed to this journey alongside us, had confidence in our abilities even when the challenges were great and provided the support and encouragement to return Flotek to its status as a premier…

Thank you, John. As John mentioned, Flotek filed its Form 10-Q quarterly report for the period ending March 31, 2012, with the U.S. Securities and Exchange Commission yesterday afternoon. In that report, Flotek reported revenue for the 3 months ended March 31, 2012, of $79.2 million, an increase of $26.3 million or 49.7%, compared to $52.9 million for the same period of 2011. Significantly increased period-over-period revenue was realized from both our Chemicals and Drilling segments due to sustained and stabilized pricing and drilling activity, increased market share and increased industry demand for specialty oilfield technologies. For the 3 months ended March 31, 2012, the company reported net income attributable to common stockholders of $3.6 million or $0.07 per fully diluted common share, compared to a net income of $10.4 million or $0.13 per fully diluted common share for the same period in 2011. Included in 2012 first quarter results was approximately $9.3 million of noncash expense related to a $3.9 million increase in the fair value of the warrant liability and a $5.4 million of loss recognized on the early retirement of certain of the company's convertible notes. For the first quarter of 2011, the company reported noncash income of $7.6 million related to a decrease in the fair value of the warrant liability. Excluding noncash items, the company earned $0.25 per fully diluted common share for the first quarter of 2012. At March 31, 2012, the company's cash balance approximated $13.3 million compared to $19 million at March 31, 2011. Of note, during the first quarter of 2012, the company repurchased $36 million of senior secured convertible notes, made a semiannual interest payment on the remaining $70.5 million of convertible notes and paid approximately $4 million in federal and state taxes. As of May 8, 2011 -- pardon…

Johnna, thank you. In general, North American drilling activity continues to provide us constructive backdrop of Flotek's portfolio of oilfield technologies. That said, the shift to liquid-rich plays and away from depressed natural gas plays has had an impact on the overall mix of Flotek's business, as well as presented its shares of challenges in our sales and marketing efforts. As long as natural gas prices remains challenged, limitations on processing and growth in certain regions will be pervasive. Our continued focus on developing a more balanced portfolio of oilfield technologies that positively impact both liquids as well as natural gas projects continue to yield positive results. Currently, our portfolio sales mix is approximately 70% liquids focused. We are pleased margins firmed incrementally in the quarter, a result of economies of scale and a reduction in input cost. While we don't expect significant pricing power in the near term, we do believe we can hold current levels and work to improve efficiencies as we continue to focus on margin improvement across our business lines. Chemicals revenue for the 3 months ended March 31, 2012, totaled $47.7 million, an increase of $20.8 million or 76.9%, compared to $26.9 million for the 3 months ended March 31, 2011, due to increased oil-directed and liquids-rich natural gas drilling activity driven by increased global crude oil prices and stabilized liquids-rich natural gas prices. Increased product sales volumes of stimulation chemicals accounted for approximately $20 million of the period-over-period increase. Chemicals gross margin for the first quarter of 2012 increased $9.6 million or 85.1% and increased 1.9% as a percentage of revenue as compared to the first quarter of 2011. The period-over-period increase is primarily attributable to cost management initiatives and vendor pricing negotiations, which resulted in raw material price reductions and purchasing efficiencies in…

Steve, thank you very much, and thank you for the effort and leadership. As we mentioned in the press release last evening, while we're pleased with first quarter results, they mean little unless we continue to build on our success. As noted, we expect April revenues to be approximately $24 million. While below March's record levels, April will exceed February. As is typically the case, spring breakup in the Rockies had a marked impact on our business, and 2012 was no exception. However, comfort is provided in the previous 2 years, where April revenues in 2010 and 2011 were 16% and 26% below respective March revenues. While April slight decline is noted, we are confident that the growth experienced in the first quarter will continue in the remaining 2/3 of the second quarter as early signs of a May spring in revenues are apparent. That said, we'll be extra vigilant in May and June to assure we execute precisely to continue along our profitable growth path. Also yesterday, we announced the contract with the pumping subsidiary of Pioneer Natural Resources to provide various chemistries, including our Complex nano-Fluids for many of their unconventional completions. Not only are we pleased about the continued growth of our relationship with Pioneer, we're excited about the chance to showcase the partnership with a major exploration and production company with other clients and prospects. Pioneer's belief in the impact of patented chemistries resulted in their desire to more formally memorialize the relationship with Flotek. It is our belief that such pioneering spirit will be noticed by others and serve as a model for the development of deeper relationships with other exploration and production clients. We appreciate Pioneer's partnership and look forward to continuing to find ways to create value for valuable clients like Pioneer Natural…

[Operator Instructions] Our first question comes from the line of Walt Chancellor with Stephens, Inc.

Regarding the Pioneer announcement yesterday, clearly you're making progress marketing to E&Ps. Is there any more detail you can go into on the development of that deal and sort of how that relationship has evolved into this longer-term agreement?

Sure. About several quarters ago, we began a conversation explaining to folks like yourself that the chemical side of Flotek was going to expand their product offering. And I think a couple of quarters ago, we mentioned that 6 out of the top 10 revenue-generating chemical products in 2011 weren't even around in 2010. And that is a direct result of the effort and capital we've committed to research and development. Our research and development technical folks work closely with Pioneer's technical people and, in fact, came up with a proprietary scale inhibitor, a proprietary cross-linker designed specifically for Pioneer's applications in their various resource plays. And that led to this more formal contract. We've been providing chemical sales to Pioneer for a period of time. It's not like it's just starting now. Over the last year, that activity has increased. But as we got closer, connected between the 2 technical efforts, that's what led to the formalization of this contract.

Okay. That's great color. And then sort of along those lines, are there other relationships where you're in a similar place to where you were with Pioneer, I guess, more recently? And do you see this as a template for continuing to gain share with other E&Ps?

There's certainly that opportunity. One thing we want to make clear is that the invoicing and distribution model for Flotek's chemicals goes through the pumping service companies, although, as you probably listened to us over the past calls, we've made a conscious effort in the way we've gone about making sure that the ultimate end user is aware of the value of Flotek's chemicals. That led to the hiring of Kevin Fisher in November to be able to bring more of a depth and breadth to being able to sell value. So now, Flotek actually is able to offer a suite of chemicals, like more than one to Shell in the Marcellus, more than one to Liberty in the Bakken, just to name a couple along with Pioneer. So we believe that with the chemical resources we have at our research facility, there's the opportunity of more relationships like we announced with Pioneer.

Great. And if I can just follow up with one more on the Pioneer agreement, how do you expect activity to ramp over the coming quarters here under that agreement?

Well, I think I would look closely to Pioneer's calls in the future for that. They've talked about how they're going to increase their capital expenditure on their vertical integration with their stimulation company as to how they're going to add more frac spreads to that. And as the contract calls for 80% of those blended chemicals that we talked about, we'll provide for them on their wells where they use their in-house stimulation Pioneer pumping services company.

Our next question comes from the line of Brian Uhlmer with Global Hunter.

I wanted to follow up on the 35 wells you said that you were in -- bid out in the Permian and the CO2 flood. Just curious on 2 things: number one, if there's results of that, that are going to come out in a white paper, SPE paper or something like that or if you could go into the results a little bit and what you're seeing out there; and number two, if that was for a variety of customers or those results are good, primarily to 1 or 2 customers.

Sure. Several questions embedded in that one question. We are planning as we get a further amount of time between injection and production profiling to be able to have a white paper, as you suggested. But I wouldn't expect that in the near term just because, as a chemical person yourself, you know that the breakthrough and the actual results, when you're injecting something, and an injecting well takes time, to see throughout the full field that you're flooding there. The specific -- 2 different applications. There was a CO2 diverted foam injection that was for a particular client, and then the other wells that were referenced were injector wells for a separate client. So it's 2 different clients that we're talking about there. And we're just not yet at a position to discuss their names. And as we mentioned in the last call, we've got other projects in various states of development. Hopefully, that answered your question for you.

Yes, it does. Following up on the Petrovalve commentary and how we're looking at the Artificial Lift. Were the Bakken and the D-J installations, number one, was it D-J gas? Or was it the Niobrara used for an oil, liquids-type play? And number two, was that in Q1 or was that something that occurred just recently here in April?

That was in the Niobrara play in the liquids rich, and that occurred just right at the end of Q1.

Just to further elaborate on that, Brian, what we're trying to test out there is the economic model of the Petrovalve that's able to be placed further back into a horizontal well than just in the vertical section of these nonconventional oily shale wells in those 2 basins. And we're at the infancy of determining the economic model of that. We just thought it was worthwhile to point out that this is a technology that's been used almost exclusively internationally. But because of the way these completions have changed, there may be, I will emphasize may be, a business opportunity here in the United States.

Right. And finally, on your final segment, Teledrift, I don't think I missed it, but I don't think you mentioned you had an international expansion there with Weatherford, just curious if you could update us on where you are in regards to that and if there's any update available for that?

All of the equipment is shipped. It should be getting there. The contract is starting. I would expect revenue streams to start coming out of it in either late May or early June. We have to go over and do all of the calibrations at the Schappa [ph], but the drilling activity has started. So we are very close to recognizing revenue streams from there.

Our next question comes from the line of Josh Silverstein with Enerecap Partners.

I was curious on the chemicals gross margin. Not only did you guys have an improvement year-over-year, but it was a pretty big jump sequentially. It looked like it went from about 40% in Q4 to about 44% in Q1. Can you just kind of talk about what really changed in the quarter? Just a little bit more color there. And if you think that's sustainable going forward.

One of the -- good question, Josh, because one of the things that we work with very closely with our vendor, the alignment in cost and a couple of other costs that have got a little bit high, that jumped much like the guar [ph] issue had jumped up. And we were able to go in and do some negotiating with them, buy some certain volumes. Also there was some pricing relief as we come at it, and most of it is, as you well know, this is very important in our stimulation chemicals in our C&S. Most of it came from the price negotiations on those. We do expect to be able to hold those the rest of this year, those margins we picked up, we expect to hold them throughout 2012. We'd be surprised if we don't.

That's helpful. Also, I just wanted to get an update on the chemical plant expansion. I just wanted to see where you guys were on in that process.

We are probably -- this is going to be an evolving situation. If you go up and look at it, you don't see a heck of a lot of difference in it except for just a pure output. The extra acreage that we've bought, we have it designed out. We figured by May, we're going to be 75% of the way through with the initial production, which would add probably 250% to 300% production capabilities and bulk tanks. And yet we don't see that as the end of what we can do. We're making it a very modular expansion. So as we add products, as we add new technologies, it's not going to be a redesign. It's simply going to be add a module on here, add a bulk tank out here, add another farm, add another blender, and we expect growth, obviously, for quite a while.

Our next question comes from the line of Greg Gartner with Singular Research.

I just wondered if you could characterize how you perceive the drivers of growth in the future here because you've had such a strong rebound from the weakness of a few years ago, and yet you're still identifying some growth opportunities. And in light of the Pioneer agreement, would you characterize the growth coming from penetration to new basins? Or is it with an existing basin and just penetrating the client base? Or perhaps some more E&P providers in the existing basins? Can you give us some flavor on that? Or is it just totally different from basin to basin?

Sure. Great question. Multiple-part answer. It does vary basin to basin. In the case of the chemicals, we've tried to explain this to folks that this is a market penetration story and an education story, not dependent on an uplift of significant activity. For years, Flotek relied on the stimulation companies to provide education and the value understanding of the chemicals that those stimulation companies were pumping, and we felt that, that was a flawed model to make the ultimate end user understand when they pay more what they're getting for that. And that just takes time. So we believe we're in a football analogy, the first quarter of a four-quarter game of educating the industry of the value of these value-added products from Flotek Chemical. With respect to downhole tool, actually innovation and just improvement in performance is what's driving that growth. We talked about Teledrift innovation, where we've taken a technology that's been around a couple of decades, for heaven's sakes, and automated into the wireless iPhone era, where now you'll be able to get telegraph readings anywhere you have a smartphone. And we believe that's going to drive people that otherwise may not have used Teledrift will now take another look at it. People who do will use more of it. In the case of the Cavo motors, quite frankly, the effort of the internal operational group under Steve Reeves headed up by Randy Merritt have done a heroic job of transforming that division from a significant loss provider 2.5 years ago to what is a main contributor to the performance of downhole tool, and that's strictly because of performance. So there's 2 or 3 different ways we're attacking it: education on chemicals, innovation on Teledrift and just right down better performance regarding specifically the Cavo motors.

Can you give us any update on the EOR? Or is it just a work in process, does it go along? And anything along the lines of -- you've mentioned before about how it's a much larger market than the fracking markets and the -- and is there a quantification of how much larger that is?

Sure. That scenario that -- we've just got to ask folks like yourself on the phone to be patient with the understanding of it. When we talk about the EOR fluid market being as big or bigger than the stimulation market, quite frankly, that's the truth. They pump as many surfactant-type chemicals in EOR. Secondary recoveries, they do on hydraulic fracture stimulation jobs. The reason we can't give you a good quantification of that overall area-by-area, field-by-field market is there's no such thing as an average. When you can average the typical horizontal well that's completed, uses 5 million gallons of fluid, almost basin by basin, there is little variance there, then you're able to compute typically how many Flotek chemicals could go into an average horizontal, nonconventional completion. With EOR, its completely different. You may have a 5-well spot program that you're trying to increase flood. You may have 100 well spot program that you're trying to increase the flood. And so we just can't give you an average target revenue that we're looking at. And as I discussed earlier with Brian, the thing that we really got to do a good job of making sure the folks out there understand is the EOR process by itself is a elongated process before you see returns. It takes, in many cases, weeks, if not months, when you've injected a particular additive in a well to see has it performed the way you want it to at the producing wells. And that's just the way it is. But we're encouraged about our technology. We're encouraged about the research capability that we've developed for this. And we're committed to fully exploring what the ultimate economic benefit it is for Flotek.

Okay. It seems like it's a really good new market area for the chemical technology. That's great color. When you -- just one follow-up on what you had mentioned about how in the stimulation you can more easily understand the volumes that are used in the basin, does that give you a sense for what kind of share you might have on a basin-to-basin area and whether or not you want to share that? Can you give us at least a sense for -- you're in, let's say, the low '20s or low third component of total share, and you've been seeing this obviously grow in this last year. I'm just trying to -- my orientation is trying to get a quantification of how far can this chemical logistics grow because it's been doing so well. I'm just wondering how much further can this continue if the oil -- the rig count is relatively stable from here.

Fair question. We don't, from a competitive standpoint, break out penetration basin by basin, and hopefully you understand that. But from a overall U.S. standpoint of nonconventional stimulation work, the product that's the most identifiable is the Complex nano-Fluid. And through the effort of Kevin and the sales group and the whole CSI team, we believe that we're on something less than 10% of those completions with that product. Our internal goal, and we stated this in different presentations, different one-on-one meetings with folks like yourself, is that within a 3-year period, to triple that to 30%. We've targeted that as a number due in large part to the experience of myself and Kevin and others who have been involved with value-added products in this industry. Three to come to mind are radioactive tracers, microseismic fracture mapping and specialty ceramic-type proppant. All of those different value-added services products typically penetrate the market somewhere around 30% to 35%. And when you do that, then you really feel, at that point, you've educated a fair portion of the industry on the value. So we have placed a similar target inside our company to grow up to that point and then see where we are there, and we think that's a 3-year plan to get there.

[Operator Instructions] Our next question comes from the line of Richard Dearnley with Longport Partners.

I have 2. To follow up on the Pioneer announcement, does that include Teledrift and EOR product? And are you allowed to market the formulations you derived with them to others in the Permian or any other basin?

No. Good questions. And this contract is specifically regarding chemicals, specifically regarding primary completions, although I think you could intuitively assume that the relationship of Pioneer, we would certainly hope, would expand to include other offerings inside Flotek. And the second part of your question, that is in part why there was this formal contract, is these products that have been developed are privately labeled specifically for them based on -- I might add here for a second, that if you had a chance, anybody, to listen to their earnings call a couple of weeks ago. They talked about using certain wells as scientific wells where they take core analysis, they do microseismic fracture mapping to better understand how these completions are going to act and react. And we've been able to use that information in conjunction with them, core analysis, drill cuttings, fluid samples, understanding the water that they're using so that we can specifically design what they and we think give the best chance for the performance of their wells. So those products are specifically tailored and confined to their usage.

Right. And the first part was, so Teledrift and EOR, not in the contract.

That is correct at the moment, that's correct.

Well, your answer segues nicely into the second question, which is on the March conference call, you said stay tuned in 30 or 60 days for data demonstrating CnF productivity increases, statistics to sort of help, I guess, with marketing. I talked to an E&P company 2 days ago and asked if they had looked at Flotek CnF. And they said, "Yes, it looks expensive to us." And I said, "Did you get around to what it might do for you productivity-wise?" And he said, "No." Any breakthroughs on the data front?

Well, that's exactly -- you've hit the nail on the head for the education process. Yes, we've got -- and I may be a little bit overeager in the timeline that it takes to get some of the clients we're doing business with to release the information, but we've got what we feel is very encouraging information that further layers on, on top of the white papers that are already on our website that talk about the value creation of this Complex nano-Fluid. And believe me, I hate to say stay tuned, but again, stay tuned because it's just to build on, again, of what's already on the website. And if you've had a chance to see the video, and these are all the different ways to try to attack this education issue that we're in the middle of.

The last time that I looked at the website, most of the white papers were sort of '08 kind of data.

Right. And I think what we'll do -- and we can go offline and certainly reach out to you. There's been a couple of more SPE papers presented that talk about the CnF value in terms of different types of sand that are pumped in these completions as to what that does to the performance of your well. And point well taken, we'll double check to make sure it's all updated. But certainly offline, we'll be glad to send you that information specifically.

Our next question comes from the line of Oren Shaked with Credit Suisse.

My questions are related to pricing and SG&A. I just -- on pricing, I was just curious, with 70% of the portfolio focused on liquids, can you give us a little bit of a better sense of why you're simply holding the line on pricing and why not maybe seize some more pricing momentum and maybe give us a sense of pricing over the intermediate and long-term periods? And then on SG&A, maybe you can give us just a framework of how you think about the SG&A growth. Obviously, it was up quite a bit year-over-year, and I'm just curious. I know you were up in dollars throughout the year last year, but I'm just curious how to think about the progression of SG&A going forward through the balance of this year.

Sure. We've tried to express that pricing, as much as anything compared to the last year, when we increased prices over the course of the year, 10% or 15% based on the different services. And we just want to make sure everyone understand, don't expect that this year. That's not to say that we won't have isolated targeted pricing uplift in all of the different services of Flotek. Perceptually, in the stimulation business, it is difficult to increase pricing materially on a value-added product like Complex nano-Fluid when we service companies, the Halliburtons and the Schlumbergers and all that, are not uplifting their pricing as well. But that doesn't mean that on some of our other specialty products, and even those in certain targeted areas, that we don't look after on a month-to-month basis. Regarding SG&A as a percentage, obviously compared to revenue, it'll stay where it is or go down. One of the main components of SG&A is the stock compensation for this company that we believe is appropriate based on the performance of this company. Since I've been here, we've pushed down the equity availability down to people at the administrative assistant level, in offices like Chickasha, Oklahoma, and Roxton, Texas. We believe that when we're able to push down the equity opportunity to people at that level in this company, everybody has a alignment with our shareholders to do everything they know how to impact the stock price. And so the largest increase in that SG&A is attributable to that. We don't expect any material increase in manpower in the SG&A, slight increase in sales personnel. And again, I think a couple of calls ago, I mentioned that due to the financial performance of Flotek, we've been able to attract a higher-caliber person into Flotek that we otherwise might have. And that's no disrespect to the folks that have been here and fought a good fight, but we've been able to attract people in that can interact with C-level executives with the oil and gas companies when perhaps previously a lot of the sales focus has been on the more field-oriented people. I think that hopefully will give you a better understanding of the SG&A component.

[Operator Instructions] We do have a follow-up question from the line of Josh Silverstein with Enerecap Partners.

One more question for me. Didn't hear much about Russia. I just wanted to get an update there on where you are.

No, fair question. Russia is an interesting environment. For heaven's sake, I didn't notice that every May they take 2 weeks off just because they want to, just to give you an idea what's it like to deal over there. But we're committed to understanding is it economically viable to have a presence in Russia. As we've mentioned, the first entry into there is through the chemical side of Flotek. The initial chemicals have been tested, have been verified, have been validated with the products that are currently used over there. And we're working through some economic issues from a taxing environment of taxes, value-added and all that to make sure, again, as we mentioned kind of in our prepared remarks, we're not going to go somewhere just to say we've been there if it doesn't create a proper shareholder return for our stakeholders. So we're in the middle of making sure we clearly understand that.

And there are no further questions at this time.

Okay. Thank you, operator, and thanks for the interest and the questions and your interest in Flotek. If we don't see you in an upcoming conference, we look forward to visiting with you after the next quarter. Thanks again.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines. Have a good day, everyone.