Good morning, and welcome to the Flotek Industries Inc. Year End 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, Flotek Industries. Please go ahead, sir.

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 annual report with the United States Securities and Exchange Commission will be filed and distributed -- were filed and distributed last evening and are also available on the Flotek website. Before I turn the call over to Flotek's Chairman, President and Chief Executive Officer, 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 expect, anticipate, intend, plan, 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 the 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 United States 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 also like to welcome each of you to Flotek's 2012 Annual Review Conference Call. With me today are Rich Walton, Flotek's Chief Financial Officer; Steve Reeves, our Executive Vice President of Operations; Kevin Fisher, our Executive Vice President on Global Business Development; Chris Edmonds, our Senior Director of Finance; and Glenn Neslony, Flotek's Vice President and Treasurer. Last evening, we filed our annual 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. 2012 was a year of significant achievement and evolution for Flotek, both from an operational, as well as a financial perspective. Very simply, Flotek posted record revenues and margins, while at the same time completing the transformation of your company from a debt-laden, challenged enterprise to an oilfield technology leader, with one of the strongest balance sheets in the industry and a focus on cutting-edge technologies that improve the efficacy of hydrocarbon production while remaining a leading advocate of environmental stewardship in oil and gas exploration and production. At the beginning of 2012, we said that Flotek's goal was to make a difference for our clients, our communities, our employees, the environment, and first and foremost, you, our shareholders. By nearly every account, we have done just that. Our customers leverage Flotek's expertise and completion chemistry, production systems and drilling technologies to create more efficient drilling, completion and production systems, thereby increasing the number of viable exploration horizons, as well as improving returns to their stakeholders. Our communities benefit from Flotek's robust business growth, our team members' involvement in programs that…

John, thank you. As John mentioned, Flotek filed its Form 10-K annual report for the year ended December 31, 2012, with the U.S. Securities and Exchange Commission yesterday afternoon. In that report, Flotek reported revenue for the year ended December 31, 2012, of $312.8 million, an increase of $54 million or 21% compared to the $258.8 million for the same period in 2011. Growth was driven primarily by the Chemicals and Logistics and the Drilling Products segments. In those segments, revenue growth was a result of improved pricing and improved marketing efforts, which resulted in increased market share. For the year ended December 31, 2012, the company posted net income attributable to common shareholders of $49.8 million or $0.97 per share on a fully diluted basis. That compares to net income attributable to common shareholders of $26.5 million or $0.56 per share for the 12 months ended December 31, 2011. Included in 2012 net income is a gain of approximately $2.6 million related to the change in the fair value of the warrant liability associated with warrants issued in August of 2009 in our preferred stock offering. Included in 2011 net income was a gain of approximately $9.6 million related to this similar change in the fair value of the warrant liability in 2011. Also included in 2012 net income is a loss of approximately $7.3 million related to the early extinguishment of debt, which resulted from the earlier retirement of the company's convertible notes, which were issued in 2008. Included in 2011 net income was a loss of approximately $3.2 million related to the early extinguishment of debt. At December 31, 2012, the company also determined that it was able to record a benefit of $16.5 million against income tax expense as a result of decreasing its valuation allowance…

Rich, thank you. And let me also offer my congratulations on your appointment as our Chief Financial Officer. I've had the opportunity to work with Rich for the past several years and have the highest regard for his work, his professionalism and have little doubt that his new permanent role will serve Flotek and its shareholders well. In general, North American drilling activity continues to provide a constructive, albeit less robust backdrop for Flotek's portfolio of oilfield technologies. While natural gas prices remain challenged, strong liquids prices continue to provide opportunities for growth. Our continued focus on developing a more balanced portfolio of oilfield technologies did positively impact both liquids, as well as natural gas projects, continues to yield positive results. Nearly 3/4 of our revenue is associated with liquids-related initiatives compared to nearly the opposite just 2 years ago. Indeed, Flotek's research and marketing initiatives have created a company that is truly hydrocarbon agnostic. Our products that are equally as effective when working in concert with natural gas, natural gas liquids or oil exploration, development and production. Chemicals 2012 revenue totaled $184 million, an increase of $43.2 million or 30.6% compared to $140.8 million in 2011. The primary increase in revenue was driven by increase in sales of our patented complex nano-fluids, which increased 63.7% for the year. In the Chemicals segment, while pricing remains steady in 2012, margins improved as a result of better raw material pricing and a significant increase in the efficiency in the company's Marlow, Oklahoma chemical production facility. In fact, capital projects at Marlow helped to increase production throughput by over 50%, while producing -- while reducing the overall labor need by nearly 20%. Moreover, Flotek's chemical production facility continues to have a stellar safety record with no OSHA recordable incidents in 2012. Gross…

Steve, thank you very much. Before we take questions, I'd like to address 2 specific initiatives that for Flotek will continue to grow in 2013. First, while we discussed international opportunities earlier, I would like to provide a bit of additional color that will help you understand our long-term excitement regarding Flotek's evolution into an international oilfield technology company. The opportunity in Oman is the result of a significant amount of time and effort on the part of a number of members of the Flotek team, our partners such as Basin Supply and others, who've been singularly focused on creating profitable international prospects for Flotek. We believe the development of the chemical research and production business in Oman is precisely what will propel our international efforts forward in key regions of the world, Middle East and North Africa. Clearly, this is the first step in the process, and the end result won't happen overnight. However, the final product will be a durable contributor to Flotek's revenue and earnings growth for years to come. Moreover, while we have said consistently over the past several quarters, the timing of these opportunities is less certain than with domestic business development, Oman is just the beginning of a number of international opportunities in front of us in the months to come. We look forward to sharing progress with you throughout 2013 and beyond. While our relationship with Basin Supply may not have moved as quickly as either Basin or Flotek had hoped, we would not be in Oman without their help. We believe that 2013 will provide several other opportunities for Flotek to collaborate with Basin in additional international projects. In addition to our relationship with Basin, we continue to develop more expansive relationships with other international partners, including large, integrated service companies. We've…

[Operator Instructions] Our first question comes from the line of Michael Marino of Stephens Inc.

Just want -- John, just wanted to kind of dig in a little bit on your commentary around Q1, or how it's progressing. You mentioned January was a slow start and kind of moving higher from there. Should we think about Q1 as maybe the mirror image of Q4? Or do you think Q4 is kind of maybe indicative of some sort of bottoming here as your customers now get back to work and hopefully, you get a little bit of an industry tailwind?

Yes. Given those 2 choices, we'd say that, we'd look at Q4 as a bottoming out and that our expectation midway through March is Q1 will be above the Q4 number.

Okay. And maybe, specifically, what's driving that? Is there a particular customer? Is it some of the pioneer work that's maybe ramping up? Or is it one thing you can point to that gives you kind of the confidence that maybe this acceleration is -- or in the -- within the quarter kind of continues?

Well, there's a couple of things. First, a little bit of clarity on the fourth quarter. We made, at that time, early in November, a conscious decision to maintain our best-in-class margins and our pricing when there was a situation, quite frankly, with several of these private equity funded hydraulic stimulation companies that were beginning to stretch their payables. And oftentimes, when you stretch your payables, then you become questioned, are you going to get your money? Our receivable number is best-in-class, 51 days turn. Our bad debt allowance is best-in-class, 2%. And we wanted to be mindful of that, protect that, and that was an impact in terms of fourth quarter revenue. In terms of the first quarter, we can accurately say that there are more people using our Complex Nano-Fluid from a client basis than any time ever in Flotek. There's not one specific event that I would say that has the first quarter where it is, but it's a broad-based exposure that, as we've said all along, will take time through this education process. And we, like I said, we can state that there are more E&P clients using Complex Nano-Fluid than in any time before.

That kind of leads into a follow-up question on the margin front. I guess the chemical margins dipped in Q4, which you alluded to some of the issues there. How should we think about margins going forward? Is there room from kind of -- I guess, Q3 was kind of the high watermark on the gross margin line in chemicals? Is that something we can see you get back to in the near term?

Yes. I want to talk about one thing in the margins in the fourth quarter, regarding chemical. We took a $1.2 million inventory write-down on guar. The was an event that had to be looked at as a commodity in terms of market-to-market pricing of guar. Earlier in that -- in the late summer, we had several clients that expressed a frustration in the availability [indiscernible] and the way the inventory has worked out, it was the right thing to do in terms from an accounting treatment to make that adjustment. So we're very comfortable with where the margins are, excluding that event, for the overall chemical segment.

Okay. And is -- the guar is not something that you guys can look at as an ongoing business line? It was more just an opportunity that [indiscernible]?

That's correct. That's correct.

Okay. And it's all behind us now?

That's correct.

Our next question comes from the line of Arudy Hokansen [ph] from Barrington Research.

Two questions. One, how are you positioning CnF 2.0 versus your earlier version, and how is that being marketed? And second, on the Gulf Energy joint venture now, I was just wondering how soon do you expect that to ramp up and on what scale?

Sure, I'll answer the second question first and send the first one over to Kevin Fisher. We can't speak to the approval process in Oman, with the Omani government. But I think kind of a stake in the ground that all of us should try to remember is, we would expect that the facility, based on what we've been giving in the guidance so far, is by the end of this year, we'll be pushing chemicals out the door. We expect a gradual ramp-up of sales through that relationship, through the remainder of the year. But it will be towards the end of the year before we really fully realize the benefit of having a facility over there. So somewhere towards the end of the fourth quarter is when we'll be able to give you some further clarity in terms of the status of that facility. But in terms of the first question, Kevin Fisher will be glad to answer it for you.

So regarding the CnF 2.0, we have spent and we've discussed this before, over the last 6 months of 2012, doing exhaustive studies in the laboratories, comparing CnF 2.0 against our other CnF products and then comparing it basin by basin, formation by formation, to find out which formations will benefit from the most uplift. And if you recall some of our earlier comments around CnF 2.0, the primary goal in the research and development of that product was to make a product that would be as good or better than existing CnF products and be able to pump that at half the concentration. So you could use half as much, get the same benefit in terms of productive uplift or maybe a little bit better in some reservoirs. So now we're -- we've finished the lab testing and the pilot looks at reservoir by reservoir where we think that product has the most uplift and is going into the field. In fact, during the fourth quarter, the first shipments of the CnF 2.0 were sent to a customer in the field out there. Does that answer your question?

Yes. I was just wondering, as you -- is there any issue in terms of how you're pricing the product relative to earlier CnF products? And what you expect that might, basically, influence market receptivity?

The margins on the CnF 2.0, we expect -- well, they will be as good or better than on the previous products. The CnF 2.0, as I mentioned, will be pumped at half the volume as previous products. So it will be more expensive on a per gallon basis. The client can still use less of it, and I think at the end of the day, the cost of application in the field with the 2.0 will be about the same, maybe only slightly less than the existing CnF products.

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

Can you give us some more color, John, on the EOR field test? How many tests, maybe how many basins, how many companies, your perception, how long they're going to last or maybe progress on the prior tests?

Sure, and I really don't want to sound like a broken record on that question as to -- as it's been asked in previous calls in terms of -- our frustration, no different than yours, of the difficulty of having more publicity of who exactly we are working with. As I mentioned, just maybe 10 or 15 minutes ago, we are now having field applications for 2 of the largest EOR companies in this industry, and that's a very small class. There's only about 4 that you would consider as 2 -- as the 4 largest. And so we've got applications going with 2 of that 4, and so you can probably fill in the blanks there. We had mentioned consistently that this would be a process that we would demonstrate the value on the smaller companies and migrate up to the larger ones, we've done that. We are currently involved in 4 different basins, I believe, with these companies. And we will continue to expand it that way. We're involved in a couple of different industry. If you will, in the summertime, we will be presenting information in SPE-type papers that are able to talk more about the EOR, but we're as frustrated as anyone else. But the nature of this is the clients just prefer not to have a level of publicity as to what they're doing with this EOR. But we're -- there's nothing that has changed our view as to where we're headed with our Complex Nano-Fluid chemistries in the EOR applications.

Yes. It certainly seems like a great opportunity. I'm just wondering what your view might be on potential revenue ramp? Is that pushing out now towards 2014 for this? Or do you have any sense that there would be a contribution in 2013?

No, we've consistently said that we expect by the middle of this year to have a EOR contribution on a monthly run rate, similar to the chemical contribution over the past year international [ph]. So again, you can kind of connect the dots there. But we expect somewhere just under $1 million a month in the latter part of the summer to be coming from EOR opportunities. And we haven't changed from that view, that's still our view as of today.

And on the CnF 2.0, perhaps it's my misunderstanding here, but is this -- in the use of -- in the completion, is this essentially expanding the market for your CnF technology? Because I thought majority of the CnF was really used more in the frac-ing side.

Yes, this is Kevin again. So the CnF 2.0 is the same market space as the original CnFs. And we've talked about this before that in the gas plays, the primary purpose of the CnF in a dry gas drilling boom [ph] was to remove the water that was pumped off of the frac jobs in order for the gas to be able to flow back into the wellbore and through the fracture and up the hole. Oily reservoirs are more difficult. The molecules of oil are larger, they're more viscous. It's harder to get that through the pore space and in the formation and into the -- harder to move it through the fracture, just because of the size of the molecules and that increased viscosity. And so we find that with the CnFs, and we now have about a dozen different CnF products, we find with the CnFs that some work better in one reservoir but not as well in another reservoir. So it's sort of a fine-tuning process to determine which CnF is the best for a given reservoir. So we may run a different CnF in the Bakken than we do in the Woodford, and a different one in the Woodford than in the Eagle Ford and South Texas. The CnF 2.0 product is a better product for a wide variety of these reservoir but it's still used in the fracturing process there, the CnF product [indiscernible] surfactants and solvents and emulsifiers elements [ph] are very useful in the oil.

I'm sorry, you seemed to fade out there a little bit. After you mentioned that 2.0 is better for a wide variety of basins, I didn't catch what you had to say after that, I'm sorry. Could you repeat that, please?

The CnF 2.0 has application in a wider variety of basins. So there will probably be fewer CnF 2.0 products than there are of the original CnF products. And again, as I mentioned earlier, that the primary benefit of the CnF 2.0 is that it can be run at half the volume or half the concentration in a frac job, with the expectation to get as good or better performance from that well.

Okay. But I'm still a little bit unclear, perhaps it's my own mental block. I'm sorry if that's the case, but is it used more in completion or still we're just focused on frac-ing here?

It's focused on fracturing.

Yes, okay. And just one final item on the CapEx. You mentioned in the 10-K how -- it looks like CapEx for chemicals is about doubling. Is this associated with the CnF 2.0? Or is there something else going on? The forecast for CapEx for 2013 is what I'm referencing.

Right. We have built-in -- part of that CapEx would to be to build this plant in Oman. So we have put in several million dollars in the CapEx there and then to continue the rest of the construction buildout at Marlow, Oklahoma. So that's where the extra CapEx come in, in chemical.

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

I had a couple of quick follow-ups. First off, your press release says that your 42-point-something percent margin in chemicals excludes the inventory. Is that a typo? Because it sounds like it does not -- that includes it, right? So your true margins in chemicals would have been about 45%. Is that accurate?

Yes, that was a typo in the press release. The actual reported margin, that's for the fourth quarter on -- in chemicals was 42.4%, that was the actual. If you back out the $1.2 million inventory adjustment that occurred on December 31, that would, if you exclude that write-down, the margin would have been 45.0%.

Okay, solid. And the other $200,000 of inventory reserves was from another segment? And that affected Drilling Products, is that correct? You had a $1.4 million total write-down.

I believe that total write-down was $1.2 million.

On the inventory, okay. We'll catch up offline on that others -- on reconciling that $1.4 million in the cash flow statement. My next question is really on the G&A. On the quarter, you're 19.4, about 25% of your unrealized sales were down in the quarter. Can we talk about where that's going to shake out on an absolute basis moving forward? And I guess, notably, what type of revenues that G&A can support -- if we're growing the business are we going to keep adding G&A as a percent of sales on an absolute basis so as a percent of sales, that remains flat or will it go down?

Brian, this is John. And our expectation is it's going to be flat or go down as a percentage of sales. We tried to illustrate that in that SG&A is that non-cash number on stock and on the equity program. And if you allow me to take just a little bit of your time, then we'll be glad to answer a follow up question for you. I wanted to provide you just a little bit color on that because I think it provides an inside look into the culture of Flotek in that, we have distributed the stock program to over 25% of the Flotek people. And that 25% gets over 40% of the equity. And to that point, we pushed this equity all the way down to dispatchers, administrative people, the districts that are in charge with invoicing and reconciling, from an accounting standpoint, getting things to the right place at the right time. And that has created an alignment of our folks with the shareholders like nothing I've never seen before. And those people understand that, that equity, there will come a time that, that can pay for a kid's college or a new house. And that's why we wanted to illustrate that as to what it is from a non-cash standpoint on the earnings per share that we think we've done something that's really kind of special and that, in part, leads to the performance of Flotek. We watch that SG&A very carefully. And as you know, probably it's better -- as good as anyone on this call, when you're in kind of a growth mode as Flotek is, sometimes you got to build up that SG&A in anticipation of the growth. But to more directly answer your question, we believe the SG&A will be flat or slightly down as a percentage of revenue for 2013.

Is that on average for the year? The fourth quarter run rate was obviously a little bit high with revenues coming in. Are you saying that as a percent for the whole year? Kind of roughly 21.2?

Right. If you look at it over an annual basis in terms of the way you like to model things, that's correct that it will be flat to slightly down on an annual basis.

Now, [indiscernible].

Rich wants to add -- hold on one second, Brian, and we'll let Rich have a follow up. Rich wants to add one thing.

Yes, Brian, I understand your question. The $1.4 million amount that is a provision for inventory adjustments that's shown in the statement of cash flows compared to the $1.2 million mark-to-market write-down that we've just discussed. The $1.4 million contains an additional $200,000 that was a provision for our reserve for excess and obsolete inventory. That is something that we do review each quarter and the specifics of that are presented in the inventory footnote in the Form 10-K, that would be in Note 5.

Now, John, on the stock-based comp, you know very well that I'm fully on board with pushing down the -- pushing this down. It looks like the primary options and restricted stocks are not used ops, right? So should we look at, as our share count rise and potentially 2% of your share count per year being allocated out to your employees, is that the best way to look at? And can you talk a little bit more about whether it's options to those employees or restricted stock? And if so, what's the vesting period, and when are we going to actually have to see that cash outflow by Flotek for that stock?

No, that's fine. All great questions. The stock is all restricted stock. There are no options. The vesting program that's in place is now 3 years. And the last year was a bit of a unique one in terms of we had some cliff vesting from previous equity plans and some other plans. But going forward, it'll all be on a 3-year vesting program, part of that, for folks listening in, say we'll have some people or a 5-year, whatever, quite frankly, the age demographics of Flotek is such that some of the folks sitting around this table are, closer over 60 than closer to 50. But we've tried to be respectful of that, so it's a 3-year vesting program. And it should be the percentage that you mentioned or slightly less.

Okay, great answers. And finally, no one spent a lot of time on this and you guys know how I like Steve Reeves to talk at least once. Could we talk about the Drilling Products performance and even on kind of a revenue mix, why the margins were up so smartly? And if that is something that we should expect ongoing or we should actually expect it to improve as the Permian activity ramps up and Mississippian holds flat at a minimum?

We are going -- thanks very much for calling me in, Brian. As you look at the margins in there, there's a lot of pressure out there right now with the less rig count, as you follow that very closely. Until we start seeing an improvement on that, we're going to be very hard pressed to do anything with margins. We're -- the margins are probably -- we're not -- anything in the high 30s on the Drilling Products margins is pretty acceptable. And we're pretty comfortable with where we are, and we're fighting to hold that right now. So I would look until we see some rig count improvement. We're not going to see any possibility of increased margins, Brian.

Okay. But you think you can hold them, which -- they're best in the biz, so I'm not putting them down that way?

Yes, that's it. If we hold this, we're doing very well, and we're pretty satisfied with what we're doing right now.

Our next question comes from the line of Chris Oresky [ph] from Bowstreet Capital.

Just 2 quick questions on revenue. The first, what was total CnF revenue in Q4? And then if you could actually share January and February Q1-to-date total revenue numbers, that would be extremely helpful.

Yes, Chris, John here. We'd actually like you to ask 2 other questions, only because we don't give out CnF revenue by quarter like that. And we've made a practice, from a guidance standpoint, not to give out the specific revenue of months while we're in the middle of a quarter. I'd just ask you to be comfortable with the answer we answered early on with Mike Marino, that we believe the first quarter will be an uplift over the fourth quarter of 2012.

Got it. And can you just provide any directional or indication on CnF revenue sequentially Q4 versus Q3?

Yes, I think it was certainly as good as or up over the third quarter. I think we put a statistic in there as to what CnF was year-over-year. But Kevin, do you want to add anything to that question?

Yes, Chris, this is Kevin. The chemical group revenue Q3 to Q4 was up $2 million, and it's fair to say most of that was CnF. The other thing I'd like to, and certainly related to your first question, again, as John said, we don't break out the individual product segments within various groups of ours. But when you look year-over-year in Q4 versus Q4 of 2011, the chemical revenue was up $5 million quarter-over-quarter from 2011 Q4 to 2012 Q4. Down-hole tool revenues fell a little bit in Q4 versus the earlier year Q4. But when you look at the change in rig count, about 200 count drop in rigs from year-to-year in that fourth quarter to a down-hole tool revenue per rig running out there was actually up 9%. So both of the units performed very well in Q4.

[Operator Instructions] Mr. Chisholm, there are no further questions at this time.

Okay. Thank you, operator. And folks, thanks to all of you for your support, questions to Flotek. We look forward to speaking to you again in April, seeing many of you at the IPAA New York Investor Conference, or we have our annual meeting here in May. You'll obviously be aware of that as we get closer to that to the exact time and date. And then our first quarter call will be sometime there towards the first end of the week of May. Again, thank you for your interest in Flotek, and we'll talk to you all again soon.

Ladies and gentlemen, that does conclude the conference call for today. Have a great day, everyone.