Good morning, and welcome to the Flotek Industries Inc. Third Quarter 2014 Earnings Conference Call. [Operator Instructions] This conference is being recorded. At this time, I would like to turn the conference over to Mr. Rob Schmitz, Vice President and Corporate Controller for Flotek Industries. Mr. Schmitz, 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 we begin our formal remarks, I wish to remind everyone participating on this call, listening to a 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 Act of 1934 and other applicable statutes 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.

Rob, thank you. I'd also like to welcome each of you to Flotek's Third Quarter 2014 Conference Call. We are glad you are here. With me today are Rich Walton, Flotek's Chief Financial Officer; Steve Reeves, our Executive Vice President of Operations; Josh Snively, President of our Florida Chemical Subsidiary as well as our Executive Vice President of Research and Innovation; Chris Edmonds, our Senior Director of Corporate Finance and Strategy; and Rob Schmitz, Tek's Vice President and Corporate Controller. 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. However, before doing so, a couple of opening comments. Yesterday, we were once again reminded about just how fragile the world in which we live can be. In a senseless and cowardice act, a person or people brought commerce and government to a standstill in Ottawa, Ontario. Not only as a company with commercial interest with our northern ally but also as Americans, a label all of us living in North America identify with, our thoughts and prayers are with the people of Ottawa as well as across Ontario and all of Canada. We understand the unsettling challenges that result from such senseless violence and reminded of the vigilance that is required in today's uncertain world. We are proud to be a growing part of the Canadian Energy Industry and to employ a number of Canadians. We want you to know you have our support, sympathy and remain in thoughts of the entire Flotek team. As we noted last night, Flotek posted revenue…

John, thank you. As John mentioned, Flotek filed its quarterly report on Form 10-Q for the quarter ended September 30, 2014, with the U.S. Securities and Exchange Commission yesterday afternoon. Flotek reported that revenue for the quarter ended September 30, 2014, was $116.8 million compared to $98.4 million for the quarter ended September 30, 2013. Consolidated revenue for the 3 months ended September 30, 2014, increased $18.4 million or 18.7% relative to the comparable period of 2013. This increase in revenue was primarily due to increased sales of stimulation chemical additives in our Energy Chemical Technologies segment, increased actuated tool and Teledrift tool rentals in our Drilling Technologies segment, and increased international valve and valve equipment sales in our Production Technologies segment. For the quarter ended September 30, 2014, the company reported net income of $14.3 million or $0.26 per share on a fully diluted basis compared to net income of $9 million or $0.16 per share on a fully diluted basis for the quarter ended September 30, 2013. Net income benefited by approximately $900,000 or just under $0.02 per share on a fully diluted basis, related to the tax treatment of certain deferred tax liabilities and other benefits related to the 2013 acquisition of Florida Chemical. Earnings before interest, taxes, depreciation and amortization or EBITDA for the quarter ended September 30, 2014, was $25.2 million compared to $19.2 million for the quarter ended September 30, 2013. Selling, general and administrative expenses as a percentage of revenue declined to 18.4% for the 3 months ended September 30, 2014, compared to 19.9% for the same period of 2013, as revenue grew faster than SG&A costs. The company recorded an income tax provision of $6.1 million, reflecting an effective tax rate of 28 -- I'm sorry, of 29.8% for the 3 months…

Rich, thank you. As noted earlier, consolidated revenue for the 3 months ended September 30, 2014, was $116.8 million compared to $98.4 million for the 3 months ended September 30, 2013. Third quarter enterprise-wide gross margins equaled 39.5%, an increase of 38.1% in the same period of 2013, a result of improved margins in both our Production Technologies and Drilling Technologies segments, including significant margin expansion in international sales. Energy Chemical Technologies revenue in the third quarter was $68.2 million, an increase of $16.5 million or 32% compared to last year. Gross margin as a percentage of revenue decreased to 41.7% for the 3 months ended September 30, 2013 -- 2014 from 42.3% in the same period of 2013, primarily due to a new incentive processing structure, increased logistics cost and inventory adjustment during 2014, partially offset by improved margins for xylene replacement products, expanded markets for CnF and productivity improvements in the manufacturing process. We made strides in the third quarter in validation that we believe will lead to meaningful gains in market share over the coming month. As we have noted in recent presentation, while we remain committed to premium price integrity for CnF chemistry, we are working on a number of win-win pricing schemes for operators to entice more rapid and widespread adoption of CnF chemistries. We believe that pricing and volume balance is a prudent approach to accelerating market share expansion. We noted earlier this month, that logistics cost did factor in to slightly lower margins for energy chemistries in the quarter. Variables that impacted margins included long-distance transportation costs as Canadian shipments continue to increase, and generally higher transportation cost out of our Marlow, Oklahoma chemistry facility. We have aggressively addressed such cost issues through new transportation contracts and arrangements that should help mitigate future…

Steve, thank you very much. Before we take questions, I'd like to add a handful of concluding thoughts. The introduction of FracMax, the company's patent-pending application, for comparing the performance of wells using Flotek's advanced next-generation CnF completion chemistries versus those that use conventional surfactants for nothing at all, continues to be uniquely successful in fueling interest in Flotek's innovative chemistries. As a direct result of FracMax, Flotek added over a dozen meaningful commercial chemistry validation projects with over a dozen prospective clients across multiple domestic basins. In addition, we are actively working many more projects, creating the most robust prospect book in the history of the company. As indicated just 3 months ago, FracMax is one of the most compelling sales and value validation tools I've experienced in my 3 decades in this industry. And we believe operators will find it hard to ignore their own data, which conclusively validates the economic advantage of using CnF chemistries in completions. Let me be clear about one other item that seems to be lost to some who follow our enterprise. FracMax is not a tool required to prove-up the science of CnF. Candidly, the thousands of wells that contains CnF do that quite nicely on their own, as does the research and analysis provided by the likes of independent analysts, such as Dr. Jim Crafton, and the work of Texas A&M University in their nanotechnology effort. Rather FracMax helps us demonstrate the proven science of CnF and leads to validations that the chemistry works in specific applications. These projects are not tests or science projects. They are applications of a proven chemistry and what each operator considers a unique circumstance. FracMax and our effective sales team have not only gained traction in basins in which Flotek has a strong presence, but…

[Operator Instructions] And our first question comes from the line of Matt Marietta with Stephens.

So I wanted to focus on some of the commentary from the release, specifically as it relates to CnF sales activity in West Texas. We kind of go back and compare the language that you used to describe sales traction in the Permian Basin. What used to be clearly a number of validations and opportunities and so on, now it kind of looks like the language has shifted to the state that you are seeing a significant increase in the use in wells. Can you maybe provide some more specifics in -- why the confidence in the region is growing? And maybe some color on what's really going on out there?

Sure. I'll address that question after a second, but also want to provide additional clarity of the Permian Basin, because as you know, we are not just a chemistry company. We just moved into a new facility for Teledrift, which will also hold Telepulse, we're also going to acquire another facility there for expanding activity with Spidle Turbeco, downhole tools. So the Permian Basin on all facets of the Flotek enterprise is growing. And we have an increased level of optimism for it. Now specifically regarding complex nanofluid, we have more CESI resources in the Permian Basin than any other geographic area in the country. And interestingly enough, now we actually have clients referring other clients of their benefit of using CnF, which I'd have to say is the first time I've experienced that in any basin around, where the benefit that was directed specifically to one operator, they have now shared with others. So Permian Basin has moved on from just validating to consistent revenue. And I think the encouraging thing for us is that, that revenue is being generated from folks who have never experienced the benefit of CnF. So again, we have more resources there. We're facilitating bulk storage capability there in not only handling current levels, but also expected activity levels in the near future.

That sounds encouraging and to follow-up, you announced the Houston facility expansion earlier this month. Can you elaborate on what the rationale was? What we can expect as a result from this expansion in the longer-term? Maybe discuss some of the specific capabilities the facility will have?

Yes. Great question. So the facility will be just 5 minutes from our central command of the headquarters of Flotek. We think that in itself will create greater continuity for our clients and our folks. We're essentially doubling the square footage footprint of what we had in the Woodlands. And that's evidenced by in my comments earlier of an over 50% increase in these client studies, where they provide rock properties or rock cuttings or fluid samples for us to customize specific CnF chemistry for a particular area. So that's kind of the over view, but with a little bit more context, I think you heard us say the real value of the Florida Chemical Flotek integration is for the near to mid-term future, where we now have the innovative research of this citrus capability to create more environmentally friendly chemistry solutions combined with the more traditional activities that Flotek's research has been involved with. So now we have everybody or there will be by next September all under one footprint, one roofline. But I think as importantly, we're going to create a client experience that we believe will be second to none in terms of the interactive ability that if a client were to go to that facility, they could interact with the scientists that are working on their specific request.

And finally one more out of me, if you don't mind, more of a modeling kind of accounting question, and I apologize in advance for that. Can you just help us reconcile? I know you've probably explained this in the past, but the difference in DD&A from the add back provided in the EBITDA reconciliation versus the number in the income statement? Is there something in a different area on the income statement that I'm missing?

Great question. And my guess is you probably had the courage to ask a question that others are thinking about. So Rob or Rich, do you want to handle that specific question?

Yes. This is Rich Walton. Depreciation and amortization has reflected 2 places on our income statement. It is in SG&A, which you see and part of it is also included in cost of sales. That would be the depreciation on direct equipment that's used in the manufacturing process and it turns out that about half of the depreciation and amortization is in cost of sales. Within SG&A, there is a significant portion of that, that relates to amortization of our intangible assets. That runs about $1.2 million a quarter. The specific amounts of that amortization are disclosed in the footnotes to our financial statements in the goodwill and other intangible assets footnote. So in summary, they're included 2 places in SG&A and also in cost of sales.

Our next question comes from the line of Georg Venturatos with Johnson Rice. Georg P. Venturatos - Johnson Rice & Company, L.L.C., Research Division: I wanted to touch on the margin side and energy chemical. It was obviously great to hear about continued momentum in CnF, but did see a pullback there and a few items you highlighted. The new incentive pricing structure, obviously it sounds like something that likely continues. On the other side, it sounds like the logistic issues are largely mitigated at this point and inventory adjustment should be largely onetime, at least it appears. Maybe just walk us through a little more detail on how we should expect the progression into 4Q from what we saw this quarter? And maybe what we should expect to continue at least on some of those items?

Sure. Great series of comments and question there. At the end of this question here, I'll let Rob talk about the inventory and adjustment, which actually involved third-party handlers that kind of sit between us and the pumping service companies that I think speaks very well to our robust accounting effort to make sure the numbers are actually the numbers. But we're being requested by several of the larger pumping companies to provide more chemistry than just CnF. And I think sometimes, everybody gets their mind focused around CnF because it really does add value and creates the opportunity of more oil to come out of this rock. But as a lot of folks know that are on this call, there is other chemicals that essentially stopped things from happening whether it's corrosion of scale, bacteria creating and friction reduction and those are all chemistries that we have the capability of delivering. And so we're not going to turn down those opportunities when it's a specific request from us or from other of the pumping companies to provide some of that work. And they come in as we've said on previous calls like this, they don't carry the same type of gross margin, operating margin as the patented CnF suite of chemistries. But again, I think it speaks to the broadening reach of our research effort, it speaks to the broadening reach of our sales effort that we do not want to be regarded as a one-type chemistry company, nor are we. So that margin number I think from planning from a fourth quarter standpoint, Georg, should be consistent with where we are here. There might be a little bit uplift because that inventory adjustment was a onetime event we believe in the third quarter. And I'll let Rob talk a little bit more about that inventory deal just so you've got clarity on that and then if you want to follow-up, for sure come on back.

Yes. Thanks, John. As John mentioned, we began to use a lot more third-party storage in blending facilities, and we just discovered that some of those parties weren't providing a complete set of information to us about the chemicals that they had been using in the packaging and blending process. So we've adjusted our processes to follow-up more promptly with them in the future and you're correct, it won't be a recurring item.

I think -- and then one of the things, then Georg, we'll let you follow-up if you want to. The logistics situation I talked about this just a little bit earlier in the quarter, in terms of us creating take-or-pay contracts, was some of the logistics folks to move these chemicals around. I think that will mitigate the logistics issue going forward, and as a credit to our supply chain team, that's been able to negotiate that. So we don't see any further compression in the margin from energy chemicals, and I think you can model it going forward something consistent with the third quarter, maybe a little bit uplift, but go ahead. Georg P. Venturatos - Johnson Rice & Company, L.L.C., Research Division: Okay. Great. I appreciate that clarity, John. I guess, my next one is on with regards to FracMax, obviously, seems like it's really generating a lot of traction for CnF. Just wanted to know where we stand in terms of dedicated personnel on that marketing side? And then, secondly, you provided some nice commentary in terms of, obviously, early weeks of October, it sounds like demand hasn't been impacted by the volatility, just wanted to get, maybe a few thoughts on what operators are saying to you now in terms of the conversations you've had over the last few weeks with regard to the volatility? Does it come up or is it something that's been largely overlooked, at least to this point?

Sure. Couple of great questions. So we have a dedicated team of 4 folks, I believe, on the FracMax analytics, that are providing us the data that from our perspective is the most exact system of record, that's specificity of completion additives and corresponding production in this industry in North America. We now have 66,000-plus wells that have FracFocus data on them over the last 3 years with corresponding production across every basin in the country. And again I think one of our side objectives is to have that become the de facto standard of accurate information with respect to additives and are you able to illustrate value. With respect to your question on the clients, I think, and I'm sure that's a thought on a lot of folks' mind. Intuitively, I think folks who think that when you get a compression of the commodity pricing, which should inherently become more difficult for something that's perceived as a value-add. And our message always very consistent whether it's $105 a barrel or $85. And that is if you can validate the value, you should strongly consider using that technology, whatever it is. And the unique thing with Flotek is, we can validate the value, whether it's our CnF chemistries through FracMax or our downhole sensors that are embedded in a couple of our more technical drilling tools. So you could actually make a case, and I know you are very familiar with this. Many of these E&P companies that have a separation between cash flow and what the capital required is to continue their programs, that the opportunity to improve production or improved barrels of oil per lateral foot is actually more impactful for them at $85 a barrel than $105. I think the important message that we want to leave for everyone is that our messaging is very consistent. A year ago, we weren't saying, we'll now, because price of oil is high, you can afford to use this? No, it because we can validate the value and it's the same message today. Specifically regarding the clients, I would echo the sentiments that you've heard in the earlier earnings calls, the season with Schlumberger, Baker Hughes and Halliburton that they've not seen any type of slowdown in activity, and we haven't experienced it as well. And from what we can tell looking through the remainder of the year, as terms of the -- as how some of these projects are lining up, we don't expect to see that as well.

[Operator Instructions] Our next question comes from the line of Mark Brown with Global Hunter Securities.

I wanted to ask about just comparing the second quarter to the third quarter Q, it looked like your U.S. revenues weren't growing as quickly as the international revenues in other countries. And I just wanted to know if there is a specific reason for that? Or if there is any commentary you can provide around that?

Yes, that's a fine question. And there is one specific event regarding a major operator in the D-J Basin that we -- I think I talked about this actually in the second quarter, that due to a CnF product, we didn't believe was providing the type of recovery that was sustainable for them, we took that product off the market and have been reformulating it and have met with them. They have been engaged with us, no different than the operator we mentioned in the Bakken and our prepared reengage towards the end of the fourth quarter with their CnF additive program. And so in fact, offsetting that operator's activity and still increasing domestic activity, I think speaks well to the diversity that we're able to accomplish with more people using CnF in the third quarter than ever before.

Okay, great. I -- understood. I wanted to ask about your Microsolutions drilling fluids product, which I saw in the press release, that Saudi Aramco is going to commence work with that in the fourth quarter. Just curious, how we should think about that product being tested and rolled out and are there any other countries that you think would be good candidates for using that product or any of the basins here in the U.S.?

Yes, great question. And the status is -- it's our expectation after -- and as mentioned Amerr Mahgoub who heads up our effort there in the Middle East, who was actually over here this week with us. We expect that those first wells with Saudi Aramco to initiate within 2 to 3 weeks with the Microsolutions. Some people are probably wondering why in the world do we select Saudi Aramco. We selected and they actually helped select us because quite frankly, they are the good housekeeping seal of approval in the Middle East. And just by their interest up to this point, there has been other interest from Kuwait, there has been other interest in the UAE about this additive, it's designed to extend if you will the utilization of a water-based drilling fluid as opposed to an oil-based drilling fluid. And we need to make sure that there is real clarity on this. We're not in the drilling fluid business. No different than we are not in the FRAC fluid business. We are in the specialty additive business of making those fluids behave better. So it's certainly our expectation that in the end of the year call, in January, that we will be able to report back as to the benefit that Saudi Aramco saw with this initiative. I think I've mentioned earlier maybe in the second quarter call, this validation of the technology, we expect to work on the first 3 wells, but it may require some tweaking for another series of wells, but we're going into this with an expectation because their technical people have been over to our research facility, we have been over there, that the initial opportunity has a high probability of success. I think probably everyone that's connected with the activity inside Saudi Aramco can make their own conclusions that if we are able to improve the performance of the water-based fluid drilling systems with Saudi Aramco, it has a meaningful uplift opportunity for Flotek. With respect to North America, closer to home, that's another reason why we're expanding the research facility. We're going to have drilling fluid engineers inside the research facility, specifically engage with this Microsolutions effort. And we will also have drilling fluid business development people, geographically located in North America starting in 2015. And again, I just want to make one thing clear, this is not an effort to get into the drilling fluid business, we'd be crazy to do that. This is an effort to do what we do best, which is to hopefully add value to existing fluid systems.

That sounds excellent. One more question from me, if I may on Production Technologies. Just was curious that you're exploring options to accelerate the growth with new technologies and services. I imagine there is probably not a whole lot you can say at this point, but I just thought I'd ask you if there are -- if you can give us any hints in terms of whether there is a specific product area or type of customers that you are focused on with this Production Technologies strategy?

Yes, great question. And the honest and legal answer that we can give you is stay tuned over the next really just several weeks, it's not even going to be months. But again, our approach on this whole Production Technology effort is understanding the capability of what we can deliver with the size of Flotek. We're selecting what we believe our unique niches in that segment of this industry that the experience of the group that David McMahon has brought in and continues to bring into Flotek, are uniquely suited for us to exploit, either through a perhaps new technology or through better service. And so I'd say, great question. Just hang loose for, like I say, just a few weeks, and we'll be able to provide more clarity there.

Our next question comes from the line of George Austin [ph].

John, perhaps you could elaborate on this valuable metric of revenue and operating income per employee, which you continue to highlight. And it is indeed very favorable. You say top of the industry, I think, it's twice. Schlumberger, Halliburton and Baker, which are about $400,000 per head and you're in Microsoft and Google territories at $800,000 and $1 million respectively and obviously they have value-added products for consumers and corporations. So as you elaborate, I think my focus is going to be on headcount looking forward and this new incentive system and impact on pretax margins. By that I mean, if you're geared up headcount wise now, as these validation projects come to fruition, perhaps even another dozen, that the incremental revenue assuming you're geared up, staff wise, flows substantially to the bottom line, at least to pretax margins -- pretax. So maybe you could elaborate on that, are you stepped up well? And can you see a substantial impact on margins? And tie that in with what this win-win that Steve referred to incentive system means, whether it's production incentives or whatever? So headcount, incentives impact on pretax margins?

George, that was a great question. Let me answer it in different parts there for you. The efficiency and the effectiveness, of the revenue per employee is something that we are very proud of, and I appreciate you taking the time to compare us to other people in the industry. And then other industries. And it's something that we watch very closely. And I think it combines with 3 other main tenets of what makes Flotek different are debt structure, we think is second to none in this industry, and the cash throw-off as it relates to earnings per share and all that is very high, and we like to think that, that positions us very well, any type of irregularities in this whole commodity pricing environment with outstanding revenue per employee, outstanding operating income per employee, the debt structure and the cash flow throw-off. Now, a little bit more specifically to your question in terms of incremental. We have been able to meaningfully reduce the cost of -- the cost per barrel or per gallon of chemistry that's produced in Marlow due to the efficiency of the expansion effort there. And so, when you pull out just the Marlow blending facility, in terms of its impact on operating margin, it's greater than what you see in the overall energy chemistry segment because of the added infrastructure we put into place in business development and research building for the future. But the impact of producing chemicals in Marlow is that at an all-time record low. And that's what we'll -- as you correctly pointed out as we layer on additional revenue that will have even a more significant impact for us. In terms of the win-win you brought up from Steve's perspective, we are on the verge of having a…

I'll turn the call back to you.

Beatrice, thank you. And we'd like to thank everyone that took the time to get up a little bit earlier today. I wanted to do that because we had some requests from several of our stakeholders that there were other calls going on today that they wanted at least to have a chance to listen into. And again, we appreciate everyone's interest in Flotek, pleased that you've joined us. And we'd like everyone to have a great Thursday, and we'll talk to you all soon again. Thank you very much.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and announce that you please disconnect your lines.