Geospace Technologies Corporation (GEOS) Q2 2015 Earnings Report, Transcript and Summary

Welcome to the Geospace Technologies Second Quarter 2015 Earnings Conference Call. Hosting the call today from Geospace is Mr. Rick Wheeler, President and Chief Executive Officer. He is joined by Tom McEntire, the company's Vice President and Chief Financial Officer. Today's call is being recorded and will be available on the Geospace Technologies' Investor Relations website following the call. [Operator Instructions] It is now my pleasure to turn the floor over to Rick Wheeler. Sir, you may begin.

Good morning, everyone. Welcome to Geospace Technologies conference call for the second quarter of fiscal year 2015, and thanks for listening. I am Rick Wheeler, the company's President and Chief Executive Officer; and I'm here with Tom McEntire, the company's Vice President and Chief Financial Officer. I will start off the prepared portion of the call with an overview of the quarter, and Tom will follow that with an in-depth review and commentary of our financial performance. I'll then close out the prepared portion of the call with some final remarks, and we will open the line for questions. Also, as a matter of convenience, we will make a replay of this conference call available in the Investor Relations section of our website at www.geospace.com. Let me first caution that the information we will discuss this morning is time-sensitive, and therefore, may not be accurate on the date one listens to the replay. Secondly, many of the statements that we will make today will constitute forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995. By example, this includes statements about the market for our products, revenue recognition, planned operations and capital expenditures. These statements are based on our current perceptions, expectations and knowledge. Actual outcomes are influenced by uncertainties and other factors that we are unable to control or predict. These and other risks, both known and unknown, may create undesirable results or cause our performance to materially differ from what we may express or imply. These risks and uncertainties include those discussed in our SEC Form 10-K and Form 10-Q filings. Yesterday, after the market closed, the company released its financial results for the second quarter of fiscal year 2015. Reported revenue included a $3 million nonrefundable deposit receipt from Seafloor Geophysical Solutions, or SGS, toward the purchase of an OBX system, which they were able to subsequently take delivery of. Excluding the revenue from the SGS deposit and confronted with a very inert seismic industry environment, revenues for the quarter decreased by $43.6 million from last year's second quarter. And for the 6 months ending March 31, 2015, revenues dropped $123.8 million from the same period a year ago. The corresponding year-over-year declines in net income for these 2 periods were $16 million and $45.6 million, respectively. The reductions in revenue and earnings are a direct consequence of having no performing contracts underway in the current fiscal year for the manufacture of permanent reservoir monitoring or PRM systems in conjunction with significant lower market demand for all of our other seismic products. Net losses stemmed from the strain of depreciation and fixed overhead costs against low rental fleet utilization and low factory productivity. In the second fiscal quarter, traditional seismic product revenues were $9.6 million, a decrease of $3.5 million from last year. For the 6 months ended March 31, 2015, revenues for this segment totaled $17.3 million, a reduction of $16.2 million from the same period a year ago. For both periods, the decline in revenues attributed to pronounced weaker demand for traditional land and marine products in the current seismic industry environment as well as unusually large geophone orders that occurred in last year's first quarter. Wireless product revenues of $12.1 million in the second fiscal quarter were similar to those reported for the same period last year; however, as previously mentioned, this included the income recognition of a $3 million nonrefundable deposit received from SGS in fiscal year 2014 as a down payment for the purchase of an OBX system. SGS was unable to complete this purchase, although they continue efforts to secure funding for their business plans, which if successful, may lead to a newly negotiated agreement for the rental or purchase of an OBX system. Excluding the effect of this deposit, our adjusted wireless revenues for the second quarter decreased by $3.4 million from last year. And for the 6 months ended March 31, 2015, our adjusted wireless revenues decreased $43.2 million. Only 5,400 GSX channels were sold in the first 6 months of the current fiscal year compared to 77,000 GSX channels in the same prior year period. These declines are further evidence of the weak demand for land seismic equipment in today's market. Despite these overall depressed seismic market conditions, we are actively providing quotations for our cableless OBX ocean-bottom nodal systems, where we see an increasing number of applied uses for the OBX and increasing numbers of channels to be utilized in some survey operations. However, a majority of our OBX customers are reporting delays in the awarding of tender jobs as well as the late startups for jobs in hand. So there remains some uncertainty for this niche market as it continues to unfold. Reservoir product revenues for the second quarter totaled $1.1 million, a decrease of $37.1 million from last year. For the 6 months ended March 31, 2015, revenues in this segment were $3.3 million, a drop of $64.1 million from the previous year. For both periods, the decrease is mostly attributed to having no contracts underway in the current year for the production of permanent reservoir monitoring systems. Additionally, our borehole and other reservoir products are experiencing similar low demand in the current seismic market, just as our other seismic product segments. Although as mentioned, we have no PRM contracts currently in hand, we continue to have working discussions with potential customers who are interested in pursuing future PRM systems. We reiterate that no significant revenues associated with PRM contracts are anticipated in fiscal year 2015. However, we believe that our unchallenged expertise, past successes and ongoing research and development in this technology will continue to facilitate significant opportunities for future PRM contracts. Broad and ongoing decline in seismic exploration activity has led to a significant reduction in demand for our products, and we expect this lower demand to persist or worsen until our customers see an increase in demand for their seismic exploration services. With low utilization of our rental fleet and largely curtailed manufacturing activity, our gross profits will remain severely challenged by rental fleet depreciation and fixed factory overhead costs. In coping with these market conditions, we have made adjustments to reduce our costs and preserve cash, while maintaining the critical infrastructure and core competencies vital to the organization. Our factory hours have been cut roughly 60% from a year ago through personnel reductions and other control measures. Plans for further facility consolidation are also underway. In addition, both discretionary and planned capital expenditures have been reduced or deferred, including those associated with our Pinemont plant expansion. We have also secured new credit arrangements that, should we need them, are more favorable to us in today's market conditions. We further note that significant cash payments for 2014 property taxes and fiscal year 2014 incentive compensation expenses, together totaling over $10 million, are now paid and behind us. In consideration of these actions, we believe we are in a good position to weather the current industry cycle. I'll now turn the call over to Tom to provide you with more detail and insightful commentary on the company's second quarter financial performance.

Thanks, Rick, and good morning, everyone. Before I begin, I would like to remind everyone that we will not provide any specific revenue or earnings guidance during the call. In yesterday's press release for our second quarter ended March 31, 2015, we reported revenues of $27.9 million compared to revenues of $69 million last year. Our net loss for the quarter was $5.2 million or a loss of $0.40 per diluted share compared to last year's net income of $10.8 million or $0.82 per diluted share. For the 6 months ended March 31, 2015, we reported revenues of $43.3 million compared to revenues of $170 million last year. Our net loss for the 6-month period was $10.6 million or a loss of $0.82 per diluted share compared to last year's net income of $35 million or $2.66 per diluted share. A breakdown of revenues for each of our product segments is as follows. For the second quarter, revenue from our traditional seismic products were $9.6 million, a decrease of 27% compared to revenues of $13 million last year. Revenues for the 6-month period were $17.3 million, a decrease of 48% compared to revenues of $34 million last year. The decrease for both periods reflect lower demand for geophone and marine products due to soft industry conditions. In addition, the first quarter of the prior year included large orders for geophones, which accompanied the sale of GSX wireless systems. As Rick previously mentioned, our wireless product revenues for the second quarter included the recognition of a $3 million nonrefundable deposit received from SGS as a down payment toward the purchase of an OBX system. Since SGS was not able to take delivery of this system, the deposit was forfeited. For comparison purposes, we had excluded this revenue from our discussion to follow. Second quarter adjusted revenues from our GSX and OBX wireless products were $9.1 million, a decrease of 27% compared to revenues of $12 million last year. Adjusted revenues for the 6-month period were $14.8 million, a decrease of 74% compared to revenues of $58 million last year. The decrease in revenue for each of the current year periods was caused by significantly lower equipment rentals, and in the case of the 6 months of fiscal year 2015, significantly lower equipment sales due to the large GSX systems sold in last year's first quarter. Revenues from our reservoir seismic products for the second quarter were $1.1 million, a decrease of 97% compared to revenues of $38 million last year. Revenues for the 6-month period were $3.3 million, a decrease of 95% compared to revenues of $67 million last year. The decrease in revenues was primarily due to the absence of any PRM contracts in the current year compared to the delivery of PRM systems to Statoil and other customers totaling $36 million and $64 million for the 3-month and 6-month periods of last year, respectively. For the second quarter, revenues from our non-seismic products were $5 million, an increase of 5% compared to revenues of $4.8 million last year. Revenues for the 6-month period were $10.5 million, a decrease of 2% compared to revenues of $10.7 million last year. We consider these nominal changes in our seismic -- our non-seismic product revenues to be normal for this product segment. Our gross profit margins continue to be unfavorably impacted by high fixed costs of our rental fleet depreciation, low factory productivity and an unfavorable product mix, primarily due to the lack of any PRM contracts in our current year revenues. As a result, we expect our seismic gross profit margins to be under significant stress throughout fiscal year 2015. Operating expenses for the second quarter were $10 million, a decrease of 17% compared to operating expenses of $12 million last year. Our operating expenses for the 6-month period were $19.8 million, a decrease of 15% compared to last year's operating expenses of $23 million. The decrease in each period was primarily due to the elimination of incentive compensation expenses and was partially offset by increased bad debt expense. Investments in property, plant and equipment for the 6 months ended March 31, 2015, were $1.4 million. In light of industry conditions and until we have more visibility, we are proceeding very cautiously with any new substantial capital investments. Including the $1.4 million capital expenditures already incurred through the first 6 months, we now expect our total fiscal year 2015 capital expenditures for property, plant and equipment to be $4 million, including approximately $500,000 related to the expansion of our Pinemont facilities. Our inventory balance now stands at $138 million, representing a decline of $9 million since last quarter. Although demand is weak, we are working diligently to bring about further reductions in our inventory levels. Purchase orders for raw materials remain at extremely low levels, and our production activities are focused only on essential tasks. Earlier this week, we concluded an amendment to our credit agreement with Frost Bank. The amended agreement allows us to borrow up to $30 million, which is determined by borrowing base formula. Our previous agreement, if left in place, would have significantly constrained our ability to borrow during these difficult market conditions. This amendment also extends the expiration of our credit agreement with Frost Bank into 2018. That concludes my prepared remarks, and I'll turn the call back over to Rick.

Thanks, Tom. As is evident, the first half of our 2015 fiscal year has faced significantly adverse conditions as a result of the lower demand for our seismic products, brought on by sharp reductions in seismic exploration activity. Further persistence of these weak market conditions is anticipated, and we expect the consequent challenges to our operations to continue throughout fiscal year 2015. However, we believe that with our existing adjustments, continual review and the strength of our balance sheet, we are financially prepared to weather this down cycle as in times past. This financial preparedness, combined with our technical leadership in services and product offerings, positions us well for a recovering market. This concludes our prepared remarks. So I'll now turn the call back over to the moderator for questions.

[Operator Instructions] Our first question is from Joe Maxa from Dougherty & Company.

So first question I just want to ask about the cash utilization. Clearly, you're doing things to reduce the cash usage, but I'm wondering if the business or the market stays at current levels, let's say, in the second half of this year, how much do you think you'll be utilizing of that cash, and what do you think cash looks like as we end the year?

Yes, Joe, I think if you look at what we've done the first half of the year with about $10.5 million of cash used in operations, you got to keep in mind that $6.5 million was to pay for last year's incentive compensation bonus program, and we probably will not have any bonuses this year. So the reality is, is through 6 months, we've used about $4 million of cash. And I would expect that over the next 6 months, that will likely be where we're going to be.

Okay, that's helpful. A question on the OBX line. And it sounds like you still have customers that are looking to use it, just not getting their -- they're not being awarded the projects or they've been delayed. What are they telling you now? Are they seeing any opportunity for these projects to move forward, or is it still a wait-and-see and could be indefinite before something happens?

Well, Joe, the -- what our customers are telling us implies that they're simply seeing deferrals in many of the tenders being offered and awards being made. But as I point out, that's somewhat an indication of some fragility within that market niche, but it's still encouraging. I mean, we certainly have systems that are out on rental today. We have ones that are scheduled to go out imminently. But looking forward, these delays do cause some pause, but things are looking still improving on that product line.

So the -- let's go over to the traditional wireless -- traditional and wireless seismic. So they were up over the last couple of quarters. Is -- was this some project timing issue? Or are you starting to see a little bit higher than maybe what you've seen previously if you look at where you are at this part of the quarter?

Traditional and wireless products are not really up any at all. So I'm not sure.

I guess, they were up modestly if I look at the numbers.

Are you talking sequentially?

Yes, yes, yes. Not year-over-year, sequentially.

Yes, we sold about 5,000 channels of some of our rental equipment this quarter. These are kind of one-off transactions. There's nothing real exciting happening in the market today.

I see. Besides the gross margin pressures you're seeing, are you seeing -- I mean, is the pricing pressure in the industry pretty significant as well?

There's definitely pricing pressure in the industry.

So compared to last year, what does it look like? I mean, is it down 20%? I mean, does that -- I mean, I just threw a number out there.

I mean, we don't really measure it like that, but everybody including us are fighting very fiercely for every order.

Of course. Okay, last from me, and then I'll jump off is, on the $3 million nonrefundable deposit that you recognized as revenue, how does that flow through the income statement? Is it 100% of that go to the gross profit, and I would imagine maybe they're sales commission? Or how much of that goes to net income?

Yes, Rick and I were lobbying to the board to get a commission off of that. But no, you're exactly right, it's in revenues. There is no gross profit associated with that. It flows all the way down to pretax income.

There's no gross profit or no gross...

I mean, I'm sorry, there's no cost of goods sold.

All right, all right. So it looks -- so without that, the gross profit would have been negative. And I'm just looking at -- is that kind of what we're thinking about in the second half when you say severely challenged, that you'll still be around those levels?

Well, so long as we're not manufacturing and our rental fleet is not being utilized to the extent to cover its depreciation cost, then that challenge is going to remain.

Sorry, I got one more. The profit level of the rental was negative. Can you just discuss that a little bit?

We have fixed depreciation cost for a very large rental fleet that is not being utilized right now. So depreciation continues whether or not the equipment is out on rent.

Because I looked last quarter, though, that revenue was up $400,000. It was $2.7 million in revenue with -- and you had a gross profit of $100,000. And revenue went up sequentially $400,000, but you had a gross profit loss of $2 million. So I'm just wondering...

Yes. In the second quarter, we have some equipment in Canada, where we accelerate the depreciation in the second quarter because that's when it's utilized. And the rest of the year, it has a lesser amount of depreciation. So we have a higher depreciation expense in our second quarter than we do in any other quarter for rental equipment.

Our next question is from Georg Venturatos from Johnson Rice.

Obviously, we've discussed demand pressures pretty well here. Maybe this one is better for Tom. On the cost side and obviously avoiding guidance here, but can you help us frame up the cost structure we saw in 2Q in terms of the reductions you made today? Is there any sort of lag effect going forward, or is that largely reflective in 2Q? And then also, just from a magnitude standpoint, you did mention some other potential reductions, notably the facility consolidation. Any sense of a magnitude of how big that could be in terms of cost savings?

Yes, the -- there are cost savings already embedded in our Q2 numbers. Additional cost savings going forward I would not expect to be too significant, especially in the operating expense lines. In the G&A area, -- I'm sorry, in the cost of goods sold area, there are likely to be additional savings as a results of some cuts that we could make. And so those would be reflected in future margins, but we're not giving out a number.

Okay. No, that's helpful, Tom. Wanted to touch on the OBX side. It sounds like, obviously, you're -- continue to issue some puts in this environment. But you did mention the delays on a few tender awards. Any sense for us -- it's difficult to kind of quantify how large those are, but any sense of the size of some of those tenders that are outstanding currently, I guess, that are pending as well as some of the delayed jobs that you said that were already in hand?

Well, it varies on whether they're deepwater units or shallow water units, and -- I mean, the quotations in term of the number of nodes involved range from a few hundred in some cases to over 4,000 in other cases. So it's really quite a variety, and it has to do with some of the different applications where the OBX is applied. They call for different circumstances in terms of the survey methodology. So it really spans quite a wide gamut.

Okay. And then, I guess, Rick, any comments regionally in terms of where we're seeing more tender activity than others that are notable?

Not really. I mean, there's -- it's pretty global as far as that goes. I mean, all the hotspots that you're already aware of within the industry, the energy industry in general are ones that are in line with these quotations that we're presenting at.

Okay. And then last one from me. PRM side, we're not getting too optimistic here in terms of, obviously, reiterate those expectations for near-term revenue opportunities, but you mentioned you're still in discussions. I just wanted to get a sense of, are there any new customers that have entered into the equation? Have any fallen off? And this is obviously a tough environment, but are you seeing some operators at least come looking for potential long-term positioning here that weren't in discussion a couple of quarters ago?

I'm not sure what you mean by long-term positioning. I can say that the customer base is bringing in new parties in the discussions, but these discussions take a while. There is a feasibility study that they go through. They also go back and reevaluate the survey methods that they intend to utilize. So the discussions really go on for some length of time, but new customers are involved. We don't see any really falling off as far as that goes.

[Operator Instructions] Our next question is from Bill Dezellem from Titan Capital.

A couple of questions. First of all, relative to the PRM business, would you discuss your view of the return on investment potential with current oil prices? And I do recognize that Valhall was implemented at much lower oil prices than we have today, but the overall environment was different. I believe the overall cost structure was different at that time also. So would you bring us up to speed as to your view in today's environment?

Well, I think today's environment is challenging in many respects for the oil companies. But certainly, one thing that hasn't changed and it actually is more in line with the fact that you're pointing out, which is that costs, particularly offshore costs, have gone up is that the cheapest barrel of oil that they will be able to produce is from their existing infrastructure. So to that end, to whatever extent they can increase those production rates with these high-value assets that they have offshore, then the better off they're going to be as opposed to going out and trying to find and drill into new resources. So that plays well for PRM. And I think that, that coupled with the fact that these costs are not going to go down are actually a positive thing for PRM.

And that sounds like a great sales pitch to the operators. Do you -- are they thinking that way also? I'm not trying to dis your answer, but I was interested if that -- if they also share that same perspective.

I think many of them do. I mean, there are various seminars and consortiums that are put together on an annual basis to discuss PRM, where there's a collective accumulation of different companies to see how each other are doing on these projects and to actually discuss the technical merits. And in those cases, those are all positive statements that are made with respect to their experiences with these things. So I think the -- it's a matter of trying to balance out their own particular financial arrangements and justifications.

And so before I shift to a completely new topic, would you anticipate sometime in the next 18 months, so by the end of fiscal '16, that you will have a new PRM order?

I think chances are good, but there's so much volatility out there, Bill, that it becomes really disingenuous to sort of try to make those types of statements stick. I mean, we're encouraged. That's about all I can really say without going out on a limb.

Yes, understood. That is helpful. And on a completely different topic, relative to the backlog, I guess if we could call it that, of properties to shoot seismic on, what is your view of -- from an industry-wide standpoint, how that backlog looks compared to normal? And I guess in the same vein, maybe properties where seismic has been shot but is awaiting processing, and I'm trying to gauge the degree to which we could see a snapback when decisions start being made or whether processing is really the next step.

We don't really have a lot of visibility into those particular things since we're not that close to the services as they're actually performed. But clearly, our customers are struggling with trying to achieve additional backlog. And as far as backlog on processing goes, there's library data that's been acquired in the hands of those that do process it. We don't see a lot of that. So we don't have much visibility of that.

Our next question is from Ed Byrne [ph] from FIG Partners.

It's actually Veny Aleksandrov. I'm sorry, I got a little bit late on the call. But my question is on the equipment for SGS. Is it now in your rental pool or [indiscernible] almost ready?

You're asking what do we do with...

The SGS.

The SGS.

Yes.

Yes, that equipment is certainly available for the rental pool, but it's also available for sale. We do have customers that are interested both in purchasing and in renting systems. So they're -- right now, they're available for all of those things.

Veny, at the end of March, it was sitting in our inventory.

At the end of March, it was in your inventory, okay.

Right.

And then, in terms of rentals on the wireless side, without giving kind of the specifics, where are [indiscernible] the majority of the rentals coming?

Where were the rentals coming?

Veny, I'm sorry. I did not understand your question. It was a little fuzzy. Could you repeat it, please?

The wireless rentals during the quarter, where were majority of the rentals geographically?

Veny, they're kind of all over. We didn't have a significant amount, but we had some in Europe.

Some in Canada.

Some in Canada, some in the U.S., maybe a small amount down in South America.

And how does South America look for the rest of the year in terms of rentals?

Very competitive and very slow.

Very competitive and very slow. Okay.

Next we have a follow-up question from Joe Maxa from Dougherty & Company.

Tom, to sort of talk about the operating expenses, I just wanted to get a little more color. Where do you think a good base level is for your OpEx?

Well, they've been fairly steady the last 2 quarters. So I believe that is a good number to use going forward.

Okay. So headcount reductions, that's already factored into these numbers, and perhaps stock-based comp should be pretty steady as well?

Right.

And our next question is from Bob Evans from Pennington Capital.

Can you -- I just want to clarify comments made earlier. As it relates to the cash burn, I believe it was around $9 million this quarter. What would we expect the next quarter to be, what ballpark?

Yes, Bob, a similar question was asked earlier. We have used about $10.5 million of cash in our operating activities, of which $6.5 million was for the payment of bonuses that were incurred or accrued last year. So excluding that, we've used $4 million in operations over the last 6 months. And if things continue in the next 6 months, like they have been in the last 6 months, you should see something similar to that.

But did that -- the bonus payment that you're referring to, that was -- so you're saying that, that may likely not happen this year.

Yes, it's very unlikely to happen this year.

But that didn't affect this quarter, correct?

No, it did not affect this quarter. It affected the year-to-date period.

Okay. So I'm trying to just get an understanding of how does cash flow burn change from this quarter to next quarter.

I would predict that over the next 6 months that we will likely use $4 million to $5 million of cash.

Okay. So I guess what I'm trying to get a better understanding is where does the improvement come from this quarter?

Well, this quarter, we paid $4 million of property tax bills, and we only do that once a year. So we won't be doing that next quarter or the following quarter or the following quarter after that.

Okay, I got you. So that's where my question was on the one-time side. And then from a -- wanted to get greater clarity in terms of, you used to have a different credit line available, and then you went to this bank line, which is asset-based. Can you give us a little bit more color in terms of why the change?

Yes. The existing facility that we had -- and again, it's the same facility. We've just amended it. But the existing facility had covenants in it that would have restricted our borrowings. In fact, we would have been limited to about $20 million of borrowings at the end of March. And looking forward, if we have another quarter like the one we just had, it's very likely that we would not have been able to borrow at all. So we needed to move to a different type of structure in our lending, and we felt like this was a good fit for us.

And do you see if you had cash needs in the future, is this the preferred route to go, if you needed to, is borrowing against the asset base?

Sure.

At this time, we have no further questions. I'll now turn the call back over to Mr. Rick Wheeler for any additional closing comments.

Thanks, Steve, and we would like to thank everyone that joined our call today. We look forward to speaking with you for our third quarter results in August. So thanks again. Goodbye.

Thank you. This does conclude today's teleconference. Please disconnect your lines at this time, and have a wonderful day.