Geospace Technologies Corporation (GEOS) Q3 2016 Earnings Report, Transcript and Summary

Good day and welcome to the Geospace Technologies Third Quarter 2016 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. At this time, all participants have been placed in a listen-only mode and the floor will be open for your questions following the presentation. [Operator Instructions] It is now my pleasure to turn the floor over to Rick Wheeler. Sir, you may begin.

Good morning, and welcome to Geospace Technologies conference call for the third quarter of fiscal year 2016 and thanks for listening today. 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 the call with a prepared 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. As was mentioned, as a matter of convenience, we will make the replay of the conference call available in the Investor Relations section of our website at www.geospace.com. Let me caution that the information we will discuss this morning is time-sensitive and may not be accurate on the date one listens to the replay. Also, 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. Such 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 risks and others, both known and unknown, can lead to 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 third quarter of fiscal year 2016, which ended June 30, 2016. As we reported, revenue in the third quarter increased sequentially by 18% over the second quarter although when compared to last year's third quarter, revenue decreased by 10%. The first nine months of the fiscal year have seen revenue for each quarter increase incrementally over the previous quarter. However, the seismic market overall remains significantly depressed and with very low demand for our seismic equipment products. Thus while the trending improvement in revenue is stride forward and worth noting, we do not believe it represents a strong sign of recovery in the seismic equipment marketplace. Revenue generated in the third quarter for our traditional seismic products was $2.5 million, a reduction of 21% from the second quarter and a decline of 60% from last year's third quarter. For the nine months ended June 30 2016, traditional seismic product revenue totaled $10.7 million, a decrease of 55% from the same period last year. Sales of our traditional seismic product have historically buried in direct relationship to the ongoing level of industry-wide seismic activities. With this in mind, the declines in revenue for these products in both periods are direct evidence of a market comprised of greatly reduced levels of seismic exploration activity and the subsequent low demand for seismic equipment. Our wireless seismic products generated revenue of $6.6 million in the third quarter. This is the sequential increase of 39% over the second quarter and an increase of 9% over the third quarter of the previous fiscal year. The increase is primarily the result of $4.1 million of revenue from the large OBX rental contract we announced back in October of 2015. This rental contract commenced in our second fiscal quarter and transitioned into full operation in the third quarter. The contract, now fully underway is expected to run into the next fiscal year’s first quarter ending December 31, 2016. Revenue from the wireless seismic product in the first nine months of fiscal year 2016 totaled $13.2 million, a decline of 45% from the same period a year ago. When comparing the two periods, last year's nine month span included $3 million of revenue from the non-refundable deposit toward a cancelled OBX order. However, the primary reason for the lower revenue in the current period is the significant reduction in demand that has occurred for these products, especially those for land seismic surveys. In the first nine months of fiscal year 2016, only 3,000 additional channels of our wireless land GSX system were sold, compared to 7,000 channels during last year's comparable period. Demand for these products will remain low, as long as oil and gas companies continue their suspension of onshore seismic imaging and exploration. Revenue from our reservoir seismic products was just under $0.5 million in the third quarter, a decline of 19% or $0.1 million from the second quarter, and a drop of 61% compared to last year's third quarter. In the first nine months of fiscal year 2016, revenue from these products saw a similar decline of 61% compared to the same nine months a year ago. In all cases, these comparative declines were attributable to much lower demand for borehole seismic products and repairs corresponding to the reduced demand for hydraulic fracture monitoring services performed by our customers. Note that in none of these periods were there any permanent reservoir monitoring or PRM projects underway. And with this in mind, lower revenue from our reservoir product segment is expected to continue so long as we have no performing PRM projects. We do not expect any PRM revenue producing opportunities to arise in the current fiscal year. In the third quarter, our non-seismic products generated $8 million of revenue, a sequential increase of 27% over the previous quarter. Compared to last year's third quarter, the increase in revenue is 31%. In the first nine months of fiscal year 2016, revenue from our non-seismic products totaled $19.7 million, an increase of 19% over the same period last year. Although revenue from these products for any given period can vary up or down, we are very pleased that the acceptance or demand for many of these products has grown and continues to show future growth potential. As in previous quarters, the third quarter saw gross profits eroded by unabsorbed cost tied to the fixed factory overhead and depreciation expenses associated with our underutilized rental fleet. In addition, we recorded non-cash charges in the third quarter by $1 million for the impairment of certain components of our rental equipment and $2.2 million for additional inventory obsolescence expense. The combination of these costs in conjunction with lower revenue is the primary contributor to our operating loss for the third quarter. Further contributing to our net loss for the third quarter and year-to-date periods, were write-downs of $3.4 million and $5.9 million respectively for our U.S. and Canadian deferred tax assets. These assets are considered impaired for financial reporting purposes, however some or all of these deferred tax assets could be restored and utilized to offset taxable profits should we return to profitability levels seen in prior years. Relative to this year’s second quarter and last year's third quarter, our operating expense for the third quarter dropped by 6% and 5% respectively after excluding the impact of bad debt expense. For the first nine months of fiscal year 2016 and again excluding the impact of volatile bad debt expenses, our operating expenses decreased by 4% from the same nine month period last year. These declines in operating expenses are a direct result of cost reduction efforts we implemented earlier in the fiscal year. At this time, I'll turn the call over to Tom McEntire to provide you with more detailed commentary and insight on the company's third quarter financial performance.

Thanks, Rick and good morning everyone. Before beginning I want to remind everyone that while our discussions today may include future estimates, we will not be providing any specific revenue or earnings guidance during this call. In yesterday's press release for our third quarter ended June 30, 2016, we reported revenue of $17.7 million compared to revenue of $19.8 million last year or net loss for the quarter was $11.7 million or a loss of $0.89 per diluted share compared to last year's net loss of $8.6 million or a loss of $0.66 per diluted share. For the nine months ended June 30, 2016, we reported revenue of $45.7 million compared to revenue of $69 million last year. Our net loss for the nine-month period was $34 million or a loss of $2.58 per diluted share compared to last year's net loss of $19 million or a loss of $1.48 per diluted share. Our operating results for the quarter and nine-month period include tax charges of $3.4 million and $5.9 million respectively for the provision of a valuation allowance against our US and Canadian deferred tax assets. A breakdown of revenue for each of our product segments is as follows. For the third quarter revenue from our traditional seismic products was $2.5 million a decrease of 60% compared to revenue of $6.3 million last year. Revenue for the nine months was $10.7 million a decrease of 55% compared to $24 million last year. The decrease for both periods reflects lower demand for Land and Marine products due to significantly reduced levels of seismic exploration activities. Our wireless seismic product revenue for the third quarter was $6.6 million an increase of 9% compared to revenues of $6 million last year. This increase as Rick mentioned is primarily the result of revenue from the large OBX contract we announced back in October 2015.Our wireless product revenue for the nine month period was $13.2 million a decrease of 45% compared to $24 million last year. This reduction in revenue reflects weak product demand due to reduced seismic exploration projects and an overabundance of underutilized customer owned equipment in the marketplace. Rental revenue however increased during both of the current year periods due to the commencement of a large OBX contract in our second quarter. For the third quarter and year-to-date periods we recognize rental income of $4.1 million and $7.1 million respectively from the OBX contract. It's also worthy to note that the nine-month period of the prior year contains $3 million of revenue resulted from a nonrefundable deposit received from a customer in connection with the canceled OBX purchase order. Revenue from our reservoir seismic products for the third quarter was $472,000 a decrease of 61% compared to revenue of $1.2 million last year. For the nine-month period revenue was $1.8 million a decrease of 61% compared to $4.5 million last year. The decrease in revenue for both periods resulted from lower borehole product sales and repairs due to reduced levels of hydraulic fractured monitoring activities by our customers. For the third quarter revenue from our non-seismic products was $8 million an increase of 31% compared to $6 million last year. Revenue for the nine month period was $19.7 million an increase of 19% compared to $16.5 million last year. The increase in revenue for both periods was attributable to higher demand for our various industrial products. Our gross profit margins continue to be under significant pressure due to several factors including reduced seismic product sales and resulting decline in factory productivity, the ongoing fixed cost of depreciation for our mostly idled rental fleet, increasing levels of inventory obsolescence expenses due to the high level of slow-moving inventories and the write-down of inventories and impairment of rental equipment. Until we see significantly improving product demand, we expect our seismic product gross profit margins will continue to be under significant stress for the remainder of this fiscal year and beyond. In light of current market conditions, we believe are inventory levels exceed those considered appropriate for the current level of product demand we’re seeing. Our policy is to record higher inventory obsolescence expenses when we experience reduced levels of inventory turnover and as our inventories continued to age. In this regard we continue to expect high levels of inventory obsolescence expenses in future periods. Operating expenses in the third quarter of fiscal year 2016 and '15 were flat at $9.1 million. Our operating expenses for the nine months were $27 million a decrease of 7.5% compared to last year's operating expenses of $29 million. Ignoring the volatility of bad debt expenses our operating expenses decreased 5% and 4% from last year's third quarter and nine month periods respectively. These decreases in operating expenses are attributable to the cost reduction program we initiated back in January 2016 and this decrease is partially offset by $0.5 million of termination costs in association with the cost reduction program. Cash investments into our rental fleet and property plant and equipment were $1.7 million through the first nine months of this fiscal year. We expect our total fiscal year 2016 cash capital investments to be approximately $2.5 million. At the end of our third quarter our balance sheet reflected $39 million of cash and short-term investments. We had no long-term debt outstanding and roughly $30 million of borrowing availability under our credit agreement leaving the company in a financially strong position to sustain these difficult industry conditions. We will continue to carefully manage our cash flows and our balance sheet. That concludes my prepared remarks and I'll turn the call back over to Rick.

Thanks, Tom. In response to the precipitous reduction in oil prices that began in late 2014 and the extreme volatility in pricing that has persisted ever since, oil and gas companies have all booked withdrawn from the seismic exploration that is necessary to find and exploit new reserves. Furthermore there are no strong market indicators in the current environment for this to change right away. In light of such decreased seismic industry activity the number of opportunities for seismic service contractors, our customer is scarce. With so few seismic projects underway many of which are smaller in scope, crew counts and asset utilization have fallen tremendously. This has created a surplus of available seismic equipment which in turn has all but eliminated immediate demand for our seismic instruments and related products. As a result fiscal year 2016 is proving to be perhaps the most commercially challenging year in our company's history. Nonetheless we firmly believe that in order for the oil and gas industry to continue supplying the world's growing energy needs, seismic exploration for new reserves and seismic imaging to characterize existing reserves will have to resume. Our products are well-known to accomplish these activities in the most proven and cost effective ways. Combining our technology leadership with $39 million in cash and short-term investments no long-term debt and an untapped $30 million credit facility we believe that we are in a good position to take advantage of the inevitable seismic market recovery when it occurs. This includes our overall prepared remarks and I'll now turn the call back to Keith for questions.

[Operator Instructions] We do have one question there. We can go to Matt Dhane from Tieton Capital.

Good morning, gentlemen. So out of curiosity as you call out obviously there is not a lot of seismic shoots being done be people that - have your equipment or otherwise but out of curiosity the shoots that are being done largely, the land based shoots is what I am focusing on, what type of seismic equipment is being utilized in the shoots being done. And I guess I am angling more towards the customers the customers that do have your wireless equipment. Are they largely utilizing your wireless equipment or are they utilizing more of the historic, the cabled equipment?

Well it’s out understanding that those of our customers that have our equipment are using it primarily as their main acquisition tool. The efficiencies are pretty well known and that’s really what has made that product so successful. It's really just the fact that there is such little activity going on that the demand at our level has come to a curtailed moment in time but it’s our understanding that our equipment is the primary preferred equipment to use.

And I guess where I am heading with the question is, so what’s the implications for that whenever the land seismic market does improve and starts to rebound. Is a lot of the cabled equipment is that even going to be usable since had it been put aside for so long. What's the lifespan on that and does that lead to assuming there is capital available purchases of new equipment once they are fully utilizing your equipment once again, is the cable equipment going to be able to come back and used or is it just, frankly it's seamless day and it’s not usable probably going forward.

I think it’s a combination, I mean the cabled equipment in and of itself doesn't atrophy just not getting used on the shelf or anything. I mean, from a technology point of view maybe things pushing aside but in terms of its basic functionality you can still work. You may well see some cable equipment be pulled out but to some extent where the expense of operating cable system would make it not as practical for the contractor, you may see them wanting to perhaps rent some additional wireless equipment and then maybe later on purchase some. So it’s not going to go away immediately, it never was going to do that. There is always sort of a transition period that occurs when there is a technology shift like that.

Then I also wanted to touch on OBX, obviously you have your current rental going on. Can you discuss I guess the level of discussions around that technology. Are you seeing increased discussions, is there a number of discussions still going on, whether it's for purchase or rental just if you could help us get a sense of what's going on around that technology?

Sure. There are some new discussions and there are some discussions that are for projects that seem to fall away and then some of those return for second biddings and also the conversations are still out there and we’re still quoting on that equipment both for purchase and for rentals. So there is activity in the ocean bottom node world. We’re answering those quotes very competitively but we’ll have to see if any of them actually manifest.

Great. Well, I appreciate it.

[Operator Instructions] Thank you. We’ll take our next question from David Nierenberg with Nierenberg. Please go ahead.

Hi guys, good morning. What can you tell us about what's happening with your competitors. I doubt that most of them have the balance sheet strength that you have.

Well, I mean, we don’t have much intel on really what goes inside of the - a lot of our competition and some of its buried within the financials of broader parent organizations but clearly the market is not preferential at this point in helping anyone in the seismic instrument arena. So yes, you are right. I think our balance sheet is probably one of the more salient features of where we stand and that may not be the case in some of our competition but I really don’t have significant intel on that for you.

Okay. Thanks for preserving the strength. I think you can stick around as long as Saudi Arabia can.

[Operator Instructions] And it appears we have no further questions. I’ll return the floor to you Mr. Wheeler for any additional or closing remarks.

All right. Well thanks Keith, and I thank everyone that joined our conference call today and we look forward to speaking with you during our fiscal year 2016 fourth quarter conference call in November. So thanks again and good bye.

Ladies and gentlemen, this will conclude today's program. Thanks for your participation. You may now disconnect. Have a great day.