NPK International Inc. (NPKI) Q1 2013 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Newpark Resources 2013 First Quarter Earnings Results Conference Call. [Operator Instructions] This conference is being recorded today, April 26, 2013. I'd now like to introduce Ken Dennard. Please go ahead, sir.

Thank you, George, and good morning, everyone. We appreciate you joining us for the Newpark Resources conference call today to review 2013 first quarter results. We'd also like to welcome our Internet participants listening to the call as it's being simulcast over the web. As usual I have the normal housekeeping details to run through before I hand the call to management. For those of you who did not receive an e-mail of the earnings release yesterday afternoon and would like to be added to that list, just contact our office at (713) 529-6600 and provide your information and you can e-mail me, my email address is in the contact section of the press release. There's also a replay of today's call, be available by webcast in the company's website in a couple of hours and it will be live, www.newpark.com. There's also a recorded replay by phone, which will be available for the next 2 weeks and that information is in the release we put out yesterday. Please note the information reported on this call speaks only as of today, April 26, 2013, and therefore, you are advised that time-sensitive information may no longer be accurate as of the time of any replay listening or transcript reading. In addition, the comments made by management today during this conference call may contain forward-looking statements within the meaning of the United States federal securities laws. These forward-looking statements reflect the current views of management of Newpark. However, various risks, uncertainties and contingencies could cause Newpark's actual results, performance or achievements to differ materially from those expressed in the statements made by management. The listeners are encouraged to read the company's annual report on Form 10-K, its quarterly reports on Form 10-Q and current reports on form 8-K to understand certain of those risks, uncertainties and contingencies. And now with that behind us, I'd like to turn the call over to new Newpark's President and CEO, Mr. Paul Howes. Paul?

Thank you, Ken. Good morning to everyone. We'd like to thank you for joining us today for our first quarter 2013 conference call. With me today are Bruce Smith, President of our Drilling Fluids business; and Gregg Piontek, our Chief Financial Officer. Following my remarks, Bruce will provide an update on our fluids business, and Gregg will discuss the mats and Environmental Services businesses, as well as the consolidated financial results for the first quarter. I will then conclude with a discussion of our market outlook before opening the call for Q&A. Now turning our attention to the first quarter. We started 2013 with strong performance from our fluids business, which enabled us to achieve $283 million in consolidated revenues, a record revenue quarter representing an 8% growth from the first quarter of 2012. Our worldwide fluids segment, which represented 88% of our consolidated revenues in the first quarter also set a new quarterly sales record of $247 million. As you may remember from our fourth quarter call, we surpassed the $1 billion mark in full year revenue for the first time ever. And with our strong performance in the first quarter, we're on pace to have another excellent year. In the U.S., our first quarter fluids revenues were up 12% over the prior year, despite a 12% decline in rate count. Year-over-year gains were achieved throughout the oil and liquid rich regions with dry gas regions down year-over-year. Two of the key oil markets, the Permian Basin and South Texas, also benefited from our recent acquisition of Alliance Drilling Fluids. I'd like to also note that during the first quarter, we've made significant progress in integrating the Alliance operations into our regional structure and they now represent an important part of Newpark's Permian Basin in South Texas business units. Revenues in Canada were roughly flat with the year ago, a major accomplishment if you consider that rig count decline 9% during the year. Our international Drilling Fluids revenues were $70 million in the first quarter, an increase of 21% from prior year, reflecting solid gains across all regions including increased offshore work in both Brazil and Australia. And I'd also like to highlight our excellent progress as we made inroads into the international market, particularly in Deepwater. We recently announced 2 new Deepwater offshore contracts, a 2-year contract with Total for a series of wells planned in Brazil's Campos basin, and another with a supermajor, for a series of wells in the Black Sea. Under both contracts, Newpark will be providing Drilling Fluids and related engineering services beginning in the fourth quarter of 2013. These contracts are certainly important from a revenue perspective, but just as important, as a validation of our capabilities as we compete head-to-head against the largest integrated service companies in the Deepwater market. This is a testament to our technology and our people, but the job is just beginning as we set our sights on the goal of being the preferred partner for operators in the Deepwater market worldwide. On the technology front, our evolution of family products post -- again posted solid performance with revenues of $29 million. I'm pleased to report that we are nearing completion on our second well, international well, using our Evolution system in the EMEA region. Additionally, we expect to see the first use of Evolution in the Asia Pacific region within the next few quarters. Moving to our Mats and Integrated Services segment, while revenues have declined 33% year-over-year on lower mats sales, our rental revenues rebounded in the quarter and we are encouraged by the continued deployment of our spill containment system. Development of this system remains on track and consistent with last quarter's call. We are currently on the third site with the fourth site expected in the next few weeks. I would add that customer interest remains strong for our new spill containment technology. As we highlighted on last quarter's call, in anticipation of the formal launch of the spill containment system, we dedicated the majority of our first quarter production capacity to manufacture of additional mats for our rental fleet. Turning to our Environmental Services segment, the business reported another solid quarter with revenues increasing 10% over last year as activity continues to increase in the Gulf of Mexico. And now, I'd like to turn the call over to Bruce Smith, President of our Drilling Fluids business. Bruce?

Thank you, Paul, and good morning. In the first quarter, the Fluid Systems and Engineering segment generated total revenues of $247 million, an 8% sequential increase and a 30% increase year-over-year. As Paul stated, this is a new record quarter for fluids revenues exceeding the prior record of $229 million achieved during the fourth quarter. North American revenues were up 60% sequentially to $178 million, which represented a 10% year-over-year gain. In the U.S., we were able to achieve revenue gains despite the decline associated with the fourth quarter completion of a large Gulf of Mexico Deepwater project, which we highlighted in February. This performance was due to the higher revenues in all of our other U.S. regions with particular strength coming from the Permian Basin and South Texas, as those areas contributed an additional $13 million over the fourth quarter, including $3 million from proppant sales. The U.S. is up 30% sequentially to $159 million, with a 12% year-over-year gain, despite 12% decline in the U.S. rate counts over the same period. But the increases generally in all oil and liquid rich basins and decreases in the dry gas areas. In Canada, revenues were up 50% sequentially to $19 million due to the seasonal uptick. Modestly outpacing the 44% sequential rate count increase. This was roughly flat with revenues a year ago, but an improvement over the rig count, which was down more than 9% year-over-year. Now moving to our international business. Europe, the Middle East and Africa revenues were up slightly on a sequential basis to $35 million, reflecting a 15% increase from the first quarter of last year. We continued to see strong revenues from Italy and Romania, and gains from expanding markets. Meanwhile, Algeria saw a modest sequential improvement as Sonatrach's activity continues to increase. I'd like to also highlight that work in Libya has restarted in the quarter, although the revenue contribution was not significant. Looking ahead, we're very pleased with the recent award for Deepwater work in the Black Sea, which will be serviced out of our Romanian operation. In Brazil, revenues were down 30% sequentially however, up 34% year-over-year to $25 million. The sequential decline was driven by an IOC Deepwater well that has been completed in the fourth quarter as we made mention of on our previous call. As Paul stated earlier, we have finalized a 2-year Deepwater contract with Total, which won't expect to begin in the fourth quarter of this year. I'd also like to mention that we are currently in negotiations with Petrobras for the renewal of a Lot B contract and we'll keep you posted on developments there. Asia Pacific was down 20% sequentially to $10 million, which is up 14% year-over-year. The sequential decline was primarily due to the timing of work on the Santos offshore contract. Specifically, we have completed the first part of the Santos contract and following our transition by the customer to a larger rig, we expect their activity to resume in the second quarter. The consolidated segment reported operating income of roughly $23 million in the first quarter, up 28% sequentially, and up 62% year-over-year. The operating margin for the segment in the first quarter was 9.1%, up from 7.7% in the fourth quarter, and up from 6.4% a year ago. We continue to work towards our goal of double-digit margins although progress remains subject to market conditions. First quarter revenues from Evolution were $29 million, which was down slightly from the $31 million achieved in the fourth quarter, but up from $23 million in sales a year ago. As Paul mentioned, we are nearing completion on a second well in the EMEA region and are in the initial stages of introducing Evolution into several trial wells in the Asia Pacific region. As we stated on the last quarter's call, we have recently won a fluids contract with one of our most important Evolution customers, which expands our coverage into the declining shale play. This new contract ideally positions us for a continued expansion of Evolution in this domestic growth market going forward. I'd also like to note that at the recent offshore Mediterranean conference held in Italy, we presented a paper that we coauthored with Occidental Petroleum. This paper demonstrates how the use of Evolution for horizontal drilling resulted in performance on par with oil based and synthetic based drilling fluids while generating considerable cost savings. This documented a study using over 50 casing runs that were analyzed and evaluated, concluding that Evolution provides successful drilling of horizontal well that historically required all the base fluids. Though this is something we have stated for a long time, the study provides additional credibility from a highly respected major E&P player. And last, we are excited to highlight this Newpark technology center is nearing completion and we expect to start moving in within the next 3 months. As we discussed in the past, this new facility will be the cornerstone for our continued development of new technologies going forward and we expect the grand opening in the third quarter. With that, I will now turn the call over to our CFO, Gregg Piontek.

Thank you, Bruce, and good morning, everyone. I'll begin by discussing the results of our mats business before moving onto the Environmental Services business and finishing with our consolidated results. The mats business reported first quarter revenues of $21 million, a 23% decline sequentially and a 33% decline year-over-year. As we cautioned on last quarter's call, mat sales were expected to be down sequentially as we dedicated the majority of our first quarter mat production towards rental fleet additions. Mat sales declined by $7 million sequentially, impacted in part by the timing of one large mat shipment, which was delayed from March into April. Mat rental revenues were up $1.4 million from the fourth quarter, driven by improvements in the Rockies and the Northeast. The mats segment generated operating income of $8.5 million in the first quarter, down 22% from the fourth quarter and 41% year-over-year. We were very pleased with the 41.2% operating margin in the first quarter, which compares to a 40.8% margin in the fourth quarter and a 47% margin in the same quarter a year ago. The first quarter margin exceeded our expectations due primarily to stronger Mat rental activity. As Paul mentioned, the development of our new spill containment system is progressing in line with our expeditions as results have been encouraging and customers are showing strong interest in the system. A third field test site is currently in progress and a fourth one coming within a few -- the next few weeks. We'd like to emphasize that the ongoing rollout will be carefully controlled in order to ensure the success of the new system. While we expect Mat sales to rebound somewhat in the second quarter, meeting the ongoing needs of the rental business and preparing for the spill containment system launch, will remain a high priority in the near term, which may continue to limit the sale of mats. Further, while we are expanding our rental mat fleet, the revenue impact may be delayed due to the controlled nature of the initial spill containment system rollout. Now moving onto the Environmental Services business. Revenues in this segment were $14.6 million, up about 1% sequentially and up 10% from a year ago, benefiting from increased activity in the Deepwater Gulf of Mexico. Operating income in the Environmental Services segment was $3.5 million compared to $3.4 million in the fourth quarter, and $3.6 million in the same quarter a year ago. Our first quarter operating margin was 24%, which was essentially flat with the fourth quarter and down from the 26.9% operating margin that we have achieved in the first quarter of 2012. We're pleased with the consistent performance of this business and remain optimistic that we'll continue to benefit from the improvements in the offshore Gulf of Mexico. Now moving on to the consolidated results. For the first quarter of 2013, we reported total revenues of $283 million, a 5% sequential increase and an 8% year-over-year increase. SG&A costs were $24 million, relatively flat sequentially, but up 13% year-over-year, largely reflecting the elevated costs of supporting the higher revenue levels along with the cost of strategic planning projects. Operating income was $28 million in the first quarter, up 8% sequentially and 9% year-over-year. Net income in the first quarter was $17.4 million or $0.18 per diluted share, compared to net income of $11.2 million or $0.12 per diluted share in the fourth quarter, and $15.6 million or $0.16 per diluted share a year ago. First quarter 2013 tax rate was 34%, which is in line with our expectations for the year. Now let me discuss our balance sheet and liquidity position. During the first quarter, operating activities generated cash of over $15 million. We used $16 million to fund capital expenditures, primarily consisting of construction cost for our new technology center and the expansion of the mat rental fleet. Borrowings under our revolving credit facility decreased by $14 million. We ended the first quarter with cash of $42 million and a revolving credit facility balance of $70 million. Our total debt at the end of the first quarter was $252 million, which was down $8 million from the fourth quarter, resulting in a debt to total capitalization ratio of 32%. I'd like to note that our short-term debt, which reflects foreign borrowings was up $6 million in the first quarter, due to increased borrowings in Brazil. Petrobras has been slow in making payments to all vendors in recent months. And as a result, Brazil accounts receivable increased by about $9 million in the first quarter, necessitating an increase in our short-term borrowing. We continue to expect 2013 capital expenditures to be $50 million to $60 million, inclusive of $20 million allocated for the completion of the new technology center, as well as increased investments in rental mats. Before turning the call back over to Paul, let me highlight that we have obtained Board approval for other $50 million share repurchase program, following the completion of our previous $50 million program in December. Now I'd like to turn the call back over to Paul for closing remarks.

Thanks, Gregg. Let me start by saying that we are pleased with our first quarter results. The company continues to perform well with another record revenue quarter. Our Drilling Fluids segment posted solid results both from our domestic and international operations. The 2 recent contract awards for Deepwater work in the EMEA and Latin American regions are clear signs that Newpark is becoming a recognized leader in Deepwater work, a significant departure from where the company was historically. Just a few years ago, our Drilling Fluids business saw the vast majority of its revenue come from land based drilling and a large majority of that came from the U.S. operations. Today, we are truly a global fluids company. We can compete head-to-head and win against any of the largest integrated service companies in the word whether on land or in Deepwater from the Gulf of Mexico, to Latin America, to EMEA, a giant leap for Newpark. Looking out over the next several quarters, we would expect to see continued strength in our Drilling Fluids business, both domestically and internationally, with some softness in the second quarter related to the seasonality in Canada. Our mats business also had a solid quarter as we saw margins hold around the 40% level, which included lower sales of mats to third parties. We produced more mats by our rental fleet in the quarter to support demand both for our ongoing rental business and also our spill containment system. The new system is gaining traction in the marketplace with customers, but like any new technology, it takes time to bring it to market and we will continue to provide you updates on our quarterly calls. Looking forward in this business, we're more optimistic today than we have been in the past that we can sustain our operating margins around the 40% level. The reason for our changing view is the continued strength of our existing rentals business and the early indications we are seeing from our spill containment system. Lastly, our Environmental Service business had another solid quarter even with slower activity in the Deepwater Gulf of Mexico. Looking forward, we see continued upside for this business, as activity increases in the Gulf of Mexico, from the shelf, to the Deepwater and eventually to ultra Deepwater. In closing, we see a lot of exciting opportunities. On the technology front, we look forward to the formal launch of our spill containment system, the opening of the Newpark technology center and the continued market penetration of Evolution. We are also optimistic about our growth opportunities, particularly in the international market. The 2 recent Deepwater awards are just the latest example of our progress in our global expansion and we look to continue to build upon a footprint in all of our worldwide regions. Operator, we'll now take questions.

[Operator Instructions] Our first question is from the line of Jim Rollyson with Raymond James. James M. Rollyson - Raymond James & Associates, Inc., Research Division: Nice, solid results. And question on the fluids business. I'm sure you get this question all the time, but you've had a pretty nice recovery trend in margins over the last few quarters. And maybe not withstanding the second quarter seasonality impact that you'll have out of Canada, do you think the trend continues back towards those kind of low to mid-teens margins that you guys always strive for? I mean, do you think from what you see, given the recent contract awards, et cetera, that things are trending in that direction?

This is Bruce, I'll take that one. Yes, I think we are trending back towards that low teens area. And we don't see anything currently that, that's going to stop us getting there. James M. Rollyson - Raymond James & Associates, Inc., Research Division: Well, that's certainly a great answer. And then just as a follow up, switching gears to mats. Gregg, you talked about expecting second quarter to bounce back a little bit from the first quarter, maybe a little order of magnitude of what you're thinking. And then just how do you think about the timing of the rollout of your spill containment system and kind of how that should start showing revenue improvements once that starts to roll out?

Yes. As we had talked about last quarter, one of the challenges with the forecasting in the mats business is the fact that you don't have a real long backlog and therefore, the timing of orders and exactly where those fit make it a bit challenging. So we do expect some improvement over the $6 million of mat sales that we had in this period. I don't see it's necessarily returning to the levels we had last year. And again, it's somewhat dependent on the exact timing of these orders. So -- and then secondly, in terms of the spill containment rollout, as we had mentioned, it's still -- we're still in the pretty early stages here, on the third site, the fourth site coming. And the plan for additional sites are made based on the progress that we're making.

Just maybe a little more color on the spill containment rollout, Jim. I think you're going to -- it's going to be a couple of quarters before you start to see some real revenue impact there. But what we're real excited about right now is the initial acceptance by the customers, they're very excited about it. Some of the regulators in those areas do come out and look at the sites, one of the cleanest, best protection in terms of the environment they've seen. So we're really encouraged by the initial feedback. And -- but it's going to be a couple of quarters where I think we'll see any real revenue impact there.

And our next question is from the line of Neal Dingmann with SunTrust.

This is actually Neal Dingmann's associate, Neil Weezy[ph] . I was hoping to start off by getting a better sense of evolution in terms of what percent of U.S. customers are using the product, overall margins for just Evolution and hopefully, if you guys could elaborate a little bit on international expansion there?

This is Bruce, I'll take that. I think the Evolution continues to roll out very well. All the customers that were using it are still excited about it. The new customers that we're roping in are very excited about it. And we are very excited about the rollout, particularly now internationally because of where we've been domestically. Very successful. Now we want to take that success into the international marketplace. We've done over 1,700 wells now with Evolution. So we're not at the learning stage anymore, we have a very solid data background. We have over 160 operators that have used the system to date. And we have approximately 8 million lateral feet drilled with evolution. So very substantial criteria that we've established now for Evolution. And we see nothing but continued use and success as we roll that out for international.

The other thing I'd like to comment on that Bruce covered in his opening remarks is that we had our first opportunity to do a joint paper with Occidental Petroleum on the benefits of Evolution. So I think that's kind of the beginning and you're going to see a lot more traction, a lot more operators doing joint papers with us on the success of the water based technology and how it overcomes, how it could compete with oil based and provide additional value. Something that's never been done before in this industry. So very excited about that, the paper with Occidental.

Great. That's very helpful. Just one more for me. Now moving to the fluids segment overall. With the strong growth in the quarter, I mean what are you guys seeing for market share versus 4Q '12 and year-over-year? And I guess following up from that, just broader-based international potential for the rest of 2013.

We don't necessarily comment on what we expect on market share going forward, but we certainly feel that we're winning more than our fair share of the contracts. We're very pleased obviously with the Deepwater work and the share that's being taken there. Now certainly, we did pick up market share with the Alliance Drilling Fluids acquisition in really 2 key regions, Bruce, the Permian and the Eagle Ford. So you'll certainly see a stronger presence there with Newpark.

And our next question is from the line of Mike Harrison with First Analysis.

Just going back a little bit to the Mats business. You talked a little bit about the timing and maybe not seeing revenues until kind of Q4 -ish from the spill containment, but -- and obviously, you're capitalizing the production cost. But how does the accounting work in terms of the costs that maybe depreciation for the new rental fleet? Does that hit the P&L ahead of the revenue ramp in the sense that we could see some margin compression before we really see that those revenues start to come in.

Yes, I mean as we do expand our mat fleet and you place those mats into service, yes, that's when the depreciation begins on them. But in terms of the magnitude of the expense that we're doing overall, is not a real significant change to the overall cost structure of the business.

All right. And then a couple of questions on the Alliance acquisition. I know just looking at the margin structure of that business that it was positive in terms of mix. But did you guys have any kind of integration cost during the quarter that maybe hurt your margin a little bit? And can you also maybe give us an update on what you plan to do with the profit distribution business that Alliance has?

I'll take the first part of that. In terms of the integration cost, yes. We did have some integration costs that were incurred during the period as we were incorporating the business within into our own structure and processes, not real significant. It's south of $1 million in terms of the cost that were incurred during the period.

This is Bruce. I'll take proppant piece. The proppant sales were off from a historical run rate that we have. So to the extent there's a gap between -- to fill. It's the proppant sales that were down. We haven't really established yet. We're only a quarter into this so we haven't really made any great discoveries on proppants and how we go forward with it or what the value is. We're still looking at that figure.

I think the other comment, Bruce, on that would be certainly that the market is over-supplied right now. And there are pricing pressures in the proppant side.

And our next question is from the line of Trey Cowan with Clarkson Capital Markets.

Just following up, I just want to make sure I understand this correctly. Did the Alliance purchase actually benefit your fluids margins in the first quarter?

It's -- I would say that the -- modestly, the business, as we had talked about in the last call, the business did have a higher operating margin than ours -- than our consolidated fluids business. However, a lot of that is negated in the early periods because all the purchase accounting, you have a very large amortization charge that goes along with that. So that negates some of that lift, so modest impact.

Got you. And then switching gears. As you look to the face shift into more pad drilling that we're seeing occur across the industry. How does that affect your mats business and your rollout of the spill containment or do you see an impact on that?

Well, it's maybe early to tell, but we talked some about that and certainly, if they're going more to pad drilling, the mats actually would remain on the site longer, which typically would drive up your utilization. If the rigs are mobing and demobing and moving around a lot, then you get lower utilization because I got to pull the mats up and move them a lot. So you probably see utilization go up more with pad drilling, might actually be more competitive in pricing, don't know. But we're certainly starting to move in that direction.

And our next question is from the line of Bill Dezellem with Tieton Capital Management.

Specifically to the contracts that you referenced you won outside of the U.S. in Black Sea and Brazil, you said those would be starting up in the fourth quarter. Are those contracts significant enough in size that we will -- I mean, externally, we'll see a bump up in revenues from those?

This is Bruce. Let me see if I can frame it a little for you. The Total work in Brazil is -- could be 2 to 4 wells, subject to the operator's desire of course. And each well could be in the magnitude of $6 million to $8 million per well, if that helps frame that piece. The piece in the Black Sea, similarly, could be up to 7 or 8 wells. Again, the operator will decide that based upon what he finds in the first few, but it could be that many wells and again in that $6 million and $8 million range. So yes, the revenues are quite significant and we expect that to have a good effect in the second quarter. Same [indiscernible].

And the 2 to 4 wells and 6 to 8 wells, are you anticipating those will mostly be done in the fourth quarter?

No, no, no. They will roll through into all of next year also, probably. In terms of the 8 wells particularly in...

Yes. I mean, a Deepwater well, Bruce, can run 2 to 3 months. These other wells for 4 months just depending how many difficulties they have.

Yes, there is lengthy planning cycles for future wells and sometimes the rigs go and do something else and come back. So it's a lengthy time.

And then secondarily, the 4 mat trials or the 3 that you are -- have done or in the middle of and the fourth one that's coming. How many customers does that represent?

It's a couple of key customers. And again, we're going to be controlled on how we rollout the technology and being focused.

And I'm showing no further questions. I'll turn the call back over to management for closing remarks.

Thank you for joining us today in the call and your interest in Newpark Resources. And we look forward to talking to you again after the conclusion of the second quarter. Take care.