TETRA Technologies, Inc. (TTI) Q3 2018 Earnings Report, Transcript and Summary

Good morning, and welcome to TETRA Technologies' Third Quarter 2018 Earnings Conference Call. The speakers for today’s call are Stuart M. Brightman, Chief Executive Officer; and Elijio Serrano, Chief Financial Officer for TETRA Technologies Inc. Also in attendance is, Brady Murphy, President and Chief Operating Officer. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded. I will now turn the conference over to Mr. Brightman. Please go ahead.

Thank you, Carrie. Welcome to the TETRA Technologies' third quarter 2018 earnings conference call. Elijio Serrano, our Chief Financial Officer and Brady Murphy, our President and Chief Operating Officer are also in attendance this morning and will be available to address any of your questions. I will highlight a few key items, then it over to Elijio for some additional details, which in turn will be followed by your questions. I must first remind you that this conference call may contain certain statements that are or may be deemed to be forward-looking statements. These statements are based on certain assumptions and analyses made by TETRA and are based on a number of factors. These statements are subject to a number of risks and uncertainties, many of which are beyond the control of the Company. You are cautioned that such statements are not guarantees of future performance and that actual results may differ materially from those projected in the forward-looking statements. In addition, in the course of the call, we may refer to net debt, free cash flow, adjusted EBITDA, adjusted profit before tax or adjusted earnings per share, backlog, coverage ratio or other non-GAAP financial measures. Please refer to this morning’s news release or to our public website for reconciliations of non-GAAP financial measures to the nearest GAAP measures. These reconciliations are not a substitute for financial information prepared in accordance with GAAP and should be considered within the context of our complete financial results for the period. Third quarter of 2018 was our second full quarter under our new segment reporting without the Offshore and Maritech business which has simplified our organization. We have shifted our focus to those businesses that we have competitive advantages, generate stronger returns on capital, and have the greatest growth opportunities going forward. We had a strong quarter as we saw several of our segments perform at or above our expectations in the third quarter. I’d like to highlight a few items then get into the specific performance. At the Investor Conference we hosted in New York on May 31st of this year, we highlighted our focus on Water & Flowback Services. Earlier this year, we completed the acquisition of SwiftWater to expand our presence in the Permian, Delaware basins and to add incremental service offerings, mainly water treatment and recycling. Brady also indicated at the time that we were implementing a strategy to take advantage of our multiple service offerings in this sector by integrating them and combining with automation technology to be the lowest cost per barrel water management company. By integrating with closed-loop automation, the service offerings of water transfer, containment, and storage, automated blending, post-frac flowback as well as treatment and recycling of produced water, we are on track to meet that objective. Last quarter, we said we’d be on three integrated water management projects by the fourth quarter. We have made significant progress during the quarter of demonstrating the value of our integrated offering to a broader customer base and are on or currently scheduled to be on a total of 11 integrated water management projects for 11 different customers in multiple basins in the U.S. These integrated projects allow us to differentiate ourselves from the competition and allow us to be more efficient and generate higher margins. Third quarter revenue for Water & Flowback services, revenue and adjusted EBITDA were down from the second quarter as the second quarter included a significant early production facility project overseas. During the third quarter, we also incurred some incremental start-up cost as we launched these higher number of new integrated water management projects. Despite all the transitory issues, the U.S. onshore market is going through, some due to Permian Basin takeaway concerns and some due to capital exhausted by our customers, our U.S. Water & Flowback services business revenue increased modestly from the second to the third quarter. We continue to see momentum pick up as September activity was the strongest month in the quarter and preliminary October results are that October will sequentially be stronger than September. This is an area where water volumes are increasing, the amount of produced water is becoming a bigger challenge to our customers and competitors are focused on individual solutions; our approach toward integrating and automating these services and becoming differentiators, especially when combined with some of our proprietary technology, such as TETRA STEEL 1200. We will continue to add capital to this segment and look for additional inorganic opportunities to keep expanding our footprint service offering, allowing us to leverage an existing customer in service infrastructure to drive incremental margins. Our segment adjusted EBITDA margins of 20.3% was the highest in the past three years, other than the second quarter of 2018, which benefited from the early production facility sale previously mentioned. We see this segment continuing to gain momentum, not only in the Permian and Delaware basins, but also in the MidCon, Marcellus, Utica and Rockies. Completion Fluids & Products revenue declined from $76.6 million in the second quarter to $63.1 million in the third quarter, primarily due to the seasonal high in the second quarter associated with our European chemicals business. Normalizing for the seasonality in Northern Europe industrial fluid sales, revenue for the segment increased sequentially due to higher U.S. onshore fluid sales in the oil and gas sector, higher Gulf of Mexico activity, and stronger international activity, mainly in the North Sea. Adjusted EBITDA of 19.8% are the highest in a quarter since the last quarter of 2015 without the benefit of CS Neptune revenue. We previously had seen adjusted EBITDA margins in this segment, mostly in the low-to-mid teens, without the benefit of Neptune. We are gradually seeing these margins increase to the high teens as we continue to see stronger onshore activity of calcium chloride in the shale plays and growing volumes of calcium bromide and zinc bromide into the offshore markets. The industry is also experiencing a period of rising bromine prices. Our supply agreement is allowing us to capitalize on our vertical integrated business model that provides us with a cost advantage, an increasing cost advantage as this third-party bromine supply goes higher. The CS Neptune projects that we were anticipating in the fourth quarter have been pushed out for several reasons. One is complexity of our customers' drilling programs associated with high-pressure deep waters projects. As you’ve saw in our Neptune revenue previously in 2015 to 2017 in the Gulf of Mexico, these complex wells with long complicated drilling programs all have a high degree of uncertainty and have delays associated with the drilling and ultimately the completion schedules. This complexity along with the decision of one of our customers to batch drill and complete, makes it more difficult to determine exactly when a well will be completed. On a broader basis, on Neptune, our agreement initiatives with Halliburton continue to move forward with our expectations. The pipeline of projects continues to grow in all geographic areas. Since we updated the group last quarter, two new customer projects have moved into the testing and qualifying phase. We have also achieved internal milestones that report on our Gen3 CS Neptune fluid with the objective of achieving density weights of 17 pounds a gallon. This achievement in the technology will increase the number of Neptune applications by significantly opening the downhole pressure window. In the meantime, our base Completion Fluids & Products segment is generating high-teens margins with very little incremental capital required. During the third quarter, our offshore Completion Fluids revenue increased sequentially, again, driven by strong demand in the Gulf of Mexico and North Sea. For CSI Compressco, we reported significant sequential improvements in revenue, adjusted EBITDA, distributable cash flow, utilization and backlog. The positive trends the team has made to get better pricing for our equipment and services, deploy equipment previously idle, and invest capital at high return opportunities continues to pay dividends as demonstrated by our quarterly results. This market remains very strong across the compression industry, across all elements of our compression business, and we see no signs of slowdown in the near future. We continue to focus on improving efficiencies in our field operations at our fabrication facility, at our aftermarket distribution centers, in the back office to not only capture top line growth, but continue to improve margins, as we have demonstrated. None of the businesses have slowed down, and as we look at 2019, we expect all elements of our compression business to continue to grow. While some of the macro industry is struggling with Permian takeaway concerns, our business is part of the solution and we expect to continue to be robust and growing. Since the end of the downturn, we have placed orders for approximately 170,000 additional horsepower to be added to our fleet with approximately 100,000 horsepower scheduled to be delivered in 2018. About 85% of the additions are large gathering system units over 1,000 horsepower per unit. All orders are customer-specific with clear commitments attached to them. We are not building any speculative equipment, we’re only targeting new invested opportunities with returns of 20% or higher on high horsepower equipment in geographic areas where we have existing strengths, customers, density, customers who want to partner with CCLP as a supplier with flexibility and a broad range of compressors solutions. As we are adding more horsepower into existing clusters of equipment with our marquee customers, our incremental margins are higher than the overall margins we’re reporting for this fleet. We continue to gain efficiencies with mechanics and technicians, given the incremental horsepower going into our existing network. We remain very disciplined on our investments and have identified projects for customers in regions where we already operate to continue to leverage our footprint in infrastructure. Pricing continues to increase for the Compression Services business as contracts roll over and new contracts are put in place. Some of the price increases implemented earlier this year were for one-year or shorter terms. We expect this trend to continue. Our utilization for a thousand and higher horsepower equipment focused on the gathering systems is now at 96.6%, significantly up from the 94.1% at the end of the second quarter. This essentially is full utilization. We deployed an extra 31,000 of active horsepower during the quarter, increasing the amount of deployed horsepower to 964,000. Overall utilization for the fleet is 86.3%, up from 85% at the end of the prior quarter. The vast majority of the increase is in the areas with the most activity and demand including the Permian, Eagle Ford, SCOOP/STACK areas in Oklahoma and South Texas were approximately 70% of our operating horsepower is deployed. Our new unit sales activity continues to be strong. We received $71 million of new orders in the third quarter, pushing the fabrication backlog for third-party sales to over $140 million. Year-to-date through September, we have received nearly $170 million of new orders, many of which are filling up our 2019 order book. This is a record for CSI Compressco and we still have a full quarter to go. I would expect, for the full year, the new equipment orders would be around $200 million based on our sales pipeline. Most of these orders are scheduled to be delivered in the Permian, Delaware and South Texas to midstream operators investing to address takeaway capacity and build regional gas processing facilities. While the Permian Delaware Basin takeaway constraints continue to worry some well site service companies, we view ourselves as part of the solution to the problem. As we sell new equipment, we also benefit in the future from selling parts and services through our aftermarket network to support these customers through the life of the equipment, the demand for new unit equipment sales is stronger than we expected and we believe this trend will continue as companies continue to build out infrastructure and takeaway capacity. The industry continues to be short on large horsepower equipment and we’re addressing this demand as fast as possible. Aftermarket Services also had a strong quarter, growing 32% sequentially to $19.9 million in revenue. We also have seen increased gross margins for that business as we capitalize on some of the efficiency initiatives we instituted in prior quarters. Our customers continue to catch up on previously deferred maintenance and are engaging us to maintain and support their equipment as they reactivate older equipment and add to their existing fleet. This business also benefits from new unit sales as customers who purchase new units from us look to us to provide the aftermarket service and spare parts. Overall, continued strength in this business and we feel confident as we move into 2019. With that, I will turn it over to Elijio to provide some financial details on the quarter and then we will open it up for Q&A.

Thank you, Stu. Third quarter revenue from continuing operations was $257 million and compares to $260 million in the second quarter and $184 million in the third quarter of last year. Consolidated Adjusted EBITDA from continuing operations for the third quarter was $41.8 million and compares to $46.3 million in the second quarter of this year. Revenue for completion services and products was $63 million and compares to $77 million in the second quarter of 2018. As a reminder, the second quarter reflects a seasonal high for our Northern Europe Industrial Chemicals sales. Normalizing for the second quarter seasonality, completion services and products revenue increase from the second quarter to the third quarter by 6.6% on stronger Gulf of Mexico and offshore international Completion Fluids activity. Completion Fluids & Products' adjusted EBITDA was $12.5 million or 19.8% of revenue. We had no CS Neptune sales in the third quarter and our adjusted EBITDA margins of 19.8% were without the benefit of any Neptune activity and reflect a lack of recovery in the deepwater Gulf of Mexico offshore markets. Water & Flowback services revenue of $79 million in the third quarter, decreased from $5 million in the second quarter. We did not have an early production facility sale in the third quarter after having one in the second quarter. Water & Flowback Services third quarter adjusted EBITDA was $15.9 million or 20.3% of revenue. Our U.S. onshore Water & Flowback services revenue was up modestly from the second to the third quarter, despite that noise in the market from takeaway concerns in the Permian and Delaware Basins. Our North America Water & Flowback services margins are higher than the margins of the total segment, reflecting a good pricing environment and good utilization of our equipment. As Stu mentioned earlier, we are in the midst of being on 11 different integrated water management projects. During the second quarter, we incurred cost in preparation for some of these projects. We had been previously reporting SwiftWater revenue and adjusted EBITDA as part of our 10-Q and in our earnings conference call. We have fully integrated them into our business and segregating them from the rest of the results of TETRA Permian Basin operations is no longer practical as we are using staff and equipment across the businesses and any allocations of profits between SwiftWater and the legacy TETRA businesses will be arbitrary. In our 10-Q we have made references to approximate revenue generated from the historical SwiftWater customers by recognizing in some cases that revenue is utilizing TETRA’s TETRA STEEL double-jacket lay-flat hose and TETRA staff to generate that revenue. We are very pleased with the SwiftWater integration. CSI Compressco’s third quarterly increased sequentially by 15% primarily due to continued stronger activity from aftermarket services and new unit sales. All three of our business lines increased sequentially. Compression Services' margins in the third quarter was 47.2%, an increase over the second quarter of this year by a 100 basis points due to better pricing and continued improvements in our efficiencies. We are also continuing to get the benefit of the recently installed ERP system and are seeing the initial benefit of new equipment being deployed with a 20% returns on capital that we’ve mentioned. Equipment sales were $36.5 million with gross margins of 8.4%. We expect the future margins to be around 10% going forward. We expect to see continued increases in equipment sales for the fourth quarter and into 2019 as a result of the $140 million backlog, and after receiving $71 million orders in the third quarter. Adjusted EBITDA for CSI Compressco in the second quarter was $24.6 million, a $2.1 million improvement from the previous quarter. The coverage ratio was 1.07 times, up from 0.65 times in the second quarter. Distributable cash flow increased 71% from the second quarter. The adjusted EBITDA for CSI Compressco of $24.6 million does not reflect the benefit of approximately $2 million net book value from the sale of used equipment in the third quarter, that represents cash earnings to CSI Compressco, but we do not report that as incremental profits or adjusted EBITDA. TETRA’s balance sheet remains strong. In the third quarter, we were able to refinance TETRA’s outstanding debt by replacing the secured bank revolver with a $200 million term loan fee. We have a delay draw option available to us for an incremental $75 million that can be used to finance working capital, growth capital or acquisitions. We also put in place an asset-based credit agreement with JPMorgan and Bank of America. At the end of September, we had a drawing – a borrowing base of approximately $50 million. And also at the end of the quarter TETRA’s only net debt was $162.7 million, inclusive of $28 million of cash on hand. Importantly, we were not only able to refi at financial flexibility to growth, but we were also able to materially reduce the maintenance covenants in our new debt structure. For CSI Compressco at the end of September, we have $26 million of unrestricted cash. And as a reminder, CSI Compressco’s new debt structure that we implemented earlier this year is without maintenance covenants and no near-term maturities. And I’d also like to again remind everybody that TETRA and CSI Compressco’s debt are distinct and separate. There are no cross defaults, no cross collateral and no cross guarantees on the debt between TETRA and CSI Compressco. From a guidance perspective, we have done the following. We expect consolidated 2018 revenue from continuing operations to be between $975 million and $1 billion. We further expect consolidated adjusted EBITDA to be between $155 million and $165 million, down from the prior guidance of $170 million to $190 million. The adjusted EBITDA is reflecting the delay in the CS Neptune project that were previously anticipated in the fourth quarter and the modest slowdown during the fourth quarter as operators pulled back some spending. Projected total year expenditures or TETRA capital investments are expected to be between $40 million and $50 million. CSI Compressco capital expenditures are expected to be between $110 million and $120 million inclusive of maintenance capital. TETRA-only free cash flow for the third quarter was a use of cash, slightly below $600,000, as we continue to make investments into the water management segment to take advantage of the integrated projects with strong margins. Projected total year TETRA-only free cash flow is expected to be between breakeven and $5 million, inclusive of distributions from CSI Compressco. Given that CSI Compressco continues to see improvements in activity and is not being impacted by takeaway concerns in the Permian and the Delaware Basins or by pullback in spending by the operators, I’d like to repeat some of the comments that they made on yesterday’s earnings call. They expect fourth quarter adjusted EBITDA to be between $29 million and $31 million, as reported by CSI Compressco, up from $26.5 million in the third quarter, when including the benefit of used equipment sales in adjusted EBITDA. The cumulative impact of price increases, a stronger market demand in more horsepower, new investments coming online, delivering 20%-type returns, plus the continued strength of the aftermarket services are expected to deliver on the guidance. In addition, the backlog of equipment sales that is currently in the bill stage, that will be delivered in Q4 throughout 2019 with improved gross margins will also contribute toward this. We expect CSI Compressco’s fourth quarter revenue to be between $125 million and $135 million, an increase of $10 million to $20 million from the third quarter. We expect part of the increase to come from additional equipment sales, which we estimate to be between $45 million and $50 million in the fourth quarter. Going back to the Investor Day that we hosted in New York City earlier this year, CSI Compressco indicated that they expect net leverage to improve materially as the year progresses. We expect to deliver stronger earnings in the second half of the year, with each quarter getting progressively better and CSI Compressco is delivering on that commitment. Based on fourth quarter annualized adjusted EBITDA, CSI Compressco’s net year-end leverage ratio will be in the 5.1 times at the high-end of the adjusted EBITDA guidance to 5.5 times at the low range of the adjusted EBITDA; a material improvement from our current levels, reflecting the strong rebound in adjusted EBITDA that we are seeing. CSI Compressco also mentioned that their distribution coverage ratio was expected to be between 1.5 times and 1.6 times in the fourth quarter. Distributable cash flow in the fourth quarter is expected to increase 44% on the low-end of the guidance to 56% on the high-end of the guidance, up from $5 million in the third quarter to between $12.9 million and $14 million in the fourth quarter. CSI Compressco will continue to be very focused on returns and margins as they grow and will maintain a very capital disciplined approach, as we communicated during the Investor Conference earlier this year. They are focused on getting higher prices on all their services and products, continuing to drive efficiencies throughout the organization, and improve our leverage ratios. I encourage you to read our news releases from this morning and CSI Compressco’s news release from yesterday for all the supporting details on the guidance. All in all, we had a good quarter across the segments with many of the basin outside the Permian Basin strongly participated in the improvement over the prior quarters. With that, I’ll turn it back to Stu.

And at this point, we’ll open it up to questions.

We will now begin the question-and-answer session. [Operator Instructions] The first question will come from Praveen Narra of Raymond James. Please go ahead.

Hi, good morning guys.

Good morning Praveen.

I guess, I just want to start on the integrated projects scope. A couple of things, so I guess at the Analyst Day, you guys had laid out kind of what an E&P could expect to save from doing an integrated project with you guys. So I guess it’s still early innings, I guess, thus far. Can you talk about what kind of savings E&P is realizing at this point? And then, I guess, on the flip side, can you talk about what TETRA’s margin profile looks like relative to the rest of the Water & Flowback services segment on integrated work, excluding the start-up cost you guys are seeing now?

Yes, Praveen, this is Brady Murphy. Going back to our Analyst Day presentation and our strategy, if you recall, when we had all of our services on location with our automation up and running, we had projected – and eliminating hauling, eliminating disposal with recycling, reducing the amount of fresh water, we were projecting 25% to 30% typical savings that an operator could save with our model in place. Now, with the projects that we have in place today, some of them have full services, some of them have partial services, all of them have automation involved. I would say at this point in time, it’s difficult for me to say what the operators are saving on the disposal and hauling side, although we know that’s a real tangible number because of most of these projects involve recycling. I can’t quote those numbers from the operator side, but we know they are real. From the people side, operators are still using the model to prove it out, I would say, and reducing manpower on location has not been a significant part of our integrated projects yet, but we definitely see that coming as we prove out the model.

And then, I guess, from TETRA standpoint, are we seeing – I guess are the margins accretive to the segment or is it still too early to identify?

I think it’s early, but I think the early indications in our ongoing expectations that this will be accretive to the segment margins as well as provide that savings back to the customers, that Brady referenced. And again, we said in the – kind of just add one last comment on it, we said part of the third quarter, margin bridge was – we had a bigger number of integrated projects than we had modeled and there was some start-up cost associated with it. But I think when you look at the full return of the capital to start-up costs, the margins – when you look at it on a full project, it will definitely be accretive to the overall segment. And as I said, where – our run rate as we exited the third quarter was very, very strong and this was a big part of it.

And Praveen, remember that when we’re on an integrated project, we’ve got our personnel out there that move between transferring the water to flowback phase and we’ve got less mobilization and move in and out of personnel that allows us to more effectively use our time.

Right. Okay, perfect. And I guess, moving into kind of 2019, obviously, you referenced kind of the slowdown for 4Q and even I guess a little bit in 3Q. Can you talk about what you’re hearing from your customers in terms of the resumption of activity as we get into 2019?

Yes, I think, overall, where the opinion – clearly the fourth quarter is going to be down. We’re anticipating, as we roll into December, activity will come down. Again, we have not seen that in our current run rate, but we’re expecting that as we move in, and we’re cautiously optimistic that that activity bumps up as we come into the first quarter and as we sequence through the first half of the year, we get back to completion activities that looked similar to what we’ve experienced in the second quarter of this year. I would also add, we talk about Permian all the time that our non-Permian businesses in Water & Flowback, which for us, are going to be Appalachia, Mid-Con and the Rockies and South Texas, they all continue to be strong. So we’re very pleased with the entire footprint we have and the fact that some of these additional capabilities that we got with SwiftWater acquisition, we’re now starting to export that capability outside the Permian and that’s also driving the integrated solutions.

Okay, perfect. And one more from me, I guess some more around 2019. Can you talk about how you’re thinking about your capital budget for 2018 now for TETRA alone? I think we have a pretty good idea of what CSI Compressco is going to do. But I guess how are you thinking about what CapEx could be year-over-year and what opportunities…

Yes, I mean, again, obviously we’re in the middle of our business plan. We’re taking the pulse of some of the variables that are out there, but I think the way you should think about it is, we remain very strong in our convictions of both of the Water and Fluids businesses that relate to the question. As you know, the Fluids business is a low capital, high cash flow generation business. So that will continue to be modest CapEx, predominantly maintenance CapEx in some of the chemical facilities. I don’t see there is going to be – there just isn’t a need for growth CapEx of any materiality in that business. We’re still operating in our facilities with plenty of capacity to ramp up. On the water side, I think you’ll continue to see us internally look at those areas on integrated projects, produced water recycling, taking some of the new service capabilities we’ve got with the SwiftWater and expand it. I would say overall, we’ll probably be looking at a CapEx similar to this year. On the TETRA side, I think we view a little bit of speed bump on activity in the fourth quarter, but we’re very encouraged with the initiatives we’ve taken, the responses we’ve received, and some of that activity picking up as we go through the first half of next year. So, short answer is, similar to this year.

Okay, great, thank you very much guys.

The next question will come from Sean Meakim with JPMorgan. Please go ahead.

Thanks. Hi, good morning.

Good morning.

So, maybe to add on to the earlier discussion, I’m hoping we can maybe better understand some of the moving pieces on Water & Flowback margins. So the drop-off quarter-over-quarter was a lot cheaper than we were expecting, but I think there is obviously not a lot of visibility on some of the pieces, so understood that EPS project in 2Q is part of the delta. You noted that you’re taking on some incremental costs for the integrated growth opportunities in the U.S. Are any of those costs embedded in the $2 million in special charges you had in the segment to get to adjusted segment EBITDA or are those incremental and embedded in the margin. Just trying to get a sense for some of the moving pieces to help us understand that delta to gives a better read through into the fourth quarter?

Sean, this is Elijio. The cost that we incurred to get ready for the integrated projects are not, have not been – they’re part of our reported EBITDA margins and they’re embedded in the results for the segment.

Are you able to help me unpacked the rest of it so that the – there is almost 500 basis point delta quarter-over-quarter. Maybe help us to the degree you can size or force rank the EPS roll off versus underlying mix of what’s happening on the U.S. business, some of the costs that are associated with the start-ups around integrated projects. Trying to get a sense for how all these pieces are fitting together to give us a better sense of what the outlook is for the fourth quarter?

Okay. So you’re right. The two items that you highlighted are driving our margins lower in Q3 versus Q2. The biggest impact was the high margin EPS sale that we had in the second quarter that is not going to repeat in Q3 or Q4. The second item is the cost that we’ve incurred in preparation for some of the upcoming activity on the integrated projects that we saw. Those two are the main drivers of the Q2 to Q3 decline.

And so, do you expect those start-up costs to continue in the fourth quarter or should they start to abate? How do you think about that?

They’re going to be modest on a go-forward basis.

Okay, all right, thank you. And then, on Neptune it’s obviously proven to be very difficult to model the Fluids business when you have Neptune projects lurking. I think you guys have spent nearly a decade cleaning up and high grading the portfolio and so lot of that was driven by trying to make the business more predictable and easier to model. So, I think compared to the old offshore business, this volatility is obviously very good economically and from a cash flow perspective, but how do you think about the long-term impact of Neptune in terms of your ability to smooth out some of that volatility with higher volumes? Just how should investors think about, with obviously a great opportunity from a cash flow perspective, but makes it really tricky quarter-to-quarter as inherently projects can flip to offshore as we know?

Yes, great series of questions. I certainly agree with the first part of your question of, we put a lot of work in making the business better and easier to understand and better returns. So thank you on that comment. Going to the second part of the question of modeling and predicting fluids given that Neptune is a big impact, I’d kind of come at it with a couple of elements. One is, we moved our base business margins up to, close to 20% this quarter without the benefit of Neptune and without the benefit of the seasonality in the second quarter that we have on our Chemicals business in Europe. So we continue to move the standard business margins up and I’d argue it’s in an environment where the offshore component is not robust. We are starting to see, as I noted in our third quarter results, some higher activity in the Gulf and higher activity in the North Sea. We have a bigger backlog offshore on the fluids going into 2019 compared to where we were a year ago, so the base business has a lot of positive trends that are going with us. On the Neptune side, I fully empathize with the modeling challenge of the lumpiness in timing, and again, as we’ve said before, some of these really large projects are incredibly complicated and the drilling program and timing is outside of our control and that’s just the way that’s been. I think you’ll continue to see kind of two elements of it. As we said in the Investor Day, we think there’s going to be a piece that is more base business of Neptune. I’m absolutely convinced given in the last several months. The sales pipeline of more base business on Neptune in all the international regions is increasing. As I noted on my comments, the testing protocols are advanced. So we think there’s going to be an element of it that starts in 2019 be more predictable on top of our base business. And then I think, in addition to that, you will continue to have the very large lumpy opportunities that we all try to project and forecast additive to that, but at least it will be additive to a larger base. And I think that’s the way we see it going. And again, maybe Brady, you might want to add some comments because Brady has been deeply immersed in driving the strategy and expanding the sales pipeline.

Yes. So, thanks Stu. So I think, to your question, Sean, expanding the pipeline has been a real focus for us. And through the Halliburton agreement just since the last quarter, we’ve added three projects to the pipeline; one in Asia, one in Caspian and one in Middle East. We would not have been able to do those likely on our own, but through the Halliburton arrangement, those are certainly projects identified as opportunities. There is still a process to go through to qualify, do the testing with those customers et cetera that is part of the timeline, but as Stu said, just increasing that pipeline and probability of projects on an ongoing basis is certainly achievable and going in the right direction. The other aspect I’ll add is opening the window from the current generation Neptune to the higher densities, the 17 pounds per gallon, the testing we’ve had in the last quarter has been some significant milestones. We’re not there yet, but that’s another element of just increasing the opportunity set for Neptune.

I think those are very thoughtful and helpful responses. Thanks a lot.

The next question will come from Kurt Hallead of RBC. Please go ahead. Kurt your line is open, if you wish to ask a question.

Hi, good morning, how are you? How’s everybody?

Good, thanks, Kurt.

So, yes, maybe I’d want to get a sense from you guys on, when you think about the different businesses that you’re involved in, I think the last kind of in-depth conversation you provided some very good color on expectations for kind of pricing power on a go-forward basis and now that we’re kind of heading into year-end, thought it might be kind of useful to kind of get a check from you guys and get a sense as to what product areas you feel most confident, where you can get some pricing going into 2019?

Yes, I’ll take the first part of it. So I think the area we continue to feel very confident is on compression. I think if you look at the compression Services margin sequencing, it continues to go up and pricing is a key part of that. As we said, when we’re committing the new capital to the specific customers, we’re making certain we get the proper price point that goes with it as most of the agreements in place are 12-month agreements. As they roll off, there’s a lot of emphasis on that. So, we continue to see very good results on compression and we’re starting to see the margins on our backlog of equipment sales starting to move up. And I think there is a very good overall market environment for margin enhancement on compression and we’ve demonstrated and expect to demonstrate it in the guidance we’ve given on CCLP yesterday for that business kind of assumes that progression. On the Completion Fluids, I would say we’re seeing pricing opportunities. I think part of the margin sequencing going up to close to 20% without any Neptune benefit in the third quarter is reflecting that. We’re starting to see some – I think some of our customers in the offshore area both in the Gulf and in the North Sea are getting a little busier. And that’s good for us and we have good pricing agreements, I’m bullish about that. Onshore, in the Water & Flowback testing, as I noted, our revenue in North America in that space was up modestly and a lot of that started the integrated business. A lot of it continues to be a sequential improvement in our testing. Domestically, we continue to have very strong results in our domestic testing and we’re seeing margins in that space very close to peak what we saw in 2014. I’d say, there’s a couple of pockets, as you would expect, where frac crews get moved out in the market and our competitors have to react to that gap and look at spot pricing. We’ve seen a couple of instances where there has been some price challenges. But overall pricing, I would say has held up on the water and continues to maintain and go up a little bit on the testing. So that’s still a healthy market. We’re very focused on continuing to take advantage of that.

Great, that’s great color. And then I know in the past, probably different discussions about maximizing the value of the portfolio and invariably it always comes back around to some assessment on some of the parts and whether or not you’re getting kind of a map over a value on the Compressco business. Just wondering if you can give me your perspective on that and whether or not you feel like the market is – how is kind of mapping that value over and whether or not you feel it is getting – at least moving in the right direction?

Yes, and I think the fundamental business performance continues to show strength, and I expect that to continue. I would say that as we noted the delevering impact of that business, as we continue to grow, pushing the kind of current quarter annualized into that low-five leverage is a positive. I think we should start to get some credit for that natural delevering as the business gets better. So I’m optimistic that the combination of earnings power and increase on the compression business combined with the natural delevering that has. I think the leverage part has certainly been a constraint on that business, and that’s kind of held back the TETRA, so we need to continue to solve that, grow the business, look at the leverage, and as we always say, evaluate whether that gets mapped over to TETRA. I mean that’s the last open issue we have on the portfolio. All the other elements, we’ve done a good job dealing with the TETRA balance sheet. Elijio referenced some of the refinancing. Both companies have no maintenance covenants. We were absolutely bound and determined to solve that as we moved into a growth cycle. So that question you raised, we’re very cognizant of it, we watch it. We’ll continue to see if we’re getting that bounce we deserve as we continue to perform on the CSI Compressco.

Great. And maybe if I could sneak in one more, you guys referenced 11 projects with 11 different customers on the water side of the business. Can you give us some insights as to how that business is evolving and is the large kind of project dynamic going to become the primary driver? And you mentioned how it provides you with an opportunity to capture better margin and wonder if you might be able to provide some insights on how much better margin and kind of how you’re looking at that?

Yes, I’ll talk a little bit about how we see it progressing Kurt. First, we clearly see the customer acceptance and interest in the model that we are delivering on today. So I think obviously we’re ahead of where we thought we would be in terms of the number of integrated projects and the customer acceptance. There are still opportunities in some basins that we have not mobilized to yet that I think we will be in 2019. So the acceptance and growth is clearly there for us. And as we demonstrate the savings for the customer and that is part of the recycling part of that using produced water and the technology we’re bringing to that, I only think that that will continue to grow and with the automation capability, the increased safety, the lower number of people required on location. I think all of those things play to the fact that this model will continue to grow and be a bigger part of our portfolio. As for the margins, we feel taking people off location and having our services integrated should allow us and will allow us to achieve better margins than just the discrete service, but I’ll let maybe Stu comment more on that.

Yes, I mean I think, we certainly view that as margin accretive as we continue to roll out that model. We feel we’re somewhat unique in our capabilities to tie all of that together and I would also tell you we’re in the early innings of how we commercialize it and quantify the value add to our customers, a lot of our team, both the legacy TETRA team plus the SwiftWater team as we roll out these models in more and more basins, more and more projects, we’re very cognizant of the need to show that value and be able to commercialize it. But my expectation is, it’s going to be margin accretive and it’s going to continue to represent a growing percentage of the overall water and testing portfolio.

Got it. Great, thank you. Appreciate it.

The next question will come from Stephen Gengaro of Stifel. Please go ahead.

Thanks, good morning guys. Two things for me; the first is, when I think about the change in your full year guidance and I’m just curious, when you think about your expectation for 3Q, how much of the guidance change is that and how much is – I’m trying to get a sense for sort of what you’re thinking as far as the size of Neptune and also just a sense for the underlying change you’re thinking about in the fourth quarter because of the seasonal slowdown. And then I guess as part of that still, I’m not sure if you’re willing to, but as you look at the three pieces, and obviously we know the CSIP. So I guess the other two pieces, the bigger movers in 4Q from your perspective.

Yes. So if you do the math, clearly there is an impact in our third quarter as well as a larger impact in the fourth quarter. And I would say the puts and takes would be, in the third quarter some of the start-up cost we’ve reference on integrated projects on the water, a little bit of mix within the water even though our revenue was up modestly for North America water testing, I’d say across the different regions is little bit of a mix change that probably had a slight margin degradation. When you map it over to the fourth quarter, I’d say clearly, by far the largest element is going to be the timing of Neptune. And I’d say the second element is we’ve taken an assumption on activity in December on water that’s going to be down completion activity wise. So those would be the four elements that aggregate the difference. Elijio, I don’t know if you want to – any further color on that?

No, I think you’ve covered it appropriately. Any further color we can give to this Stephen?

No, that’s helpful. I was thinking in terms of, on the water side, just to get kind of getting a sense for the magnitude of some of these costs but maybe we can think about that in a little more detail later. As you look at 2019 and you look at the different pieces of the puzzle here. The consensus range is wide, they look like a 1.90 to like 2.40, 2.50 something like that, but just in general terms when we think about the – if you take out the Neptune business, as you think about incremental margin performance in the Water & Flowback business and Completion Fluids, would you be willing to kind of bracket what incrementals should look like on a year-over-year basis in those two businesses?

So maybe I’ll make a data point and then I’ll let Stu add more. In the last earnings call, we indicated that we had secured a multi-well project Gulf of Mexico for Completion Fluids. So we’re going into 2019 with more deepwater traditional Completion Fluid than what we’ve had over the last three years. So that clearly is going to work in our benefit and therefore you would expect that the Completion Fluid’s non-Neptune margins are going to be better because of that situation. Since Stu and Brady have talked extensively about the integrated projects, getting the full benefit of integrating SwiftWater into our business, cross selling TETRA STEEL into the SwiftWater customer base, cross selling their water treatment and our water recycling into the TETRA customer base. We made that investment because we believe that is significant leverage to be gained from doing so. And then also, you’ve noted that we’ve been adding capital to the water transfer to the – to the water treatment and flowback testing site. We fully expect to get a full year benefit next year. So when you look at our backlog going into 2019 from traditional Completion Fluids, deepwater, plus the benefit of the acquisition, plus the capital, you would expect that we’re going to get better margins from those two businesses versus where we’re running right now. Then you have to calibrate it with how much Neptune do we get? What is the timing of those Neptune? And whether it’s multiple wells projects versus what we’ve been expecting. Stu?

Yes, I mean – so I think – couple of things I’d add to that is on the compression business, I think we’d kind of continue to be bullish that we continue to see progression on margins and earnings going forward and lots of capital growth opportunities. As Elijio said on the fluids, I think we continue to see on the base business, continued progression of margins, and we also would layer on top of that some based Neptune for next year that should be margin accretive. And then the wild card is the number of bigger projects and the timing of that and we’ve talked about that. Then you get to the water side, I would argue the trend on the integrated projects and the automation associated with that would be margin positive versus today. And we would expect as we see the activity get back to the levels we saw in the second quarter of this year, at that point, we would expect those margins to be above where they were. So I’m bullish on all of those elements as we look at next year.

Okay, great. That’s very good color. Thank you.

The next question will come from John Watson, Simmons Energy. Please go ahead.

A quick one from me guys. On the Water & Flowback business, have we seen a pause in any price increases that we’ve talked about in the past? And can you speak to any potential new competition in that space given how good your margins are?

Yes, John. I’ll comment on the pricing. I mean clearly we were getting price increases through the second quarter. In the third quarter, I would say we certainly flattened off. In some cases, as Stu mentioned and particularly in the Permian, we saw some customer shifting frac schedules and freeing up some competition where we got a little bit more competitive, certainly in July and August. But we were able to recover in September with a strong activity level closer to where we were in Q2. But from a pricing standpoint, yes, there was a little bit of pressure. But I would say across the Board, not really any significant change from where we’ve been.

Okay, great. And then a follow-up on the compression side, any appetite for M&A for that business, given the growth trajectory that you’re expecting?

I would say we’re always looking to add scale with the caveat that we are committed to delevering that business and that’s a very, very high priority. So it would have to be something that obviously, strategically fit, the returns look compelling and the by-product of that was balance sheet accretive.

Okay, understood. Thanks for that Stu. I’ll turn it back.

The next question comes from Thomas Curran of B. Riley FBR. Please go ahead.

Good morning, guys. Thanks for squeezing me in here at the 60th minute. I appreciate it. Stu or Brady, so we were originally expecting the next two Neptune projects to start up in 4Q, they’ve now slid into 2019. Do you have any idea yet, and if you already highlighted this, I’m sorry if I missed it. Do you have any idea of what the new timing is likely to be for them? And then should we think of them as incremental to the existing potential range of projects we were already thinking were possible in 2019? Or would it make more sense to assume sort of a knock-on effect where you have two slide from 4Q into 2019, and then it would be more likely to see two move out from 2019?

Yes, I mean, great question. I mean, I think, you have to look at it in kind of two segments. One is we clearly think the base business we’re going to have some new customers in new geographies that will be part of 2019 that haven’t been part of 2018 or any prior years. And as I said, that’s going to be driven by all the testing we’ve done and some of the new opportunities Brady referenced. And then, I think, when you look at the big projects, including some of the stuff we’ve talked about that’s pushed out from the fourth quarter. It’s a tough question on, is it pushing others to the right or is it going to be additive to? I’m not certain I’ve got a strong view on that until we get a little bit further through the quarter into the beginning of the year and we see what some of these drilling programs are, but there are some big projects additive to the ones we’ve talked about that will be out there. But I think when we get back together in February and we closed out the year and we see a little bit better development of some of the drilling programs, I can give you a clear answer, but we definitely view the big projects in the base business as being part of the Neptune revenue stream.

Okay, helpful. And then as my follow-up, turning to Water & Flowback, could you tell us sequentially from 2Q to 3Q, what the revenue changes were for the Permian and non-Permian respectively? And then, as of the latest available months, ideally October, what was the revenue split between those two geographic categories for the division as of October?

Yes, I don’t think we wanted to split the actual percentages between the two, but I’ll give you a little color that during the third quarter, the Permian was down a little bit sequentially and the non-Permian more than offset that with overall modest gain. I think as we look at the fourth quarter, clearly we’ve modeled a slow December across the different regions, and I would say, as we look at the first half of the quarter, I would expect our Permian business to be flat to up the first half of Q4 versus Q3. And again, as I – our September-October is up from the first half of what we saw in Q3. I think the non-Permian, as we go through the first half of the quarter, I think we’ll be flattish on that. And then, again, across the regions, we’re anticipating a pretty – a slowdown in the second half of the quarter. And that’s what’s baked into our overall guidance.

Okay, so non-Permian sequentially up in 3Q, more than offsetting the decline in the Permian, and then sequentially at least flat into 4Q. So overall, a continued encouraging trajectory there in terms of the growth you’re realizing outside of the Permian?

Yes, I think when you normalize for whatever the slowdown is going to be in the second half of the fourth quarter, you measure it through the third quarter and first half of fourth quarter, we’re going to be very happy with the progression in the non-Permian. And again, part of that is, we’re starting to see some of these integrated projects occur outside the Permian.

Thanks again for taking my questions Stu.

You’re welcome.

And this concludes our question-and-answer session. I would now like to turn the conference back over to Mr. Brightman for any closing remarks.

Yes, thank you. As always, appreciate everybody’s engagement and great questions. And again, I thought overall lot of strong elements of the quarter and we will look forward in February of talking about the final quarter and more importantly, where we are on our views on 2019. So, thank you.

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect your lines. Have a great day.