TETRA Technologies, Inc. (TTI) Q3 2020 Earnings Report, Transcript and Summary

Good morning, and welcome to TETRA Technologies Third Quarter 2020 Results Conference Call. The speakers for today’s call are Brady Murphy, Chief Executive Officer; and Elijio Serrano, Chief Financial Officer. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I’ll now turn the conference over to Mr. Serrano. Please go ahead.

Good morning, and welcome to TETRA Technologies third quarter 2020 results conference call. I would like to remind you that this conference call may contain statements that are, or maybe deemed to be forward-looking. These statements are based on certain assumptions and analysis 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 EBITDA, gross margins, adjusted EBITDA, adjusted EBITDA gross margins, adjusted free cash flow, distributable cash flow, distribution coverage ratio, leverage ratio, or other non-GAAP financial measures. Please refer to this morning’s press release or to our public website for reconciliation 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. In addition to our press release announcement that went out earlier this morning, and it’s posted to our website, our Form 10-Q is filed with the SEC this morning also. With that, let me turn it over to Brady.

Thank you, Elijio. Good morning, everyone, and welcome to the TETRA Technologies third quarter 2020 earnings call. I’ll give a recap of our third quarter highlights and performance and then turn it over to Elijio to provide information on the balance sheet, cash flow and liquidity. I’d like to start by first recognizing all the TETRA and CSI Compressco employees and management teams for delivering another solid quarter in a very challenging environment. Despite the sequential 36% decline in the U.S. onshore rig count two hurricane storms that came through the Gulf of Mexico and the continued overhang from COVID-19. Our teams focus and execution of our strategies resulted in positive EBITDA for each of our segments and sequential improved EBITDA margins. I could not be more pleased with the way our management team and employees have responded to the most challenging eight months our industry has likely ever faced. On a consolidated basis, we achieved $30 million of adjusted EBITDA in the third quarter with the related margin improving 150 basis points sequentially as a result of our focus on cost management and maximizing the value of our latest technology. Compared to the third quarter of last year, we’ve reduced our costs by $345 million on an annualized basis or 41% as it impacts EBITDA. This compares to an annualized decline of revenue of $373 million reducing costs by $0.92 for every dollar decline in revenue. Our positive EBITDA on the past two quarters is reflective of a successful strategy of the executed and the diversity of our business with a short cycle of North America market, longer cycle deepwater and offshore segments and the steady consistent industrial chemicals market. TETRA only generated $7.7 million of free cash flow from continuing operations in the quarter and ended the quarter with $59 million of cash at the TETRA level. Year-to-date September we’ve generated $43.5 million of TETRA only cash from continued operations and improvement of $66.6 million from last year. Completion fluids and products third quarter revenue decreased 27% sequentially reflecting the seasonal second quarter peak from our industrial European business and also due to project delays in the Gulf of Mexico as we experienced two major hurricanes in the third quarter. Despite the lower revenue and sudden impact from the hurricanes, we achieved higher adjusted EBITDA margins by 110 basis points sequentially. The third quarter adjusted EBITDA margin of 26.8% was also a 310 basis points better than a year ago. International sales for completion fluids excluding the industrial business increased sequentially by 84% led by some large sales for some major national oil companies in the Middle East. The delivery for these customers is continuing into the fourth quarter. Our industrial chemicals business continues to perform well and made up approximately 36% of the total revenue for this segment. In the third quarter we secured three new calcium chloride road maintenance contracts to add to already industry-leading portfolio in this industrial sub sector. Water and flow back third quarter adjusted EBITDA remained positive despite revenue decreasing sequentially 13%. We continued to see price erosion in the early part of the third quarter, but believe that in most of the basins pricing is now stabilized as activity has improved in September and again in October. During the quarter, we added a third recycling project with a super major operator in the Permian Basin. That’s similar to our other recycled projects. We expect this project to operate for an extended period of time. Based on our market knowledge and with this award, we believe on a daily basis, we are cycling more produced water for frac reuse than any other service provider in the Permian Basin. Integrated projects increased from 16 with 14 different customers at the end of the second quarter to 17 with 10 different customers at the end of the third quarter. In September 63% of our water management work was associated with integrated projects with multiple services provided by our Blue Links automation system. We expect this trend to continue with more integrated projects as North America activity recovers. During the quarter, our TETRA SandStorm Advanced Cyclone Technology achieved maximum utilization, while being continuously introduced to new customers. As mentioned in our press release this morning, during the quarter, we were approached by a customer in the Appalachian region to perform a head-to-head trial against our current service provider. Our SandStorm technology was able to achieve 99.4% sand filtration with far exceeded the current solution the customer was using, with zero wash downstream and at a peak flow rate of 40 million standard cubic feet per day. As a result of this successful trial, which also showcased our SandStorm works equally well and high pressure gas wells as it does in liquid place. We are now working with this customer to replace our competitors sand separation equipment. Providing some perspective on the fourth quarter, we’ve seen a recovery in the number of active frac crews and well completion activity. Our September and October revenue was meaningfully better than July and August. As we previously stated during our earnings call, our objective remains to keep the segment EBITDA positive, while leveraging automation and deploying new technology along with best-in-class services. Based on what we know today, we’re cautiously optimistic that the third quarter was the bottom of activity in this segment. Our compression business continues to perform well despite the decline in North America activity. Excluding new equipment sales, which we have now exited revenue decreased 1% sequentially to $72 million. Third quarter adjusted EBITDA of $22.9 million was down $3.4 million from the second quarter. Adjusted EBITDA margins improved 170 basis points sequentially. Compression services revenue decreased 5% sequentially and gross margins decreased 200 basis points to 52.9%. Utilization declined from 82.1% in the second quarter to 80.3% in the third quarter. We believe that our strategy to invest in high horsepower equipment will allow us to maintain utilization above the low point of 75.2% that was seen during the last downturn. In the third quarter, horsepower was on standby decreased from a peak of 20% back in May to approximately 8% at the end of September, as our key customers started bringing production and units back online. As natural gas pricing outlook improves, we believe the production enhancement strategies on existing wells will become a greater priority for producers as they look to maximize cash flow. We should see the benefit of this focus as compression is a low operating cost solution, which allows producers to increase liquids and gas production when integrated with our artificial lift strategies. As mentioned CSI Compressco – as mentioned in CSI Compressco’s press release yesterday, we’ve introduced our new Helix digitally enhanced compression telemetry system. This allows the use of big data to improve performance, reliability, and predictive maintenance of our compressors. We’re excited to be the only oil field service company to a partner with Houston’s Rice University D2K program, there’s a partnership specifically designed to analyze big data and develop machine learning modules that enhance our current predictive maintenance programs. We’ve completed 25% of the hardware upgrade rollouts and expect to be fully deployed by the end of 2021. Aftermarket services revenue declined 12% from the second quarter, while gross margins improved 200 basis points sequentially. We expect after market services to gain momentum in 2021, as customers catch up on deferred maintenance from 2020. We’re pleased to announce that we’ve secured a master services agreement with a large midstream provider for the provision of parts and services, representing immediate revenue generating opportunities to expand into 2021 and beyond. In closing, I will mention that using all safety protocols, I and our management teams have been traveling again to visit our field locations and meet with our customers. Getting direct feedback from our customers and getting in front of our field leaders is critical for our continued understanding or the rapidly changing environment. Overall, we had another solid quarter, where margins improved. EBITDA was positive, we generated free cash flow and improved our liquidity. Despite the uncertainty remaining in the market, we feel that our strategies, technologies and industry diversity will allow us to stay EBITDA profitable and come through this in a very strong position. Now I’ll turn it over to Elijio to provide some financial comments on cash flow and the balance sheet and then we’ll open it up for questions.

Thank you, Brady. I’ll first make some comments on TETRA’s balance sheet and cash flow, then I’ll do the same with CSI Compressco, and then we’ll open it up for questions. Brady mentioned that we generated $43.5 million of free cash flow year-to-date on a TETRA only basis, which is an improvement of $67 million from the same time a year ago. This is what’s achieved despite the incurrence of severance and other restructuring related cost. TETRA only adjusted EBITDA was $7 million in the third quarter. TETRA only capital expenditure in the third quarter were $1.6 million. Many of the service companies are generally in free cash flow this year from monetizing working capital. And as business re-bounce, working capital will increase and consume cash. We believe that a true metric for measuring the performance of the oil field services sector during difficult times is to measure their ability to generate free cash flow during the bottom of a cycle as earnings decline and without the benefit of monetizing working capital. In every quarter this year, TETRA without CSI Compressco has generated positive free cash flow without the benefit of monetizing working capital. Essentially, every quarter this year, cash earnings – growth and capital expenditures, less interest expense and less impact payment has been positive. Of the $43.5 million of free cash flow that we generated so far this year, $11.4 million is year-to-date earnings, less CapEx, less interest expense and less taxes. The other $32 million has been from monetizing working capital and monetizing receivables in this environment is not easy given the financial struggles by many of our customers. Our ability to generate $11 million in free cash flow this year without the benefit of working capital talks through the aggressive cost management we have implemented, the benefit of deploying technology to the U.S. onshore market in a very flexible vertically integrated business model on the fluid side. In the third quarter, we’re slightly over $0.5 million positive free cash flow without the benefit of monetizing working capital. For the full year of 2020, we expect TETRA only capital expenditures to be between $9 million and $12.5 million, slightly lower than the prior guidance. We’ll continue to monitor and adjust our capital spending based on market conditions. We expect total capital expenditures to be mainly for maintenance capital and to accelerate the introduction of our new technologies, such as SandStorm and our remote monitoring BlueLinx technologies. TETRA only liquidity at the end of the third quarter improved approximately $22 million from the same period a year ago positioned us to be able to continue to manage through this downturn as activity begins to slowly recover. TETRA only liquidity is defined as unrestricted cash on hand plus availability under our revolving credit facility. TETRA only net debt at the end of September was $148 million with cash on hand up $59 million or $221 million term loan is not due until August 2025, and our $100 million asset based revolver does not mature until September 2023. The only significant maintenance covenant we have to comply with is a one-time interest coverage ratio on the term loan. At the end of September, our interest coverage was 3.5 times. Annual interest expense on this term loan is approximately $15.5 million to $17 million. And as always, I like to again remind everyone to TETRA’s and CSI Compressco’s data are distinct and separate. There are no cross defaults, no cross guarantees on the debt between TETRA and CSI Compressco. Now let me spend a couple of minutes on CSI Compressco. CSI Compressco cash on hand at the end of September was $16.7 million, up from $2.4 million at the beginning of the year. At the end of September, there were no amounts of spending on the revolver compared to $2.6 million [indiscernible] beginning of the year. The reduction in the outstanding amount of the revolver plus the increasing cash represents almost a $17 million improvement from the beginning of the year, despite very challenging market conditions. And this is after CSI Compressco paid almost $5 million of legal and advisor fees to complete a debt swap in June of this year, which resulted in a net reduction of $9 million and push $215 million of maturities came to 2025 and 2026. CSI Compressco sold their Midland fabrication facility and data real estate and have targets sale of $13 million in compressor assets in the second half of this year. They are pruning the fleet by selling older idled smaller units to generate cash to either reduced debt, investing technology that we believe will generate higher operating margins or invest in larger compressor units. Their objective is to generate between $15 million and $25 million of free cash flow by early in the third quarter of 2021 to partially pay down the maturing $81 million of unsecured notes and to refinance the remaining amount. For the full year 2020, CSI Compressco expect growth capital expenditures of between $6 million and $7 million and maintenance capital expenditures of between $20 million and $21 million. Like TETRA, CSI Compressco continues to invest in technology to drive greater margins and enhance returns. And this year, they expect to spend between $5 million and $6 million. Other than the $81 million of unsecured notes that are due August of 2022 for CSI Compressco, the $555 million of first and second lien bonds are not due until 2025 and 2026. CSI Compressco’s net leverage ratio at the end of September was 5.4 times. This compares to over 7 times during the prior downturn. And as I’ve mentioned before, CSI Compressco does not have any maintenance covenants that they need to comply with. And also as mentioned earlier, CSI Compressco does not have any amounts drawn on the revolver. CSI Compressco generated $14 million of free cash flow in the quarter and year-to-date free cash flow is $24.7 million. Distributable cash flow was $10.5 million in the third quarter, which increased by 25% is benefited from the sale of used assets. In September, distributable cash flow was $27 million. On an annualized basis, distributable cash flow will be $36.5 million or approximately $0.77 per common unit. This compares to CSI Compressco’s unit price at the close of business last week of $0.85, which is not a bad cash flow yield. TETRA and CSI Compressco continue to perform well given the macro environment, if all our segments remained EBITDA positive, both TETRA and CSI Compressco generating free cash flow, even without the benefit of monetizing working capital. And now there’s an $81 million of unsecured debt that is due August of 2022 for CSI Compressco. There are no near-term maturities. We encourage you to read our news release from this morning and CSI Compressco’s news release from yesterday for all the supporting details and additional financial and operational metrics. Additionally, both TETRA and CSI Compressco have already filed their 10-Qs with the SEC. With that, Debbie, let’s open it up for questions.

We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Jim Roumell with Roumell Asset Management. Please go ahead.

Thank you. Elijio, two questions. And Brady, you mentioned that you’re in the process of winning a contract in Appalachia on the water flow backside. Can you give any color whether that business is being taken from a small regional player or a kind of larger player in the space?

Jim, good morning. We believe that’s a smaller regional player. It’s not what I would consider to be a large player that operates in multiple basins.

Got it. Thank you. And second question is, I just want to make sure, I’ve heard correctly, you are estimating that you are now a number one in water recycling in fracking. Was that in a particular basin or just a little color to that and whatever you were referencing, where would you have estimated that number to be a year ago?

Sure. So Jim, we had our first large recycling project award in late 2018. My reference in the current comments that I had made is this is now our third major recycling project. And based on our local knowledge in the Permian basin and the amount of barrels of water that we are cycling on a daily basis for frac reuse. We believe we’re the largest – we have the largest volumes of water that were refrack – recycling on a daily basis, it is my reference.

Got it.

In the Permian basin. Yes.

Got it. Thanks. Thanks very much, Brady.

Thank you.

The next question comes from Stephen Gengaro with Stifel. Please go ahead.

Thanks, and good morning, gentlemen.

Good morning.

I had a few things and I apologize if you hit on any of these, because I got disconnected, but first, when we think about the completion fluids business and the margin progression there, you put up very good margins in the quarter, despite the Gulf of Mexico storm issues and obviously, the sequential drops from the European business, when I look at these mid-20% EBITDA margins. Are they sustainable without CS Neptune work over the next few quarters?

Yes, we believe they are. I think, we’ve referenced several quarters ago that we had a target to maintain over 20% EBITDA margins. And I think now we’re on the sixth quarter or so, where we have not only been above 20%, but well into the mid-20% range. And that’s really a couple of factors. One, we’ve done a great job of streamlining our industrial chemicals business with some really favorable supply contracts – supplier contracts of raw material and streamlined our operations from several of our plants with the shutdown of our mechanical evaporation facility in El Do. Even with that, we still have plenty of capacity left to grow from the other plants that we operate at. So that all in has had a pretty significant impact on our ability to generate industrial margins, the similar to what you’re seeing. On the fluid side, although, we had – we were hurt by the Gulf of Mexico hurricanes this quarter. We had some very nice sales into the Middle East, we’ve mentioned before we had been awarding some market share gains, including several large NOCs that operate in the Middle East. We were able to secure those types of margins that you’re seeing, contributing to the margins that you’re seeing. And so we believe it’s sustainable. We’ll see, as we get 2021 and what the outlook looks for the markets, especially the offshore markets on our completion fluids markets. But for the foreseeable future, we believe we can sustain the types of profitability that we’ve been achieving.

Stephen, let me remind everybody at some of the margins that we’ve achieved. In the second quarter of last year, we were at 22.4%. Q3 a year ago, we were at 23.7%. Both of those quarters had no Neptune in there. In the fourth quarter with a Neptune project, we jumped all the way up to 35.2%. And then this year, we’ve done 28.7%, 25.7% and 26.8% for this segment on adjusted EBITDA margin. And there was a little bit of carryover of Neptune from Q4 into Q1, but it was minor. So it tells you that even without Neptune, we’re achieving those targets already.

And Elijio, I believe I had in my notes, and I’m not sure if you can give us a sense, but the U.S. land piece of that is a pretty small piece of the total revenue, I think. Can you give us any color on sort of the revenue contribution from different segments? Because given what’s happened in the U.S. land business, those margins are fairly stable and fairly high.

Yes, we’ve mentioned that on an annual basis about 40% of our revenue from this area is from the industrial, both Northern Europe and the United States. The rest of it is primarily the offshore business, both Gulf of Mexico and international. There is some amount of U.S. onshore, but not enough to move the…

Just I’ll add a little bit of color to that. On the completion fluid side of the business, we have a very small contribution from the U.S. land market. So we’re really not impacted on the completion fluids side. However, our industrial chemicals business, clearly is a contributor into the North America market segment geographically, obviously, it’s a different segment than the oil and gas segment. But from a U.S. perspective, our industrial U.S. business is a very good business.

Right. Thank you for that. And then as we look – just thinking about the other piece of the business, but on the water flow back business, I mean, that’s clearly more U.S. land focus. Should we expect that to kind of track the U.S. land market here over the next four to six quarters? Is that a reasonable way to think about it as you try to push to get EBITDA improvement?

Yes, we believe so. We’re clearly seeing an increase in activity – a meaningful increase in activity in both September from the low points in July and August and then again in October. And we believe that that will remain fairly consistent growth throughout the fourth quarter. As you look at the next year, I mean, it’s still little bit early days with where things are with COVID, et cetera. But based on the conversations we’ve had so far with our customers and from some of the projections on frac crews from Rice that others in the industry. We expect that 150 to 175 frac crew type of activity levels, which is not quite to the levels we were pre-COVID, but in this environment, that would be a meaningful impact for us from our business to grow and improve profitability.

And on the sand side of that business, you’ve gained some share on the sand side, I believe. Is that piece to the point where it’s potentially 10% or more of that segment or not yet is that margin accretive?

Well, it definitely a margin accretive. It’s a very automated. The amount of resources that we deploy on that relative to a typical flow back job is significantly less. It’s gaining traction very rapidly with several of our key customers. I wouldn’t say that we’re yet up to that, but it’s holding well, it’s gaining market share and it’s improving. And I think Brady mentioned on the earnings call earlier today, all our equipment in this area is pretty much fully utilized.

Yes, this is going to be one area where we will need some capital investment for next year if we continue on the growth path, because we’re sold out for our current number of units.

And just – I want from just a strategic current perspective, if we look at 2022, 2023, and we’re thinking about what TETRA looks like. Do you think – how do you think the business evolves? If we get back to kind of a more normal level of activity in the U.S. land market and globally things are settled down, I mean what’s the – what do you think about as sort of the margin potential of the entity and how the structure of the company looks?

Well, I think we’re very happy with the components of the business that we have, the segments that we have, we’re very well-positioned in the water and flow back segment as that market recovers. Clearly these are unique times with this downturn. And we feel we get back to more normal levels of U.S. land activity, maybe not all the way back in 2021, but certainly by 2022 and 2023, we think from our business perspective, with some of the share gains that we’ve had and the fundamental cost structure that we’ve put in place, we will be closer to 2018 type levels of profitability. On the fluid side, we continue to find new opportunities for our industrial chemicals business. And as I said, we’ve changed the profitability profile of that business. Our offshore completion fluids business continues to gain share. So I don’t expect 2021 to be a huge ramp up in offshore activity, but 2022, 2023, I think you will start to see some meaningful activity return. And then our Neptune projects that we’re tracking we expect to see some contribution in 2021 in some meaningful significant contribution 2022 based on the projects that we have been working with operators on. So yes, I would expect 2022 and 2023 to be perhaps our most profitable years yet to come for TETRA.

And Stephen, I’ll also remind you in mid-2019 water and flow back was generating mid-teens EBITDA margins. And since then we’ve made significant investments in automation and remote monitoring. SandStorm has gained quite a bit of traction. And I think that we’ll see that benefit in a recovery market. And then we also mentioned earlier that we believe that we can continue to achieve mid-20% EBITDA margins on the fluid side. And when we pick up Neptune projects that those can easily push up into the 30%s. So we think that we’ll have the benefit of automation, technology, and new introduction of equipment in the future.

Very good. Thank you, gentlemen. If I could just add one more, do you – has there been any visibility slash traction from the Halliburton alliance. And as you sort of think about the deepwater market, I mean obviously it’s seems to be a little behind, but do you see that the sort of increased traction on the CS Neptune side going forward?

Yes. In fact, we have a major project in the North Sea with an operator where Halliburton has the contract. And we’re working hand in glove with them to deploy Neptune and we expect that to show results in 2021.

Okay, great. Thank you, gentlemen.

Thank you.

The next question is from Joseph Von Meister with Intermarket. Please go ahead.

Hi, most of my questions have been answered, but I guess we could go back to your plans for CSI Compressco and the potential deconsolidation if I could call it that. Thank you.

Good question, Joseph. I think that we’ve been very clear in our message in the last year and a half in that both the management team of TETRA and the Board of Directors of TETRA are focused on enhancing shareholder value. And we’re also open to evaluating all options and alternatives. This year, we completed a debt swap with CSI Compressco, and in June, we extended the maturities for our unsecured debt into 2025 and 2026. We also stripped any of the change of control covenants, so that the $81 million of unsecured debt does not trigger any maturities on a change of control. So feel confident that both the management team and the Board of TETRA are focused on enhancing value and we’ll evaluate all options and I’ll stop my comments at that.

Thank you.

Next we have a follow-up question from Jim Roumell with Roumell Asset Management. Please go ahead.

Thank you. Brady, a question we get from shareholders who contact us. I’m just going to put it to you to kind of put out there. So we don’t have to answer it. We get informed a lot that the company’s non-energy fluids business, the industrial side of the business, that those businesses are now trading at 10 to 12 times EBITDA, which would make your non-energy fluids business potentially worth something like $200 million. My question is, first, just are the businesses separable? Are they my understanding is that that business was purchased several years ago. So I just wanted to ask, are they separable? And two, given the place where energy stocks are trading in general, now withstanding your confidence in the market on the inside returning in the next two years to three years. Where do you see, if that business stays trapped, the value of that business stays trapped because of the energy narrative surrounding the company. At what point in your mind, is it worth the company thinking of strategic actions to kind of unlock that value, particularly if it’s true that those industrial fluids businesses right now are – there’s just a lot of interest in them evidently in the private equity world. Just any kind of high level color would help.

Sure. No, that’s a fair question. They are separable. Our industrial operations plants supply to both industrial applications for our chemical products, as well as feeds our offshore fluids business. If we separated that and sold it to another party or somebody else operated, we would still be able to buy the chemical products to calcium chloride, et cetera, that we would need to operate our completion fluids business. We might have a bit of a margin impact on that, but they are very separable and can operate independently from TETRA today. As far as unlocking the value, I mean clearly, today we get a lot of synergy – we think we get a lot of synergies between a lot of the fluid developments, a lot of the technologies that we develop both on the completion fluid side and having that vertical integration, the R&D that goes with that, products like Neptune and other products we have in works are a result of that, that synergy. But clearly if the energy markets didn’t play out as I feel they will ultimately, we would certainly look at strategic options to unlock that value, Jim.

Got it. Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Murphy for any closing remarks.

Thank you very much. We appreciate your interest in TETRA Technologies, and thank you for taking the time to join us this morning. That will conclude our call.

The conference is now ended. You may now disconnect. Thank you for joining today.