Greetings, and welcome to Select Water Solutions Third Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. [Operator Instructions] It is now my pleasure to introduce your host, Chris George, Senior Vice President, Corporate Development, Investor Relations and Sustainability. Thank you, Mr. George. You may begin.

Thank you, operator, and good morning everyone. We appreciate you joining us for Select Water Solutions conference call and webcast to review our financial and operational results for the third quarter of 2023. With me today are John Schmitz, our Founder, Chairman, President and Chief Executive Officer; Nick Swyka, Senior Vice President and Chief Financial Officer; and Michael Skarke, Executive Vice President and Chief Operating Officer. Before I turn the call over to John, I have a few housekeeping items to cover. A replay of today's call will be available by webcast and accessible from our website at selectwater.com. There will also be a recorded telephonic replay available until November 15, 2023. The access information for this replay was also included in yesterday's earnings release. Please note that the information reported on this call speaks only as of today, November 1, 2023 and therefore time sensitive information may no longer be accurate as of the time of the replay listening or transcript reading. In addition, the comments made by management 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 Select's management. However, various risks, uncertainties, and contingencies could cause our actual results, performance or achievements to differ materially from those expressed in the statements made by management. The listener is encouraged to read our annual report on Form 10-K, our current reports on Form 8-K, as well as our quarterly reports on Form 10-Q to understand those risks, uncertainties, and contingencies. Please refer to our earnings announcement released yesterday for reconciliations of non-GAAP financial measures. As a reminder, the company made certain changes to its segment reporting structure during the second quarter of 2023. These changes were driven by several operational and strategic factors. However, the changes in segment reporting have no impact on the company's historical consolidated financial position, results of operations or cash flows. Prior periods have been recast to include the water sourcing and temporary water logistics operations within the Water Services segment and remove the results of those operations from the Water Infrastructure segment. Historical segment information re-casted to conform to the new reporting structure is available as supplemental financial information in the Investors section of the company's website at investors.selectwater.com. Please refer to the company's current report on Form 8-K filed with the SEC concurrent with our earnings release for additional information. Now I'd like to turn the call over to our Founder, Chairman, President and CEO, John Schmitz.

Thanks, Chris. Good morning and thank you for joining us. I'm pleased to be discussing Select Water Solutions again with you today. During the third quarter we delivered substantial operating and free cash flow and continue to see steady growth in our Water Infrastructure segment. On the free cash flow side of things, I'm very pleased with the progress we made during the third quarter. Nick will touch on the components in a bit more detail, but our focused effort to reduce our working capital are paying off and help deliver a $118 million of cash flow from operations during the third quarter. After accounting for the $34 million in net CapEx spent during the quarter, we were able to pull through about $85 million of free cash flow, well exceeding our adjusted EBITDA for the period. We made tremendous strides in our working capital reduction efforts during the quarter, substantially outpacing our full year performance targets a quarter early. Strong third quarter free cash flow enabled us to execute on a number of capital allocation priorities including repaying all the outstanding borrowings on our sustainability linked credit facility, increasing shareholder returns by raising our upcoming quarterly dividend payment by 20%, and funding more than $35 million of capital expenditures heavily weighted toward our water infrastructure growth capital projects supported by long-term contracts with attractive returns. Having now repaid our remaining outstanding borrowings during the third quarter, I expect to see a growing cash position building towards year-end. Replenishing our cash war chest provides us with ample opportunities to review our capital allocation priorities including continued to weigh incremental - shareholder returns against additional organic growth projects and bolt-on and strategic M&A opportunities. We remain steadfast in our vision to be the recognized leader and trusted partner in sustainable water…

Thank you, John, and good morning, everyone. I'm pleased to report that our intensified focus on generating cash out of both the business and working capital produced operating cash flow of $118 million during the third quarter which after adjusting for net CapEx yielded free cash flow of $85 million. With this sum, we completely retired the balance on our credit facility, while leaving us with $25 million cash on hand. In this era of rising interest rates and capital markets volatility, Select's pristine balance sheet and abundant liquidity through our undrawn sustainability linked credit facility enables us to both advance shareholder returns as well as expand our water gathering, recycling and distribution systems across multiple basins. We're excited to announce new dedicated acreage and pipeline volume additions to our Northern Delaware and Haynesville systems this quarter as well as a 20% increase to our regular quarterly dividend. Growing both our infrastructure footprint and shareholder returns within annual cash flow from a solid balance sheet is the model we expect to deliver for 2023 and the years ahead. While the Water Infrastructure segment met our expectations of a solid quarterly step up in both revenue and margin, the industry's activity backdrop softened over the summer and into the third quarter, impacting our Water Services and Chemical Technologies segments. Overall, consolidated revenues declined just under 4% to $389 million during the third quarter from $405 million in the second, with net income of $15.3 million and adjusted EBITDA of $63 million during the third quarter. With drilling and completions activity appearing to be bottoming along with the benefit of a more robust commodity price environment than we saw over the last couple of quarters, we believe that 2024 will resume upward momentum in other parts of the business in tandem with…

Thank you. And with that we'll open it up to questions. Operator?

[Operator Instructions] First question comes from the line of Jim Rollyson with Raymond James. Please go ahead.

Good morning, gentlemen. And nice to see the - beating the targets ahead of schedule on the free cash flow and AR working capital stuff. Nick, you mentioned a little teaser about evaluating more than a dozen new contract opportunities in the Water Infrastructure segment, any way to just kind of frame up what the maybe total size or CapEx kind of associated with that is so we can think about that what the future revenue opportunity might look like.

Sure, Jim. And as you've seen from this press release and then earlier ones that there is a fair amount of variation in the total capital investment in these projects. We've done projects pipeline as high as $40 million. We have a $2 million minimum announced for this quarter. And so you're kind of working within that window there. So when we're talking about a dozen, those do vary. There are some in the kind of mid-single digits there and there's some that are well into the double digits. So I'd say on average putting those together that could reach triple digits. Obviously, we probably won't have all of those reach fruition at the same time, we have some very early stage discussions that some of which may lead to projects in 2024, so great opportunity set in front of us. The more we're adding on to our networks across multiple basins, the more opportunities we have and we're looking to take advantage of our first mover status in a lot of these basins.

But - hi, Jim, and this is Michael Skarke. I think it's fair to say that infrastructure CapEx, we're going to see growth in that relative to what we had this year in scenario where, as we've mentioned in the past, we think a vast majority of our growth CapEx will go there because of the opportunity set that Nick mentioned and the backlog that we continue to see developing behind it.

Yes, and the margins aren't exactly terrible either. On the DSOs, Nick, you mentioned obviously you've made great strides this year and you mentioned more potential progress next year. Where do you think DSOs should normalize here over the next few quarters?

Sure. As you noted, we've achieved those goals faster than we anticipated. A lot of hard work across the organization to do that. So we're effectively back where we were before M&A. And I think we do have some opportunity ahead of us, it's not the same size of the opportunity that we've successfully taken advantage of this year, but I think we can get that down into the mid-70s. Our customers do customarily have some terms and conditions that we have to live by as far as waiting for invoices and so that - I think that will effectively bottom us out there in the mid-70 days of DSOs. But if we're successfully firing on all cylinders here I think we can get to that mid-70s figure, which would put us with another $30 million or so off of AR from where we currently stand.

Very helpful. Fantastic. And one last question. On the two other business lines, water services and the chemical technologies, obviously kind of market headwinds didn't help margins this quarter go to maybe where you were hoping or where your ultimately long-term goals are, but as we think about getting both those divisions back on track to move to the mid-20s or higher margins as you guys are kind of targeting, do you - is this all something that can happen from internal moves that you're doing or do you also need kind of the market to bounce back a bit to get to them? I'm just trying to think about how this unpacks over the next few quarters as you guys drive to get to mid-20s margins.

Yes, Jim, this is Michael Skarky. Chemicals, I think we've guided to kind of 20s which is really where we are. We think that we can kind of hold in that despite some seasonality in Q4 and have upside to it over the near and medium term as we look at manufacturing processes and reformulations of our technologies. On the services side, we have guided to mid or high 20s and we think that where the market is today, that's still very achievable through kind of just organic kind of grinding and operational efficiencies. We're very focused on implementing further automation on yard rationalization, on leveraging strategic relationships with infrastructure contracts. And it just gets down to doing what we do, but doing it a little better. And so we're focused on it. There's going to be some near-term friction. There's going to be a little bit of a topline disruption as we look to rationalize yards but we think the gross margin will follow and trend upwards after that.

And then any tailwind that you get from the recovery kind of outlook for next year is just bonus points I presume.

Correct.

Great. I'll turn it back to someone else to ask questions. Thank you.

Thank you, Jim.

Thank you. Next question comes from the line of Luke Lemoine with Piper Sandler. Please go ahead.

Hi, good morning. Just to follow up on Jim's first question. In water infrastructure you've had pretty explosive year-on-year growth this year, and you signed up a number of notable projects this year and talked about kind of the dozen projects you're evaluating both brownfield and greenfield that could be coming in the coming months. I guess kind of with these current and future investments, how should we start thinking about the outlook for '24 within this segment

From a margin perspective, I mean we, we're at 40%, which is where we kind of said we'd be. We've guided kind of medium-term to 50%. I don't know that we're going to - 50% for the full year is obviously a big jump on where we are today, but we've got a lot of projects that are coming online, some this quarter that are going to be accretive to that margin. We still plan on infrastructure and Chemicals being a majority of our gross profit for next year with infrastructure really being the lion's share of the increase. So we're pretty aggressive in terms of what we think we can do both top line and from a gross profit standpoint and infrastructure just because of the asset base we put together and the opportunity set that we've seen in front of us.

Luke, I'd add that this quarter between the revenue increase in that segment and the margin increase we grew gross profit about 12% quarter-on-quarter and that was done, as I mentioned with a not so favorable macro backdrop. And so you see that I think we will see similar steps forward here as we get quarter over quarter, add these new projects in, continue to work that margin higher and grow that as Michael mentioned to that 50%.

And we're in the early stages of pulling together our thoughts for 2024, but I don't think it's unreasonable to think that infrastructure could be a third of the gross profit for next year.

Okay, got it. Perfect. Thanks so much.

Thank you. Next question comes from the line of Tom Curran with Seaport Research Partners. Please go ahead.

Good morning, guys. For the Water Services division, Nick and Michael, when it comes to these three main levers you expect to pull internally to expand the division's gross margin first to the mid-20s next year and then beyond that to the high 20s, you've got technology enhancements like the pumping manifold automation, efficiency initiatives such as centralizing procurement, moving third party support internally and then leveraging the growing infrastructure network. For each of those three, could you expound on how far along do you think you are. And just if Phase 1 is getting to the mid-20s, how should each of the three contribute to the mid-20s. And then as we look from the mid-20s to the high 20s, will there be a shift in terms of the weightings of the three.

No, it's a great question, Tom, and I wouldn't - I couldn't articulate it better. I would add that there is a fourth lever there which is really yard consolidation or rationalization. So we've put a lot of assets together and a lot of yards together and there is some overlap and there's frankly some underperforming. And so that is going to be a material lever that we're just now really starting to get into, we had a few that occurred this quarter. But we're expecting more and I think that one is going to be material. And we're very early innings in addressing it. In terms of leveraging infrastructure contracts and relationships, that's also one that's relatively early in terms of us addressing. I would point that in the announcement yesterday we had the announcement in the Haynesville where we secured a long-term service contract at the customer's request off of the infrastructure contracts that we put in place. And so we think those kind of opportunities exist and that's going to be market share but also margin accretive for both for both segments. Supply chain, that was something we put in place this year, really centralizing supply chain. Moving to something that's more formalized and structured. Nick, I'd probably look to you as to where you think we are on that development.

Yes, I think as far as the - getting the contracts in place and the procurement centralized, we're in early innings, I think in terms of seeing the results financially very, very early there. So I think the bulk of that will come in 2024, that's probably contributing just a few basis points in the current service margin.

And then the final one you mentioned Tom was automation and that's the one that I would say that we're furthest along. We've really been a pioneer in terms of water solution automation. It's something that we think is a differentiator, it's something that a way that we can do something safer, more cost effective and more reliable than relying on sometimes lower skilled labor and so it's something that we're - while we're further along than the other initiatives, it's one that you're never done in, there's always more. And so that one will be later endings but still pretty good runway.

Got it, that's helpful breakdown and additional color there. Thanks for that. And then Nick, I realize you are still finalizing the plan and expectations to provide formal 2024 guidance, but maybe just some preliminary metrics here for cash flow in 2024, are you still targeting conversion rate for EBITDA to free cash flow of about two-thirds and expecting maintenance CapEx to run about $50 million per quarter, give or take $5 million to $10 million.

Tom, I'd see maintenance CapEx as lower than that. I'd say again preliminary basis. I'll talk more about it next quarter, but we're probably looking at $60 million for the full year, maintenance CapEx. But for now, give me $10 million on either side of that and we'll get a little more direct next year. I think the two-thirds free cash flow of EBITDA, that was partially driven by the working capital opportunity we had for this year. So I think for next year, it's probably going to be a little lower, but as I think about our free cash flow for this year, we had $75 million debt outstanding in the first quarter. We've taken that to zero, with $25 million cash on hand. We've paid out over $65 million of shareholder returns this year on top of that, and then we've executed on our CapEx budget and stayed within that budget while adding some really critical projects. So this is a strong cash flow generating business here. It will be strong next year, I think we do probably have initial growth infrastructure projects as Michael mentioned that are likely to come in higher than this number - this year's number. So I'm excited about that and we're going to do that as always with a very conservative solid balance sheet and look at all the opportunities, both organic and potentially M&A related as well.

And then one point just to reiterate on the growth infrastructure projects for next year, those projects have strong contractual - long-term contracts around them. They are generally production weighted or being driven by secular trends such as recycling. So we feel really good about those investments in a flat or even slightly down market because of the contractual support and because of the production in secular trends that exist there.

Got it. And just to be clear, I was saying $15 million per quarter or $60 million for the year. So it does sound as if that's unchanged.

No, I misheard you there, Tom. So that $15 million per quarter maintenance CapEx, it sounds like a good number there, not 50, but yes.

It's 52.

Right, yes, exactly. All right, thanks guys. I'll turn it back.

Thank you, Tom.

Thank you. Next question comes from the line of Don Crist with Johnson Rice. Please go ahead.

Good Morning, gentlemen. I wanted to ask about the specialty chemicals. I know it's been a couple of quarters now since you've been doing the tailored solutions per formation and you're getting more data back - flowback data etc. Any kind of updates there and is the demand increasing still in that specialty chemical segment?

Yes, couple of things on that Don. First, we're seeing operators continue to be more and more focused on chemistry and its compatibility with produced water and just well results. And so we're getting really good reception as we have those conversations with our customers. In terms of the results that we've seen, I mean, we're pretty happy with the improvement in market share and margins we've seen with chemistry over the last few quarters, and we really contributed to what we're doing in terms of creating more water tolerant solutions designed for produced water. And so we've gotten some pretty good feedback with the customer - with our customers on that. We've got direct open dialog with both operators and pressure pumpers. And additionally just more, as you know, the more produced water you have, the harder it is on chemistry, the more their need is for specialty chemistry. And frankly you know one of our bigger customers is internal. We're providing the chemistry for all of our recycling. And so there's been a number of kind of tailwinds around that special chemistry that's delivered the returns where we are. We took a step back this quarter. It is completion driven, but we're still pretty excited about it.

All right, I appreciate the color there. And John, maybe one for you, obviously there has been some large M&A in the basin - or in the Permian Basin in particular. Any thoughts on that consolidation and how that may benefit Select going forward, is it better for you given your larger company bias?

Yes, Don, we think it is. A lot of those transactions you're seeing were on both sides because we are sizable when we do have a good customer base. But just as important, we're also integrated a lot with a lot of our customers' infrastructure now. So we have integrations to take our asset bases, our different wells pipes recycling facilities and put them in a system. And that system just got larger with this. So - and I'll also say that the acquirers here that we keep saying are very good customers for us with alignment because of the size of our either automation, the technology, the sources, the movement within it. And there - they're doing this primarily with produced water and we all know produced water has a different environmental effect to it and we're very focused on whether it's hose development automation control, leak detection, that environmental application risk profile was favorable to the buyers here.

And John, if I may add, I mean, I - Don, I'd point you to the release we had in August with Endeavor where we announced 300,000 barrels a day of recycled water delivering almost $8.5 million barrels to a single location. I mean, that's a really sophisticated technical highly engineered solution moving produced water from multiple sources, and there's just not a lot of companies. I don't know if there is another company that can pull off a job like that. And so it's going to be the larger companies that are going to do things at that kind of scale and in doing that they're going to look to a trusted partner, they can accomplish a project like that and I think that Select Water.

All right, I appreciate the color. I I'll turn it back. Thanks, guys.

Thank you.

Thank you. Next question comes from the line of John Daniel with Daniel Energy. Please go ahead.

Hi, guys, thanks for having me. I'm away from my computer so I don't have all the data in front of me but I'm curious, can you remind me what your recycling capacity is today, sort of what the utilization of that capacity is, and then just a reasonable growth rate that you would expect over the next couple of years.

We've got about $3 million barrels or so of daily capacity, roughly half of that is going to be fixed facilities, half of that's going to be mobile facilities where we're adding to both, but really focused on the fixed facilities because those are going to be the ones that are supported by long-term contracts. A majority of those facilities are in the Permian as you're aware, John. There's one in the DJ where a majority of the current opportunity set we're looking at are in the Permian, but there are several that are outside of the Permian. And as other basins transition the opportunity for recycling just continues to expand. In terms of where we can take it, we're pretty ambitious, we think that the market is going to continue to transition, it's going to need an industry leader. And I think that's us. I'd probably stop short on saying we're going to be this time next year, but if it's not materially higher everyone in this room would be very disappointed.

Yes, fair enough. A little bit of an add-on a follow on to Don's question, like when you all start building out the recycling capabilities, is it safe to assume that the larger - I'm going to say more sophisticated operators are the clients that are not the small guys or am I mistaken on that?

It's actually kind of interesting because we really - we have interest in our recycling solutions from the largest operators to some that I really honestly wasn't aware of until those conversations took off. I think there's more opportunity on the larger because the economies of scale that exist but there's certainly the ability to pull together a couple of smaller opportunities and still underwrite a commercial recycling facility and move forward and further integrate it into other solutions. So, I wouldn't ignore the small ones, but it's a definitely heavier weighted to midsize and larger.

And I'd add that - really there, it demonstrates that the value this brings, it's great for the environment. It's more sustainable. It's leaving freshwater in the ground, addressing seismicity, but it's also reducing costs for our customers. And we do this at scale economically and whether you're a small operator or a large operator, we can help your wells be more productive at a lower cost.

And I think that's a good point, Nick. The larger and mid-sized operators are generally those that are more focused on the stewardship and the environmental component, so that would be a bias towards them as well.

Right, so in this case the consolidation is actually a positive for you simplistically, right?

John, it's very big positive, and you can point to one of the past ones that we actually announced and that's one of the acquired companies that just got announced. And as that acquired company got announced, we added two more deals to that recycling facility because of the scale and scope of the surrounding acreage that got put in the deal.

Got it. A final question. I think you mentioned in response to a question was a portion of your customers are, in fact, the pressure pumping companies. Did I hear that correctly?

On the chemical side. So, Chemical Technologies works for both pressure pumpers as well as direct operators.

Okay. Are you having or seeing any signs of payment issues with any of the smaller pressure pumping companies?

No, John, we're not. Part of the - I circle back to an earlier question there and how low can our DSO get. When we do sell to pressure pumpers that are in turn paid by operators through Chemical Technologies division which has both operators and pressure pumpers as customers, that dynamic there is one of the things that keeps us from getting, call it, below 75 days eventually. However, the payment issues we're having the same performance that we've typically had there. No sign of deterioration. We do work for a lot of very large successful pressure pumpers and they're paying on schedule.

Yes, I mean I would expect that from them, but you've seen a sort of the carnage in the spot frac market. I just didn't know if those super, super small frac players were having any issues, so that's the question.

Yes, we really don't do a whole lot with the super small frac players. We have a hard time on that side with the chemistry just given the size of those tickets.

Got it, okay.

I think it's fair to say, John, we also don't do a lot of business with even larger companies that are heavily weighted to spot. We don't.

Fair enough. Thank you for including me into your time today.

Thank you, John.

Thank you. Next question comes from the line of Jeff Robertson with Water Tower Research. Please go ahead.

Thank you. Good morning. About the revenue split is about 70% completion and 30% production. Michael, do you see that changing over time as companies drill longer laterals? And maybe even if they're drilling bigger pads, do you see the amount of water that they'll have to move off locations increasing? And is that an area that will drive your margin opportunity in the water infrastructure business?

Yes, I think that's a good question, Jeff, and there's really two parts. So we do see continued longer laterals and more water per pad, as I mentioned, with the Endeavour job that we released a couple of months ago. And so that's certainly an opportunity for us as a water management company and providing the water and managing the water and taking it away. In terms of the split between completion and production, I really look at that a little differently. I do see the production weighting continue to increase, and that's largely as a result of our focus around infrastructure. I mean that's really where - as I mentioned, that's where we're going to spend a majority of our growth capital for next year. And a good portion of that is going to be related - or really derived from production revenue. And so, I think that's what's going to drive a split something more towards a 60/40 in the near term.

Michael, as that increases, I think you alluded to earlier that also could help drag up margins in the water services and maybe even the chemicals business. Is that right?

That's exactly right. We're really looking to leverage those infrastructure relationships and long-term contracts to provide more opportunities for services and chemistry. And it's not really a bundling. And bundling is usually a cost-based approach. This is a service logistics-based approach where we can provide the complete solution at the correct price for the customer. I'd refer everyone to what we did in the Haynesville. I mean, we were asked to provide that solution by our customer. It wasn't a bundled offer. It was the answer they needed, and we were grateful to be able to do it for them.

My last question kind of is a take on that, as you see consolidation in the industry, are you seeing some of your customers who only want to deal with one water company and allow you to put more of your offerings in front of them at a better margin opportunity for Select?

Yes, I think John really nailed the question about consolidation and how we think about it. I mean, to your point, there - when you're working for the largest operators out there, safety, environmental, automation, size, scale, reputation, all of these really matter. And there's only a few companies that can check those boxes. And fortunately, we're one of them. And so, we're not afraid of consolidation. We're embracing it. We're proactive. We think it creates opportunities for us on really all three segments, services, infrastructure and chemistry.

Yes, and I would add on to that. I mean, Nick talked about our efforts in the procurement area for this company. One of the focuses with centralized procurement is to do more with less on the vendor side for us. Our customers are doing the same thing. They're very much focused on more of a partnership approach, especially in the infrastructure piece. But as it relates to chemicals and water services, they look at that as a value as well to doing business with fewer companies and more strategic value add as we move forward in the area that we're in, which is this water solutions business.

Thanks for taking my questions.

Thank you.

Thank you, Jeff.

Thank you. There are no further questions at this time. I would like to turn the floor over to John Schmitz for closing comments.

Yes, thanks to everyone for joining the call. Thank you for your interest in learning more about Select Water Solutions and we look forward to speaking to you again next quarter.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.