EXTN
#Good morning, and welcome to the Exterran Corporation's Fourth Quarter 2017 Earnings Call.
With me today are Exterran's President and CEO, <UNK> <UNK>; and CFO, <UNK> <UNK>.
During this call, management may make statements regarding future expectations about the company's business, management's plans for future operations or similar matters.
These statements are considered forward-looking statements within the meaning of U.S. security laws and speak only as of the date of this call.
The company's actual results could differ materially due to several important factors, including the risk factors and other trends and uncertainties described in the company's filings with the Securities and Exchange Commission.
Management may refer to non-GAAP financial measures during this call.
In accordance with Regulation G, the company provides a reconciliation of these measures in its earnings press release issued yesterday and available on the company's website.
With that, I'll now turn it over to <UNK> <UNK>.
Thanks, <UNK>.
The fourth quarter was an excellent finish to a terrific year for Exterran.
EBITDA, as adjusted, was $51 million on revenue of $338 million, with each segment recording higher sequential revenue and gross margin.
In our contract operations segment, we signed more than $45 million of new contract awards during the quarter.
For the year, this business added backlog that was 1.4x '17's segment revenue through renewals and new project awards.
The higher backlog addition versus revenue was a reverse of the trend over the past couple of years.
Simultaneously, we also achieved a higher gross margin percentage in this segment over '16 as a result of cost productivity and project rescoping.
I'm also pleased to announce that 2 of the 3 previously announced Middle East project awards are now fully operational.
In our product sales segment, gross margins were at their highest level since the fourth quarter of '15.
Improved execution through initiatives outlined in early '17 continue to drive better productivity improvements.
For the year, we achieved a double-digit gross margin percentage in our product sales segment of 10%.
Our fourth quarter '17 gross margin percent of 12% compares favorably with the 3% margin posted in the fourth quarter of '16.
Bookings of $113 million were approximately 50% of product sales revenue in the quarter, which is consistent with the lower bookings reported across the industry at year-end.
Customers pulled back following a strong order flow during the first 9 months of the year; however, we believe this is transitory as customers spent their budgets during these first 3 quarters of '17 and took a pause to absorb capacity additions.
Inquiries and activity to start '18 would suggest a higher bookings total in the first quarter.
Customer focus on building out the main ---+ midstream infrastructure in the Permian and Marcellus continues to drive orders in North America.
In fact, it was a record year for processing and treatment plan orders.
And when you combine this with the contract operation project awards internationally, which were primarily processing and treatment plants as well, the secular trend for gas plant demand is truly a global in scale.
In our aftermarket services segment, I continue to be pleased with the progress we're making.
Our fourth quarter AMS revenue was 5% higher than where it was in the prior year, and I'm encouraged about our strategic direction, inquiries and global activity levels.
In '17, we made strides in evolving the aftermarket business model to one that drives commercial focus on leveraging each service event to seek recurring revenue streams.
This model is showing some signs of paying off with some critical and important wins.
We had several other noteworthy accomplishments in '17.
We started the year by completing our financial restatement; we continued to improve our global safety performance; strengthened our capital structure with a high yield offering; increased cash and liquidity through our relentless focus on cash management; and invested a significant amount of new resources in several operational, commercial and internal areas.
Additionally, we developed our strategic growth plan with a regional operating model, which will allow us to deliver customer solutions at a local level.
We also took steps to focus on our core business and enhance returns by making changes to our product portfolio by substantially completing the exit from our remaining noncore Belleli EPC product sales business in the Middle East and moving certain production-related products to assets-held-for-sale classification as we seek to exit product families which do not fit our longer-term strategic direction.
After Dave discusses our fourth quarter financial results, the impact of some of our strategic decisions on our first quarter '18 outlook, I'll provide some additional commentary on what we see for '18 from both an operational and strategic lens.
I'll now turn the call over to Dave.
All right.
Thanks, <UNK>.
As I discuss our segment results, I will, again, make comparisons to sequential quarterly performance.
Starting with the contract operations segment, revenue increased 3% to $95 million, and gross margin increased to $61 million as we maintained a gross margin percent of 64%.
Revenue and gross margin were higher, reflecting the ongoing dynamics of new contracts coming online with simultaneous scope changes on other contracts and contractual recoveries.
In the aftermarket segment, revenue was 2% higher at $30 million.
Our gross margin was $8 million, which was also a 2% increase.
This resulted in a flat gross margin percentage of 26%.
The increase in revenue and gross margin was due to increased services and parts activity in Latin America.
Revenue in the product sales segment was $212 million or 10% higher, while gross margins improved 20% to $24 million, resulting in a gross margin percent of 12% or 100 basis points higher than Q3.
Productivity and mix continued to drive rate improvement.
I will add the revenue from processing and treating orders was at its highest of the year, in Q4 in terms of dollars and percentage of the segment in total.
Geographically, revenue split was 92% from North America and 8% from international markets.
Product sales bookings were $113 million, translating to book-to-bill ratio of 53%.
<UNK> cited the front-end loaded budget spend from our customer base as the primary reason for lower orders.
As he noted, we also have a line of sight to a higher range for Q1.
Our product sales backlog was $461 million at the end of Q4 compared to $560 million at the end of Q3.
SG&A expense was $44 million in the fourth quarter, up from $43 million in the third quarter.
Now shifting gears a bit.
Throughout 2017, <UNK> has discussed our strategic planning initiatives, including optimizing our product portfolio to maximize returns on core product lines.
Going back as far as the first quarter of 2016, we announced our intent to exit the Belleli EPC business.
In the fourth quarter of 2017, we reached mechanical completion on all remaining contracts, and as such, have presented current and reclassified prior period financial results as discontinued operations.
Furthermore, as part of our plan to optimize our business structure and the product and service solutions we offer to our customers, we classified certain assets within our product sales business line as assets held for sale on our balance sheet in the fourth quarter of '17.
In 2017, those assets, that are now held for sale, did not make a material contribution to our margin, nor are they expected to in 2018.
We also took a noncash pretax impairment of $5.7 million related to those assets.
Turning to capital expenditures, in the fourth quarter total CapEx was $53 million, with most going towards previously announced awarded projects in the Middle East.
For 2017, capital expenditures were $132 million, which was below our prior guidance, primarily due to productivity gains and timing of project awards.
We currently plan to spend approximately $240 million to $300 million in capital expenditures during 2018, including approximately $200 million to $250 million on contract operations' growth capital expenditures and approximately $20 million to $40 million on equipment maintenance capital.
However, we do anticipate up to $75 million of the growth CapEx will be reimbursed during the year, resulting in a lower net CapEx number.
This reimbursement would be treated as deferred revenue.
As in the past, growth CapEx is variable and is contingent upon the timing of contract operations' project awards.
Included in the 2018 plan, for example, there's approximately $60 million of carryover spending.
As we noted on our last call, we are working on a project pipeline of about $2 billion.
Looking at the balance sheet.
Total debt at the end of the year was $368 million, with undrawn and available credit of $585 million.
Our year-end leverage ratio, which is net debt to adjusted EBITDA as defined in our credit agreement, was 1.7x as compared to 2x at the end of Q3.
Our net debt stood at $319 million, up from the $297 million at the end of the third quarter, but down from the $322 million at the end of Q2 and $313 million at the end of 2016.
Our provision from income taxes for the fourth quarter of 2017 included a net provisional benefit of $5.6 million resulting from the Tax Cuts and Jobs Act enacted into U.S. law on December 22.
I refer you to our 10-K, which will be filed soon, for a more detailed discussion regarding the impact of U.S. tax reform.
Now I'll turn to the 2018 outlook.
For the first quarter of '18, we expect contract operations' Q1 revenues would remain in the mid-90s, with gross margins flat to Q4.
Project starts in the Middle East are expected to be partially offset by project stops in Latin America.
We should continue to see the benefit of the new project starts in our revenue and margins as the year progresses.
For our aftermarket services business, revenue should be in the mid-20s and gross margin percentage flat to Q4.
The anticipated decline in sequential revenue is primarily related to seasonal factors in Latin America.
In our product sales segment, revenue should be in the range of $210 million to $220 million and our margins should be sequentially higher versus Q4.
SG&A should be in the range of $46 million to $48 million.
Depreciation in the first quarter will be in the low $30 million range, and interest expense should be approximately $9 million.
We anticipate cash taxes for the year 2019 (sic) [2018] to be in the range of $27 million to $30 million, which is significant savings from 2017.
And before I turn it back to <UNK>, I'll just mention the new revenue recognition standards go into effect in 2018.
Our Q1 2018 guidance reflects our preliminary estimate of the potential impact of the implementation of this new guidance.
At this time, we do not believe the standards will materially impact our results.
And now I'll turn it back to <UNK>.
Thanks, Dave.
I want to follow Dave's remarks by sharing our thoughts on the market for '18 and then giving you a broader view of Exterran beyond this year.
From a market outlook standpoint, we expect to see strong markets for our products and services, with regional drivers influencing different products and services.
Drivers of incremental growth in the North American natural gas market will continue to be liquid natural gas exports, petrochem growth and exports to Mexico.
Takeaway capacity is increasing in the Northeast and West Texas, making more product available to multiple regions.
Service will become an increasingly important part of the midstream infrastructure market as cost efficiency and emissions will demand technical innovation.
And Latin America remains our largest international region, increase in natural gas production is expected from the Vaca Muerta Shale play in Argentina, which should allow us to grow our presence and expand our customer base.
Reforms and growth in Brazil and Mexico could drive additional partnerships and renew demand for gas processing and treating plants.
And in Bolivia, we see opportunities driven by the country's infrastructure growth and desire to provide power using local resources.
In the Middle East and Africa region, we see a strong pipeline of opportunities to offer customers our full complement of midstream solutions, both on a service and equipment sales basis.
The inquiry-to-order cycle time can be lengthy and lumpy, but we have a line of sight into significant opportunities to help customers monetize their hydrocarbons quicker than they could with larger plants that take years to build and install.
The Asia-Pacific region is in need of midstream technical expertise, which should drive penetration of our aftermarket service business.
We see opportunities to develop and leverage strategic relationships in several areas in the region.
Local capability is often required, and we believe our refocused manufacturing facility in the region provides us with a competitive advantage.
For Exterran, 2018 is a year of positioning, winning and evolving for a new era.
In our Exterran contract operations segment, or ECO, as we now call it, we must continue to execute on several fronts.
First, delivering the critical projects we have previously announced on with budget, that's on time with flawless data.
Second, continuing to position the business to win, drive CapEx efficiency, lower cost and speed-to-market.
Being best-in-class will position us to win several large awards this year.
And third, scaling our complete capabilities in the Middle East.
We have made an excellent start in '17, and are excited about the future.
In January of this year, we completed a milestone of recording over 100,000 manufacturing hours at our newly repurposed Exterran facility in Hamriyah.
As I said earlier, we anticipate larger awards, which should drive growth for new and existing customers around the world.
We continue to be excited about the project pipeline as global markets remain supportive of our growth investment opportunities and strategic direction.
We also look forward to laying the foundation to offer service solutions in the U.S, which is a major market opportunity for us to help customers maximize productivity and efficiency.
With over 450 plants sold, of which more than 100 are cryos, the U.S. market has the largest installed base of Exterran gas plants and other midstream infrastructure.
In product sales, operational execution will be key to maximizing productivity of existing backlog.
We'll continue to drive differentiation through lead times, design and delivery to win new orders.
Our AMS business continues to make strides in new markets with its service model, and we anticipate winning new projects to reflect our approach and develop a foundational backlog of recurring revenue as we build out scale.
As we move into the new era for Exterran, our focus pivots to growth and better returns.
We're evolving into a systems and process company, focused on oil, gas, water and power.
We intend to win through differentiated products with services pull-through.
We plan to infuse technology and innovation into our existing midstream product families while developing new offerings in water and integrated power generation.
Our go-to market strategy will be executed by our regional operating model and supported by our global centers of excellence.
We recognize that Exterran's new growth focus will evolve.
Markets will continue to change, customer demands will change, competition will change, and so the only thing that's a constant in the markets that we operate is change.
We will be ready to adapt, as we believe the future is all about differentiated products with services pull-through.
Technology infusion and new offerings may involve both organic and inorganic paths to add to the capabilities of our core mission to become a systems and process company.
We will enter new markets with a new focus ---+ focused by 4 regions, with global teams empowered to enable closer interaction with our customers.
Those are the pillars of our strategy.
And as the year progresses, we'll give you updates and progress reports on 3 key focus points: our products upgrades; our new product development; and our service model penetration.
In summary, we expect revenue and profit growth as measured by EBITDA, as adjusted, to grow this year at a pace similar to The Street's existing expectations.
Beyond the numbers, however, is where the real story of Exterran will be told in '18.
The year of positioning, winning and evolving will be reflected in the pace of our capital investments and new project wins, execution of existing orders and implementation of the strategy I outlined earlier.
Thank you, again, to all of our employees for a great 2017 and to our shareholders and lenders for their support.
Together, we'll continue our value-creating focus in '18 and beyond.
I would now like to open up the line for Q&<UNK>
Thank you, operator.
Yes.
So, Joe, we're still seeing a lot of activity throughout North America.
Strong demand still from the Permian Delaware.
Also, in the Appalachian the Marcella Shale continues to create opportunities for us, specifically Eastern Pennsylvania and Northwest Virginia.
So we're still seeing a tremendous opportunity on inbounds.
I'd say, the fourth quarter pause was pretty consistent with what we expected coming into the fourth quarter, so we were not surprised.
We have already seen quarter-to-date orders that have commitments that's greater than what we saw in the fourth quarter with another month or so to go.
So I don't think, at this stage, we would say things are back to the full run rate of our highest quarter in 2017, but the leading indicator, which is demand and inquiries, both here in North America and overseas, are still strong.
And so we're hopeful that the year will shape up to be another great year for us on product bookings.
Yes, it's accurate.
One small update, the $45 million was actually all new contract awards split between the Middle East, actually our first one in Asia for a little while, and also LatAm.
So they will come on sometime in the fourth quarter and beyond this year.
So relatively small in value, but nevertheless, encouraged by the activity.
We're still seeing large opportunities through both the Middle East and LatAm.
We've adjusted our CapEx number for the year.
And as you rightly pointed out, it's encouraging because we only put CapEx to work when we see opportunities to book new contracts.
And so we still see a very balanced opportunity.
We're hopeful here in the next few months that we'll have some awards.
We've already released engineering and prefeed and feed studies on a lot of these awards, and so we're already actively working internally and very excited about the facilities that we've developed both in the Middle East and also elsewhere to help with that workload.
And so it is a timing topic.
We still have the same visibility, we're encouraged by the activity.
And since our last earnings call, we've seen even additional inquiries coming through the funnel, which is in the very, very early stage.
So we, obviously, handicapped the balance of the total portfolio.
We see a very solid $2 billion of revenue in our line of sight over the next 12, 18 months.
But our internal inquiries have picked up significantly, and so we're very encouraged by that.
Yes, I think there are a couple of things that we've already seen with some of the wins that we announced last year.
First is our ability to put the integrated project together.
And so we have the ability to operate both on the processing side, the treating side and the compression side.
And the work that we've done over the past 12 months to really focus on a modular system to be able to take product to the market and build it faster than what the traditional means would be, has been impressive.
And so that's certainly one area.
The other thing I would say on the water side is that we have been ---+ we've been in the water space for some time, albeit very small, and we've been pretty excited about the opportunities that we've been developing.
We were in the process of finishing a large water project in the Middle East that has really the capabilities to expand and be able to put that into the same segment as we offer from a services to have our first Exterran contract operations in a water segment.
In North America, we've picked up the pace in the last 6 months also and have some technology that we've been focused on.
And we now have our first 6 or 7 units rented in North America, which is a new segment for us, too.
So we've been focused on productivity and efficiency, making sure that we can help our customers to drive more out of the nameplates.
I mentioned already, <UNK>, that we have a significant installed base in the U.S. And when you think about the capacity on a lot of those nameplates, we have been working hard at debottlenecking and spent a lot of time trying to repurpose those assets so our customers can get more out of the units without really having to spend a lot of CapEx.
And so those are things that we've been spending our time on.
We have some additional technology areas that we are working on right now from both an adjacency that we'll share with you when we get further down that road.
Yes.
So I think there's a couple of things I'd like to mention on this topic that I think is relevant for those listening today.
First of all, in the last 12 months, we have dramatically changed the way that we think about launching product into our manufacturing facilities.
We've introduced slot planning to really maximize our efficiency internally.
Very hard to run a business in the time frame that we've had over the last few years when you have dramatic order drops and dramatic order increases in an environment that you have a variable workforce.
So we have, kind of, moved from the order meets the slot as opposed to the slot meets the order.
So we launch slot in advance.
We allocate the slots to customers in the commercial ITO phase.
We forward by engines.
And right now, we've got forward engines bought up to a year out.
So orders that will be delivered in the first quarter 2019.
I'd say the major supply chain bottleneck that we've had certainly has stabilized.
For sure, it's the Cat engines.
And some of the lead times continue to be as long as 52 weeks, but we've ---+ we have a stabilized delivery time frame.
And so we anticipate that, that will improve throughout the year.
But I think it's a mixture of us and Caterpillar working together to understand those lead times and making sure that we've bought in advance, so that we don't bring that pain to our customers.
And so I think that's been a critical relationship that we've been able to develop together over the last 9 to 12 months.
So we celebrated a few weeks ago, our first AMS win in North America for processing and treating, and so ---+ albeit very small.
I think today, it's a space that we have been talking to more of our customers over the last 12 months.
And part of the challenge is the infrastructure build-out has been so rapid that, as well as the quantity of plants that we've sold, there are a lot of plants operating in different regions that, when we sold that plant, let's say, to a 200 million standard cubic feet gas output, that plant probably has more of a demand of sort of 250-plus.
And so our nameplates today are operating in a certain configuration.
With some adjustments to hardware and some software, we're working through some opportunities to help our customers upgrade.
So for the equipment that we have installed, as I mentioned, we have a lot of plants, I think that's a terrific opportunity and we already have started that effort today.
For sure, our customers will have a wide variety of capabilities from some of the large integrateds that have their own maintenance teams to others that require help from small regional players and others.
And of course, the ---+ some of the OEMs that are providing equipment as part of the processing and treating facilities can have some spare parts, if you want.
I think the advantage for Exterran is that we already own and operate plants all around the world, and we know what it takes to drive efficiency and reliability to the level that's world-class.
And so we have maintenance schedules.
We have our own internal analytics that really helps us to think about preventative maintenance and the kinds of changes and when.
And so I'd say, we're trying to take an approach more from selling parts to selling an assurance of a certain outcome.
And that's where we're seeing some real interest right now in the different place.
So at this time, it's an upgrade focus.
And then as we move forward, we'll start to work through how do we help our customers to drive more efficiency in their plants based on leveraging what we do internationally.
No, it's additional opportunities.
And so we've been ---+ the third opportunity that we described last year that we announced in the Middle East is significantly well on with the building, albeit in the facility ---+ the equipments at the facilities.
So we're through a lot of the initial milestones on that project.
But no, we have new opportunities that we are building in.
And as Dave mentioned in his script, there's a net impact as some of this will be reimbursable.
So we see new opportunities and that's why we've raised the CapEx for this year.
I ---+ well, first of all, we did have the supply agreement, as you know, from Archrock kind of roll over in November.
Archrock continues to be an important customer for Exterran, and we're continuing to enjoy orders from Exterran ---+ from Archrock.
When I look at the overall inbounds for the fourth quarter, it was mostly the PNT slowdown that really impacted us, I mean, dramatically from what we saw on our run rate.
So compression was still pretty solid in the fourth quarter.
PNT really took a dip, and that's where we've seen the rebound in Q1.
So we're competing now with others for Archrock's business.
And we're enjoying orders from Archrock, and we hope to continue to be an important supplier to Archrock.
On rental compression across the industry, this is a bit of a crystal ball question, but do you have a guess as to how much horsepower you expect to build this year.
I do not have that in front of me.
I think we have been listening, as no doubt you, that a lot of the compression companies are talking about a demand that's still continuing, and we've seen that demand in inquiries.
And so I would say, right now, it's in the higher horsepower, which is consistent with what we saw all of last year.
And so if that demand continues, I think we're very well positioned to enjoy that volume.
But I couldn't tell you from a absolute horsepower what our capacity is that we've got planned for North America this year.
Not in front of me.
Okay, no problem.
Has there been any uptick in demand for smaller horsepower units.
I know it's predominantly larger horsepower, but anything on the smaller horsepower side to report.
Yes, there has been a little bit of an uptick.
We've seen kind of more of an ---+ more balanced, whilst the higher horsepowers continued at the same kind of pace of inquiries that we saw last year.
There has been a smaller horsepower uptick, and we are seeing that in a number of basins, so the 1,000- to 2000-horsepower range.
And we're also seeing in other regions around the world some more of the kind of wellhead gas opportunities' compression.
So I think the good news on the smaller horsepower is the lead times are a lot better and are more consistent, and so I think that's easier for people to plan.
The challenge that we've really given the industry, which I think is unique, is that we're asking customers to make decisions on their requirements over a year out, and that's not something that we've had to do before.
So everyone is having to learn how to plan more efficiently from where they were in the past when there were ---+ may have been more readily available inventory and lead times were half what they are today.
But we're working hard with everyone to make sure that we understand that.
And so we're continuing to see that inbound inquiries today.
Thanks, everyone, for dialing in today.
We look forward to updating you throughout the year as we continue to execute on our strategy.
And thanks, again.
Do appreciate it.
