CSI Compressco LP (NASDAQ:CCLP) Q2 2023 Earnings Call Transcript

CSI Compressco LP (NASDAQ:CCLP) Q2 2023 Earnings Call Transcript August 7, 2023

Operator: Good morning and welcome to CSI Compressco LP’s Second Quarter 2023 Earnings Conference Call. The speakers for today’s call are John Jackson, Chief Executive Officer of CSI Compressco LP; and Jon Byers, Chief Financial Officer of CSI Compressco LP., Rob Price, Chief Operating Officer is also in attendance. 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 would now like to turn the conference over to Mr. Byers for opening remarks. Please, go ahead, sir.

Jon Byers: Thank you, Alan. Good morning and thank you for joining CSI Compressco’s second quarter 2023 results conference call. I’d like to remind you that this conference call may contain statements that are or may be deemed to be forward-looking. These statements are based on certain assumptions and analyses made by CSI Compressco 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 partnership. You’re cautioned that such statements are not guarantees of future performance and 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 free cash flow, distributable cash flow, distribution coverage ratio, leverage ratio, utilization or other non-GAAP financial measures.

Please refer to this morning’s press release or to our public website for reconciliations of non-GAAP financial measures to the nearest GAAP measures. These reconciliations are not a substitute for financial information prepared in accordance with GAAP and should be considered within the context of our complete financial results for the period. In addition to our press release announcement that went out earlier this morning and is posted on our website, our Form 10-Q will be filed later today. Please note that information provided on this call speaks only to management’s views as of today, August 07, and may no longer be accurate at the time of replay. With that, I’ll turn it over to John Jackson.

John Jackson: Thanks, Jon. Good morning, everyone, and thank you for joining our call today. I want to start out today with some overall macro comments. We’ve mentioned some of these in the past, but I think they’re worth repeating to reflect why we are so bullish about the future for CSI Compressco. First off, the market is tight, especially for horsepower over 600 horsepower. Utilization remains high, looks to remain that way for the foreseeable future. Customers are committing capital out through 2024 and beyond to ensure the compression they need will be available. In addition, the compression industry has been and continues to be capital-disciplined. Generally, the players are interested in reducing their leverage. This may be through EBITDA growth, absolute debt paydown, or both.

Also, there has not been a significant new entrant into the market, deploying a significant amount of new capital in the compression space. Also, the producers want to own less compression as a percentage of their overall compression needs. This is a result of many factors, including their own capital allocation decisions around returning cash to shareholders, underspending cash flow and finding qualified labor to maintain the equipment. Deliveries of new equipment are stretching out well beyond a year as engine deliveries continue to extend, making it necessary for customers to plan further ahead. The speculative new build that has occurred in prior cycles is not happening this cycle, as the compression companies are able to contract new build units before committing capital.

Also, the terms of contracts have improved. This is reflected in the duration of contracts, inflation protection on those contracts, and better underlying terms. This has greatly de-risked the near-term redeployment risk for CSI Compressco and the compression industry as a whole. The cost to build a new large horsepower unit is up 40% to 50% over the last two to three years. This has required continual adjustment to contract compression pricing for new build units, as well as existing units, to reflect market rates. All the changes that I have described argue for a prolonged up cycle for compression. There is no excess new supply coming into the market. It is all contracted and generally for multiple years. The needs for compression continue to grow.

The natural gas production and associated gases continue to increase, and with the pending construction of LNG facilities potentially doubling the export capacity over the next few years, dry gas basins should also perform well over time. Overall, with this macro backdrop, we believe the future is bright for our company and industry. Since the beginning of this improving cycle, CSI Compressco has had goals of growing EBITDA in a disciplined manner, improving our operational execution to be cost efficient, while reducing our net leverage significantly. Our approach to achieving these goals, relative to discretionary cash flow, has been to allocate our capital spending to be in line with our cash flow, thereby leaving gross debt materially flat.

We have begun to shift our spending trend relative to expected cash flows down slightly over the second half of 2023 into 2024, as far as those relative cash flows and what we are going to do with it, for some absolute modest debt pay down. On the fleet side of our capital, we have been building large horsepower units and making our existing fleet ready and available for broader applications where it makes financial sense. Additionally, on the revenue portion of our business, we are continually repricing and terming out our fleet to reflect current market conditions as contracts conclude their primary term and are up for renewal. In addition, we have a lot of focus on improving our operational rigor on the costs as it relates to the contract compression business.

On the AMS portion of the business, we have been pursuing higher return projects, focusing on projects where we have expertise, increasing the pricing for labor to reflect appropriate returns, and improving attention on project management. As we look at the results for the second quarter of 2023, we believe our financial results reflect the impact of these efforts. This quarter continues the multi-quarter trend of increasing contract services revenue, EBITDA growth and improving net leverage metrics. This quarter, our utilization was essentially flat as we sold our Egyptian operation during the quarter, which reduced our operating horsepower via the sale. As we continue to reprice our fleet to market as contracts come off term, we look to optimize the renewal of fleets where possible to achieve the highest return.

vovan/Shutterstock.com

This may mean a slightly lower rate in a lower cost basin or higher rates in tight labor market areas. The idea is to end up with the best return for those assets. We pursue longer term, multi-year renewals on our large horsepower, but price our contracts to reflect the duration of a contract. This means if a key customer desires a shorter term contract, we will work with the customer by offering the term the customer desires, but charge a higher rate to reflect the option value the customer is requesting. We are also using the opportunity to improve unit density where possible by recontracting units closer to core asset installations. This is a long process with over 4,000 units in our fleet, but we’ve made a lot of progress over the last two years and continue looking for ways to improve our operational performance.

Our fleet utilization in the quarter at 87%, a slight contraction from last quarter, primarily reflecting the sale of our Egyptian operations and some units that are in transition between locations and customers. CSI’s are [indiscernible] horsepower, which represents over 80% of our fleet, has a utilization at the end of the second quarter of 93% and our large horsepower fleet that being defined as our horsepower over 1,000, is 95% utilized, up about 0.5% from Q1 of ’23. We do not include horsepower that is contracted, but not revenue generating as utilized in our calculation. We have additional horsepower contracted that is not yet deployed because of customer timing of make-ready work on the unit before being deployed. Finally, as it relates to cost, we have seen the rate of inflation come down quite a bit from last year.

We see this in all phases of our cost structure, that being primarily fluids parts and people. This is not to say we are not experiencing any inflation, but it has slowed to a more modest pace. As we look to the remainder of 2023, we reiterate our full year guidance for EBITDA of $125 million to $135 million and our year-end net leverage guidance of 5.2 times to 4.8 times. We are currently inside both of those ranges on a 12-month — trailing 12-month basis for EBITDA and a quarter in net leverage. Overall, we remain bullish about the macro environment, the longevity of the cycle and how CSI is positioned to perform over the coming quarters. We continue to focus on returns and deleveraging versus absolute growth. We will continue our focused approach to capital allocation by adapting the market and pursuing the best options for long-term value creation.

We have made some significant progress on operational execution and have a lot of this area, we would be focused on in the coming months. We believe this cycle will continue longer and stronger as we believe in the long-term fundamentals of natural gas and especially our ability to perform at a high level as we go forward. I’ll now turn the call over to Jon Byers.

Jon Byers: Thank you, John. For the second quarter of 2023, CSI Compressco reported adjusted EBITDA of $32.5 million compared to $26.4 million in the second quarter of 2022, a 23% increase. Our contract services revenue grew 10% year-over-year from $64.3 million in the second quarter of 2022 to $70.5 million in the second quarter of 2023. This was driven by continued improvement in utilization and pricing, particularly among our large horsepower equipment. Year-over-year, our utilization increased to 87% from 82.8% in the second quarter 2022. Our AMS revenue grew 31% year-over-year and was 22% higher than the prior quarter. Moving on to profitability; our contract services gross margins were 49%, up about 220 basis points over Q1 and our AMS business continues to perform well with gross margins of just over 20%, also up a little over 200 basis points from Q1.

Distributable cash flow was $11.4 million compared to $8.4 million in the second quarter of 2022, and we’ll pay our second quarter distribution of $0.01 on August 14, with a distribution coverage ratio of 81 [ph] times. Total liquidity, cash on hand plus outstanding ABL capacity was $44.8 million on June 30, 2023 and as of August 03, our total liquidity is $51.6 million, which compares to $46.4 million at the end of 2022. Our capital spending guidance for 2023 remains $43 million to $48 million, and we anticipate exiting the year with a net leverage ratio of two times. We’re executing on our plan to reduce our overall leverage while growing the business, our net leverage continues to step down from our Q3 2021 peak of 6.8 times down to 5.1 times as of Q2 2023.

So we’re already within our net leverage guidance range for year-end 2023. If you annualize Q2 2023 EBITDA, we now have a net leverage ratio of 4.9 times. Most of our debt is fixed rate, and this has helped us in the rising interest rate environment, resulting in a minimal impact on our overall interest expense. As John said, in 2023, we plan to reduce our overall growth capital spend relative to prior years and to emphasize debt reduction, liquidity and generating free cash flow. Our guidance for 2023 is unchanged. We’ll now open the call to questions.

See also 25 Cleanest Countries In the World In 2023 and 22 Cool Jobs You Have Never Heard Of.

Q&A Session

Operator: Our first question comes from Jeff Grampp of Alliance. Go ahead.

Jeff Grampp: Good morning, guys. Thank you for the time. So was curious the commentary on continuing to increase the amount of contracts that have indexed to inflation. Do you just have an estimate within kind of the longer-term contracts, however [ph] you want to define that, what percent are indexed to inflation?

John Jackson: So I’d say, just in rough terms, if you look at our overall revenue of contract compression revenue, we probably have about a quarter of it that’s subject to CPI, but you’ve got to dissect that a little bit further in that you’ve got your smaller horsepower fleet is one year or less, a lot of times in your contract terms. So you probably only have about 60%, give or take of your revenue stream at any point in time, 60% to 70% that has any term to it. And of that, probably a third of that is one year or less. So we’re probably about 50% of our overall multiyear revenue. And I’m just — these are very round rough numbers, probably about half of our multiyear revenue is under CPI because we were only able to institute that in the third quarter, late third quarter, beginning of fourth quarter last year.

So we still have contracts rolling off that as they roll off, we term them up and we term them up. If we term them up both the year, we term them up with CPI. I don’t know of any case since we’ve started instituting CPI, where we have not been able to achieve a CPI inflator, that’s a lot of that you asked for, but there you go.

Jeff Grampp: No, I appreciate the details. And is there a reason why you guys would not want any new contract to have to be indexed to inflation. Is there a business case to be made that you’d want something that’s maybe a bit more fixed or maybe there’s a predetermined escalator in there? Or is it your opinion that to the extent that customers are willing to acquiesce to that request that every kind of new contract as you guys are going to be pushing for that.

John Jackson: Well, we’re going to be pushing for it. And you got to recognize all Ts and Cs are all terms and conditions are all subject to a variety of gives and takes, and that could be either standby rates and whether the contract holds, that are putting it on standby and all kinds of other things where it is. So I guess there could be a case where someone says, I want to cap of some sort that we don’t like or some other modified CPI that doesn’t really — that exposes us in a way. Our real goal is to reduce or eliminate the exposure to inflation on a multiyear contract. And we can get that in a multitude of ways, but the primary and the easiest way in our mind is to get a CPI that generally reflects our cost structure changes, too, but there could be a case, I guess, but not generally that we’re working on or aware of.

Jeff Grampp: Yes. Understood. Okay. That makes a lot of sense. And last 1 for me, just on the capital allocation side, you guys hit a couple of times in the prepared remarks about kind of shifting the focus towards absolute debt paydown rather than kind of accelerating on the EBITDA front. How much of that would you attribute to these debt maturities coming up and wanting to maybe tackle those and reduce the overall debt levels? Or would you say that maybe it’s a more kind of structural change in yourself and the industry’s view of allocating capital?