CSI Compressco LP (NASDAQ:CCLP) Q4 2022 Earnings Call Transcript

CSI Compressco LP (NASDAQ:CCLP) Q4 2022 Earnings Call Transcript March 10, 2023

Operator: Good morning, and welcome to CSI Compressco LP’s Fourth Quarter and Year-End 2022 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, CSI Compressco LP. Ravi Kuske, Vice President of Operations, is also in attendance. All participants will be in a listen-only mode. Please note this event is being recorded. I will now turn the conference over to Mr. Beyer for any opening remarks. Please go ahead.

Jon Byers: Thank you, Anthony. Good morning, and thank you for joining CSI Compressco’s Fourth Quarter and Year-end 2022 Results Conference Call. I’d like to remind you that this call may contain statements that are deemed to be forward-looking. These statements are based on certain assumptions and analysis 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 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, 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 as posted on our website, our Form 10-K will be filed early next week. Please note that information provided on this call speaks only to management’s views as of today, March 10, and may no longer be accurate at the time of replay. With that, I’ll now turn it over to John Jackson.

John Jackson: Thanks, John. Good morning and thank you for joining our call today. We’re excited to speak today about our fourth quarter 2022 results and the optimistic outlook we have for 2023. So let’s start off with the results for the fourth quarter of 2022. This quarter continues the trend from last quarter of improving activity translating into increased revenue and EBITDA. We’ve experienced improving activity for several quarters, but the effective inflation earlier in the cycle led to increasing revenue, but marginal incremental EBITDA fall-through. As the cost environment has stabilized, we’ve seen the financial results improve over the second half of 2022. Our contract services, aftermarket services and parts sales all continue to show strong activity and EBITDA improvement.

As it relates to our fleet or contract service business, utilization continued to improve quarter-over-quarter for the seventh straight quarter. Price increases on the existing fleet deployed have begun to close the gap of the effects of inflation. This has translated in increasing fleet revenue quarter-over-quarter for eight consecutive quarters. Three trends are improving our forward visibility. First, our ability to term up equipment on expiring contracts; secondly, redeploying existing idle equipment; and third, deployment of our large horsepower newbuild units on multiyear contracts with marquee customers. Our sales team has worked hard to improve contract duration, but it placed equal importance on improving contract turns with our customers, specifically building inflation protection using cost inflators for contracts with terms longer than 12 months.

We are pursuing price improvements as we continue to move our fleet to market pricing. Pricing in the mid- to large horsepower segment of the market has been changing rapidly over the course of the last year. This has been the result of the last remaining idle units in the mid- and large horsepower ranges that are owned by contract compression companies that have been contracted. Almost all additional horsepower in these categories now has to come from new builds as very few units are being returned by customers. The transition to market rates takes time as many units are under term contracts. As these contract terms expire, we will look to term out the unit and move pricing to market. This will continue to occur throughout 2023, and like it did in 2022.

While we have seen the effect of inflation to stabilize our cost environment over the second half of 2022, we will continue to see labor and part cost increases. At this time, we expect those to be much more modest than those in early 2022 and in line with normal annual increases. Opportunity improvements related — exist related to our make-ready costs for our fleet. As we deployed the bulk of our remaining idle reciprocating fleet in the first half of 2023, we would expect our make-ready cost to reduce given that most of our supricating fleet units will be out on contract. The aftermarket services and parts business or AMS business performed well in 2022 with increasing revenues and improving margins. We have a strong pipeline of AMS activity, both in current contractual work, outstanding bids and current customer requested proposals.

While the first quarter is typically a bit slower with parts sales and AMS awards coming out of the holidays, we have seen a strong pipeline of activity and expect 2023 to be another strong year. We expect over the course of 2023 to transfer some of our people and shop space that have been making CSI owned fleet units ready for deployment over into the AMS business potentially creating more opportunity for growth year-over-year. Our capital spending for 2023 will be focused on deploying additional idle fleet units converting some units from natural gas driven to electric motor drive units and funding large horsepower newbuild units that are currently on order. Our overall goal will be to generate a modest amount of free cash flow after our growth CapEx to reduce absolute debt balances and improve liquidity.

Most of our customer discussions surrounding capital has begun to shift to 2024 as lead times remain long and customers are planning well in advance to avoid compression needs being a constraint to their ability to produce natural gas and crude oil. Our guidance as a firm reflects the opportunities for additional financial improvement. This comes from a combination of deploying the remaining fleet, building new units, improving pricing and reducing our make-ready cost without a significant inflation response on the remainder of our cost structure. One item to keep in mind when looking at our guidance for 2023 is that in December ’22, we had an international contract expire through its natural course. As of December 31, 2022, the contract has not renewed.

Currently, management is having ongoing conversations with the customer over renewal or extension and our guidance reflects no renewal of this contract. If that contract is renewed in whole or in part, we would update our guidance at that time if the contract terms warranted a revision to our guidance. Overall, we’re bullish about the macro environment and the longevity of the cycle. We’ve seen a consistent focus on returns on this cycle across the spectrum. Despite recent lower gas prices, we believe in the long-term need for natural gas. This is evident both in the increasing production and consumption of natural gas in the U.S. throughout the course of ’22 and into ’23. As our industry remains focused on returns, this discipline, we believe, will result in a longer, more stable multiyear cycle.

We’re excited about the overall improving results and the forward activity levels that are contracted given the overall macro backdrop we expect to have a continually improving year in 2023. In summary, we continue to see a strong demand environment for our products and services heading into 2023, and we will remain flexible as we navigate the rapidly changing environment. Position ourselves for success for what we believe to be a longer and stronger cycle in the years ahead. We’re looking forward to an exciting 23 for our industry and specifically for CSI Compressco. I’ll now turn the call over to Jon Byers.

Jon Byers: Thanks, John. For the fourth quarter of ’22, CSI Compressco reported adjusted EBITDA of $32.4 million compared with $26.4 million in the fourth quarter of 2021, a 23% increase. This was driven by increased utilization and pricing in our Contract Services segment, particularly among our large horsepower equipment, our contract services, revenue was up to $68.6 million from $61 million in the fourth quarter of 2021, a 12% increase. Year-over-year utilization increased from 86.8% or two 86.8% compared to 80.8% at the end of 2021. Our AMS business performed very well in the fourth quarter and for the full year of 2022. Compared to fourth quarter 2021, AMS revenue was up 52% to $20.7 million compared to $13.6 million. Full year AMS revenue was up to $73 million from $53.5 million in 2021, a 36% increase.

Distributable cash flow was $13 million compared to $9.9 million in the fourth quarter of 2021. We paid our fourth quarter distribution of $0.01 on February 14, with a distribution coverage ratio of 9.2x. Full year 2022 distributable cash flow is $42.4 million, implying a DCF per unit of approximately $0.30. At year-end, our total liquidity, cash on hand plus outstanding ABL capacity was $46.4 million on December 31, 2022 which compares to $32.7 million at the end of 2021, a 42% increase in liquidity. We’re executing on our plan to reduce overall leverage while growing the business. Our net leverage ratio peaked at 6.8x in the third quarter of 2021, dropping to 6.2x at year-end 2021 and now we sit at 5.5x. If you annualize the second half 2022 EBITDA, we have a net leverage ratio of 5.2x.

Our focus in ’22 has been reducing leverage while balancing liquidity and growth. Looking forward to 2023, as John mentioned, we plan to reduce overall growth capital spend relative to 2022 and emphasize debt reduction in liquidity. Today, we announced 2023 guidance with an adjusted EBITDA range of $125 million to $135 million. Growth capital will decline year-over-year to the range of $23 million to $25 million as we increase our focus on strengthening our balance sheet. We anticipate exiting the year — exiting 2023, and with a net leverage ratio of between 4.8x and 5.2x. Since joining CSI two years ago, our mission hasn’t changed. We’re focused on balancing growth and liquidity as we work towards simplifying our capital and organizational structure, which will position CSI to thrive in all phases of the energy cycle.

We’ll now open the call to questions.

Q&A Session

Operator: We will now begin the question-and-answer session. Our first question will come from Brian DiRubbio with Baird. You may now go ahead.

Brian DiRubbio: A couple of questions for you. I guess, first of all, Jon Byers, just can you help us understand how much you spent last year on make-ready costs.

Jon Byers: Are you asking about make-ready capital cost or just — or on the expense side on the expense side?

Brian DiRubbio: On the expense side.

Jon Byers: I’d say given the fact that we went to a system conversion and started the year with a lot of, let’s say, people understanding how to put things in the right spot so we can understand it. Our belief is it’s somewhere between $2 million and $3 million a quarter.

Brian DiRubbio: Okay that helps just as a general guide.

Jon Byers: Yes. And it varies widely based on what’s going on and how much of what you’re doing capital worker expense work, but it’s in that ballpark.

Brian DiRubbio: Got it. And as we think about utilization rates, what do you think is the effective utilization rate that you can hit over the next two years?

Jon Byers: Well, I believe if you — so I think we’ve talked about this a little bit before on our calls our fleet consists of three big buckets, and that’s reciprocating GasJacks and Rotary Screws. So, on the reciprocating fleet, which represents 80-plus percent of our fleet, we’ll be approaching the upper 90s this year, 96%, 97%, if all — if we put the rest of our equipment out that’s contracted and we don’t get much back, we’re going to be in the upper 90s. Our GasJack and reciprocating excuse me, our GasJack and Rotary Screw fleet is in the 50% to 60% range. So when you blend all that together, you get 90-ish as a composite fleet. But when you compare the reciprocating component, it will be upper 90s.

Brian DiRubbio: Okay. That’s helpful on that. And then just you mentioned a little bit. Any color on how long you’re seeing it taking to get new high horsepower equipment delivered. I know there’s still some backlog with Caterpillar hearing some at their backlogs with some of the fabrication shops. Any additional color there would be really helpful.

Jon Byers: I think it remains in the same kind of general categories we’ve been talking about. You’re sort of in that 50- to 60-week category for Caterpillar engines. I think the frames from aerial have shortened up a bit. You can get them maybe in half that time. And then when you think about electric motor units, the drive itself, maybe 30, 40 weeks, but the VFD, the variable frequency drive depending on how many you’re ordering, if you want one or two, you might be able to get them in 35, 40 weeks. If you want 20 or 30, it’s as we get them, we’ll get them to you. So it could be 45 weeks, it could be 55 weeks, and that’s — we’re experiencing that right now on some of the electric units we’ve installed, the VFD we were given a delivery date and then it slides two months.

So you have the unit installed you have everything ready to go, you’re waiting on the VFD. So that’s what I’d say is the biggest unknown that kind of give you a target date for VFD, but it may or may not even come close to that. So that’s on the electric side, it’s a bit different than the Caterpillar and area are a lot tighter on their quoted deliveries.

Brian DiRubbio: Understood. Final question for me. Just how much of your fleet is would you describe as on current market pricing or current rate card versus rate case your old?

Jon Byers: The market’s moving pretty rapidly every month. So I would say what we thought was market in the fourth quarter of ’22 is probably now 5% out of market. in 2023. So if you take that perspective, I’d say very little of our fleet is that market. Now how close is it to market? It’s probably within maybe — I’m going to — and when I’m talking about this now, I’m really talking about mid- to large horsepower. The smaller horsepower we can get some pricing here and there. We’ve been able to move price up to reflect our cost structure. But the really, really, really tight segment of the market is the 800-horsepower enough. There’s just nothing idle available out there in the market. And as a result, I think pricing is moving up to reflect that.

So I would say the market has moved a lot in the last six months. So with that in mind, what we’ve turned up in the last three months would be “at market.” and what we’re talking about as we extend new existing contracts moving in throughout this year, we’ll move that to market. But very little is at market.

Brian DiRubbio: Understood

John Jackson: It’s moving — I mean it’s changing every month or six weeks as you — we’re — frankly, we’re working with our customers. A lot of people — I don’t want to say they’re slow to change and optimize their fleet but given the environment they’re in, they’re like, well, a lot of times, you think, Oh, I’ve got a 1,300 horsepower unit, but our production is declining. I really needed to move it down, but there’s no rush. And so over time, it happens. But with pricing changes, it’s forcing people to think about optimizing sooner. So there’s a little bit more churn in the fleet, that’s positive in a way because you’re taking a unit off that’s going to come back in six months and you’re moving to a two-year or three-year term now while the customer gets rightsized on their equipment.

But the counter to that is that they’ve got to find that equipment to rightsize WIS. So it’s — there’s a push pull going on with some of this on the rightsizing where people are terming out maybe equipment. They don’t need quite as large a unit, but they need something. So we’re trying to work with our customers and figure that out, but we’re also saying the units we have, this is the market price for the unit. And while it may be oversized, even we’ll try to optimize you down to a smaller unit or move that unit out to someone else that wants that larger size unit. And frankly, I think the things we put in a year ago we probably averaged price increases last year. On the units we touched, we probably averaged about a 10% price increase. Some were 25, 30, some were 5, but we probably averaged 10% on the units we touched.

I would expect to see the same kind of change this year on the units we touch.

Brian DiRubbio: That’s very helpful. I really appreciate all the color.

Operator: Our next question will come from Selman Akyol with Stifel. You may now go ahead.

Selman Akyol: Just following up on that line of questioning and thinking. Can you say how much 800-horsepower and above, you have coming up for re-contracting this year?

Jon Byers: What I can tell you is that we have — I don’t have it sliced that weight in my head, but I’ll tell you that right now, we have last year, at this time, we had — our fleet was month-to-month versus had some term on it was 50-50. This year, at year-end, it’s 72% of our fleet has some term on it. Of that, 26% of our entire U.S. fleet has turned longer than a year. So if you take that, 75% of our fleet can be touched this year. And I would say that’s on a proportional basis, it’s probably in line with our large horsepower fleet too, given what we have. So maybe 60% of our large horsepower fleet can be touched this year because they are on multiyear contracts, I’d say it’s somewhere in that range.

Selman Akyol: Okay. That’s helpful. And then when you’re renewing your contracts and I assume you continue to have inflation adjusters in there. Are you having to do those subject to cap? Or is it the environment strong enough that you’re just saying we’re just going to pass through our variables and no caps, et cetera.

Jon Byers: It’s customer by customer specific and what we’re doing. So some have capped some — it really just depends on the situation and what — it’s — you got to look at everything in totality, right? What’s the term? What’s the rate? What’s the standby rate, what’s — and had CPI factor into that. So, there’s a lot of give and take, but we have a combination of with and without caps.

Selman Akyol: Got it. And how much of your fleet is in electric right now?

Jon Byers: It’s about 2-plus percent, 2.5%, something like that.

Selman Akyol: Got it. You called out an international contract. It’s not in guidance if it did, it would be incremental to guidance. Can you just say how much it was of 2022? Because I assume you highlighted it because it would be — if it came back in its entirety, it would be meaningful. So I’m just trying to.

Jon Byers: It could be meaningful if it came back in its entirety yet. But I think given the nature of how it changed over the course of the year and it’s embedded in other operations in that country, we’d really rather not — since it’s not in our numbers and not in our guidance, we really rather not talk about it, but it is in the millions of dollars. That’s all also.

Selman Akyol: Okay. Okay. And then you talked about the aftermarket services, and you talked about a strong pipeline. I don’t know if you can — is there a backlog there? Is there a way you can maybe help quantify or how we should be thinking about that?

Jon Byers: Yes. I don’t have. I don’t have a numeric backlog for you at this time, that’s a good question. And we do think about it that way. We do have a backlog of business. It’s — I would say the AMS business, typical backlog duration is 45 days or 60 days because these contracts this work, maybe takes that long. Maybe it takes 45 days. And maybe you’re contracting work that’s going to come in, in 45 days. So I think what we’ve really spent our time on over the last four to six months as we’ve seen our fleet use — get — reach this 97% utilization, give or take, maybe that we’re going to have at the end of Q1 or early Q2 on reciprocating fleet that we’re going to have shop space available, and we’ve been very much focused on filling that shop space up with AMS work where possible, that’s good quality work.

The reality is the AMS business is driven largely by a lack of labor or labor, whether you have it or don’t just whether you can get the work done. You can get the parts, generally, you can get all the shop space potentially, but if you don’t have labor it’s a waste of time. So, we focus primarily on our fleet first and AMS second, and now we’re shifting that as we have the shop space. So by Q1, we’ll see if we can get some more visibility to you on backlog numbers like a quoted backlog. But right now, it’s still going to be relatively short in duration. We’ve thought more about a pipeline of activity. So we have existing backlog in the book, then we have quoted backlog that there’s a hard quote out we’re waiting on a response and then there’s what I’ll call RFPs or things that we’re working on directly with a direct source to a customer that has a lot of activity.

So segmenting those pieces out and seeing that activity level is kind of how we think about it, is it really busy? Or is there open gaps in the shop space and there’s open gaps in our bidding and right now, we’re not seeing much of that. Right now, we’re seeing where we can be pretty selective on the work. We’re actually choosing not to bid on certain jobs and certain types of jobs where we’re not as good at executing that kind of work. So I’m rambling around a bit so I don’t have a number for you, but I think we’ve high-graded the work we’re doing and the backlog we’re building so that we have a much better chance of continuing to execute at a high level. And that’s probably not answering your question, but I’ll try and have something for you by Q1 on numerics, but we’re still working on that ourselves.

Selman Akyol: Got it. But — and I appreciate all that color. I really do. But I also heard you say really, it’s going to be ultimately limited by the amount of labor you can get, and it sounded like you were trying to maybe move some people from one segment to the other.

Jon Byers: That’s right. Largely because if you think about how much — our utilization moved up four points or so in ’22, I mean, ’21, it moves up six points in ’22. It’s going to move up if things go like we hope it’s going to move up a little bit more as we’ve just talked about in this call another two or three points in ’23. So you’re going to move up you’ve touched fleet units that were idle that were sitting in your yard. You always have churn. Your unit comes back, you may have to do some work on it, do an overhaul on it, maybe reconfigure it, ship it back out. But repositioning, taking fleet that’s sitting in your yard for the last couple of years through COVID and not getting it out, that was a major effort in our shops across the organization.

Once it’s out and running, you have less running through your shop. This is all getting termed out, so you’re going to be working on it more in the field than in the shop. So that shop space, which is largely driven by just people is now freeing up a bit, and that’s why we think we have more opportunity to drive AMS through using those same bodies we already have on our payroll and just shifting their work from what I’ll call a cost center to shifting them to a profit center. And that’s why we think our make ready combination of that and AMS business creates a profit opportunity for us this year.

Selman Akyol: Got it. And then just the last one on this, and as I’m listening to you, will you use AMS just to service existing customers? Or do you think you’ll actually be able to reach out and bring new customers in because you’ve got capacity that other people may not have?

Jon Byers: I think — yes, we’re not just servicing, I’d call, our existing fleet customers. We’re servicing people that we have — we have a lot of long-standing relationships with that. So first off, people that we have a good relationship to it that I think we trust and work well with each other. We know what their expectations are. That’s who we’re working first, but certainly, there is additional business that’s coming our way that people are asking us to quote on that we’re working on. So yes, we can expand our customer visibility of our customer segment there, I think, as we expand the shop space availability.

Operator: Our next question will come from Jason Stoltz with Millennium. You may now go ahead.

Jason Stoltz: I have two questions. The first one is, I noticed a great quarter in terms of adjusted EBITDA, but in net cash provided by operating activities, and that was a reversal from very large cash generation in Q3 to a small cash utilization in Q4. I was wondering if that’s a result of building some inventory? Or is it in late pay on accounts receivable, what is the

Jon Byers: No, it’s a little bit of a build in working capital particularly inventory as we work through some of these supply chain issues. The biggest difference is the fact that we pay our bond interest on a semiannual basis. So October 1, we had a $23 million interest payment which relieved a payable and resulted in net cash outflow.

Jason Stoltz: Okay. And then the second question is when they’re talking about the AMS business, that’s the amine unit business. And I was wondering whether you’re planning to market your amine units to natural gas processing plants that want to do carbon capture.

Jon Byers: Well, the — those are actually two distinct businesses for us. We do have the amine business — the AMS business actually is just an acronym for aftermarket service. So it’s where we work on third-party fleets. So we have the AMS business, we’re trying to grow, but your question on the amine is good. We do have some idle amine equipment that we’ve seen a pickup in activity on that quoting. And by definition, the amine plan is a carbon capture type piece of equipment, it’s then what does the customer do with that after — do they invent that to the atmosphere, do they reinject it. And right now, most of our plants are on sites where the customer has chosen to vent it. However, we would love to engage with our customers on ways to dispose of that in a way, so it’s not flare to the — or not sent up in the atmosphere. So that opportunity does exist, and we do talk to customers a lot more about that now.

Jason Stoltz: So the inflation Reduction Act basically makes it much more economically viable to capture the CO2 and to dispose of it to generate the 45Q tax credit. So are you — are these cash processing plans contacting you to see if you can deliver them more amine units? Or is that — it hasn’t hit the market yet, even though the inflation reduction act was passed last summer?

Jon Byers: We have had seen an uptick in inquiries and quotes on amine plants, whether that’s a function of the inflation Reduction Act or just a function of gas that’s in high CO2 areas. It’s hard for us to speculate at this time. But we have seen in 2022, second half of 2022, quite a bit of pickup in that area.

John Jackson: And I think the RA has driven more interest in electric drive compression taking brownfield sites, removing gas-fired engines and replacing it with electric drivers. So I would say from an impact standpoint, we’re probably seeing more impact on the compression side of the business in the amine side of business.

Operator: This concludes our question-and-answer session. I’d like to turn the conference back over to John Jackson for any closing remarks.

John Jackson: Again, we thank you for joining us. We remain very optimistic about 23. We like where we’re headed. We like what’s going on. We appreciate your interest and look forward to delivering some great results for you in ’23.

Operator: The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.