Liberty Energy Inc. (NYSE:LBRT) Q4 2022 Earnings Call Transcript

Liberty Energy Inc. (NYSE:LBRT) Q4 2022 Earnings Call Transcript January 26, 2023

Operator: Good morning, and welcome to the Liberty Energy Fourth Quarter 2022 Earnings Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Anjali Voria, Head of Investor Relations. Please go ahead.

Anjali Voria: Thank you, Gary. Good morning, and welcome to the Liberty Energy fourth quarter and full year 2022 earnings conference call. Joining us on the call are Chris Wright, Chief Executive Officer; Ron Gusek, President; and Michael Stock, Chief Financial Officer. Before we begin, I would like to remind all participants that some of our comments today may include forward-looking statements reflecting the company’s view about future prospects, revenues, expenses or profits. These matters involve risks and uncertainties that could cause actual results to differ materially from our forward-looking statements. These statements reflect the company’s beliefs based on current conditions that are subject to certain risks and uncertainties that are detailed in our earnings release and other public filings.

Our comments today also include non-GAAP financial and operational measures. These non-GAAP measures, including EBITDA, adjusted EBITDA, adjusted pretax return on capital employed and cash return on capital invested are not a substitute for GAAP measures and may not be comparable to similar measures of other companies. A reconciliation of net income to EBITDA and adjusted EBITDA and the calculation of adjusted pretax return on capital employed and cash return on capital invested as discussed on this call, are presented in the company’s earnings release, which is available on the Investors Section of its website. I will turn the call over to Chris.

Chris Wright: Good morning, everyone, and thank you for joining us for our fourth quarter and full year 2022 operational and financial results. Liberty achieved outstanding returns in 2022, with the highest earnings per share in company history. Full year adjusted pretax return on capital employed, ROCE and cash return on capital invested, CROCI, were each at 31% and both accelerated as the year progressed. These results demonstrate the enhanced earnings power of our diversified platform and technology portfolio as well as our profitability potential over the longer duration cycle ahead. 2022 revenue grew to $4.1 billion, a 68% increase over the prior year. Net income was $400 million or $2.11 fully diluted earnings per share.

Adjusted EBITDA increased to $860 million. Fourth quarter revenue of $1.2 billion increased 3% sequentially, and adjusted EBITDA grew 7% sequentially to $295 million as continued momentum from strong execution in the third quarter and strengthening pricing more than offset weather and holiday seasonality. Michael will review our financial results in greater depth. But suffice it to say, we are pleased with the tremendous improvement we saw in each successive quarter throughout 2022. Our strong conviction in the outlook and growing free cash flow led us to launch and expand a sector-leading return of capital strategy in 2022. We paid our first quarterly cash dividend since the pandemic during the fourth quarter and earlier this week, we upsized our July 2022 share repurchase program from $250 million to $500 million.

In the second half of 2022, we returned a combined $134 million in share repurchases and dividend payments to shareholders. We retired 4.4% of our outstanding shares since last July, and we now have $375 million remaining in our authorization. We are focused on the opportunistic execution of our buyback strategy and the speed at which we execute on our buyback authorization will be driven by the relative dislocation in our stock price relative to what we believe the intrinsic value of the stock to be. Our 2022 financial performance illustrated the value created from our actions over the pandemic years, including transformative transactions, technology innovation and investment in the extraordinary talent at Liberty for future success. Together, the Liberty team achieved new records whether measured by revenue, pump hours per fleet, frac stages or tons of sand pumped, all of which were delivered while navigating tight supply and labor markets.

We always strive to raise the bar of elite service quality and performance in the industry. Today, dependability and efficiency are critical to our customers who contend with meeting development plans in a tight frac market and volatile commodity price environment. The frac market is currently tight in all shale basins. In any given year, the near-term fundamental picture can ebb and flow. And today, natural gas markets are in focus, an increase in natural gas storage levels from a rise in domestic production, moderate winter weather so far and lower LNG export growth are weighing on gas prices. To-date, there has not been any significant reduction in activity in the natural gas regions despite a significant drop in gas prices. We do expect to see some industry pullback in response to gas prices.

And if necessary, Liberty would move any spare capacity to oilier areas where demand for our services significantly outstrips our current supply. This issue is not a significant concern for Liberty. While markets are preparing for the most widely anticipated recession in nearly 50 years, tumult in global oil supply, coupled with today’s rather low spare global production capacity implies strong need for North American barrels in the coming years. Today’s low spare production capacity is the inevitable result from years of underinvestment in upstream oil and gas production. The gradual reopening of China and rising global travel are expected to drive incremental demand for oil, even it balanced against slowing economic activity. Oil supply, on the other hand, growth remains very challenged as the release of U.S. strategic petroleum reserves subsides.

The impact of the Russian oil products export embargo hits next month and reduced investment across the Russian industry gradually impacts production. The fundamental outlook for North American hydrocarbons is the healthiest Liberty has seen in our 12-year history. Against this strong backdrop, we expect many possible bumps in the road like softening in natural gas activity and elevated recession risk. However, the multiyear outlook for North American activity is robust. Currently, our customers and competitors are investing with discipline, keeping capacity flat to only very modest growth. For years, E&P operators, oil and gas alike have invested in expanding metal inventory, understanding the geology and resource quality, optimizing drilling and completion designs and assembling their teams to execute on development plans.

Their hard work is now paying off with high rates of return, particularly in oil, even as breakeven prices have increased from extreme pandemic lows. The majors are redirecting capital spending to the attractive risk reward opportunities in North America. Independents continue their robust shale programs at a minimum to offset natural production declines. As North American oil and gas portion reaches new heights. There is a rising level of frac activity simply required to keep our customers’ production flat. Two factors summarized today’s frac market, full utilization of existing frac capacity and strong demand for gas-powered fleets that significantly reduced fuel costs natural gas is much cheaper than diesel, while driving down frac fleet emissions.

This transition to natural gas-powered fleets is happening at a measured pace, roughly aligned with the attrition of the industry’s older generation diesel frac capacity. There is also a wide variety of performance specs, quality of these next-generation fleets, and we are investing to be the technical leader. When the shale revolution expanded to include oil basins as well as gas basins, roughly a dozen years ago, there was a building frenzy of new frac fleets, the overhang of these excess fleets took many years to overcome. Today, that overhang is gone, and all the large players in frac are investing with discipline. Today, frac fleet demand sufficient to keep production roughly flat or drive only very modest growth requires all existing frac capacity.

Tighter labor markets and supply chain challenges are making it hard for the smaller players and lower quality players to keep their existing fleets running and deliver an acceptable quality of service. Aging frac pumps and limitations to maintenance supply chains promote the attrition of older equipment across the completion market. Equipment are treated in recent years has largely been scrapped or sold for industrial applications in international markets, and we see these trends continuing for the foreseeable future as gas-powered technologies take hold. Hence, we view the risk of surging frac fleet capacity supply crashing service prices as relatively low. Of course, we closely monitor frac market conditions and would adjust our behavior if clouds appear on the horizon.

Today’s tight frac market creates a sense of urgency among E&P operators to align with top-tier partners for both differential long-term technology and the outstanding service quality required to deliver on their production goals. Over the past few years, Liberty’s team has rapidly innovated to develop the most technically advantaged frac fleet with digiFrac and 2022 marks the first commercial deployment of these game-changing pumps. digiFrac sets the bar for combining the lowest emission fleets in the market with superior design, of performance, reliability and cost efficiency. We are currently undergoing a phased deployment of our first fleet as the modularity of both our pumps and high thermal efficiency power production allows us to commission the fleet on a pump-by-pump basis while maintaining continuity of operations for our customers.

digiFrac pumps are fully compatible with our existing conventional and dual fuel pumps as they all share our proprietary control software, allowing optimization of pump operations across the fleet. Gas-powered pumps are a focus of our innovation efforts as we look to develop technologies that are beyond the scope of what the industry offers today. Next week, we plan to unveil the world’s first natural gas hybrid frac pump, part of our digi platform at the SPE frac Conference in Houston. This technology will have an even lower emissions profile than any electric frac fleet technology available today. Together with our existing fleet, our suite of pump and power technologies will enable fit-for-purpose customizable solutions. With the breadth of equipment, we will be able to pair digiFrac with dual fuel technologies to optimize gas consumption under a variety of circumstances.

Customers will also be able to leverage a combination of available grid power and Liberty’s generators to power fleet and consume any type of gas, including field gas, CNG or LNG. This suite of new technology developments will allow customers to have an optimized solution to match their needs. All will include a fully electric backside, proprietary quiet fleet technology and the lowest possible emissions footprint. We see a multiyear cycle favoring service companies that offer differential technologies, fortifying strong customer engagement and competitive advantages. We enter 2023 with strong competitive advantages that will enable further profitability expansion, including efficiency gains.

Operator: Pardon me. This is the conference operator – we appear to have trouble with the speaker signal. We’re going to put you on hold and get back to – reconnect to the speaker as soon as possible. Thank you. Please stay on the line. Pardon me, this is the conference operator. We’ve rejoined the speaker location. Sir, please go ahead.

Chris Wright: Apologize for the interruption a technical difficulty is there. I’m going to pick back up where I was – our free cash flow potential and strong balance sheet allows us to not only prioritize accretive share repurchases, but also to invest in our future. The goal is simple maximize the value of a Liberty share. In 2023, we are targeting approximately 40% to 50% growth in adjusted EBITDA with no meaningful change to our fleet count from today’s levels. As we laid out in our Investor Day in mid-2021, we viewed 2022 and 2023 as years of countercyclical investment at the start of a longer strong earnings cycle ahead. Our 2023 outlook includes potential capital expenditures of approximately 50% of EBITDA, a similar percentage of capital expenditures as 2022.

Photo by Robin Sommer on Unsplash

We would also expect to reduce – for that to reduce to the neighborhood of 30% of EBITDA in 2024. Our 2023 discretionary CapEx is driven by strong customer demand for next-generation low-emission frac technology in the coming five years. Our confidence in our long-term strategy and the strength of our operating model has never been higher, and we expect our investments today will lead to strong returns over the coming years. Our 11% – or 11-year annual average cash return on capital invested, CROCI, of 23% since our company founding was achieved during a relatively tough period for our industry. And before we had developed a suite of differential technologies and services that we are now rolling out. Today, Liberty is creating opportunity through ingenuity and innovation, not just in frac fleet technologies, but also in wet sand handling, logistics software and systems to optimize supply chains, predictive software, generating operational efficiencies and so much more.

We enter 2023 with significant competitive advantages that enable strong relationships with the best producers and that drive demand for Liberty services far beyond our capacity to supply. These factors are likely to deliver rising free cash flow and strong returns to our shareholders in the years ahead. With that, I’d like to turn the call over to Michael Stock, our CFO, to discuss our financial results.

Michael Stock: Good morning, everybody. Liberty ended the year with very strong execution. In the fourth quarter, adjusted EBITDA increased by 7% sequentially in a seasonally weaker quarter, and we reduced net debt by $55 million, while we invested $116 million in capital expenditures and returned $64 million to shareholders. Our terrific fourth quarter results rounded out a great year for Liberty. Our team delivered 68% revenue growth, approximately $400 million of free cash flow generation defined as adjusted EBITDA less capital expenditures and nearly 50% free cash flow to adjusted EBITDA conversion ratio. We’re pleased with our results and which we have now seen revenue growth in each of the last 10 quarters and profitability expansion through each quarter in 2022.

At Liberty, our results would not have been possible without the hard work, dedication of our nearly 5,000 employees. Supply chain and logistics challenges offer opportunities for some companies will showcase the vulnerability and others. And the Liberty team came together to deliver industry-leading operational efficiency our customers have come to rely on. We have a unique combination of leading business or financial strength that reinforces sustainable long-term advantages. Our 2022 adjusted pretax return on capital employed and cash return on cash capital invested at 31% was the highest in three years, and we are on a path to surpass that in 2023. Our balance sheet strength allows us to focus on our priorities of investing and expanding our competitive advantages while returning a significant amount of capital to shareholders.

Critically, we do not need fleet growth to significantly expand our margins. We have the tools, the technology and the people in place to expand our share of completion spend with our customers through a variety of technology investments we are making today. For the full year, revenue increased 68% to $4.1 billion to $2.5 billion in 2021. Net income totaled $400 million or $2.11 per fully diluted share. Adjusted EBITDA was $860 million, highest in the company history, seven times 2021 results. Our full year results began to show the full potential of the earnings’ power of our platform that our team has carefully built over the years. In the fourth quarter of 2022, revenue increased 3% sequentially to $1.2 billion. We saw a healthy customer demand, and our execution excelled through winter weather challenges and disruptive supply chains.

A full quarter of contribution of third quarter fleet deployment aided our results. Fourth quarter net income after tax of $153 million increased from $147 million in the third quarter. Fully diluted net income per share was $0.82 compared to $0.78 in the third quarter. General and administrative expenses totaled $49 million in the fourth quarter, including a non-cash stock-based compensation of $5 million. G&A declined $1 million sequentially, primary on variable compensation recorded in the quarter. Net interest expense and associated fees totaled $7 million in the quarter. Fourth quarter adjusted EBITDA increased 7% sequentially to $295 million from $277 million achieved in the prior quarter despite the usual holiday and weather challenges for Q4.

Results included non-cash charges for the re-measurement of the tax receivable agreements of $76 million for the full year of 2022 and $43 million in the fourth quarter. These non-cash charges are all the noise related to the reversal of the valuation allowances recorded on our deferred tax assets in 2021. In 2023, we no longer expect the TRA to affect our income statement. We expect 2023 effective tax rate to be approximately 23% and our combined cash taxes and TRA payments to be approximately 10% for the year. We ended the year with a cash balance of $44 million and net debt of $175 million. Net debt decreased by $55 million from the end of the third quarter, even with the execution of $55 million of share buybacks and $9 million towards our recently reinstated quarterly cash dividend.

Total liquidity at the end of the year, including availability under the credit facility, was $351 million. Earlier this week, we amended our ABL facility to provide a $100 million increase in net borrowing capacity to $525 million. In conjunction with our ABL expansion, we retired our $105 million term loan, reducing our effective interest rate. Net capital expenditures were $116 million on a GAAP basis in the fourth quarter, which included costs related to digiFrac fleet construction, capitalized maintenance spending and other projects. In 2022, we demonstrated the capital investment and higher rate of return opportunities and shareholder returns can both be achieved. We proactively installed a share repurchase program in July of 2022 to take advantage of the dislocated share prices – and we seized the opportunity to do so with $125 million in shares repurchased in the second half of the year.

We also reinstated our quarterly cash dividend in the fourth quarter, equating to another $9 million paid during 2022. Our convictioning and a strengthening outlook and our ability to grow free cash flow positioned us to double the size of our original share repurchase authorization to $500 million this week. In our 12-year history, we have always taken the approach of investing counter cyclically in the early stages of the cycle, generating strong free cash flow, harvesting cash in the late stages. Our cash return on capital invested has been over 2 times our cost of capital during our 12-year history. Looking forward, we are targeting approximately 40% to 50% growth in adjusted EBITDA year-over-year in 2023, with no meaningful change in our fleet count from today’s levels.

In 2023, our investments are aimed at fully capturing a uniquely Liberty opportunity for differential returns. We have the premier design, the latest pump technology in the market. We are investing in the development of these pumps. We plan to own the value chain with our own power generation and the freight pump cannot function without this power. As we improved with sand and logistics controlling the full cycle of service provision maximizes long-term returns. This is a strictly different approach compared to some frac providers who lease technology and contract power generation from other providers. We are targeting capital expenditures of approximately 50% of EBITDA in 2023, similar to 2022. Comprised of maintenance spending and discretionary growth CapEx and fleet technologies, power generation, ESG-friendly wet sand handling and other high-return opportunities, included in this number some potentially accelerated early cycle investment spending that laid the foundation for earnings growth in 2024 and beyond.

As such, we anticipate capital expenditures as a percent of EBITDA will decline to the neighborhood of 30% in 2024, following this infrastructure development. As we look forward, we are well positioned to maximize free cash flow generation to support our capital allocation priorities of disciplined investment to expand earnings per share, balance sheet strength and the return of capital to our shareholders. With that, I’ll turn it back over to Chris.

Chris Wright: I closed our last conference call speaking about Russia’s attack on Ukraine’s energy system as their calculated way to inflict maximum human misery, regrettably those attacks continue. Unfortunately, the politically driven attacks on our own energy system remain ongoing as well. During the holiday cold snap, New England generated over 20% of its electricity burning oil. Why? Because by far, its largest source of electricity, natural gas plants were unable to secure enough natural gas at peak demand times. New England and an increasing number of states like California and New York continue to impose both higher energy costs and lower electrical grid reliability on their citizens, simply because the political and energy regulatory arenas no longer engage in honest sober dialogue about energy, the environment, climate and human well-being.

The electricity grid is the most important network in the world. We demonstrated earlier the problems that can arise when a less important network, our telephone network can struggle as well. This, attacks on our energy system must stop or we will drive down American standards of living and de-industrialize our country just like Europe. That path is not looking too rosy right now. As not everyone is inclined to read our 100-page bettering human lives report that covers these issues. I made two brief videos last week to illustrate these points. One is called Zero Poverty 2050, and the other is called – let’s be honest. The latter video garnered over 100,000 impressions on LinkedIn, but it was removed censored by LinkedIn three times in 48 hours, a video that simply lays out big picture facts about our energy system and climate change is banned by a business network platform.

Either the LinkedIn censors are ignorant in this area or they are politically or socially motivated to protect the alarmist climate narrative that increasingly permeates our society likely some combination of the two. I find this alarming that a Microsoft-owned business is actively working to protect a false and destructive mean about energy and climate. The video is up now. Apparently, Torquemada approved it the fourth time. I’ll conclude by saying that complacency is surely not a viable strategy going forward if we are to eventually reverse the damaging plague of energy ignorance in our country. Rent seeking interest groups will only grow in power as long as subsidies are counted in the tens and hundreds of billions of dollars. I will now turn it over to the operator for questions.

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Q&A Session

Operator: Our first question is from Derek Podhaizer with Barclays. Please go ahead.

Derek Podhaizer: Hi, good morning, guys. Just wanted to expand on the gas market comments so, what would relocating capacity look like? Would you expect to displace customer fleets in oilier basins or would these be incremental fleets to the market? Just want to know what this could mean for pricing? Is there any threat to the downside or is there ability to price up as you move fleets over?

Chris Wright: Derek, first of all, I’d say we view this as pretty unlikely. I think we’ll see some modest contraction in industry activity. It doesn’t likely impact Liberty fleets in gas, less than 20% of our capacity is working in gas areas. But in an extreme case, if it did displace a fleet, it would be quite easy for us to move that to another area. And that would more likely – we’ve got a lot of people constantly calling and trying to figure out what it would take to get a fleet. So – we would have no trouble placing that fleet. Yes, ultimately, that would likely just slide into an existing program where our customer is using a lower quality player that they have no choice but to use. But I think that – the gas market concerns, I think, are real, but I think they’re overblown on their potential impact in the frac market.

Total industry-wide, this might be a few fleets we have today probably 10 or 20 fleets demanded that are simply not there. That’s not just Liberty but just industry as a whole. There’s activity not happening because people don’t have a fleet so that – it might be something, but it’s – not likely meaningful to the frac market.

Derek Podhaizer: Got it, okay. No, that’s helpful. I wanted to touch on your EBITDA guide for 2023. You said a 40% to 50% growth over 2022. I’m just curious like – can you maybe unpack that a little bit? What’s locked in today? What gives you the confidence that those numbers? Do you have pricing locked in for all 23 – or is it just capacity and pricing is more of a moving target? I’m just curious what would drive upside to that estimate maybe what would drive some downside to that estimate. Just if you could expand on that percentage forecast you put out?

Chris Wright: I mean that forecast comes from what we know today. We’re never big on seeing wildly different things in a crystal ball. So the market is strong today. That’s sort of existing market conditions continuing on. We have relatively low risk of keeping our fleets busy. We have ongoing internal technology efforts that drive down our cost of operations, and we’ll continue to push those forward. So I think it’s sort of an extrapolation of where we sit today. Michael, I don’t know if you want to add anything to that?

Michael Stock: Yes, we had great visibility. We have very low customer turnover and we have kind of strong visibility into our customers’ plans for the balance of the year. So barring any exogenous change in the world those plans will continue. So – we have a strong view. As Chris said, I think there’s upside is self-help cost reduction as we move more to, sort of expand the shoulders of earnings of the business. The downside is sort of exactly the same as you say and exogenous events that changed the world market.