USA Compression Partners, LP (NYSE:USAC) Q1 2024 Earnings Call Transcript

USA Compression Partners, LP (NYSE:USAC) Q1 2024 Earnings Call Transcript May 7, 2024

USA Compression Partners, LP beats earnings expectations. Reported EPS is $0.1852, expectations were $0.12. USA Compression Partners, LP isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning. Welcome to the USA Compression Partners’ First Quarter 2024 Earnings Conference Call. During today’s call, all parties will be in a listen-only mode. At the conclusion of management’s prepared remarks, the call will be opened for Q&A. [Operator Instructions] This conference is being recorded today, May 7, 2024. I now would like to turn the call over to Chris Porter, Vice President, General Counsel and Secretary. Please go ahead.

Chris Porter: Good morning everyone and thank you for joining us. This morning we released our operational and financial results for the quarter ending March 31, 2024. You can find a copy of our earnings release as well as a recording of this call in the Investor Relations’ section of our website at usacompression.com. During this call, our management will reference certain non-GAAP measures. You will find definition and reconciliation of these non-GAAP measures to the most comparable U.S. GAAP measures in our earnings release. As a reminder, our conference call will include forward-looking statements. These statements are based on management’s current beliefs and include projections and expectations regarding our future performance and other forward-looking matters.

Actual results may differ materially from these statements. Please review the risk factors included in this morning’s earnings release and in other public filings. Please note that information provided on this call speaks only to management’s views as of today, May 7, 2024, and may no longer be accurate at the time of a replay. I will now turn the call over to Eric Long, President and CEO of USA Compression.

Eric Long: Thank you, Chris. Good morning everyone and thanks for joining our call. I am joined on the call by Eric Scheller, our COO. This morning, we released our first quarter 2024 results, which reflected another quarter of record results. Our first quarter results were driven by our strategy laid out during previous calls, focusing on prudent deployment of capital through return-based decision-making and demand-driven pricing, with extended contract tenors. By staying disciplined, we have continued to drive financial and operational performance to record levels, which we believe enhances and sustains unitholder value. Of note, we saw another quarter of record revenues, adjusted gross margin, adjusted EBITDA, distributable cash flow, average revenue generating horsepower, and average revenue per revenue generating horsepower.

Our utilization on both an average and period-end basis were also at record highs. Consistent with my commentary during our last call, we addressed several important components of our capital stack during the first quarter. In March 2024, the partnership opportunistically issued $1 billion of 7.13% senior notes due 2029 and redeemed all of our 725 million 6.88% senior notes due 2026. We used the remaining net proceeds to reduce the revolving credit facility. Our timing in the high-yield marketplace was virtually perfect with the spread to benchmark treasuries of 291 basis points close to the recent lows last seen in January 2022. The issue was substantially oversubscribed and our notes have performed well even in light of the recent pressure on interest rates.

Additionally, this issuance received a credit rating upgrade from Moody’s. Further on April 1, 2024, the holders of the partnership’s Series A preferred units elected to convert an aggregate of 280,000 preferred units into 13,991,954 common units, which were issued effective as of April 2, 2024. 2024 guidance for distributable cash flow has been updated to reflect the impact of this conversion. The completion of these two activities sets us up well over the coming quarters to continue simplifying our capital structure, increase our public float of common units, as well as opportunistically work on the refinancing of our 750 million of senior notes due in 2027. You may have noticed that our distributable cash flow coverage ratio which was 1.41 times was slightly lower than our prior quarter’s 1.48 times coverage.

Additionally, our leverage ratio of 4.27 times as calculated under our credit facility was slightly higher than our prior quarter’s 4.1 times. Both of these changes were due to one-time events that we believe will potentially enhance unitholder returns over the long run. Regarding our leverage ratio as we mentioned during our last call, we were expecting 52,500 horsepower of new large horsepower units to be delivered during the first half of 2024. These units represented the remainder of our late 2022 order. We are happy to report that 47,500 of the 52,500 horsepower was delivered during the first quarter and the remaining 5,000 horsepower was delivered in April, often been deployed into the field under long-term contracts. The front-loaded purchase of these units led to the slightly higher leverage ratio for this quarter, but we believe our leverage ratio will begin to trend back towards 4.0 times.

Regarding our distributable cash flow coverage ratio, as I mentioned, our Series A preferred unitholders began converting their preferred units to common units in January. Then in early April, they converted another $280 million of preferred units to common units prior to our record date attributable to the first quarter results. This resulted in approximately 14 million common units being issued at least half of which we believe have been sold into the open markets as of today. While the conversion of the preferred units has a very small impact on our distributable cash flow coverage ratio, the enhanced public cloud brought to our common units should be a positive. We believe that we will continue to increase our distributable cash flow coverage ratio and reduce our leverage ratio over time.

During the coming quarters, we will continue to focus on opportunistically improving and simplifying our capital structure through the first four months of the year, 320 million out of 500 million of Series A preferred units have been converted to common units. We have refinanced our 2026 senior notes at an attractive financing rate and firmed up the fixed interest rate for almost all of our debt through 2025. As I mentioned, we used the proceeds from our March 2024 issuance of $1 billion of 7 1/8% senior notes due 2029 to redeem all of our 2026 senior notes and use the remainder of the proceeds to pay down our credit facility resulting in $736 million borrowed under our credit facility at the end of the quarter. If you recall, the notional amount of our floating to fixed interest rate swap is $700 million and extends through December 2025 at about 125 basis points below the current SOFR rate.

As such, we essentially locked in $2.45 billion of our $2.49 billion of indebtedness as of March 31, 2024, at a weighted average interest rate of 6.86%. We were extremely pleased with this offering and believe that our ability to refinance our existing indebtedness at attractive rates in the current market reflects investor support for our underlying core business. While we still have work to do, we think we have made strong progress so far and we’ll continue to be opportunistic in regards to maximizing our capital structure. As a reminder, we believe focusing on our capital structure, including the eventual refinancing of our senior notes to 2027, renewing our credit facility and fully exiting our Series A preferred units is the prudent course of action before we consider changes to our distribution policy.

As we look forward to the rest of the year, we still believe the approach we laid out a few months ago during our previous earnings call remains the prudent path. We remain bullish on the long-term prospects of the natural gas industry but also see near-term uncertainty, which has only grown since our last call. Inflation is turning out to be stickier than experts thought a mere three months ago, the Russia-Ukraine conflict is still ongoing and new tensions have arisen in the Middle East. We also have the upcoming election and interest rates that will be higher for longer including the potential for stagflation according to the ever in cycled Jamie Dimon. As such, we believe 2024 is a year that we focus internally with reduced growth enabling us to produce stable cash flows, reduce leverage and position USA Compression for long-term success.

We will continue to improve internal operational efficiency convert idle units to active status at attractive returns, pursue pricing improvements and strive to maximize return on growth capital through opportunistic purchasing of equipment. As we said last quarter, we believe this strategy will allow us to maintain operational and financial flexibility to weather any storms created by current geopolitical or economic headwinds. Before turning the call over to Eric Scheller to discuss first quarter results, I would like to make a few comments regarding safety. The most important thing we do is to ensure that our employees, contractors and customers return home safely each day. We are extremely proud of our tireless focus on safety that has resulted in a total recordable incident rate of zero during the first quarter.

I’m very proud of this accomplishment and thank every USA Compression employee for their commitment and strict adherence to our safety policies and procedures. With that, I will turn the call over to Eric Scheller, our COO, to discuss our first quarter highlights.

Eric Scheller: Thanks, Eric, and good morning all. As Eric noted, we were pleased to deliver our unit holders another excellent quarter of strong results. In addition to the record results Eric mentioned, we deployed approximately 63,000 additional horsepower during the quarter as we continue to deploy large horsepower units into the field. As we mentioned last quarter, we are securing contracts with extended tenure and enhanced pricing that we think generates strong, stable base load cash flows, while providing opportunistic upside as market conditions evolve. Our revenue growth trend continued and was driven primarily by increasing utilization, existing the quarter at an all-time high of 95% and pricing improvement also at an all-time high averaging $19.96 for the first quarter.

Our revenue increased 2% sequential quarters and 16% compared to the year ago period. The first quarter also saw our sector-leading margins over 67%, in line with historical averages since our initial public offering reflecting the stability of our steady determination to offset increased inflationary costs through both productivity improvements and contractual pass-through pricing adjustments, which we expect to continue supporting our margins in line with our current levels, should inflation remain high or increase in the near-term. Regarding financial results, our first quarter 2024 net income was $23.6 million. Operating income was $66.9 million. Net cash provided by operating activities was $65.9 million and cash interest expense net was $44.7 million.

Cash interest expense increased by approximately $1.7 million on a sequential quarter basis, primarily due to higher average outstanding borrowings. However, higher cash interest expense was mitigated by $2.4 million of cash payments received under our $700 million notional principal, fixed rate, interest rate swap, which locks in 30 days SOFR until December 2025 at 3.9725% compared to current 30-day SOFR that exceeds 5.25%. Under our current leverage ratio, this resulted in an interest rate at 6.47% on $700 million of our credit facility borrowings. Turning to operational results. Our total fleet horsepower at the end of the quarter increased by 2% to approximately 3.8 million horsepower, as we accepted delivery of 47,500 horsepower of new large horsepower units during the quarter.

Our revenue generating horsepower increased by 2% on a sequential quarter basis, primarily due to the addition of these new large horsepower units, as we had secured customer contracts prior to the delivery of the new units. First quarter 2024 expansion capital expenditures were $104.8 million and our maintenance capital expenditures were $5.8 million. Expansion capital spending continues to consist of reconfiguration and make ready of idle units along with the aforementioned delivery of 47,500 horsepower of new large horsepower units and the opportunistic acquisition of other large horsepower units in the market. We accept the delivery of an additional 5000 horsepower of new large horsepower units during April, which completed the remainder of our late 2022 order.

We also expect additional and ongoing conversion of current fleet idle units to active status and throughout the remainder of 2024, we anticipate the deployment of between 85,000 and 115,000 horsepower of existing uncontracted fleet assets at capital costs substantially below those of new organic growth equipment builds. Finally, I am pleased to share that on May 3, we made our 45th consecutive quarterly distribution payment. The $0.525 per unit distribution was flat to previous quarter’s distribution. And with that I’ll turn the call back to Eric Long for concluding remarks.

Eric Long: Thank you, Eric. We are extremely proud of our first quarter results and the progress we have made in a mere four months on the optimization of our capital structure. While we remain bullish on the long-term prospects of the natural gas industry, we are all facing some general economic and political uncertainty in the near-term. We believe we are well positioned to weather this uncertainty, continue improving our financial metrics and opportunistically address our capital structure over time. Once we have addressed our capital structure, we will then be in a better position to consider future potential distribution policy changes. To conclude, we are extremely please with our first quarter 2024 results, highlighted again by record quarterly revenues, adjusted EBITDA, distributable cash flow and utilization. We expect to file our Form 10-Q with the SEC as early as this afternoon. And with that, we will open the call to questions.

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Q&A Session

Operator: We will now begin the question-and-answer session [Operator Instructions] Your first question comes from the line of Jim Rollyson of Raymond James. Please go ahead.

Jim Rollyson: Hey, good morning, Eric and Eric.

Eric Long: Good morning, Jim

Eric Scheller: Good morning, Jim. How are you doing?

Jim Rollyson: I am doing, all right. Eric, Just if you kind of take a step back from the kind of short-term caution you provided, it seems like the outlook as we go into next year and frankly the next few years on the gas side, driven by LNG that we’ve all read about in some of the data center growth from AI and impact there on electric demand and gas, bodes well for this cycle to play out over a period of time. And I’m curious given the planning cycles that you all need with lead times and all that. I realize this year you’ve taken a step back from just new units and focusing on some of the internal fleet upgrades and bring it back. But curious just how your conversations with customers are going. And plan how far out are they planning and just maybe how you’re thinking about visibility going out here over the next handful of years?

Eric Long: Jim, all great questions. Obviously, I appreciate you’re digging into our industry. You’ve recently published some research which by the way I think some of the best I’ve seen in a long time with the deep dive that you’ve done. The fundamentals of the compression industry are probably the best they’ve been in the last two decades. If you think about when we formed USA Compression 25 years ago, domestically, we produced and consumed little over 50 Bcf of gas a day. And today, we’re north of 100 Bcf with permitted and under construction LNG facilities we’re going to see a substantial increase in the next two or three or four years related to demand increases for natural gas, the electrification drive, the decarbonization drive has legs.

And I don’t think people fully appreciate the magnitude of how far behind the electric grid is, what has to happen to stabilize the grid and expand the grid. As we all know, when the wind doesn’t blow, and the sun doesn’t shine at night, the renewable sources of electric generation don’t make electricity. Backup batteries are extremely expensive at the industrial and the utility scale. We’ve had a meeting with the Chairman of the Public Utility Commission recently in Texas, who indicated that looking at peaking gas plants versus looking at using battery backups for some of the renewables, but the renewables with batteries are 10 times the cost of a conventional gas peaking type of unit. So when the light bulb comes on to the people of the State of Texas as an example, or other states across the U.S., this is going to be an extremely costly effort to expand the grid, to stabilize the grid.

And that’s now you’re at the point in time of starting to bring on AI data centers, which have massive more electrical requirements and a conventional file server type data center or even midpoint mining or whatever it may be, continued population growth, warming of the environment, meaning more air conditioning load, it just goes on and on and on and on. So natural gas compression will fit in the middle of feeding gas in the pipeline to get into LNG facilities, feeding gas in the pipelines that will end up getting into facilities to provide and create electricity, we’re getting a lot of legs. The reason we’re a little on the conservative side right now cautious is more the uncertainty coming out of Washington right now. We have two very, very different approaches to how you deal with the electrification that’s required in the grid.

We’ve got very different approaches between the two dominant parties in Congress right now relating environmental cleanup and environmental perspective going forward. The U.S. is a large provider of energy. Are we going to provide energy to our allies to help deal with geopolitical risk? There’s a lot of things that are going on. So we want to be cautious and not commit hundreds of millions of dollars to equipment with the stroke of a pen, could have significant regulatory risk. We’d rather let kind of the decks clear a little bit, continue to focus on our internal efforts on long-term modification of our fleet assets to dual drive, to looking at distributed generation opportunities, utilizing our existing assets. So we’re trying to optimize our as is case into the IIb case when we have regulatory certainty and we’ve got some clarity of the economy and the markets, et cetera.

So simplistically, go back on your question, I think the fundamentals of compression as I noted, are probably the best I’ve seen them in two decades. There are ancillary activities that will come off of that. As far as forward visibility with our customers, we’re already talking about 2025 activities. As we all know, there is a lot of integration going on with major acquisitions and consolidations of the upstream industry. So people are starting to rationalize their acreage holdings, rationalize their drilling and developmental plans over the coming year or two or three. Exxon and Pioneer just got their deal approved by the DoJ last week. So as these things are promulgated and processed, people will start to get better clarity and until these things clear regulatory oversight, that’s a little bit of a jump ball right now.

So, a little bit of caution. I’d say, our industry has tailwinds, but in — we have always been believers and unless there’s a very clear-cut path and course of action, let’s wait a quarter or two or three and just see what the market place holds and stores for us. So I think right now, we’ve got firm hand on the tiller. You got a little bit of choppy seas. We’re just trying to weather through a little bit of a storm, but we see very clear sailing ahead of us.

Jim Rollyson: That’s very helpful and thank you for the detail commentary. Maybe circling just back to the balance sheet. You said a lot of things. Obviously, you guys made the move on refi-ing and congrats on that. It was certainly a good print on the coupon. From a going-forward perspective, we think about — obviously, you mentioned at some point, you tackle the 2027, which I presume is going to be opportunistically driven based on the markets. But kind of bigger picture with where the balance sheet is today, the leverage is today, maybe remind us just where you want leverage to go? And kind of where does that need to be either leverage or distribution coverage or maybe a combination of both, before you would actually think about doing something on distributions here down the road?

Eric Long: Again, great questions, Jim. And these are things we have discussions with our board with routinely. Keep in mind that USA never cut our distribution. You look at the now pushing $2 billion that we have distributed back to our unitholders since going public in 2013. We’re one of the few who chose not to cut the distribution. I still believe that if you’re going to be an MLP, distribution is one of the — should be sacrosanct. And before you cut a distribution, you need to have exhausted each and every other alternative that you had. So before we induce then an increase in distribution, we want to make sure that going forward regardless of volatility in the cycle that we will be able to maintain and the increased level of distribution over time.

So you can see we’re building our distribution coverage to the lower 1/4, 1/5 range coming up. We think that that will continue to improve. You look at our leverage which right now is running in the 4x or so range. We do have a different — somewhat different definition for our ABL purpose versus the way some other people look at your all-in balance sheet. And I think that this conversion of our preferred to common units over time continues to simplify and get the convergence of kind of how people look at the balance sheet with and without the prep as total leverage coming down. So we’re going to get the leverage down. This conversion of the prep to common goes a long way to getting that accomplished. Slowing the growth like we’ve been doing allows us to continue to reduce our leverage ratio.

Yes, the absolute leverage has picked up a little bit, but think again to what we pointed to on our cost of capital. Our debt capital blended basis was 684, 686 something along that line. We’re constructing and deploying new assets or rebuilding used assets and costs that — and returns that give us upper double digits, low 20% unlevered IRRs. So to the extent we can borrow money for sub-7% and deploy it into returns in the 20% and make 1300 basis point type of returns. It seems like that is a pretty good way to create shareholder value. So it’s the balancing act Jim between absolute level of leverage. We as a private company ran substantially higher levels of debt and leverage. I am a believer that this industry and USA Compression in particular can readily support leverage in that 4.0x zip code range.

Do we see ourselves wandering down a little bit below that potentially? Do we see at certain points of the cycle when things are a little bit tighter and utilization declines particularly with folks in the industry can focus on smaller wellhead equipment. It’s a little more volatility, a little bit higher beta your leverage ticks up. So I think a good range long term is to look somewhere between 3.75% and 4.25% or so across different types of cycles. We’re never going to be a 2x levered company. We’re never going to be a 1x levered company, but we don’t need to be because we are much more stable than industries that have lower leverage like an oilfield service company or like an upstream company who have different financial drivers and economic drivers than we do as a midstream company with take-or-pay demand type of contracts with deminimis commodity risk.

Jim Rollyson: Got it. That’s helpful. I’ll get back in the queue. Appreciate it.

Eric Long: Thank you.

Operator: Your next question comes from the line of Brian DiRubbio of Baird. Please go ahead.

Brian DiRubbio: Good morning. Just was hoping a couple of follow-up questions. Can you let us know what you think CapEx spend is going to be this year in full?

Eric Long: Yes, sir. So CapEx being growth CapEx being growth and maintenance CapEx…

Brian DiRubbio: Growth and maintenance.

Eric D. Long: Growth and maintenance combine CapEx.