TETRA Technologies (TTI) Q2 2020 Earnings Call Transcript

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TETRA Technologies (NYSE: TTI)
Q2 2020 Earnings Call
Aug 04, 2020, 9:30 a.m. ET


  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:


Good day and welcome to the TETRA Technologies, Incorporated second-quarter 2020 results conference call. [Operator instructions] Please note, this event is being recorded. I would now like to turn the conference over to Jacek Mucha. Please go ahead.

Jacek Mucha -- Treasurer and Vice President, Finance

Thank you, Ian. Good morning and thank you for joining TETRA's second-quarter 2020 results call. I would 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 analysis made by TETRA and are under -- 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 company. You are cautioned that such statements are not guarantees of future performance and that the 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, adjusted EBITDA gross margins, adjusted free cash flow, distributable cash flow, distribution coverage ratio, leverage ratio or other non-GAAP financial measures. Please refer to this morning's press release or to our public website for reconciliation of non-GAAP financial measures to the nearest GAAP measures.

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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 is planned to be filed with the SEC on or before Wednesday, August 5, 2020. With that, I will now turn it over to Brady.

Brady Murphy -- President and Chief Executive Officer

Thank you, Jacek. Good morning, everyone, and thank you for joining TETRA's second-quarter 2020 earnings call. I'll give a recap of our second quarter performance and market environment, and then turn it over to Elijio to provide information on the balance sheet, cash flow, and liquidity. First, I want to recognize the exceptional dedication and performance from our employees and management team for a job very well done in one of the most challenging quarters our industry has ever seen due to COVID-19.

We are thankful that the few employees that have been directly impacted by the virus have recovered or are recovering well, and that we have not had any situations where we could not service or deliver our customers' requirements. The board and I are really proud of what our employees and management team are accomplishing in this extraordinary environment. Turning to our results for the second quarter, we were able to deliver strong financial results despite the historical decline in drilling and completion activity. With U.S.

land rig activity down 64% to the lowest level on record, international rig activity down 26%, and active frac crews dropping at a record pace. Our second quarter revenue was only down 14% from the first quarter. When oil prices dropped in early March, we knew we were going to have to move quickly and decisively to reduce costs, accelerate some of our strategies, and get ahead of our customers' activity declines. We took on desired but necessary actions through staff reductions, furloughs, and adjustments to salaries and benefits while also reducing third-party costs and securing concessions from our suppliers.

In parallel to field staff and the cost reductions, we also made deep cuts in our corporate and overhead cost structure. This has streamlined our decision-making and much of this cost will not return when the market does recover. Early in the quarter, we made the decision to close our Midland Compression fab plant and idle our chemical processing plant in El Dorado, Arkansas, two of our long-standing plants. While doing so, we also accelerated our focus on technology and automation, which greatly contributed to our financial results.

The combination of aggressive cost management, accelerating our focus on automation and technology, and pulling on our diverse business mix, including strong high-end offshore completions fluids business and industrial chemicals business, and a strong customer base for each of our business segments, all led to an improvement by 100 basis points in our adjusted EBITDA margins compared to a year ago. TETRA only generated $31 million of free cash flow in the quarter, which was $26 million higher than the first quarter. In the first half of the year, we've been able to generate over $35 million of free cash flow, an improvement of $68 million compared to the first half of last year. We've improved our liquidity and ended the quarter with $50 million of cash at the TETRA level and liquidity at almost $90 million.

At the business segment level, our completion fluids & product business continues to perform at an exceptional level, exceeding by a wide margin, our 20% adjusted EBITDA target for the fifth consecutive quarter. With adjusted EBITDA margins of 25.7%, we improved our year-on-year adjusted EBITDA margins for this business by 320 basis points. For the quarter, we've benefited from our industrial chemicals business, which outperformed the second quarter of last year in both revenue and EBITDA margins and saw a little impact from the COVID-19 pandemic. The industrial chemicals markets continues to perform well during this downturn as it made up approximately half of the second-quarter revenue for this business segment, aided by our seasonal European business, which recorded our highest EBITDA in five years.

Over a full year, we expect about 40% of the segment revenue to come from our industrials business. As previously mentioned, we idled our plant in El Dorado, Arkansas and shifted production to our other lower-cost facilities. The shutdown and transition of production and our associated customer demand to other plants has been completed. The revenue from this segment will not be impacted by this closure as we've transitioned all of our product to other plants at better margins.

On the oil and gas side, increased offshore revenues in the Gulf of Mexico helped to offset the decrease in activity some of our domestic onshore business. During the quarter, our international completion fluid business was awarded a large sale for a major national oil company in the Middle East, a market that is increasingly relying on higher density, higher value fluids. Our CS Neptune pipeline continues to progress with the opportunities we've previously mentioned still ahead of us. We have line of sight to several projects that have the possibility of materializing before year-end, but clearly, the current market environment may delay these projects as customers reassess their plans.

The Water & Flowback Services second-quarter revenue decreased 57% sequentially, mainly due to the unprecedented decline in U.S. completion activity with active frac fleets down approximately 80% from Q1. The actions that we implemented to align the business with this historical decline in activity has proven to be effective as we ended the quarter with a positive adjusted EBITDA of $400,000 despite incurring $700,000 of bad debt expense. Without the bad debt, we would have been over $1 million of adjusted EBITDA profit [Inaudible].

Our integrated projects decreased from 23 and 15 different customers at the end of the first quarter to 16 integrated projects from 14 different customers at the end of the second quarter. And we believe this demonstrates our market share gains while introducing our integrated water management offering and latest technology to new customers. Our automation solution, BlueLinx is now deployed in all of our integrated projects. Our latest de-sanding flowback technology, SandStorm continues to maintain high levels of utilization, and we continue to have more inquiries for this equipment from our customers.

While we see some increase in the number of frac crews coming back in Q3, the timing is still uncertain and the increase is coming from such a low base number that we can expect Q3 to be relatively flat with Q2. We will align -- we continue to align this business with market activity by continuing to be aggressive with cutting costs, working to increase adoption of our technology and on automation, and delivering best-in-class service. Our objective is to keep this segment EBITDA positive throughout this cycle and be well positioned when the recovery comes. Moving on to our compression business.

Revenue increased, sequentially, 7% to $96 million, driven by an increase of equipment sales as we completed a significant amount of new equipment deliveries from our backlog. Second-quarter adjusted EBITDA of $26.4 million was up $400,000 from the first quarter. Compression services costs were reduced by 20% from the first quarter, compared to a 14% sequential decline in compression services revenue and a decline in the utilization from 86.5% to 82.1%. Due to the swift actions by our management team to aggressively reduce cost, Compression services margins increased 300 basis points from the first quarter to 54.9%, which is the highest gross margins in CSI Compressco's history.

Approximately 15% of our total domestic horsepower is on standby during the quarter as customers shut-in production given the low commodity prices. The majority of our remaining units that are on standby are with our two largest customers, both supermajors, which have the balance sheet to maintain shut-in production until crude prices improve. One of those two customers has brought back their standby units into operation effective August 1st, which will have a meaningful impact on reducing our units on standby going forward. Aftermarket services revenue declined 12% from the first quarter, gross margins improved 500 basis points, sequentially due to reduced cost and favorable mix.

We closed our fabrication operations in July and sold the real estate buildings in July for $17 million of gross proceeds. As we move into the third quarter, the macro environment remains fluid as the impact of COVID-19 to the economy and demand and supply dynamics for crude oil continues to be unpredictable. Although OPEC+ actions and declining U.S. production have moved supply and demand and balance quite quickly, it is difficult to predict how long it will take to work off the inventory overhang.

We don't expect the activity to increase in the U.S. or international in a material way for the rest of this year. The outlook beyond this year will largely depend on the outcome of fighting the COVID-19 virus and its impact on global economies. We've been proactive in implementing cost reductions across the company and remain committed to revising our cost structure as required based on the market look -- outlook.

Overall, we've had a strong quarter. We managed to generate $31 million in free cash flow and improve our year-over adjusted EBITDA margins in a challenging -- our year-over-year adjusted EBITDA margins in a challenging environment. Our strategies, technologies, and industry diversity continue to position the company to navigate this crisis and come through in a stronger position than ever. During these continued difficult times, our strategies to stay aligned with our core customers continue to showcase our differentiated technology, more effectively utilize the equipment and personnel, exploit our industrials chemicals business, improve our margins, and work with customers the creditworthy balance sheet.

With that, I'll turn it over to Elijio to provide some financial comments on cash flow and the balance sheet, and then we'll open it up for questions.

Elijio Serrano -- Chief Financial Officer and Senior Vice President

Thank you, Brady. Good morning, everybody. In the second quarter, we incurred $18.1 million of nonrecurring charges, of which $15.7 million was for CSI Compressco and $2.3 million were for TETRA. These charges included noncash charges of $9 million to write-off final compression assets and related inventory, $4.8 million of expenses from the recently completed bond exchange for CSI Compressco, and $4.3 million mainly for severance and other costs associated with rightsizing the organization.

I'm going to spend a couple of minutes on TETRA's balance sheet and capital structure now. Brady mentioned that we generated $31 million of free cash flow on a TETRA-only basis. This was achieved despite the incurrence of severance and restructuring-related costs. Also in the period where many operators are struggling financially, we were able to collect significant amount of receivables to materially improve working capital.

Our water management and flowback segment incurred approximately $700,000 of bad debt expense in the second quarter that we did not normalize for. TETRA-only adjusted EBITDA without any of the impact of CSI Compressco was $9 million in the second quarter. TETRA-only capital expenditures in the second quarter were $2.2 million. TETRA-only interest expense runs about $4 million per quarter, and TETRA-only cash taxes were on about $1 million per quarter.

So even in the worst quarter in recent history, TETRA on a stand-alone basis was able to generate enough EBITDA to cover capital expenditures, interest expense, cash taxes and remain cash flow positive in this period. We expect TETRA-only capital expenditures to be between $10 million and $15 million for the full year, which is unchanged from our prior guidance. We will continue to monitor and adjust our capital spending based on current market conditions. We expect the second half capital expenditures to be minimal and will be primarily for maintenance capital and to accelerate introduction of new technologies such as the SandStorm.

TETRA-only liquidity at the end of the second quarter improved approximately $29 million from the end of the first quarter, positioning the company to manage well into this downturn. TETRA-only liquidity is defined as unrestricted cash on hand plus availability on our revolving credit facility. We believe our cost structure and ample liquidity provide a very long runway to sustain any potential prolonged downturn. TETRA-only net debt at the end of June was $156 million with our cash on hand of $50 million.

This is an improvement from $156 million at the end -- to $156 million versus $185 million at the end of the first quarter. Our $221 million term loan is not due until August 2025, and our $100 million asset-based revolver has a current borrowing base of approximately $40 million. It does not mature until September of 2023. The only significant maintenance covenant we have to comply with is a onetime interest coverage ratio on the term loan.

At the end of June, our interest coverage ratio was 3.9 times. Annual interest expense on this term loan is approximately $16 million per year. We believe we have ample liquidity to manage through this downturn. And as always, I'd like to again remind everyone that TETRA and CSI Compressco's debt are distinct and separate.

There are no cross defaults, no cross guarantees on the debt between TETRA and CSI Compressco. I'll cover now a couple of minutes on CSI Compressco's balance sheet. During the quarter, CSI Compressco generated $4.8 million of cash from operating activities. In the first half of the year, CSI Compressco generated $18 million of cash from operating activities and $10.6 million of free cash flow.

CSI Compressco ended the quarter with $6-point million of cash, up from $2.4 million at the beginning of the year. The outstanding balance on the ABL revolver for CSI Compressco was only $1.5 million. Distributable cash flow was $8.4 million in the second quarter for CSI Compressco. In the first half of the year, distributable cash flow is $17.1 million.

On an annualized basis, DCF would be $34 million or approximately $0.71 per unit. This compares to the unit price at the close business yesterday for CSI Compressco of $1.05. This is not a bad yield. On June 11, CSI Compressco announced a successful exchange of unsecured bonds for secured bonds.

$215 million of unsecured bonds within August 2022 maturity or exchange for bonds with maturities of 2025 and 2026. As part of the process, $9 million of debt was eliminated. Their near-term maturities are now only $81 million due this August 2022 and all the other bonds are due in 2025 or 2026. After this exchange and given the current market condition, CSI Compressco's mandatory cash flow on an annualized basis are approximately $75 million, including approximately $48 million of cash interest expense, $20 million of maintenance capital expenditures and $5 million for cash taxes and lease payments.

This compares to our second-quarter adjusted EBITDA of $26 million. We are comfortable that CSI Compressco is nicely prepared to manage through this downturn and the reduction in spending by the industry. Our strategy to address the $81 million of August maturities is to accumulate $10 million to $25 million in cash between now and August of next year to repay a portion of the $81 million and to refinance the balance. We believe that given our financial performance and the actions we are taking to manage costs and to create liquidity that we will find partners for this refinancing.

In the second quarter, CSI Compressco initiated a series of actions to monetize assets. These actions are expected to generate $26 million of cash flow from the sale of idle or underperforming assets. We will continue to evaluate all the assets in CSI Compressco's fleet and those assets that might not generate the returns, and the consistency of earnings will be target for monetization to create additional liquidity. CSI Compressco's net leverage ratio was 5.1 times at the end of the second quarter, down from a high of seven times at the end of Q2 2018.

And as a reminder, none of the outstanding bonds have any maintenance covenants for CSI Compressco. Both TETRA and CSI Compressco had solid second-quarter results. CSI Compressco completed a bond exchange that pushed out a significant amount of near-term maturities and is in the process of generating significant incremental liquidity to begin -- to further improve the balance sheet. We like where we are given the market environment.

I encourage you to read our news release from this morning and CSI Compressco's news release from yesterday for all the supporting details and additional financial and operational metrics. Ian, with that, we'll now open the call for questions.

Questions & Answers:


[Operator instructions] Our first question today comes from Stephen Gengaro of Stifel. Please proceed.

Stephen Gengaro -- Stifel Financial Corp. -- Analyst

Thanks. Good morning, everybody.

Brady Murphy -- President and Chief Executive Officer

Good morning.

Stephen Gengaro -- Stifel Financial Corp. -- Analyst

Can you -- I guess a couple of things, but can you start with -- if we think about the the completion fluids & products business in the quarter and sort of how we should think about the path to the third and fourth quarters as far as what's going on with activity in the U.S. offset by the European business, which I think you mentioned had the best quarter since 2Q '15 in the second quarter? And how that -- what kind of decremental margins we should think about as well?

Elijio Serrano -- Senior Vice President and Chief Financial Officer

So, Stephen, good question. As you and everybody realized, our second quarter is our peak seasonal activity in our European business, and those margins are not much different than the overall segment margins. So I think that the transition from Q2 to Q3, and potentially Q4, will continue to leave us with EBITDA margins for this segment in the 20s. We have now a significant trend of consistent performance being in the mid-20s.

Brady mentioned that we have picked up a significant asset product sales to go into the Middle East in the second half of the year. And I think that will benefit us and offset some of the decline that we'll see from the seasonal drop in TCE. So all the data points that we have tell us that our margins will continue to run in the mid to low 20s.

Brady Murphy -- President and Chief Executive Officer

Yes. Stephen, I'll just add a little bit to that. As you're probably aware, outside of the European seasonal peak that we see in Q2, most of our oil and gas revenue comes from the offshore piece of the business. And not so much on the U.S.

-- not affected by the U.S. land decline. That business has actually held up very well from us. We talked before about some of the major awards that we had this -- at the end of last year, at the beginning of this year.

We continue with that success with a major award in the Middle East. And so our outlook for our completion fluids business really has not changed much in this environment.

Stephen Gengaro -- Stifel Financial Corp. -- Analyst

Great. And is that Middle East product sale a third or fourth quarter event or do we not know yet?

Brady Murphy -- President and Chief Executive Officer

It will go across both quarters.

Stephen Gengaro -- Stifel Financial Corp. -- Analyst

OK. Thank you. And then just as a follow-up, I mean across the oil service world, we're seeing a lot of working capital liquidation and you guys did a really good job in the second quarter and TETRA-only free cash flow was very strong. Elijio, how should we think about working capital in the second half of the year?

Elijio Serrano -- Chief Financial Officer and Senior Vice President

So let me emphasize one data point that I made in my script to make sure that the investment community really absorbs it. TETRA, even without monetizing all the working capital, the EBITDA, the TETRA-only generated covered interest expense, maintenance capital expenditures, growth capital expenditures, cash taxes, I think that's a significant accomplishment that others in the industry will not be able to pound their shift that they accomplish the same. Now you're right, we monetized a lot of receivables. As activity slowed down and didn't ramp up, I would hope that there's a balance in activity and we start to build receivables, and then the opportunity to monetize incremental working capital is minimal.

If we stay flat from today's run rate, I think we remain slightly cash flow positive. And if we see a big ramp up, like I mentioned, then there's a scenario to where we will burn a little bit of working capital rebuilding the receivables. If things further deteriorate, we will continue to monetize working capital. We think that we've seen a bottoming out in the second quarter.

And given some of the wins that Brady mentioned that we got slightly positive momentum going into the second half of the year to where the amount of cash coming from working capital will be minimal.

Stephen Gengaro -- Stifel Financial Corp. -- Analyst

Great. Thank you.


[Operator instructions] At this time, we have no further questions. I'll now turn the conference back over to Brady Murphy for any closing remarks.

Brady Murphy -- President and Chief Executive Officer

OK. Thank you, Ian. We appreciate your interest in TETRA Technologies, and thank you for taking the time to join us this morning. This will conclude our call.


[Operator signoff]

Duration: 25 minutes

Call participants:

Jacek Mucha -- Treasurer and Vice President, Finance

Brady Murphy -- President and Chief Executive Officer

Elijio Serrano -- Chief Financial Officer and Senior Vice President

Stephen Gengaro -- Stifel Financial Corp. -- Analyst

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