Good morning. My name is Sam, and I will be your conference operator today. At this time, I would like to welcome everyone to the DistributionNOW Third Quarter 2022 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. Mr. Brad Wise, Vice President of Digital Strategy and Investor Relations, you may begin your conference.

Well, good morning. Thank you, Sam, and good morning everyone and welcome to NOW Inc.'s third quarter 2022 earnings conference call. We appreciate you joining us, and thank you for your interest in NOW Inc. With me today is David Cherechinsky, President and Chief Executive Officer; and Mark Johnson, Senior Vice President and Chief Financial Officer. We operate primarily under the DistributionNOW and DNOW brands, and you'll hear us refer to DistributionNOW and DNOW, which is our New York stock exchange ticker symbol, during our conversation this morning. Please note that some of the statements we make during this call, including the responses to your questions, may contain forecasts, projections and estimates, including, but not limited to, comments about the outlook of the company's business. These are forward-looking statements within the meaning of the U.S. federal securities laws based on limited information as of today, which is subject to change. They are subject to risks and uncertainties, and actual results may differ materially. No one should assume that these forward-looking statements remain valid later in the quarter or later in the year. We do not undertake any obligation to publicly update or revise any forward-looking statements for any reason. In addition, this conference call contains time-sensitive information that reflects management's best judgment at the time of the live call. I refer you to the latest forms 10-K and 10-Q that NOW Inc. has on file with the U.S. Securities and Exchange Commission for a more detailed discussion of the major risk factors affecting our business. Further information as well as supplemental financial and operating information may be found within our earnings release or on our website at ir.dnow.com or in our filings with the SEC. In an effort to provide investors with additional information relative to our results as determined by U.S. GAAP, you'll note that we also disclose various non-GAAP financial measures, including EBITDA, excluding other costs, sometimes referred to as EBITDA, net income attributable to NOW Inc., excluding other costs and diluted earnings per share attributable to NOW Inc., excluding other costs. Each excludes the impact of certain other costs and, therefore, have not been calculated in accordance with GAAP. Please refer to a reconciliation on each of these non-GAAP financial measures to its most comparable GAAP financial measure in the supplemental information available at the end of our earnings release. As of this morning, the investor relations section of our website contains a presentation covering our results and key takeaways for the third quarter. A replay of today's call will be available on the site for the next 30-days. We plan to file our third quarter 2022 form 10-Q today and will also be available on our website. Now let me turn the call over to Dave.

Thanks, Brad. Good morning, everyone, and thank you for joining us. The third quarter 2022 represents the culmination of three years of planning and preparation, patience and performance by the people of DNOW, the people who inspire one another to win the market with a disciplined focus on delighting the customer. The DNOW of today is not about being everything to everyone. That's costly, unfocused and you diminish and dilute everything you do. We're about finding where the solutions and the strengths we cultivate intersect with where the customer finds value. I'm amazed by the achievements we produced in the third quarter and for what we'll deliver for the full-year 2022, but I'm not surprised, as we today have a strong focus on discipline and by holding each other accountable to produce results otherwise unobtainable. Thank you to the women and men of DNOW for your intelligence and experience, your loyalty, innovations and attitude around having fun, winning and positively impacting our customers and communities. This quarter, we delivered strong performance across our key metrics, including free cash flow generation, revenue growth, EBITDA margin expansion and capital return to shareholders. I am pleased with this continued execution as we further expanded gross margins and EBITDA margins to new levels. Revenues in the third quarter of 2022 improved 7% sequentially, beating our guide and were 31% higher when compared to the same quarter in the prior year. Our gross margins were 24.1%, a 40 basis point sequential improvement, supported by lower inventory charges, healthy project product margins, aided by continued inflationary tailwinds, coupled with our high-grading strategy that focuses on applying our resources where the customers see value. Warehousing, selling and administrative expense, or WSA, increased as expected in the quarter, ensuring our customers engage with the best professionals in the…

Thank you, Dave, and good morning, everyone. I want to start by highlighting the format on some of our financial statements have expanded this quarter as we account for the activity under our inaugural share repurchase program we announced in August, and as we account for the non-controlling interest of a joint venture in our international segment, which we consolidate into our financials as we are the primary beneficiary and controlling member, recognizing $1 million in noncontrolling interest in the quarter. Total third quarter, 2022 revenue was $577 million, a 7% increase or $38 million in growth over second quarter of 2022, despite a $4 million foreign currency headwind. On a year-over-year basis, we saw a strong third quarter, 2022 performance, spearheaded by revenue growth of $138 million or 31%. EBITDA profitability expanded to 9.2% or $53 million for the quarter, over 3 times what it was one year ago on solid operational execution and increased gross margins. The U.S. revenue for the third quarter, 2022 was $435 million, up 7% or $27 million sequentially and up $123 million or 39% year-over-year on continued strengthening rig count, persistent depletion of DUC inventory and increased completion activity. Our U.S. energy centers contributed approximately 77% of total U.S. revenues in the third quarter, with our U.S. process solutions contributing the other 23%. Turning to Canada, for the third quarter, revenue was $86 million, up $14 million or 19% from the second quarter of 2022, with an increase in project activity and several customers moving up deliveries to the third quarter that were originally planned for the fourth. Compared to the third quarter of 2021, Canada's revenue increased $18 million or 26% year-over-year. International revenue in the third quarter of 2022 was $56 million, down $3 million from the second quarter, primarily driven…

Thank you, Mark. And now turning to our outlook. For the fourth quarter, we expect customer spending to slow down, primarily due to holidays in November and December and secondarily to customer budget exhaustion. As such, Q4 2022 revenues are forecast to decline sequentially in the mid to high single-digit percentage range, especially given the robustness of the third quarter purchasing in preparation for year-end and amid the seasonal impacts described above. We are expecting 2022 to become our highest revenue growth percentage increase year, approximating 30%, with our strongest EBITDA percent year ever. With full-year 2020 EBITDA forecast to increase nearly $120 million, when compared to the full-year 2021 EBITDA, due to revenue growth, stronger gross margins and a more efficient fulfillment model. And we expect full-year 2022 to generate positive free cash flow even with much higher revenues than expected. I'm excited about 2023, where we see continued capital discipline from our customers, resulting in a measured improvement in rig count in the U.S. and Canada. I'm also optimistic about our international business, where I see a more rational approach to energy security that will lead to more investment in domestic oil and gas sources combined with renewables and imported LNG. So we expect our international segment to grow next year under more favorable market conditions. The success of the past three years can be attributed to the ethos of DNOW, an inspired organization that is dedicated to delighting the customer and winning the market. We pride ourselves on being the critical connector for our customers, delivering essential products, innovation and differentiated solutions, a culture where employees not only show up for our customers each and every day, but for each other and our communities. I'd like to thank the several hundred DistributionNOW employees listening this morning. Everything you do to delight our customers and everything you do to distinguish DNOW from the competition is represented in the news we're presenting to our shareholders today. You, by engaging your customer and providing solutions to their operational challenges, focusing on value and values, not transactions produce these impressive results. With that, let's open the call for questions.

Thank you. [Operator Instructions] Our first question today comes from the line of Nathan Jones with Stifel. Nathan, your line is open.

Good morning, everyone.

Good morning, Nathan.

I'm going to ask the question, I don't know whether you'll answer it or not. Do you have any kind of framework outlook for 2023 that you're thinking about that you can share with us what your customers are telling about their investment plans for 2023? Or just any more color you can give us on how you're thinking that will go?

Well, of course, we've begun kind of a scenario planning for 2023. We haven't begun to construct a budget, and we're not guiding yet. But what we're seeing in terms of current levels of rig counts, completions, the kind of anecdotal feedback from customers is that the markets in our view right now is going to expand 7% to 10%. At least that's kind of our placeholder range as we plan for inventory levels, talent acquisition, et cetera. So, the rate of growth next year won't be like it was in 2022, but we expect the market to get better, but at a lower level of increase, compared to 2022.

That's helpful. Dave, I think for the last, I don't know how many quarters in a row now, you've been telling us that gross margins are probably going to go down sequentially in the next quarter and every quarter, they keep going up. Maybe you can just talk a little bit more about the inputs to that, that are keeping gross margins up at these levels, you should be starting to see some compression from line pipe pricing, I would assume, so there must be some other offsets in there. Just talk about the dynamics that are keeping margins at those levels and what you think is kind of a sustainable gross margin level.

Okay. That's a fair question Nate, so let me start here. We've grown our business 30% this year, or we're forecasting that for the full-year. We have about 35 fewer employees than we did a year ago. Part of that is because it's hard to find folks in a stressed market like this. But part of that’s because we're focused on growing the business and applying our limited resources where the value is most perceived by our customers. And while pipe prices have plateaued and the cost of replacement pipe in our inventory is growing, and we do expect contraction for steel pipe and saw it in the third quarter, all the efforts that we take to high-grade our business, the recent acquisitions we did, which had higher gross margins, for example, the businesses we sold over the last few years, all of that works to really hone in on activities that the customer sees more valuable than the alternatives. And the alternatives are some of the competition, who favor transactions and pursue revenues sometimes to the detriment of the balance sheet and sometimes to the detriment of the bottom line. But I think high grading has been our best friend there. Yes, I've been wrong in terms of forecasting some topping off of gross margins, I'm happy to have been wrong about that, but as the numbers solidify, especially in the pipe area, I think I'll be more accurate in terms of some subtle contraction in gross margins. But I’ll tell you, our folks working very closely with customers on a relationship basis, not a transaction basis, our people focused on improving the product mix, so there's market pricing and there's margins per product line, and then there's focusing on the right products and changing your mix to maximize gross margins, that's become an art that we're really getting good at as a company. So that's been somewhat of a hedge over the expected pipe contraction, which I think is happening now and will continue over the coming quarters.

Maybe just a comment on how far through that process you are? Because I'm sure there's still a wide variety and a wide mix of margins of products that you sell and there's probably some products that you sell that customers don't see that much value in or won't pay for the value that you're providing from in this. Is there that kind of 80-20 approach to the portfolio that you can continue to apply that may continue to expand gross margins?

I do think there are opportunities. I think we're really good at managing pipe, valves, fittings, pumps, some of our core products, because we tend to be in the upstream space, for sure, the largest distributor in that end market, we get preferred costing, and we tend to favor our core suppliers, and we try to improve the mix in our favor along those lines. I think in terms of is there room for improvement, I think so. But I think it's going to be concealed a little bit by the pipe convergence we talked about. And by that, I mean steel pipe prices to customers have stabilized, might even have peaked in a few areas and then the cost of replacement inventory grows. But I think managing mix will be very helpful, and I think there's upside there. But there is the reality of -- you know we went through the last four or five quarters of limited product availability stress in the supply chain, DNOW's favored position with manufacturers where we were able to take advantage of the supply chain constraints for our competition, that's going to stabilize a little bit, and we'll see some normal reversion to more regular margins. But then it's about managing mix, and it's about focusing on those higher margin product lines that I really talk about all the time, and it was inherent in your question, but I think there's upside, I do think there's some headwinds, though, in the pipe area.

That all makes sense. Thanks very much for taking my question.

Thanks, Nate.

Thank you, Mr. Jones. The next question today comes from the line of Jeff Robertson with Water Tower Research.

Thank you. Good morning. Dave, can you share any color on ‘23 with respect to the types of costing and the types of quote inquiries you're getting in terms of the margin mix next year?

Well, so far, I mean, I would say probably 75% of our business or a high percentage of our business is kind of same month activity. Now we have a part of our U.S. business called Process Solutions, which was 23% of our U.S. revenues in the quarter. There's more planning involved in the fabrication part of that business. Most of the bidding and most of the activity is within a quarter kind of business. So, in terms of what the mix of activity would be for 2023, there's a limited view there. So I really can't get too much color there, but we're kind of targeting margins, at least in the fourth quarter -- gross margins consistent with what we delivered in the year-to-date part of the year. And again, like I alluded to earlier, we're going to see some contraction in a few areas. But the projects we're bidding on now that happen to be in 2023 are at similar margins to what we delivered in the first nine months of the year.

You mentioned in your comments about the e-commerce solutions that DNOW offers, including it sounds like increased customer adoption on some of those platforms, does that adoption help support some stickiness in some of the gross margins that you're seeing?

Yes, Jeff, this is Brad. I'll take that one. Yes, our e-commerce platform has evolved over many years, and we provide round trip punch out for large customers where they punch out from their ERP system into our system and essentially fulfill a requisition, and then we have a B2B integration with them, so a lot of that is all digital transacted so, a lot of the business is under contractual pricing that would be similar to what they would get at the branch level, but the cost to process the orders would be lower. So, you could think of the business to be in line with the gross margin but could be accretive to flow-through to EBITDA. We also have B2B customers that work within a catalog and a similar approach where they have a number of users that log in and are buying and transacting and procuring every day within the system. And then those orders are routed to the respective branch that our supercenter in this case that fulfills the order in order to meet the customer required delivery date, so --

So basically, it lowers your cost, so it enhances your margins on the products that you otherwise sell through those channels, right?

Yes. We like to think of it as one of the high efficient models we have of the several models that we engage our customers in, it's one of the highest models that can really attribute higher flow-throughs to EBITDA.

Okay. Thank you very much for taking the questions.

Welcome.

Thank you, Mr. Robertson. [Operator Instructions] Our next question is from Sean Mitchell with Daniel Energy Partners. Sean, your line is now open.

Great. Thanks for taking my questions, guys. One, just as you think about the earnings call season so far, several oilfield service companies, what I would say are your peers, have talked very positive about international opportunities in the future, in particular, some folks have mentioned we're in the early innings of, kind of, this international expansion, if you will, in terms of activity and growth. When you think about your international business, where do you see that? I'm not asking for what you what does ‘23 look like or what does next quarter look like, but just as you think about this over the next three to five years, if international is in the early innings, what does that business makeup look like to you internationally in terms of percentage of your overall business number one? Then, number two, do you think that's achievable in terms of organic growth? Or do you think that's something you guys would have to look at M&A opportunities?

I'll take a crack at this, and then I'll probably hand it to Brad, but in terms of international growth, where we're going to see probably the most growth for the year 2023 is in the international arena. It's been kind of lagging behind the really powerful growth we've seen in the U.S. and Canada over the last several quarters, so we do expect international to be brighter in terms of the rate of growth we'll experience next year. In terms of where we'll see it, we're going to see it first with some of the larger projects where we won recently in Kazakhstan in the North Sea and in the Middle East, we'll start to see that show up more so in projects. We'll see as drilling contractors add rigs and outfit rigs, we'll see the increase of drilling spares and pumping spares and things like that. We'll see that start to grow. That will be the main areas. And then it's going to be a matter of some of the, you know, we talked about some of the businesses that were under hiatus for several years that are now starting to restart, and Mark talked about that a little bit, our Middle East VIE, that's going to be helpful to further growth as well. But I don't know, Brad, do you have any color to add to that or?

Yes, Sean, I'll add a couple of comments to Dave's comments. When we spun off from NOV in 2014, our international business was highly geared to the offshore market. And over the last six to eight years, we've been kind of diversifying that business as that offshore market has struggled to recover. And so we're much more diversified, and we service the land market, also the offshore market, but projects, a lot of day-to-day business. We acquired McLean Electrical out of the U.K. so we have electrical distribution business. We export out of Houston out of the U.K. to West Africa, we are still do quite a bit of business in the upstream there, but we're a lot more diversified. And we're seeing, and I think to your point, a lot of the investment now going into offshore, potentially more deepwater rig utilization is increasing, day rates are increasing. So we see that as a potential positive mechanism for further growth in our international as really the general recovery of international comes back out of COVID and so all those kind of taken together, we have an upward bias towards our international growth as a segment.

That's helpful. Thanks, guys.

Thank you, Sean.

Thank you. There are no further questions at this time. Mr. David Cherechinsky, CEO and President. I'll turn the call back over to you.

Okay. Well, thank you for your interest in DNOW, and we look forward to talking with everyone on our next call in February. Have a good quarter.

That concludes today's conference call. You may now disconnect.