TETRA Technologies, Inc. (TTI) Q2 2013 Earnings Report, Transcript and Summary

Good morning, and welcome to the TETRA Technologies 2Q 2013 Results Conference Call. All participants will be in listen-only mode. (Operator Instructions) After today’s presentation, there will be an opportunity to ask questions. (Operator Instructions) Please note that this event is being recorded. Now, I would now like to turn the conference over to Stuart Brightman, President and CEO. Mr. Brightman, please go ahead.

Thank you, Keith, and welcome to the TETRA Technologies’ first quarter 2013 earnings conference call. Elijio Serrano, our Chief Financial Officer is also in attendance this morning and will be available to address any of your questions. Elijio will give a brief overview of our second quarter results and I will follow with a brief presentation, which intern will be followed by your questions. I must first remind you that this conference call may contain statements that are or may be deemed to be forward-looking statements. These statements are based on certain assumptions and analyses made by TETRA 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 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 net debt, free cash flow, revenues, gross profit, profits before tax or earnings per share, excluding the Maritech segment and special charges, or other non-GAAP financial measures. Please refer to this morning's press release through our public website for reconciliations of non-GAAP financial measures to the nearest GAAP measures. These reconciliations are not a substitute for financial information for period in accordance with GAAP and should be considered within the context of our complete financial results for the period. With that, Elijio, would you please start the financial review?

Thank you, Stuart. TETRA revenue up $221 million and increased 6% sequentially, reflecting the seasonal uptick in activity of our Europe fluids and offshore services. Those improvements are from weakness in Canada and Mexico consistent with what others have reported. Compared to year ago, revenue was down 6% primarily due to lower offshore services. With respect to earnings, earnings per share were impacted by $0.02 of severance reflecting the actions to reduce headcount in Mexico, and also reflect the severance incurred with the G&A cost reduction initiatives at the second quarter. Excluding Maritech and severance expense that we incurred, second quarter earnings per share were $0.18. The weather in Canada and weaker activity levels in Mexico impacted us by $0.03 per share in the second quarter. Fluids division revenue were 100 million increased 6.5% over the first quarter. The seasonally strong Europe fluids activity levels added to the continued solid performance from water management and offshore completion fluids. Operating margins for the fluids divisions were (17.8%) were down slightly from the first quarter. During May, our El Dorado plant was down for several days for scheduled equipment work as we replaced our critical heat exchanger, daily production levels after the switch out of the exchanger has reached to record levels, adding to the continued improvements we have been seeing at El Dorado. Compared to a year ago, operating margins were 230 basis points higher driven by the strong growth in water management. Water management revenue was up 72% versus a year ago and operating income was up over four times compared to a year ago. Production testing revenue of $47 million was down (30%) from the first quarter due to the weather issues I just have mentioned in Canada and the budget cuts in Mexico. Feedback from our customer in…

Thank you, Elijio. As stated second quarter 2013 adjusted earnings of $0.18 per share excluding Maritech and severance was a little below the range that we had expected. What we’ve tried to highlight on the call is that there is a couple of markets that are tough, Mexico in particular and those are the contributors to the shortfall as well as some adverse weather in Canada. Just highlighting again the performance of some of the segments and where we go for the balance of the year and beyond. Fluids continue to be very strong, in all components of that segment. In fact in the second quarter as noted the division recorded revenues exceeding $100 million in a single quarter for the first time and very close to record profits, going back way in time. Even within the second quarter several of our offshore projects in the Gulf of Mexico were delayed, so it wasn't the lumpiness of those projects that drove the results. It was offset by continued growth and associated investment in the water management. We continue to accelerate growth in the water; we believe we've got the ability to roll this out to a broader set of geographies in the U.S. Our chemicals business continues to take advantage of strong market opportunities in oil and gas both onshore and offshore. Given the last few years, we're very pleased with the continued progress in El Dorado and the ability to meet market demand and increase productivity and production as we have done that. As stated previously the production testing segment was negatively affected by Mexico and Canada, I would know we have seen a slight uptick in activity as we enter the second quarter in Mexico, of both for testing and for Compressco, a lot of this has to…

(Operator Instructions). And the first question comes from Jim Rollyson with Raymond James.

Stu maybe start with offshore, despite looks like revenues are a bit weaker than we're looking for margins held up pretty good, should we think about that second half kind of a normal third quarter being the strongest revenue quarter and then seasonally falling off in the fourth quarter and may be some read on, do you think margins are actually improved if revenues pick up in the third quarter and then just kind of fallen off again in the fourth quarter?

Yes I would say based where we are, a month into the third quarter we certainly would expect to see the normal sequencing of the third quarter being a better quarter sequentially. We have got great backlog, three to four months of typically better weather, we have been fortunate in July, the weather has been good for us, with that I would expect to see some margin improvement as we go into the third quarter expect to work at a pretty good rate through the first part of the fourth quarter and then I would expect which are normal seasonal decline as we get mid-way through the fourth quarter into the beginning of the year. So, I do expect we will see improvement over the second half for the year versus the first half in that segment.

That’s helpful and on the testing business, may be a little color or just a reminder about how much of that business originates these days from Mexico? And then I have got a margin question to ask you.

On the testing side during the second quarter, we probably have 65% two-thirds is U.S. driven, even with some of the challenges so biggest piece of that outside of the U.S. is historically Mexico, it’s a bigger level on Compressco than it is on testing as a percentage of the revenue, I think as we have said on the Compressco call typically Mexico is going to represent 25% to 30% of revenue but not quite as impactful on testing but still significant.

And Jim, I might add that for the total company Mexico in the second quarter represented less than 3% of total revenue.

That’s helpful and Stu on the margin side of that we go back to last year just for production testing, stripping out Compressco is used to be kind of a mid to high-20s margins type business and first half of this year, it’s been in the teens, is that a function of the weather issues, the shortfall in Mexico, is it competition that’s picked up or is it mix to some of the acquisitions or may be kind of help us understand why that’s down and do you think you can that will eventually turn back into those mid-20 margin at some point.

Several pieces that have contributed to that margin deterioration; certainly in the second quarter Canada for us like you have seen for everybody else that’s reported so far was very, very little activity. So I think that’s an anomaly and we would expect that to go back to a normal situation as we go through the balance of the year. I think as Mexico recovers that’s usually a nice margin business for us that will have a positive impact. In the U.S. we started to see a slight improvement in the margin so that should help us as well. Even in the tough U.S. market where there is lot of competitive pressures, the margins are down but they are respectable. We are pleased with where we are; we think we can squeeze a few more cost points out with the activity. Internationally, some of the eastern hemisphere market like Saudi we continue to do well. Brazil has been pretty good although we expected so. Going back towards where we were last year, I think it’s going to take us a while but I do believe this is a business that’s certainly long term and my view is that in the mid-20s margins absolutely.

And the next question comes from Mike Harrison with First Analysis..

Maritech is just a gift that (keeps on giving), isn’t it? Can you may be talk in a little more detail about the complications that you countered with Maritech that led the equation to (date out) a little bit and how much of that was weather related? You mentioned encountering some.

I know that’s a portion although it’s not, it’s not the main contributor the first half of the quarter, we had some weather impact that contributed the biggest piece of that variance during the quarter is going to relate to four or five wells that we are working on at the end of the life we are still having some challenges getting several of those to the finish line. And obviously worse than we expected as we though said that at the end they are the final ones a little bit more challenging, we make good process in June, in July and the goal was to get the wells finished on those two or three platforms that are still out there and then move into platform removal and wind that down. But that’s the driver in the second quarter with those handful of wells.

And did the, Maritech issues negatively affect offshore sales and margins to the extent that you won’t, may be able to do as much third party work?

It wasn’t material though. A very significant portion of those wells is done with third efforts as well. So we were able to one through during the second quarter the sequencing for heavy lift barges, pretty much the way we did. Again the only negative on that one was some of the other weather we experienced in the first half of the quarter but I would say since the end of May, through the early August we have had a pretty good run of sequencing and weather under barges.

In the fluids business, how much do the El Dorado downtime hurt earnings and could you may be talk about how much of the margin boost we can see from the improving production rates?

Yes, again first thing is this event that you are referencing El Dorado was certainly planned. We had it in our base business for the year, we had a timed planned well in advance and the team up there did a superior job of preplanning project management, getting some of the ongoing preventative maintenance done during the downtime so we went in we were down for several weeks which is what we expected. We've taken the necessary steps elsewhere in our other plants to be able to support the market gap that we had for a few weeks. We came out on time, on budget and ramped up at or above what we had expected and exited the quarter at a, no, production rate that was higher than we've had to date. We've always said that on the fluids division, aggregate we think we'll be getting the margins to the mid high 20s, if you look at where we've been the last several quarters we're kind of in that mid 20s type of margin. I think as we go forward we'll continue to see some smaller modest sequential improvements in margin, part of that driven by some of the productivity gains in El Dorado just like we've seen that sequence for last several quarters as well as water as well as continued growth in the Gulf of Mexico. The thing I always try to highlight on fluids is we've made a lot of investment not just in El Dorado but in our ability to make Calcium Bromide, Zinc Bromide, expanded our capabilities, expanding our blending capabilities in the Gulf of Mexico, so we're well invested and capable of dealing with the increased volumes.

And then the last question I had is on fluids. Can you walk through for us how your raw materials are priced in that business and net as we think about the possibility of bromine prices coming higher, does that help you on a relative basis or hurt you?

On a relative basis if bromine prices go up that's positive to us. We have long term agreements that kind of give us some protection against those bromine spikes, particularly if it relates to fluids going into the Gulf of Mexico, in deep water and off shore, the calcium chloride we have other raw material sources that kind of are independent of that, but the big piece that goes off shore, when we see bromine prices going up at the supplier level, that's positive for us.

Thank you, and the next question comes from Kurt Hallead from RBC Capital Markets.

I was wondering if you might be able to just give us an update on how things are progressing in the context of your streamlining the operations, and what's your game plan is again exiting 2013, is everything still pretty much on track?

Yes, I think if you look at the key elements we've highlighted and what we've focused on over the balance of the year in 2014, I think fluids, we just continue to look for additional opportunities on the water; leveraged investments we’ve made in the good onshore fluids market and I think that's all as the numbers indicate rolling along as we expected. Testing, we’ve squeezed the organization in the areas that we need to headcount wise, continue to monitor that in Mexico. One of the other efforts that Elijio and his team are doing across the full company, is we’re spending a lot of time just continuing to refine and enhance the management information, the systems, the operational efficiency, all the back office that supports the operations, particularly as we've done acquisitions and hope to do more in the future that's just a platform we want to continue to improve and become more and more efficient; collections, invoicing that's all part of that overall operational improvement. Offshore services gained strong backlogs through the third quarter into the fourth quarter. The team has not stopped on cost reductions they've kind of got that ongoing efforts to just look at every opportunity, and we’ve seen that translate to margins in flattish versus last year and a much smaller revenue line. So I feel good about that. And then Compressco, we've been aggressive in Mexico taking the headcount down. We've been aggressive in looking at how we move equipment. And other than Mexico, I think all our other markets are growing, and so we just continue to focus on what we're doing and we feel good about hitting the numbers the second half of the year we've referenced in the press release which positions our self for a nice positive view of next year, highlighted by the cash generation we'll get post Maritech.

That's great and then with respect to once again we know that Maritech can be somewhat unpredictable in terms of the way you're laying out for the rest of the year. Is this, you guys think that this is a situation that we can be talking about a year from now?

I don't, I think we want to finish the year with a very modest amount of liabilities on the balance sheet, I think whatever is left at the end of the year will be non operated or something that is come up unexpected I think that's going to be a very small number. We're very, very focused internally in closing that chapter in 2013. Then again we've had surprises; we're not pleased with the magnitude of the adjustments that took place. I remind everybody, the numbers down to $49 million; it's a smaller number; it's getting whittled away and we expect to see finish this year.

Last thing, just on free cash flows, is there anything, any dynamics that played here that may cause you some concern about achieving your free cash flow once Maritech is done?

On the free cash flow Kurt, so in the second quarter our CapEx run rate is consistent with what we previously guided. So that was not driven by us falling back hard, (abnormally) on CapEx. So CapEx in the second quarter was about $25 million, annualizes to about a 100 million that we’ve talked about historically. You've seen that the earnings have not been at the level that we have expected so we have achieved that free cash flow despite weaker earnings through very aggressive working capital management in the process and we think that we’re still several steps away from maximizing that opportunity. The $8 million that we have targeted for the next year I think is a target that we get more comfortable with every quarter.

Thank you and the next question comes from the Blake Hutchinson from Howard Weil.

So we leave the call kind of loud and clear on the progression with the Mexico, we had a pretty steep ramp down as the quarter went on but Stu you mentioned that at least in July the elements for the business had improved. If we strip out severance costs, is the comparison between Q2 and Q3 overall for Mexico a flat one or we’re still going down in Q3?

I would expect on a normalized basis Q3 will be sequentially better.

Okay great.

I think the second quarter was the low point in Mexico. I think it’s going to get sequentially better but I think the third quarter looks more like the second quarter than the first quarter it’s going to clump slow.

Stu, I might add that just to add a bit more color to that by the June time period we’re redeploying assets even from the Puerto Rico region into other regions that were showing signs of activity to where the, by the end of the quarter, we had redeployed assets within Mexico to show a little bit uptick.

Yes, it is great, that’s really helpful. And then just getting in a little bit to the fluids business and I guess if we go back to the first quarter call, we had anticipated the typical influx in European calcium chloride business I think to the ton of $15 million, maybe it was not as powerful or was the Gulf and Eldorado being down just kind of working against that to kind of mask that seasonality a little bit?

Yes, I think, the second quarter in the Europe which is big quarter there was pretty similar to what we expected maybe not quite 15 million but a pretty big uplift as far as that goes. I think the Gulf of Mexico wasn’t as lumpy as the first quarter. So as you kind of look at a flattish quarter strong but flattish on earnings you’ve got the continued sequencing up on water. You’ve got the seasonal benefit of the European chemicals business. You’ve got the Gulf of Mexico lumpiness down a little bit again but I think that picks up again in the third quarter and then you have even despite some of the challenges that the plan retrofit in El Dorado, you had a pretty flattish earnings in domestic chemicals business which again says a lot for where we’re in the overall process with that group.

Great, that’s exactly what I was looking for and then just finally for Elijio, I want to make sure, we, understand kind of how you’re benchmarking and as we speak about kind of ongoing G&A savings initiatives. You’ve talked about 11 million going to 16.5 million annualized and 1.1 million reductions in G&A in 2Q from 1Q, should we be, as we followed home should we be thinking as 1Q is your benchmark or what is the benchmark that we’re starting from really?

This Q4 last year is a starting point and then we started reducing headcount a little bit in Q1 but mainly in April and then we did subsequent reductions in May, so we didn’t get in the quarter the full benefit of the headcount reductions that contributes towards the $11 million. Then the remaining 5.5 are actually that we’re going to take between another end of the year that are a bit more impaled in, in terms of profit changing and renegotiating of contracts. So when you enter 2014, our G&A cost ought to be 112 of $16.6 million lower on a monthly basis than where we were Q4 of last year.

Excellent that’s great helpful and thanks for setting that out for us. I’ll turn it back guys.

Next question comes from Michael Marino from Stephens.

Just a follow-up on one of questions just asked on the fluids business, a lot of moving parts there going forward, do you expect fluids will be up sequentially despite the seasonal help you had from Europe in Q2?

I think again not to get too precise on that. I think if you look at the trends over the next couple of quarter I would expect the certainly you don’t have that seasonal element in Europe on the chemical side the second half. I would expect we continue to see positive trends on water given the investment that we continue to make in that business and I would think we see positive trends on the Gulf of Mexico. And I would think given some of the production rates we see in our domestic manufacturing plants, we continue to see positive trends. So as a prior call reference its pretty good spike up in the second quarter in Europe. So I think we look similar. We wouldn’t want to put tray that there is a huge ramp up there but there are elements though the other components that will offset the seasonality of Europe.

And how does that mix shift affect profitability in that segment?

I don’t think it’s going to have a material impact on margins. We have been pretty steady on the margins in the mid 20s for a period of time and slowly seeing that go up.

Okay great thanks. That’s all I had.

The next question comes from Stephen Gengaro with Sterne Agee.

Two questions, the first when you are working through these cost savings initiatives, is it having any impact on your earnings capabilities? How should we think about it from those terms? Is it sort of right sized operations?

My opinion, Stephen, is the areas that we have done most of the work, if you go back to offshore services the company wide G&A, some of the reductions we have made on domestic onshore businesses as the market softened as well as Mexico. My opinion is we have done a very good job being aggressive, and I haven't seen signs of any elements that I am uncomfortable from us going too deep or impacting our ability to service our customers and respond to any projected increases and activity. I think we have done a pretty good job, being aggressive and getting all elements of the company to participate and recognize the objective that we have.

I will give you some detail, if you look at offshore services a year ago, Q1 versus to date; at that point we had two heavy lift barges. Today we still have two heavy lift barges. We had three dive in barges, same thing to date, and then we have capacity for several P&A spreads, we still have that capacity. So when we make this aggressive reduction from the offshore side, we collapse back office functions, we consolidated the support functions; we consolidated management teams without touching the revenue generating assets. The only areas that we have impacted is Mexico, so that as Mexico scaled back, we obviously reduced headcount but if (PEMEX) ramps back up in Q1 of next year, we believe that we got the ability to add those resources back into Mexico. All the G&A reductions are not impacting revenue generating operations, here is what we're focused on streamlining operations and consolidating operations and sharing recourses among the multiple divisions, so that we can get some leverage and cost reductions in that area.

Another area I would highlight Stephen just on that, it is really an important theme when you make changes your ability to continue to increase profitability, the numbers we referenced the net numbers, there is some adds we have made in strategic places, that are netted down to that number. I mean we have taken that time to down market in certain areas to look at elements such as business development in certain geographies and certain divisions, where I believe we strengthen the team; we’re still looking at certain areas. So I think that's something that we have decided where we want to be on the overall cost structure to take the steps, but we've also recognized some areas we want to improve and we build that into the formula.

And a lot of it has also been renegotiating of pricing with our service providers that just as customers are aggressive with us in terms of what we charge for our services, we're equally aggressive with our service providers to match what's happening on the other side.

And then when you look at your guided change, is that primarily Mexico and at worse Canada? Or is there something else that has surprised you, maybe U.S. a little slower than expected? I mean is there anything else that led to the change?

That's pretty much Steven we look at as I said from other earlier questions, second quarter being the bottom point Mexico way off the first quarter getting slightly better as we move through the third and fourth quarter but in aggregate that’s a big mix versus the guidance, the second quarter that’s behind us in Canada, and just an overall lower recovery on the onshore U.S. which is predominantly testing. Those are the two to three items that we did the revision related to it.

Okay, thank you. And then one final question and this is something I could honestly struggle to get my arms around. But when we look at offshore services and when we look at the work you’re doing for Maritech, is the eliminations number a good proxy for sort of the revenue generating capability you’re losing out on by work you’re doing for yourselves and by logic we could back (multiple speakers) differently I think that’s a good proxy to represent the revenue we intent to replace after Maritech by, with other third party work?

And therefore that would be gross profit opportunity that would fall to the bottom line which we’re currently not. So I think that internal revenue today is generating gross profit and in the future it needs to be replaced by similar revenue and profit generating activity with third party.

Okay, at similar margins. So it doesn’t change the bottom line too much is what I’m getting at but it does change the cash flow?

Correct. And again the vast majority of that work that we’re doing currently is related to take in the platforms because we’re at the final stages there. So the real owners fall on that group to go find that replacement revenue and margin.

Okay, that’s very helpful color. Thank you.

Thank you. (Operator Instructions) All right, there is nothing more at present time, so I’d like to turn the call back over to management for any closing remarks.

Thank you very much. And as always, I appreciate the great questions and Elijio and I will look forward to updating the group nearly November on the third quarter results. Thank you very much.

Thank you. The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect. Have a nice day.