Geospace Technologies Corp (GEOS) Q2 2022 Earnings Call Transcript

Welcome to the Geospace Technologies Second Quarter 2022 Earnings Conference Call. Hosting the call today from Geospace is Mr. Rick Wheeler, President and Chief Executive Officer. He is joined by Robert Curda, the company's Chief Financial Officer and Mark Tinker, CEO of Geospace subsidiary Quantum Technology Sciences. Today's call is being recorded and will be available on the Geospace Technologies Investor Relations website following the call. At this time, all participants have been placed in a listen-only mode and the floor will be open for your questions following the presentation. It is now my pleasure to turn the floor over to Mr. Rick Wheeler. Sir, you may begin.

Thank you very much. Good morning and welcome to Geospace Technologies conference call for the second quarter of fiscal year 2022. I'm Rick Wheeler, the company's President and Chief Executive Officer and I'm joined by Robert Curda, the company's Chief Financial Officer. Also with us this morning is Dr. Mark Tinker, CEO of our subsidiary Quantum Technology Sciences. First, I'll provide an overview of the second quarter and Robert will then follow up with in-depth commentary on our financial performance. After that, we'll open the line for questions that Robert, Mark, and I will try to answer. Some of today's statements may be forward-looking as defined in the Private Securities Litigation Reform Act of 1995. This includes comments about markets, revenue recognition, planned operations, and capital expenditures. Such statements are based on our present awareness while actual outcomes are affected by factors and uncertainties we cannot predict or control. Both known and unknown risks can lead to performance and results that differ from what we say or imply today. Such risks and uncertainties include those discussed in our SEC Form 10-K and 10-Q filings. As mentioned, for convenience, we will link a recording of this call on the investor relations page of our geospace.com website. And I encourage everyone to browse our site to learn more about Geospace and our products. Note that the information we record this morning is time-sensitive and may not be accurate at the time when listens to the replay. Yesterday after the market closed, we released our financial results for the second quarter of fiscal year 2022, which ended March 31, 2022. We were pleased to see that revenue in the quarter reached $24.7 million, a figure representing the second highest quarterly result in the last two years. Moreover, the quarter reflected positive momentum for the company on several fronts. In March, we recorded our first significant sale of deepwater OBX Ocean Bottom Nodes when a long-standing customer exercised their purchase option and an ongoing rental contract. This sale along with our recent announcement of new OBX rental contracts serves to confirm Geospace’s leadership in the ocean bottom node market. Based on current inquiries, I believe we will see higher utilization of our OBX rental fleet in the second half of fiscal year 2022 and beyond. Although challenges certainly remain for our oil and gas market segment, increases in OBX inquiries along with our highly engaged discussions with oil and gas companies for permanent reservoir monitoring (PRM) systems are encouraging. The rewards of our focus on business diversification strategy were resoundingly demonstrated in the second quarter performance for our adjacent market segment. Revenue for the segment increased 21% over last year's second quarter, topping $9.2 million. This is the second highest quarterly amount ever recorded for these products, and for the six months ended March 31, 2022, this segment produced $17.4 million in revenue, setting a new company record for this segment’s fiscal midyear results. This was notably achieved despite the effects of ubiquitous supply chain problems broadly exhibited throughout all industry. Although this has introduced some delay in the rollout of our Quanta's smart water valves, the debut of these products is on the near horizon. We expect our Industrial Internet of Things enabled smart water valves and cloud management platform developed through our acquisition of Quanta LLC last summer will add yet another vehicle of growth to our already expanding adjacent market segment. Our diversification efforts were also evident in our emerging market segment. Building on the technologies originally invented for advanced border and perimeter security verification tests we performed through our joint industry partnership with Carbon Management Canada have proven Quantum Technology Sciences cite our products as a highly effective tool for precise microseismic monitoring of subsurface reservoirs. This has opened doors and established new discussions on how this information can uniquely facilitate high-confidence decision-making and critical applications that include carbon storage, hydraulic fracturing, and steam-assisted gravity drainage. In other events, we're pleased to announce the completion of a new credit facility. Robert will provide more details on this arrangement in his remarks. We don't have an anticipated need to use this facility. However, we believe this proactive step gives us additional financial flexibility. As fiscal year 2022 progresses, we will continue to exercise the conservative financial stewardship that has been a hallmark of Geospace management. With that said, let me now turn over the call to Robert to provide some financial details.

Thanks, Rick. And good morning. Before I begin, I'd like to remind everyone that we will not provide any specific revenue or earnings guidance during our call this morning. In yesterday's press release for our second quarter ended March 31, 2022, we reported revenue of $24.7 million compared to last year's revenue of $23.9 million. The net loss for the quarter was $1.5 million or $0.11 per diluted share compared to last year's net loss of $7.2 million or $0.53 per diluted share. For the six months ended March 31, 2022, we reported revenue of $42.7 million compared to revenue of $52.4 million last year. Our net loss for the six-month period was $8.2 million or $0.64 per diluted share compared to last year's net loss of $8.2 million or $0.61 per diluted share. Our adjacent markets segment revenue is as follows: Our industrial product revenue in the second quarter of fiscal year 2022 was $6 million, an increase of 20% over the second quarter of 2021. The Industrial Products six-month revenue for fiscal year 2022 is $11 million, an increase over the same period in 2021 of 17%. Both periods revenue increases are due to higher sales of our water leader cable and connector products and higher demand for our industrial sensor products. Image product revenue for the second quarter was $3.2 million, an increase of 23% compared to last year's revenue of $2.6 million. The six-month revenue for imaging products for fiscal year 2022 is $6.4 million, a 25% increase when compared to the same period in 2021. The increase in revenue for both periods is due to higher demand for our thermal imaging equipment and consumable film products. Now our oil and gas market segment revenue. The oil and gas market segment produced revenue of $15.1 million for the three months ended March 31, 2022. This compares with revenue of $16.1 million for the same period of the prior fiscal year, a decrease of 6%. For the six-month period of fiscal year 2022, the segment contributed revenue of $24.8 million versus $28.9 million, a decrease of 14%. The three and six-month periods of fiscal year 2021 included revenue recognized in the second quarter for a $12.5 million land-based wireless system that was delivered to the customer in the second quarter of 2020. The decrease in revenue for both periods is offset by higher utilization of the company's OBX rental fleet. Finally, revenue from our Emerging Markets segment for the second quarter was $299,000 compared to $165,000 for the same period in 2021. The increase in revenue was primarily due to higher service revenue. The six-month revenue for this segment for fiscal year 2022 was $436,000 compared to $9 million for the same period in 2021. Our second quarter of fiscal year 2022 operating expenses decreased by $600,000 or 6% when compared to the second quarter of 2021. The six-month operating expenses decreased by $200,000 or 1% when compared to the same prior year period. The decrease in operating expenses for the three and six-month periods is due to a non-cash decrease to the fair value of contingent earn-out liabilities for our Quantum and Opta sites acquisitions, offset by an increase in selling, administrative, and engineering costs as well as higher engineering project costs. Our six-month cash investments into our rental fleet is $2.4 million and cash investments into property and plant and equipment is $500,000. Our balance sheet at the end of the second quarter reflected $11.9 million of cash and short-term investments. We recently closed on a credit facility with Amerisource Funding Inc. and Wood Force Bank to provide up to $10 million of additional liquidity. In addition, we own numerous real estate holdings in Houston and around the world that are free and clear without any leverage. That concludes my discussion, and I'll turn the call back to Rick.

Thank you, Robert. So this concludes our prepared commentary. So I'll now turn the call back over to Chelsea, our moderator, for any questions from our listeners.

The floor is now open for questions. Our first question will come from Bill Dezellem with Tieton Capital.

Thank you. Let me just start relative to the oil and gas side of the business. Are you seeing the operators and contractor discussions accelerating really since the invasion of Ukraine and the higher oil prices and, I guess, an increased question about the global supply?

We are definitely noticing an uptick in the oil companies' engagement with contractors regarding future projects, as well as an increase in inquiries to us for equipment. It's likely that the situation in Ukraine has played a role in this, given its impact on raising oil prices. Overall, these factors are combining to create greater interest and more contractor inquiries as a result.

And Rick, is your comment there specific to OBX? Or does it apply also to land and PRM?

In terms of exploration type equipment, OBX is the primary component I am referring to. There is some discussion about land type equipment, but that interest is quite sporadic and inconsistent, so I wouldn't link it directly to an increase based on the factors mentioned earlier. PRM is definitely a significant topic of conversation among various players and oil companies. That interest was growing even before the Ukraine invasion and at lower oil prices, but the current situation is certainly amplifying both the need for PRM and the interest in it.

Are you suggesting that the interest in PRM has grown significantly over the past two or three months?

There's a longer horizon to all that. It's been increasing even since then, but the activity is still very much active. There are definite inquiries that are pointing to even other activities in the PRM space that we weren't talking about three months ago. So definitely, there's significant activity in that area.

And are we reading your comments, both today and in the press release, correct that your interactions with oil companies are stronger than any time or higher than at any time, say, in the last three years?

Easily, that's true.

And let me then shift, if I may, to the border security business. Mark, this quarter, we have the first time a service and maintenance contract with the Border Patrol. Would you discuss kind of what that entails and how we should be thinking about this on a go-forward basis?

Any time you deploy a complex system, these systems have to be maintained. It's always been part of the contractual plan that we would execute additional years of maintenance upon completion of the primary contract.

So, even though this is new to us on the outside, the service and maintenance contract has been anticipated all along?

Yes.

Let me take a moment to look at this from a detailed perspective. If we assume that we end up with 100 miles of the border having your equipment installed, would we then expect a corresponding increase in the service and maintenance contract with the Border Patrol, based on the increase in mileage compared to your current situation? Or would it remain relatively similar and not scale precisely in that manner?

No, it would be largely linear, one for one.

Great. Thank you both.

Thanks, Bill.

Hi, Rick, Mark. My question is regarding the 120,000 square feet facility we have in Russia and what's going on with that facility. And how important is it to our business outside of supplying our business outside of Russia? Or is it just solely for sales in Russia?

That’s a great question and certainly relevant given the current situation. Our operations in Russia aren't a major financial element of our business. They do help us fabricate many of our geophone sensors, which are produced there. Everything made in our Russian facility has already been manufactured in Houston, and often the transfer of fabrication there is a strategy to reduce costs and labor expenses. We can still ship sensors from Russia, though there are now tariffs to consider. Our team there is understandably unsettled by the current circumstances and concerned about the impact of sanctions on their lives. In general, this situation is not expected to significantly affect us. However, we may need to adjust by manufacturing some components in Houston again, resulting in increased costs for consumers. We are uncertain about how the situation with sanctions may evolve, but we are prepared for whatever may come.

Right. Thank you.

Good morning, guys.

Hi, Scott.

So Rick, just if you can just bear with me here. So let's just assume that you do get a PRM contract, let's just say it's $50 million or $100 million. Where do you guys get the working capital to fulfill that contract?

Well, in many cases, it's how the contract is arranged as far as how payments are scheduled towards the achievement of that work as it progresses. Certainly, there's also credit facilities that are available. We have the credit facility that Robert discussed that adds $10 million of liquidity to us. You can rest assured that if a project of that scope were to come to us in a committed way, there would be other financial means available to us should we need them. But in many respects, I think that we're pretty confident of how we go about building those types of systems and our ability operationally to get the capital necessary.

Thanks. Mark, your podcast with Don Lawton was informative. Every week, there appears to be more real money being spent on CO2 sequestration. In your podcast, your original testing was just a few sensors, but Don alluded to the fact that you might get to the bigger playground. Where are we? Are we in the playground?

We are working on unlocking the potential for significant carbon sequestering in subsurface environments, which requires large-scale efforts, comparable to gigaton levels. Achieving this necessitates effective monitoring to ensure the carbon remains stored, which involves implementing a monitoring and verification plan. These plans will be part of storage contracts and will be subject to regulation. Managing the costs associated with a gigaton facility can be challenging, as it may require hundreds of thousands of sensors for monitoring. We are collaborating with our team and publishing research to demonstrate that there are more affordable and equally effective methods to achieve this goal. Monitoring microseismic activity related to underground reservoirs where carbon is injected is crucial, and if we detect alerting microseismic events, we need to inform stakeholders.

I believe, Scott, that the mention of a few sensors highlights the advancement of technology that allows us to conduct precise monitoring efficiently with a limited number of sensors. Mark pointed out that this is noteworthy compared to the hundreds of thousands of sensors typically needed for large-scale reservoirs. This capability to achieve precision with fewer sensors is a significant advantage.

So how does the rest of the world find out about what you are doing?

This year, we initiated an outbound communication strategy, and you're beginning to see the first elements of that. For instance, through our podcast, we are reaching listeners within the Society of Exploration Geophysicists. Additionally, as a joint industry partner with Carbon Management Canada, we provide quarterly updates on all the results from the facility to our partners and key stakeholders, including major oil companies. These companies will lead the way in this initiative because they are adept at managing fluids and subsurface interactions. We are also presenting papers at the gigaton storage conference at Stanford University in June, and we plan to continue publishing and marketing our technology through our existing relationships in the oil and gas sector.

Mark, what's going to pay for the additional testing? Will it be us or them or who?

Well, not much. So right now, using the facility that Carbon Management Canada has is providing a lot of insight. But there's other applications, Scott, that require microseismic monitoring that are going to be potentially revenue-producing before carbon. And we're pushing hard in those applications with companies as we speak and doing that in a manner in which we are compensated.

So part of your podcast also Don mentioned the necessity for incentives to handle CO2 sequestration. Some of the discussions in the past have been required testing of sensors like yours or someone else. Where do you think we are with respect to those incentives? Is it carbon credits? What's your take on all that?

What I've been able to lean to our conversations is carbon is a commodity. And it's going to be pushed through pipes, stored, used in enhanced oil recovery. So it's going to become a commodity. And there's going to be incentives to encourage its permanent and long-term storage. Beyond that, Scott, I don't think I'm the right guy to go into depth with you, especially on this call.

That's a great question, Scott. We often ask ourselves similar questions because as you examine this, it's clear that this industry is still in its developmental stage. It is evolving right before our eyes, and there are many factors influencing how commerce will take shape, including the transportation of CO2, its sequestration, and monitoring. All these elements are coming together in real time as we progress.

There's certainly a lot of money out there chasing this CO2 sequestration, and it appears that SEDAR is an insurance policy against something blowing up. It's just how it all plays out is quite interesting to me. Thanks, guys.

Yeah. You’re welcome, Scott.

Our next question comes from Anthony Steinmetz with Shawnee Capital.

Yeah. Thanks for taking my questions.

Sure.

Can you speak a little bit about the competitive landscape for PRM systems? And could you also add a little bit of context about if you're seeing any company secure contracts for PRM systems in light of the hot oil prices currently?

There's very limited competition for the PRM type systems. We do have one other competitor that uses a different form of technology of optical fiber methodologies. So it's not a really broad landscape of competition. And what was your other question about the contracts?

I'm curious if you're noticing any competition from other companies securing contracts. Over the past few quarters, you've mentioned ongoing discussions with potential customers regarding PRM contracts, but none have led to actual contracts. Are you seeing competitors successfully secure contracts? If not, what do you think is causing the hesitation among companies in adopting PRM systems?

In light of recent situations where tenders have not resulted in work, we are currently not aware of any contracts being awarded in those cases. Discussions are definitely still happening, but there aren't many contracts available at this time. The interest we are seeing is more about future opportunities. We anticipate that within the next year, a tender may be issued, though most of the projects are aimed at installations that will likely occur in 2023 at the earliest, but more probably in 2024 or later. There is significant interest and numerous fields that require this kind of long-term monitoring, but we do not foresee immediate contracts being secured.

Thank you, Rick.

Our next question comes from Bill Dezellem with Tieton Capital.

Thank you. I'd actually like to follow up on prior questioner's questions about carbon sequestration. So first of all, relative to Carbon Capture Canada, Mark, you said something in response to a question, and there's a comment in the press release that leads me down the path that I think you were previously trying to prove out where cost-benefit tradeoff and position within the Carbon Capture Canada testing. Have you reached the conclusion of that? And if so, have you demonstrated that you are, of all the options out there, the best from a cost-versus-benefit perspective?

Good question, Bill. We're still in the middle of refining our understanding on that. One of the benefits of working there at CMC, Carbon Management Canada, is they've had that site instrumented using other technologies for a long time. And we are literally doing the analysis on what some of those other capabilities are able to do compared to ours. I will tell you, it looks very promising. Proving it out will always be a protracted conversation. That's why we are taking it to the technical markets first with geophysicists and others to demonstrate it and to show how well it works because it is something that is different. It's not done necessarily the same way as other techniques. And it's not that those techniques are better and worse. They're just tried and true but for different applications. They never were ever designed to go do something on such a large scale. So we had to bring in a different way of thinking about it, and that's what we're doing.

So essentially, it looks promising, but it's not fully confirmed at this point and hence, your comment that you're at the gate of the playground?

Yes.

Okay. That is helpful. And then I want to come back to the service and maintenance side of Quantum's business. Would service and maintenance also be a part of a field that you would put a raise in with Quantum? Or is there something special about the border where that would not be part of it?

No, it's definitely something we're considering. However, there are several approaches we're exploring regarding the application of SAR in the context of passive persistent permanent reservoir monitoring for microseismic monitoring. End users might not just be interested in purchasing a large system; instead, we could develop a different business model focused on providing information. Our goal is to deliver actionable insights rather than raw data. This key value proposition means we must ensure the information is timely and accurate. If it's valuable, it could lead to operational efficiencies and reduced risks for the users. So, how we bring this information to market is important. We may consider subscription models and other options, and we are currently in discussions about this. There's still much to learn, but it's exciting to think about how the business model can evolve when selling information.

So hearing you say that, I think about how profitable the rental business has historically been for Geospace on the oil and gas side. So those learnings, combined with the subscription concept presumably then, am I jumping too far ahead? Presumably, that would be a very profitable cash flow stream for the business?

It sure would be desirable to make itself.

I don't think we'll pursue it if it's not going to be profitable, Bill.

Rick, I think that is a grand idea. Robert, thanks for keeping them on track. So in all seriousness, I want to keep down on this service and maintenance for just a moment. If you were to have a different type of border, I'm thinking a military installation, a nuclear installation, whatever it might be, would those also include service and maintenance? I mean, is this something that we ought to just be thinking as a standard part of the future if equipment is purchased, rather than under a subscription or a lease model?

I think that's very fair. And I think that's always been part of Geospace's model. We maintain field engineers to support our systems throughout the world.

Yeah, that transcends even to our existing PRM systems. We installed, what, nine PRM systems out there in the course of time. And there are still maintenance aspects and contracts that go on with respect to those activities. As Mark really mentioned earlier on, these systems have a complexity to them that just requires certain amounts of attention on an ongoing basis. They do not necessarily, at a maintenance level, represent major revenue sources or anything of that nature, but they are a part and a component of these sorts of contracts.

Right. Okay. That's helpful. And then finally, Mark, in response to that same questioner, you said that there was an industry or an application that could happen that would be revenue-producing before carbon capture. What applications were you referring to?

We will create a microsite for one-on-one interaction with all the listeners. When you work with fluids in the subsurface, whether they are gas or liquids, you change the pressure and consequently the state of stress. This change in stress can cause small fractures to slip and release energy, which we refer to as microseismicity. Understanding this phenomenon is crucial, especially when it relates to the integrity of the reservoir or when we intentionally break rock, particularly tight shale that may contain gas. The applications for this knowledge extend to carbon capture, hydraulic fracturing, and steam-assisted gravity drainage. For example, when high-pressure steam is injected into the melt, it aids in extracting tar sands, but maintaining high pressure is dependent on cap rock, and its failure can lead to significant loss. Hence, the stakes are high. Real-time information can greatly enhance operational efficiency. If I could boost production by 1% to 3% today, confidently knowing I won’t compromise my cap rock, that becomes a compelling reason to explore our capabilities. Hydraulic fracturing is done intentionally, and we have been monitoring it for a long time. Our proposal involves a more innovative approach—we want to monitor the fracturing field continuously, not just for a few weeks, and provide real-time data before, during, and after operations. This focus on safety addresses induced seismic risks while enabling timely decisions during treatment of the frac field. Can we guarantee this yet? No, but we are proficient in our field, and this is our direction. I believe these advancements will emerge sooner as we strategically aim to enhance monitoring of sequestered carbon.

Great. Thank you very much. I appreciate it.

Thank you. Our next question will come from Scott Bundy with Moors & Cabot.

I have a follow-up question regarding the Border Patrol. There is a transcript from the past couple of years that identifies 100 miles of areas where you could deploy your sensors. With the sensors currently in place, do you think it will require discovering a tunnel, or is it simply a matter of budget? What will lead to the expansion of additional mileage for our sensors?

It's a lengthy process, Scott. To make progress, we need to address the funding sources, which involve the Customs and Border Protection and the U.S. Border Patrol, as they have their own priorities. Right now, securing our border is a challenging task with many complexities. What will help us is a bit of patience in demonstrating our capabilities and managing advanced technology. We aim to always be a supportive partner to the Border Patrol in achieving essential bipartisan goals. We feel fortunate and proud to be part of that bipartisan effort, but it requires some determination, much like handling a PRM contract.

So do you think that, while they rarely disclose anything except regarding education, the system is functioning as intended? In other words, are you finding that people are able to penetrate without being aware of a tunnel, thus validating the technology?

I can't say what the system is being used for. And now that it is fully operational, how they are using it and what they are discovering is only known to them.

Interesting. Got it. Thank you.

You’re welcome.

We have no further questions at this time. So I would like to turn the call back over to Mr. Rick Wheeler for any additional or closing remarks.

All right. Well, thank you, Chelsea, and thanks to everyone who joined our call today. We look forward to speaking with everyone again on our conference call for the third quarter of fiscal year 2022 in August. So for now, goodbye.

Thank you. This does conclude today's Geospace Technologies second quarter 2022 earnings conference call. Please disconnect your line at this time, and have a wonderful day.