Liberty Energy Inc. Q2 FY2022 Earnings Call

Welcome to the Liberty Energy Earnings Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Anjali Voria, Strategic Finance and Investor Relations Lead. Please go ahead.

Thank you, Dave. Good morning. And welcome to the Liberty Energy Second Quarter 2022 Earnings Conference Call. Joining us on the call are Chris Wright, Chief Executive Officer; Ron Gusek, President; and Michael Stock, Chief Financial Officer. Before we begin, I would like to remind all participants that some of our comments today may include forward-looking statements, reflecting the company’s view about future prospects revenues, expenses or profits. These matters involve risks and uncertainties that could cause actual results to differ materially from our forward-looking statements. These statements reflect the company’s beliefs based on current conditions that are subject to certain risks and uncertainties that are detailed in our earnings release and other public filings. Our comments today also include non-GAAP financial and operational measures. These non-GAAP measures including EBITDA, adjusted EBITDA and pre-tax return on capital employed are not a substitute for GAAP measures and may not be comparable to similar measures of other companies. A reconciliation of net income to EBITDA and adjusted EBITDA and the calculation of pre-tax return on capital employed as discussed on this call are presented on our earnings release, which is available on our website. I will turn the call over to Chris.

Thanks, Anjali. Good morning, everyone, and thank you for joining us. I am proud to discuss our second quarter 2022 operational and financial results. The second quarter was a busy and exciting time as the Liberty team continued to deliver differential quality services in today’s robust, but operationally challenged environment. This translated into a notable milestone of fleet financial performance at levels that were last seen in 2018 as measured in annualized adjusted EBITDA per fleet. The hard work and dedication of our employees combined with deep relationships with our partners across the value chain enabled us to achieve strong operational efficiency in an environment still impacted by supply chain challenges. In the second quarter, revenue was $943 million, a 19% sequential and 62% year-over-year increase. Net income for the quarter was $105 million or $0.55 per fully diluted share. Adjusted EBITDA for the quarter was $196 million, a 114% increase over the prior quarter. Liberty’s first half of 2022 is starting to reveal the value creation from our 2021 acquisition and our insistence upon getting the business integrations done right, consistent with our focus on long-term results. We positioned the company to deliver top-tier performance through cycles with a focus on free cash flow generation and maximizing returns. We are driving cash flow expansion that allows us to fund compelling organic investments to grow our competitive advantage while also returning cash to shareholders. Our strong financial results and a constructive outlook support the reinstatement of our return of capital program beginning with the Board-approved $250 million share buyback program. Our guiding principle is to maximize the value of the Liberty share. We believe the flexibility afforded by the share repurchase program gives us the ability to opportunistically act on a dislocated stock price, calibrated by market and business conditions. While the global economic recovery outlook has softened on reverberating impacts from higher inflation, rising interest rates and the Russian invasion of Ukraine, the oil and gas markets remain constructive. Eight years of under-investment in upstream oil and gas production have exacerbated this situation, creating a mismatch between supply and demand. Today, historically low global oil and gas inventories, limited OPEC spare production capacity and a dearth of refining capacity are colliding with increased energy demand. Oil and natural gas demand growth is coming from the post-pandemic recovery in travel, China’s emergence from its enforced COVID lockdowns, plus seasonal demand. These are all further magnified by the Russia/Ukraine conflict and the potential for sanctions imposed on Russian oil exports, coupled with Russia’s decision to constrain natural gas pipeline exports to Europe. The greatest risk to our marketplace is a severe recession that leads to a drop in global demand for oil and natural gas. A moderate recession typically leads only to a slowing in the rate of demand growth for oil and natural gas, which would likely not be overly disruptive to our customers’ activity given today’s low inventory levels and tight supply and demand balances. The recovery in oil supply appears to be under greater threat than oil demand. North America is positioned to be the largest provider of incremental oil and gas supply. Today, E&P operators are evaluating the opportunity to deploy incremental capital in North America to modestly grow production while remaining focused on shareholder priorities. The fundamental demand call on North American oil and gas supply is strong. Supply is restricted by a tight frac market, where equipment, supply chain and labor constraints limit frac fleet availability and service quality available to our customers. Many frac companies are struggling to execute in today’s environment. Moreover, operators desire ESG-friendly frac fleet technologies that provide the opportunity for both significant emissions reductions and large fuel savings. Liberty is uniquely positioned with the technology, scale and vertical integration to meet demand for service quality and best-in-class technology. The frac market is near full utilization, and few service providers have the fleet capacity and supply chain reach to satisfy E&P operators’ goals. Liberty was disciplined in restraining fleet reactivations during the post-COVID era of muted returns. Pricing has now recovered to where Liberty, in support of our customers’ long-term development needs, is reactivating several of our recently acquired available fleets from the OneStim transaction. Importantly, these long-term dedicated customers seek additional next-generation fleets that are not available today in the market, and Liberty is providing an avenue to serve those customers while simultaneously driving free cash flow from these existing fleets to reinvest in our fleet modernization program and free cash flow. Liberty is also partnering with key customers on the deployment of two additional digiFrac electric fleets in early 2023. Demand is very strong for the technically superior design Liberty developed throughout the downturn that drives better safety and efficiency, a rare commodity in a tight market. The strong frac market and direct conversations with our customers give us confidence in the demand for Liberty services into the coming year. In the third quarter, we expect approximately 10% sequential revenue growth, primarily driven by fleet reactivations and modest net pricing increases. Third quarter margins are expected to improve from the contribution of incremental fleets and modest price improvements, partially offset by ongoing supply chain, operational and inflationary pressures. Since the 2020 downturn, we have made the decision to refrain from reactivating fleets. We have the economics and longevity of business to support the onboarding of the new crew and the capital associated with restoring equipment. Today, we are one of the few players in the market with the equipment available to support a rising demand for frac services. We are also one of the only players with the supply chain capacity to support these services as sand and other materials remain in short supply. Reactivating fleets is a long-term strategic decision. We are not spot fleets but rather fleets that will go to high-quality, dedicated customers that are interested in a road to next-generation solutions over time. Today, next-generation equipment is in short supply and will remain so for the foreseeable future. To maintain development programs, producers seeking a frac crew are willing to take equipment available to support their operations in the near term. While Liberty reactivated fleets are largely well-maintained Tier 2 diesel equipment that came with the OneStim acquisition. These fleets are coming online at favorable prices that support the hiring and training of the new crew for the long-term, our next-generation technology expansion program, and increasing our free cash flow generation. For minimal capital outlay, the unit economics of these fleets generate free cash flow that provides a source of funding for investment in our fleet modernization program. Over the long-term, next-generation fleets will replace older technologies. While we already have one of the largest dual-fuel fleets available, our equipment makeup will evolve to an entirely next-generation fleet over time. The fleet reactivations are not market share driven decisions, but investments in driving the increase in value of a share of Liberty stock by investing at the right time with the right economics. We are also excited to announce a $10 million investment in Fervo Energy, a next-generation geothermal technology company that develops geothermal assets to provide more dispatchable, reliable baseload grid power with low carbon intensity. With this investment, Liberty expands into supporting geothermal resource development, leveraging our extensive expertise in subsurface engineering and pressure pumping assets that help create dense underground networks to combine the earth’s heat for electricity production. We chose this investment opportunity because of our belief in the concept's viability, the quality of Fervo’s team and the size of the potential resource already captured. Unconventional geothermal applications offer a pragmatic solution for a reliable source of low-carbon electricity and we are excited to be part of the journey. Our team is diligently working to support a world where we are seeing the greatest threat to energy security, reliability and affordability in decades. Yesterday, we released our 2022 Bettering Human Lives report, placing today’s global energy security crisis in proper context and showcasing Liberty's leadership in clean energy technology innovation. Our drive is to bring awareness to the importance of energy assets, expanding further into the topics of geopolitics, food security and the four pillars of the modern world: cement, steel, plastics and fertilizer, all critically enabled by hydrocarbons. ESG has always been part of our DNA since day one, and we bring focus to our innovation and investments in digital technology, engine technology, sand, logistics and supply chains, as well as our robust governance and the people and culture that define us. With that, I’d like to turn the call over to Michael Stock, our CFO, to discuss our financial results.

Good morning, everyone. We are pleased with our second quarter results. The entire Liberty family has provided exceptional execution for our customers and delivered record revenue, net income and adjusted EBITDA. We are navigating to see the advantages of the transformative work our team has accomplished through the integration of OneStim and PropX, which are already generating returns at a faster pace than we projected at our Investor Day a little over one year ago. Successfully achieving scale and vertical integration by doing the integration the right way has been key to our financial performance and has positioned us well entering into the second half with the right momentum. This quarter, we reached annualized adjusted EBITDA per fleet levels that were last seen in 2018, and we believe that we are only at the early stages of the oilfield services upcycle. Liberty is a company in a much different scale of integration today than we were in 2018. We are in an even stronger position to lead the industry in technology and service quality, and to expand our profitability as best-in-class frac fleet technologies have evolved to include Liberty’s built-for-business digiFrac fleet that raises the industry standard on providing the lowest emission technology in the market with superior durability, reliability, and enhanced automation and controls. Our TF4 DGB fleet is growing significantly, and there are dual-fuel pumps with automated controls that maximize gas substitution for diesel, and an environment with savings from fuel cost arbitrage that has increased over the last year. We had an expanded supply chain with two of our own sand mines and deeper partnerships with our suppliers that allow us to deliver superior operational execution. These transformative changes we have made and continue to make at Liberty are critically important drivers of shareholder value at a time when market fundamentals are increasingly constructive for our industry. The second quarter of 2022 revenue was $943 million, a $150 million or 19% increase from $793 million in the first quarter. Approximately 60% of that topline growth was driven by activity, mix and a modest contribution from fleet reactivations. Net income after tax was $105 million, an increase from a net loss after tax of $5 million in the first quarter. Fully diluted net income per share was $0.55, compared to a fully diluted net loss of $0.03 in the first quarter. Results included $7 million in fleet reactivation costs incurred for both the fleets deployed in the second quarter and the planned third quarter fleet deployments. General and administrative expenses totaled $42 million, including non-cash stock-based compensation of $4 million. G&A increased by $4 million sequentially, primarily driven by performance-based compensation, inflationary and activity increases commensurate with the growth in our business, and investment in platform IT systems and other process improvements to support our continued expected growth. Net interest expense and associated fees totaled $5 million for the quarter. Adjusted EBITDA increased to $196 million, well doubling from $92 million achieved in the first quarter, showcasing solid incremental margin expansion on activities and pricing gains. We ended the quarter with a cash balance of $41 million and net debt of $213 million. Net debt increased by $34 million in the first quarter, primarily due to an increase in working capital. As of June 30th, we had $150 million of borrowings on our ABL credit facility. On July 15th, we exercised the Accordion feature on our ABL credit facility, thereby increasing our borrowing capacity from $350 million to $425 million. Total liquidity, including availability under the credit facility, was $263 million pro forma for Accordion. Net capital expenditures totaled $127 million on a GAAP basis for the second quarter of 2022. The CapEx was driven by TF4 DGB upgrades and digiFrac spending of $65 million, sand logistics and other margin-enhancing projects of $29 million, and the remainder relating to ongoing capitalized maintenance spending. In the third quarter, we expect approximately 18% sequential revenue growth. This is primarily driven by fleet reactivations and one including one full quarter contribution from the accrued deployed in the latter part of the second quarter and modest price increases. We also expect margin improvement primarily with the contribution of integrated fleets and modest net pricing increases, partially offset by ongoing supply chain, operational, and inflationary pressures, including those in commodities of raw materials and labor costs. As market fundamentals continue to improve for our industry, we are well-positioned to support global energy needs by continuing to invest in this early part of the cycle to maximize free cash flow over the long term. We are now targeting capital expenditures of $500 million to $550 million for the full year 2022, with approximately a $200 million increase reflecting additional next-generation technology investments, including incremental spending, additional digiFrac fleets, PropX sand handling of wet sand equipment, as well as capital investment in the frac fleet reactivation with a transaction of approximately $55 million to $60 million, including the one fleets deployed in the second quarter and the balance that will be deployed in the second half of the year. The incremental adjusted EBITDA we are on track to achieve in 2022 relative to the beginning of the year is expected to far exceed the additional CapEx spending in our budget. As a result, we expect to be free cash flow positive for the full year of 2022 after investing in these long-term initiatives compared to the past. We expect to enter 2023 with an active frac fleet count in the low 40s. The investments we are making in 2022 will further expand earnings potential in 2023, and our fleet modernization plan is expected to continue in 2023. We believe capital spending is likely to be at or below 2022 limits in 2023. We anticipate strong 2023 free cash flow conversion, about 50%, driven by both incremental profitability from 2022 investments and continued margin expansion with these initiatives. We are planning to have a fleet of the latest technologies as we enter what we expect to be a longer duration of oil and gas prices. As we stated at the beginning of the year, we have significant flexibility in adjusting our capital spending patterns depending on economic conditions, customer demand, and return expectations. As we look to the future, the increased free cash flow generation capability of our repositioned business, successful OneStim integration, operational execution, and fundamental outlook allows us to meet our capital allocation priorities of disciplined investments to expand earnings per share, balance sheet strength, and return of capital to shareholders. With that, I will now turn the call back over to Chris before we open up to Q&A.

Thanks, Michael. The world is gripped today by a serious energy and food crisis that is of our own making. It is not due to any shortage of available resources. It is due entirely to investment decisions and a growing myriad of barriers to investment in hydrocarbons. The very hydrocarbons without which the modern world is simply not possible. It is admirable that public regulators in our industry are keen to improve the quality and cleanliness of our activities. It is not admirable that so many emotionally driven, fact-free impediments to investment have come from government regulations, NGO litigation, and lobbying, with Wall Street too often equating lower greenhouse gas emissions with better in all cases. The blame for the current energy crisis also falls on our industry for too often compliantly going along with the endless anti-hydrocarbon sentiment of today. If it’s not for us to speak candidly, honestly, and loudly about the critical role hydrocarbons play in the modern world and most critically for those desiring simply to join the modern world, then who else will play this role? Certainly, it has not been political leaders, activists, academics, or celebrities; it is us that must carry that torch. Otherwise, the immense human damage we see today from the lack of investment in hydrocarbon production and hydrocarbon infrastructure will be only the beginning of a calamitous crisis. Towards that end, I strongly encourage everyone to read Liberty’s improved and expanded version of Bettering Human Lives that was released on our website last night. It touches on many critical issues that are either overlooked, misunderstood or simply ignored. We welcome all feedback on this report as we strive to be honest brokers for information on how the world is energized today, how it might be energized in the future and what the inevitable trade-offs must be made. Individuals are all entitled to their own opinions. They are not entitled to their own set of facts; that idea comes from Daniel Patrick Moynihan. I will now turn it over to the Operator for questions.

Our first question comes from Chase Mulvehill with Bank of America. Please proceed with your question.

Hey. Good morning, everybody. I guess, first thing…

Hi, Chase.

I wanted to address the capital expenditures. There is a significant increase here due to the new builds, specifically the additional digiFrac fleets scheduled for the first half of next year. Could you break down the $500 million to $550 million in capital expenditures between upgrades and reactivations, new builds, and maintenance? This would help us understand where the capital expenditures are allocated.

Yes. Chase, we really got some piggyback on sort of what we announced at the beginning of the year, right, the $200 million change that was announced. We think about it, there are maybe two new build digiFrac fleets costing about $120 million, probably, then there is the $50 million to $58 million for the reactivations and the balance just for some additional wet sand handling, technologies and some margin build for projects that were green-lighted with the improved pricing.

Okay. Let me ask you this, the fleets that you are reactivating in the back half of the year, are those upgrade fleets? Are you spending to upgrade those, or are those just going to be kind of Tier 2 fleets?

If they ask, we are not upgrading the TF4 DGB at that price, although it is possible. However, they are somewhat limited in their current position. They would be classified as a Liberty Tier 2 fleet, which offers durability that will support the transition of those clients to next-generation fleets over time. Each of those lines will have a different timeline over the next five years.

Okay. That makes sense. If I could ask about the buyback, I’m curious about your thinking on the pace of the $250 million. I understand you haven't committed to it yet, but should we consider it as aligning more with how free cash flow develops, or will it be more of an opportunistic approach based on your assessment of intrinsic value compared to the stock's trading price?

Yeah. Entirely opportunistic, Chase, no formulaic money is going to flow out at X. Buybacks to us are opportunities. When you have a balance sheet to support them and you have a large compelling difference between the intrinsic value of the share and the price at which you can buy shares. So the way in which we will buy back our stock is strongly dependent on the magnitude of that dislocation between intrinsic value and market price.

Okay. Could I ask how you define intrinsic value or how you calculate it?

Yeah. I mean, obviously, I won’t share the details, but it’s just common-sensical discounted cash flow incorporating our weighted average cost of capital and a range of possible scenarios going out to the future in our business.

All right. Makes sense. That’s help pretty much everybody thinks about it. All right. I will turn it over. Thanks, Chris.

You bet. Thanks, Chase.

Our next question comes from Stephen Gengaro with Stifel. Please go ahead.

Thanks. Good morning, everybody.

Hi, Steve.

I have two points to discuss, if that's okay. First, regarding the fleet reactivations for the latter half of the year, you mentioned that we expect to exit next year with over 40 units. Are we starting from around 35 in the second quarter? I'm trying to understand the percentage increase for the third quarter and how to consider the digiFrac fleets as we move into 2023.

It's like, Stephen, yeah, we are quite mid-30 and 35 number-ish. We are obviously activating run rate in the second quarter, but then the balance will be activated. So as you go through the year through the end of the fourth quarter. That’s a…

Okay.

...straight line of making model.

Okay. When we consider the significant rise in profitability per fleet in the second quarter, reaching roughly $23 million of EBITDA per fleet, can you explain how this transition happened from the first quarter? I presume it relates to price utilization and may include some contributions from the sand business. What are your thoughts on the potential for this number? You've provided guidance, but do you see it possibly reaching the high 20s as 2023 progresses, or would that be overly ambitious? Any insights on the transition and where this figure might head moving forward would be appreciated.

The potential for future demand largely depends on the demand side of the oil supply and demand equation, particularly in relation to how any upcoming recession might impact demand next year. Currently, internal numbers indicate the industry is operating around 250 fleets, with an expected increase to 275 by year-end, although it may remain somewhat stable at this point. There is certainly potential for price increases, but it remains to be seen as we observe fluctuations in the market for frac fleets and the overall economy. We need to monitor the situation as we progress.

Stephen, while we can't predict the future, the current trends are looking quite positive. Our performance will depend on a mix of operational efficiency, pricing trends, and ongoing improvements in our operations. We're working on becoming more efficient to achieve more at a lower cost and with greater safety. There are many factors at play here. Although we hesitate to make predictions, we did note a year ago that we anticipated a return to mid-cycle economics this year. This outlook was based on margin conditions, a reduction in supply, and the expectation that demand will eventually increase. The decrease in supply alone should help stabilize the marketplace given the challenging conditions in the frac market over the past two to two and a half years.

Great. Very good. Just one quick one, Michael, you mentioned this, but as the market evolves over the next couple of years. Do you view the upgrades and the digiFrac as ultimately replacements for these Tier 2s that you are reactivating and it’s sort of a bridge to newer higher end assets?

Generally what we see among this thing in the market should be based on what has been announced for new builds. It approximates about what the attrition cycle is for frac fleets. If you think about the 10-year life for some of the older fleets, diesel fleets, etc., that still would be announced numbers that are coming out, I feel there are approximately the same. We did pretty balanced market a very disciplined approach by ourselves and we know that for diesel, we think that’s good for the frac market overall.

Very good. Thank you for the color, gentlemen.

Thanks.

Our next question comes from Arun Jayaram. Please go ahead with your question.

Chris, Michael, good morning. Chris, I was wondering if you could give us a little bit more bigger picture around the scope or the ambitions of your fleet modernization program. You mentioned $500 million to $550 million of CapEx this year and at or a little bit below that kind of next year. I was wondering if you could give us a little bit more scope on how long do you expect the higher CapEx trend relative to maintenance to continue and what type of capacity do you expect over the next couple of years.

Okay. We don’t have any plans to add capacity per se. Our plan and we do have a plan on fleet modernization is sort of a continued gradual program. Of course, what’s actually going to happen is not going to be our plan, it might be accelerated if the demand pulls there, might be slowed down, we never put anything in stone. But I would say the migration to next-generation fleets, the economics are going to pull that pretty strongly. Both these next-generation fleets have meaningfully lower emissions. The very latest next-generation fleets are also going to have greater safety, higher reliability, and better performance. And then just from a straight numbers perspective, the delta in fuel cost per day between burning natural gas and burning diesel is large; it’s a big deal. So just the economic driver of fuel cost savings is likely going to have continued customer pull to get next-generation fleet equipment. But again for us, it’s not in expanding, it’s not growing our fleet; it’s just simply a disciplined return-driven upgrade cycle in our fleets that will be and is being pulled by our customers.

Great. I was wondering if you could just follow-up, just give us a sense for the two digiFrac fleets that are to be deployed starting in the third quarter or later this year. Give us a sense of how those deployments are going in terms of timing, and perhaps how the contract terms for the latest new builds are trending relative to your initial two that you plan to put in the field?

Arun, this is Ron. Yeah. Obviously, customers are excited to see that technology out in the field and we are excited to get it deployed out there. We continue to see strong demand. We are navigating some supply chain challenges, not so much on the pump side. We have pumps being delivered on schedule. We are struggling a little bit more on the power generation side. So that's holding us back a bit. We still expect to deploy our first two fleets this year in Q4 likely and the next two fleets probably in Q1 is our expectation to date. And as you think about, if you think about how that contracting has evolved, you kind of want to think about how the business, really the market has evolved over time. If you think about when we announced those first contracts we were in a little bit different environment there versus where we find ourselves today, leading edge pricing even for a Tier 2 diesel fleet has been pretty dramatically over the last three or four months. And so as we think about contracting next-generation fleets to the point Chris made earlier, the fuel savings opportunity there is massive; maybe we are $20 million to $25 million annually, and so we think about where leading edge Tier 2 diesel pricing is and then the fuel savings opportunity there, and of course, we want to capture some meaningful piece of it as well and that can provide guidance as to where we want to set pricing for our next-generation capacity we are deploying.

Great. Thanks a lot.

Our next question comes from Neil Mehta with Goldman Sachs. Please go ahead with your question.

Great, Chris and Michael, congrats on the solid quarter here. I want to build on some of your comments; you mentioned you don’t expect to add capacity. But broadly speaking, do you see current profitability levels as incentivizing your competitor set about adding capacity as the market overall? I guess where I’m going with it is do you see discipline fading at all?

We haven’t observed any of that, and the property is close to all the equipment builders. I’m not aware of any fleets being developed that aren’t influenced by ESG or stacks. I’m not aware of any straightforward capacity additions; if there are any, they are minimal. This is especially true among the larger players who are gaining an increasing share of the market. I don’t believe there is any appetite for this. Even though the market is strong today, if someone wanted three more fleets, they would need to sign up for 15 months to get them. However, the question is what the market will look like in 15 months. People seem to be burdened from overbuilding or repurposing too much idle equipment in the past. Therefore, we have not witnessed a decline in disciplined leasing. There is a rational discussion between us and our customers in a market where our customers are enjoying fantastic returns, and we are still lagging behind but are making progress in that direction as well.

Just a point on that, I mean really to think about it is we have 10% attrition in a year; now that attrition can be delayed somewhat, it is a very strong market, but eventually it comes, right? So I think that's one of the things you have got to look at when we look at sort of what is being built and it seems to be balancing with attrition over the long term.

Good perspective. And the follow-up is just around labor. A year ago on these calls, we were spending a lot of time talking about how tight the labor environment is and just talk about what you are seeing right now; are you still facing labor challenges, and how are you mitigating some of those risks?

Yeah. Labor markets remain tight. I would say you are seeing a few more people coming back into the labor force. So incrementally better than it was six months ago, but still a very tight labor market, nothing like we have seen in the last 10 years or 12 years. So incremental improvement in the right direction, what we focused on is very Liberty-specific opportunities about why it’s a great place to work at Liberty. Why people love their jobs here while we have low turnover. So, but it is in a on-the-ground effort and we are going into trade schools where people are learning to become electricians and welders and setting in those groups, having them do internships at Liberty, that’s having NCAA like signing ceremony that people sign on to join Liberty whether it’s at Alabama or Mississippi or somewhere that may not be right in the middle of the oil patch. So I give huge credit to our recruiting and HR team who just had to change the game a bit to find and attract people to come in. But people come here and if you treat them well and they have a great job, this is an exciting industry. So they are all solvable problems, but yeah, it is a challenge and it is a significant constraint. I would say others in turnover in our industry as a whole, I would say, is probably still quite high and most everything in our industry is short-handed today. So I don’t want to get too much comfort on the labor problems; they are real, but I think Liberty is doing a pretty good job navigating that.

Okay.

Our next question comes from John Daniel with Daniel Energy Partners. Please go ahead with your question.

Hey, guys. Phenomenal quarter. Congratulations. Quick question on the incremental fleets. How much of that growth is driven by your ability to tie your own sand and access to that sand versus just better overall industry demand?

If people are asking, this is primarily from existing customers, right? They are looking to increase some activities or perhaps dividing their work between Liberty and another provider. That other provider is facing challenges and not meeting their performance expectations. However, I believe the underlying factor is trust; customers know us, trust us, and believe we can deliver, regardless of the financial incentives required to increase our engagement.

Right.

So it’s all of that package of course, John. But we buy a lot of sand from third parties as well. Look, we are in a bunch of different basins. So it’s not just that we have sand mines, but it’s that we have relationships and history we are in a tight procurement market. I would say our goal has always been to not just be the preferred provider, but to be the preferred partner to our suppliers as well, so.

A little color on that too. I mean the activation…

Okay.

It is not located in one specific basin. They are in several popular basins.

Okay.

... to some degree helps in the ability to source labor and support those fleets and for supply chain to support those fleets. So the key things you are asking at this present point in time direct revenue in fleet is really is can you source the labor, can you source, can supply chain support them as a key event, because you are putting fleet to work and it’s delayed or have issues, it’s not a great improvement choice.

Right.

Thank you, guys. Great quarter again.

Thanks.

Thanks, John.

Our next question comes from Roger Read with Wells Fargo. Please go ahead with your question.

Yeah. Thank you. Good morning. I guess some of these questions have been asked, maybe digging just a little bit deeper on what you are seeing in terms of who’s coming to you to bid for potential new fleets or any future reactivations and have we seen that as a difference between sort of oil and gas basins understanding you don’t like to disclose exactly where the fleets are. But as you think about what’s going on in the bidding side, what you are seeing from your customers?

I would say it’s pretty balanced right now. It’s strong across the sector, well, strong meaning that the economics are good, there is pull for incremental demand, but the pull is for very small incremental demand. The fleet count from the start of the year till today maybe a little over 10%, growing a little bit quickly at the start of the year, probably moves a few percent from here at the end of the year, and we sort of model next year as sort of flattish at the end of this year, because there simply isn’t, people wanted 20 more fleets next year, I simply don’t think they are there. So we expect to see the continued sort of flattish with a slow creep upwards in active fleet count. And I would say, reasonably balanced between oil and gas, the end markets in both are pretty strong right now. But in both markets everyone across our customer and just friends, if you want current customers, the mindset across everyone is, it’s hard to add incremental supply and it wouldn’t be good if we all add a lot of incremental supply. That’s oil and gas production and frac fleets. So I think it’s a pretty disciplined sober state of affairs in the industry today.

Yeah. Thanks for that. And then maybe as a way to tie that into sort of production expectations as we look to the end of this year and next year. You mentioned earlier in the call challenges for operating efficiency for the industry. Just want to tie in a little bit with the labor issues, but if you think about relatively stable capacity in 2023. I mean does that imply that if we don’t get significant operating efficiency improvements, trained labor, et cetera, that it will be hard to deliver more wells and more production in 2023?

The current activity level serves as a key indicator for future trends in U.S. oil and gas production, particularly the amount of sand being used, which is a more significant measure than rig count. This metric is what we base our production predictions on. While there are complexities in how the sand is being utilized, the current level of activity is contributing to modest growth in both U.S. oil and natural gas production. Earlier this year, we projected an increase of 700,000 to 800,000 barrels per day in oil production. This estimate seems reasonable, and we might exceed or fall slightly short of it. If the current pace continues, we could expect a similar growth rate next year, likely around one million barrels a day this year, with a comparable forecast for the next year as well. Therefore, we're anticipating a growth rate of 500,000 to 1 million barrels per day next year. Natural gas production is also expected to increase, though at a modest rate, with growth plans continuing into next year.

Great. Thank you.

Thanks, Roger.

Thanks. Thanks, Roger.

Our next question comes from Scott Gruber with Citigroup. Please go ahead with your question.

Good morning.

Hi, Scott.

So as we talked to investors the last couple of quarters, we felt a general current disconnect between market expectations for frac fleet utilization and the trajectory of per fleet profitability many initially looked at the 2017, 2018 up cycle as a comp now saying just how weak that up cycle was. If you look back at 2011, 2012, per fleet profitability got closer to $30 million. Is that a level of profitability possible for the underlying frac business alone this cycle separate from the other businesses or is it a partnership model or cost inflation prevent you from pushing the frac profitability alone towards that $30 million level that we saw about a decade ago?

It’s certainly possible. Look, it’s supply and demand. Fleet profitability is in the low 20s now, and I suspect it could drift higher, but it’s hard to predict where it will go. We hope it doesn’t reach $40 million. If it goes to excessively high levels, that could lead to a loss of discipline, though there is still a lag involved. The economics look great, but they can’t acquire equipment for over a year. I still think we will see some restraint. However, when we encounter clients that truly need activity and are willing to pay for it, and we deploy these additional fleets, it may partially offset actions taken to get wells online. We don’t know where fleet profitability will head; it will likely continue to increase in the coming quarters, but how much or how far remains to be seen.

Got it. Got it. And then how should we think about the contribution from the non-frac businesses? It looked like you had a nice step-up in that contribution in Q. So as we think about 3Q and 4Q and into 2023, would the non-frac businesses profitability contribution expand at a faster pace than the underlying frac business, the more in line? How should we think about the cadence of that contribution?

I believe the frac business is growing at a faster rate. The non-frac business is more stable, and most of the sand that we've acquired from OneStim is primarily used in our frac fleets, with only a small amount going into additional third-party sales. So, I would say that in the first half, the underlying frac business is the one showing more rapid expansion.

And that would be expected to continue to lead in the second half.

I think it’s a fair assumption. I think so.

Okay, thanks for the color.

Hi, thanks. I wanted to go back to the 2023 CapEx, if it is flat or slightly down. Michael, could you just give us the buckets, because I am assuming that the maintenance number is going up because of just the active fleet counts going up, but maybe just level set us on the three buckets or however you want to describe it for 2023?

Yes, it’s really a soft estimate, Marc. I believe you mentioned a rough guideline of $3.5 million for the fleet in the low 40s. We are experiencing inflationary pressures on maintenance capital expenditures, but as we enhance equipment at scale, we are striving to mitigate those impacts. If you refer to those binders, the balance is truly a tentative estimate based on the decisions we've made on a customer-by-customer basis, with the majority intended for digiFrac.

Got you. Okay. Great. And one other...

They could change.

Pardon, go ahead.

Cash taxes. Can you give us any sense of what we should be assuming there, because I am assuming that’s quite a bit different from the book tax we see? Yeah. Well, cash tax is relatively minimal. The second half of the year probably in the order of $10 million to $15 million and is probably not too similar from book taxes. Obviously, we have got a very large valuation allowance related to the TRA that protects that 2023. Well, probably, it’s all about that the mix, as I had modeled it out, it has been little time with my tax return on some of the interplay there.

Okay. But not a meaningfully different number perhap, in the second half as we are just trying to triangulate on cash flow?

Yeah. I would say, in general, I think, so we will begin cash tax payment situation next year. So what sort of, again, I think...

Yes. Okay. Super. And then the last one for me is just kind of higher level on customer budgets here. I mean E&Ps have absorbed a lot of inflation over the course of the year and there’s at least for the publics there is a commitment to not increase CapEx too much. Are you seeing any customers adjust plans and activity because of the amount of inflation that they have seen and how are you thinking about that interplay into 2023?

I would say if people’s goals are based on what they want to do with their production. Do they want to keep production flat? They have very modest production growth. I think that’s generally the targeted activity levels and then they want to work as efficiently as they can to get those activity levels done. And obviously, frac pricing is a piece of that; we shift the piece, right? You can pay a higher frac pricing, book pricing, Liberty versus someone else, but the wells come on sooner and the efficiency of operation is greater. There are some onset in cost savings from that. So, no, I think what producers are keeping relatively anchored is their activity and production plans.

Got you. Okay. Thanks. I will turn it back.

Thanks, Marc.

Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Chris Wright for any closing remarks.

Yeah. I just want to say thanks for everyone’s time today for following Liberty’s business and for being involved in the energy business. Huge shout out to everyone on team Liberty that 24x7 is working hard to make our business successful and make the world go round. Thanks also to our customers and suppliers and everyone. We will talk to you next quarter.

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.