National Energy Services Reunited Corp. Q3 FY2024 Earnings Call

Greetings and welcome to NESR's Third Quarter 2024 Financial Results Conference call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Blake Gendron, Vice President of Investor Relations. Thank you, you may begin.

Thank you, Donna. Good day, and welcome to NESR's third quarter 2024 earnings call. With me today are Sherif Foda, Chairman and Chief Executive Officer of NESR, and Stefan Angeli, Chief Financial Officer. On today's call, we will comment on our third quarter results and overall performance. After our prepared remarks, we will open up the call to questions. Before we begin, I'd like to remind our participants that some of the statements we'll be making today are forward-looking. These matters involve risks and uncertainties that could cause our results to differ materially from those projected in these statements. I therefore refer you to our latest earnings release filed earlier today and other SEC filings. Our comments today may include non-GAAP financial measures. Additional details on reconciliation to the most directly comparable GAAP financial measures can be found in our press release, which is on our website. Finally, feel free to contact us after the call with any additional questions you may have. Our Investor Relations contact information is available on our website. Now I'll hand the call over to Sherif.

Thanks, Blake. Ladies and gentlemen, good morning and thank you for participating in this conference call. Our third quarter was once again strong, following a solid first half of 2024, even on top of our robust growth last year. We continue to reach new all-time highs for revenue, EBITDA, EPS, and cash flow. Our balance sheet is increasingly fortified and poised for both accretive growth and prudent shareholder returns. Despite the prevailing market uncertainty, I am pleased to report that overall activity in the MENA market remains stable, and I am extremely encouraged by the prospects in NESR’s core business outperformance, new technology rollout, particularly in directional drilling, solid hydraulic fracturing execution, and frontier market opportunities in water and decarbonization segments. Combined with our recent relisting on Nasdaq, our outlook remains extremely bright, both in the fourth quarter and in the coming years. Before passing to Stefan to discuss our solid third quarter results and balance sheet positioning, I want to first offer some thoughts on the macro outlook. Our recent technological milestone is expected to fuel continued NESR performance and improve our overall positioning in an otherwise cautious sector landscape. I am extremely proud of the entire NESR organization as we continue to push the envelope on growth, margin delivery, and cash generation, which affords us the opportunity to reinvest in really exciting growth areas of our business. If there are two key messages from my prepared remarks, they are, one, that the MENA macro outlook remains healthy, underpinned by growth in key countries, alongside Saudi leadership in pragmatically managing energy market balances with a strong focus on gas and unconventional development. Two, we expect NESR to continue to outperform the broader sector with exciting developments in our core, our drilling technologies, and in frontier areas such as produced water and minerals. These areas are driving NESR’s solid performance now and are expected to sustain performance over both the near term and in the years to come. Turning first to the macro, the overall commodity outlook has certainly impacted sentiment in the upstream energy sector, and especially for energy services. While the global upstream growth outlook today is more cautious than it was even six months ago, we believe that MENA activity will remain stable, particularly with recent activity growth in countries like Kuwait, which is expected to lead overall MENA growth for the next couple of years on a percentage basis. Encouragingly, North Africa is again growing steadily, and there is plenty of appetite to accelerate further in places like Libya and Algeria. For NESR, we have a scalable presence; we can easily add significant resources from equipment and capital to cater for rapid growth should the geopolitical landscape improve and opportunities materialize financially. Overall, stable activity across the MENA region hardly matches the softened capital market narrative. We have very good visibility for the coming activities and where they will take place, specifically because of the long-term nature of the contract and the strategic importance of the energy sector in the region. A case in point is the Saudi unconventional gas project, which will remain a secular growth story given the ambition to grow domestic gas capacity substantially by 2030. Turning now to the portfolio, first and foremost, our core business continues to outperform even in a subdued growth environment. Given our relative size compared to our more global peers, our opportunities in the core center around our ability to leverage leading shares in our anchor countries to pull through smaller segments in which there is room to grow market share in other countries. Examples of this dynamic include the regional spread of drilling and manufacturing expertise from our team in Oman, the industrial service from Egypt, and the duplication of our Saudi FRAC success in other potential unconventional resources. With solid growth in the core driving success, it is our ROYA directional drilling platform that we expect could carry the outperformance forward over the next several years. The tier one directional drilling market is more than $2 billion per year across rotary steerable, LWD, and MWD. It is a high-quality revenue stream given the consolidation and sophistication of the technologies. Recently, we announced the first successful run of our rotary steerable and MWD in Kuwait, in which the technology was able to complete the targeted interval in a single run. This milestone marks the culmination of nearly six years of joint investment, research, development, and field testing with more than 70,000 feet drilled. But more importantly, it signals the commercial viability of our technology. We already have multi-year contracts with a provision to deploy our new tier one directional drilling platform in Kuwait, Saudi Arabia, and Oman, and the upside within these contracts is significant. Our next goals for ROYA include repeatable success, reliability enhancement, personnel training, and growing our fleet of tools to expand our share as we continue to gain confidence in performance across the different reservoirs and formations. Another unique work we are undertaking at NESR involves a completely new market opportunity that is being defined and reassigned through our collaboration with our largest customer. Our NESR environmental and decarbonization application, or NEDA, is a basket of technology aimed at establishing multiple circular economies within the MENA energy value chain. Often, as we've mentioned multiple times before, we found our NEDA technology outside of the oil and gas industry and adapted it to fit specific client challenges. One such circular economy is the circular water economy. In the third quarter, we announced our investment in SALTTECH BV, a supplier of technology called DYVAR, or Dynamic Vapor Recovery, which is a low heat desalination solution originally from the Dutch dairy and chemical industry. Over the past couple of years, we've worked with our largest customer to adapt the DYVAR specifically for high salinity produced water and have successfully executed two pilot projects in the country. Furthermore, we evaluated the technical efficacy of recovering invaluable minerals from the produced water during the desalination process, including rare earth metals such as strontium and lithium that are native to this reservoir water. The SALTTECH acquisition is a signal of our confidence in the multi-circular model of water and mineral recovery. While this area remains a very long development and scale-up cycle, we are extremely excited about the medium to longer-term prospects in our water-starved MENA region. Our open technology platform serves as the foundation for successful innovation, but it is the combination of our local know-how, operational agility, and the trust and open-mindedness of our customer that is driving technological success in the field. I am extremely excited to share further updates on our strategic initiative in due time, including our NASDAQ Bell Ringing and Tech Expo tomorrow in New York City. But for now, I will conclude and hand the call over to Stefan to discuss our financials in detail.

Thank you, Sherif. Good morning to our audience in the U.S., good afternoon, good evening to our audience in the Middle East, North Africa, Asia, and Europe. I'm very pleased to go through our third-quarter financial results in detail. Despite the volatile macro environment worldwide and the geopolitical headwinds in the Middle East, NESR has achieved exceptional results during the third quarter of 2024 and for the first nine months of the 2024 period. First, let's cover revenue. Our overall third-quarter revenue is a record $336.2 million, which is up 3.5% sequentially and 12% year-over-year. Revenue for the nine-month year-to-date period is $958 million, up 14.3% year-over-year with exceptionally strong activity in the Gulf countries. We expect year-over-year growth in the fourth quarter to largely match the year-over-year growth achieved through the first three quarters of 2024. Our view is that growth will continue across the Middle East, North Africa market for the remainder of 2024 and into 2025 as outlined by Sherif. Now, turning to adjusted EBITDA. Adjusted EBITDA for the third quarter of 2024 is also a record $80 million, with margins of 23.8%, substantially flat on a sequential quarter basis. Year-to-date adjusted EBITDA is $222.9 million, up 21.9% year-over-year with margins up 146 basis points to 23.3%, with NESR exiting Q3 2024 with a margin of 23.8%. Interest expense for Q3 2024 is $9.9 million, and Q4 2024 should be around $9 million on lower debt. The Q3 2024 effective tax rate is 20.4%, and for the year-to-date period ending 30th of September, it is 24.3%. We would expect the Q4 2024 effective tax rate to be approximately in line with Q3 2024. Now turning to EPS, earnings per share excluding charges and credits is $0.31 for the third quarter of 2024 and $0.75 for the 2024 year-to-date period, which is up 164% year-over-year. The charges and credits impacted adjusted EBITDA and adjusted EPS and were made up of principally three items as follows: restructuring cost, which was used to reduce our overhead; cost of remediation of controls, material weaknesses, which should abate after the 2024 audit; and current expected credit losses mainly for a North African country. Now turning to our liquidity, this is a story that NESR is very proud to discuss. Our cash flow from operations during the third quarter of 2024 is very strong as we generated $70.8 million. For the year-to-date 2024 period, we generated $183.1 million. The exceptionally strong third quarter is due to significant customer collections, which drove our DSO to a new company best. Free cash flow for the third quarter is $43.4 million, and for the year-to-date 2024 period, it was $103 million, and this was principally used to pay down bank debt. As a result of the strong operating results and good cash flow conversion, we achieved a significant milestone at the end of the third quarter of 2024, where our net debt to trailing 12 months adjusted EBITDA fell to 0.96, which is below our stated target of 1. For comparison purposes, we were at 2.8 at the end of 2022 and 1.47 at the end of 2023. Our gross debt on September 30, 2024, is $409 million and our net debt is $291 million. Working capital levels have remained relatively flat during 2024, despite revenue growth of 14% year-to-date on top of the 26% in 2023. Working capital expansion has been minimized due to process improvements and system developments that have enhanced our efficiency, resulting in the DSO decreasing by 15 days over the last 21 months and a decline in inventory levels of nearly 10% over the same period. Capital expenditures for the first nine months of 2024 is $80 million. We still expect full-year CAPEX to be in the vicinity of $120 million, driven by the delivery of our first ROYA directional drilling tools, which support the drilling strategy just outlined by Sherif. All of the above has resulted in our return on capital employed percentage on a trailing 12-month basis at September 30, 2024, reaching 11%, and this should only improve going forward. Now on to some housekeeping topics. As you have seen, we were re-listed back on NASDAQ four weeks ago on Tuesday, 22nd of October, and we are looking forward as a company to ringing the bell at the NASDAQ closing ceremony tomorrow. We've spent the better part of the last two years, two plus years, reshaping our back office and the company overall with new and updated processes, procedures, and controls, as well as implementing the latest software upgrades through our ERP system. We are very confident that we'll be able to demonstrate the remediation of our internal control weaknesses due to the 2024 audit. This conclusion is very positive news for the company after almost three years of restatements, investigations, inquiries, and internal control remediation efforts. Very soon we should have concluded all of that. In summary, operational execution across the Middle East, North Africa region continued to be strong during the third quarter of 2024 and our updated processes, procedures, and controls have transformed the back office to accommodate the continued growth that we are targeting. These drivers have combined to generate record results for the year-to-date 2024 period with strong revenue growth, strong adjusted EBITDA, and healthy cash flow conversion, the latter of which is being used to pay down debt and strengthen the balance sheet overall. The Middle East, North Africa region remains favorable and NESR continues to be focused on its stated goals of delivering profitable revenue growth, execution efficiency, technology expansion, debt reduction, and working capital efficiency to drive future financial performance. On behalf of management, I would like to thank our entire workforce for their outstanding efforts in delivering these results, together with our directors, shareholders, and banking consortium for their continued support. The future for NESR continues to look good. Now I will turn the call back to Sherif.

Thanks, Stefan. Let me conclude by highlighting our key takeaways from the quarter. First, I would like to leave you with our belief that we will continue to outperform the broader MENA market. Not only is there further runway for core business expansion, but we've also achieved tangible progress in our ROYA platform development and expect this to be both a meaningful growth contributor and returns accretive over the coming years. We will continue to have new partners introduce their technologies from North America to the region with tailored solutions for our customers. Similar success to what we have had with Cactus, Phoenix, Scout, Beyond, and others. Our NEDA segment and specifically our water and mineral portfolio are where some of the most interesting work in the company is being done. Our strategic investment in SALTTECH follows several years of successful piloting and mineral recovery success. Now we need to take the water business to the next level and scale the execution. I would like to close by thanking all of our employees, their families, and our valued customers and partners for their continued support. I couldn't be more excited about the future for NESR. Looking forward to seeing many of you tomorrow at the NASDAQ building, where we have several key of our executive and managers flew from the region to New York to present our technologies and engage with all of you. And with that, I pass over the call to the operator for your questions.

Thank you. Today's first question is from David Anderson of Barclays. Please proceed.

Great. Good morning, Sherif. How are you?

Good morning, sir. How are you?

I'm doing great. Glad to have you back, formally here, and looking forward to tomorrow night’s event. So, first question: maybe if you could kind of give us a little overview of what's going on in Saudi. It's been a complicated year, offshore going down, onshore coming up, a lot of focus on gas. Do you feel like they're slowing a bit? Can you just sort of give us the overview of what's happened this year so far in Saudi and how you see that changing over the next 12 months?

Yeah, thanks, Dave. As outlined clearly by Saudi ARAMCO, after they reduced the maximum sustainable capacity from 13 to 12, they had a plan to add 1 million barrels to go to 13 million barrel total capacity, with 800,000 coming from offshore and 200,000 coming from land. That plan was postponed to only be 12. They released the planned increase in rig count. For those familiar with Saudi, the rig count used to be about 60, which is very high. The plan was to go all the way to 91, and they almost reached it. After that decision, they started releasing the offshore rigs that were planned for the additional capacity, which basically has been postponed. As that release of rigs began earlier this year, their success on the unconventional projects started to emerge too, where there's a lot of associated gas. Their plan to move to 50% gas, 50% renewable for power generation in the Kingdom by 2030 contributed to this situation. They are very disciplined on OPEC Plus and ensuring the market remains balanced. The latest assessment showed that they have the ability to produce 12 million without needing additional rigs when oil demand is low.

So how do things look with the rigs having come off? We've kind of seen that sort of reset activity level. Do you expect things to stay at these levels and Jafurah keep ramping up here, or how does the next 12 months look in terms of broader activity levels in Saudi? You don't need to be specific, but just broadly, how does it look now?

I think the overall activity in Saudi will be stable, outside of Jafurah, which will keep increasing. The number of rigs that are going on extended maintenance reflects the slower oil drilling activities. For 2024, I anticipate the activity will be stable or slightly lower due to reductions in oil. However, the increase in gas and projects in Jafurah will compensate for that, and we expect NESR to continue to grow in 2025 over 2024. We believe we are particularly well-positioned for growth based on our drilling portfolio and the technology in place.

That's good to hear. Thank you very much, Sherif. I appreciate you taking my questions.

Thank you. The next question is coming from Gregory Lewis of BTIG. Please go ahead.

Yeah. Hi, thank you and good morning, good evening everybody. Sherif, I was hoping we could blend together the growth that we're kind of expected to see in MENA versus the cross-selling and rollout of ROYA and try to get a sense for how you think about revenue growth in 2025 versus 2024. Do you have any sense for that mix of outperforming the market and layering in those cross-selling opportunities?

Overall, the MENA market is expected to grow at a single-digit rate, around 5% to 6%. NESR should be able to outpace that growth, doubling the rate with our ROYA platform's success. As our directional drilling proves commercial viability, we expect to gain market share, especially with our contracts in Saudi Arabia, Oman, and Kuwait. We're poised to deliver these technologies in a prudent manner for the customer's benefit.

Thank you. The ongoing debate about when OPEC Plus will start ramping production again raises an interesting question. If production is increased in 2025, how would that impact your activity levels? Is that additive or is that a non-event?

It depends on the market demand. OPEC Plus will need to keep prices healthy for economic growth, so it’s unlikely they'll flood the market with oil. We expect a stable activity level, but if oil prices rise significantly due to geopolitical factors, activity will increase. For now, our projections are based on current oil price levels and the cautious stance from OPEC Plus.

The next question is coming from Derek Podhaizer of Piper Sandler. Please go ahead.

Hey, Sherif, good morning, and congrats on the re-listing.

Thank you, sir.

I wanted to revisit your comment about your ability to cater to growth in the MENA region. How should we think about that regarding your equipment base and what it means for the CAPEX investment cycle? What can you service today, and where would activity need to go to build out new capacity? What does that mean for pricing and margins moving forward?

Hey, Derek, it's Stefan here. As I mentioned, this year we spent $80 million in CAPEX and expect around $40 million mainly for ROYA tools next year. If revenue from ROYA exceeds our expectations, we could potentially increase CAPEX. We anticipate maintaining CAPEX around $120 million for a 5% to 10% growth next year.

I wanted a bit of color on the free cash flow conversion of that incremental CAPEX. How should we view the overall free cash flow generation?

On $120 million of CAPEX for next year, we're likely looking at a high 30% to 40% free cash flow conversion. However, working capital might become less efficient, as we have done very well over the past two years. I would project around 40% free cash flow conversion for EBITDA.

Thanks for the helpful comments, Sherif and Stefan.

At this time, I would like to turn the floor back over to Mr. Foda for closing comments.

Thank you very much. We really appreciate all the time that everybody has put in. We would like to thank all our employees, their families, all our shareholders, banks, and partners. We had a very good time now, and we are looking forward to seeing a lot of people tomorrow. We will be on NASDAQ for the closing bell and will have our tech exposition two hours before, featuring our ROYA platform, NEDA, and decarbonization technologies. We have executives and managers coming from the Middle East to present and engage with all of you. There will be time to celebrate with the closing bell and the event afterward. Thank you very much. Appreciate all the support.

Ladies and gentlemen, this concludes today's event. You may disconnect your lines or log off the webcast at this time and enjoy the rest of your day.