Natural Gas Services Group Inc Q4 FY2022 Earnings Call

Good morning, and welcome to Natural Gas Services Group Inc.'s Fourth Quarter 2022 Earnings Conference Call. All participants are in a listen-only mode. After the speakers' presentation, we will conduct a question-and-answer session. As a reminder, this conference call is being recorded. I would now like to turn the call over to Alicia Dada, Investor Relations representative. Thank you. Please go ahead.

Thanks, Julia. Hello, everyone, and thank you for joining us to discuss our full year and fourth quarter fiscal 2022 financial results. Today's call is being webcast on our Investor Relations website at ndsgi.com. Also available on the site is our earnings press release, which was issued Friday, March 31. Before I hand the call over, I'd like to remind everyone that during today's call, including the Q&A, we may make forward-looking statements regarding expectations of the Company. These forward-looking statements involve known and unknown risks and uncertainties that may cause actual results to differ materially from those expressed or implied on this call. These risks are detailed in our most recent annual report on Form 10-K, and as such, may be amended or supplemented by subsequent quarterly reports filed with the Securities and Exchange Commission. The statements made during this call are based upon information known to Natural Gas Services Group as of the date and time of this call. NGS assumes no obligation to update the information presented in today's call. With that, I'd like to turn the call over to Steve Taylor, our Chairman of the Board, Interim CEO and President. Steve?

Thanks, Alicia and Julianne, and good morning, everyone. Welcome to our year-end 2022 earnings conference call. Thank you for joining us this morning. Before taking your questions, I'll highlight our full year results that were detailed in our earnings press release Friday afternoon, discuss the current business environment and provide comments on other aspects of our business. I also note that we filed our annual report on Form 10-K with the U.S. Securities and Exchange Commission on Friday. Before providing the financial highlights for the fourth quarter and full year of 2022, let me provide some context on the current operating environment. Like the broader markets, energy commodities have been increasingly volatile in recent weeks. This isn't terribly surprising, given the overall uncertainty in the broader economy. We anticipate that volatility to continue, at least in the near term until the broader financial markets experience more stability and a clear picture regarding the banking system, Federal Reserve activity, and the overall economy emerges. That said, while it's unlikely that we will see the same oil price acceleration experienced in the past year, we believe the capital discipline of exploration and production companies, the production restraint demonstrated by OPEC Plus members, and the lack of near-term production growth is likely to protect the market from the oversupply of crude in the coming months. If this weekend's unexpected OPEC production cut is any indication, we may be witnessing a new chapter in global energy economics unfold that provides further support for hydrocarbon prices. On the demand side, while we are cautious on demand growth and may even see modest contraction from Western economies, that slowdown should be mitigated by a steady increase in petroleum demand from China as the economy reopens. In short, while we are less optimistic about price acceleration in the coming months, we are relatively confident that prices will settle in somewhere in the $80 range, which should provide excellent support for current production activity and the growth plans budgeted by our customers. Of course, we will visibly watch for signs of changes in supply and demand fundamentals and look to position the Company to take advantage of opportunities and identify challenges that would impact our operations and capital spending plans. While the natural gas market has less impact on our business plan, it is fair to say we are somewhat confounded by the lack of support for gas prices. That said, a perfect storm of an incredibly mild winter, especially in Europe, what appears to be a more moderate industrial demand in North America, and maintenance issues that reduced LNG export capacity from the United States all had an impact on gas prices. While all of those variables are likely to return to more normal levels over time, it is unlikely that natural gas prices will meaningfully accelerate in the near term. Regardless of the actual level of oil and natural gas prices, the dynamics of the production market provide significant opportunities for the compression business and Natural Gas Services Group in particular. As noted in previous quarters, as reservoir pressures decline, unconventional production increases and other production challenges arise, every barrel of oil produced in North America and around the world requires advanced techniques to reach the surface. One of the most important of which is compression. Absent some major economic or geopolitical surprise, which could include continued production restraint from OPEC that would impact global energy demand, we believe commodity prices should remain firm, which should lead to steady growth in production spending. NGS, with our past financial discipline, is well positioned to take advantage of these opportunities beginning this year and beyond. As we have said on our last call, while we have been and will continue to be focused on operational efficiencies, our line of sight to organic growth opportunities in the high horsepower market remains as strong as the industry has seen in a long time. We announced during the quarter that we expanded our credit facility with Texas Capital Bank to provide running room for future growth. At the end of 2022, we had approximately $25 million drawn on that facility. At the end of the first quarter of this year, our bank debt is roughly $55 million. This leverage has allowed us to grow our fleet for key customers, the vast majority of which is pre-contracted work. While our largest customers are among the best capitalized and strongest companies in the exploration business, we are always seeking new clients as a way to expand and diversify our revenue base. While our position as a net borrower is a relatively new development for Natural Gas Services Group, we have a long track record of successfully managing our balance sheet and making calculated, opportunistic investment decisions. Our borrowings are the result of the opportunities presently in front of us and our assessment of the future potential of key customers, including our quest to maximize returns for our shareholders. In the past, we have been able to fund our capital equipment expansions with a combination of balance sheet cash and operating cash flow. But the present activity is so strong and the equipment is so expensive that we are only able to take advantage of the market with supplemental borrowing. I want to emphasize that these are high-graded opportunities, ones with long-term contracts and market-leading rights. We are not chasing every job for oil. With that said, let's look at the results for the fourth quarter of 2022. Total revenue for the three months ended December 31, 2022, increased to $22.5 million from $22 million for the three months ended September 30, 2022, reflecting a 2% increase. Total revenues increased year-over-year from $18 million for the three months ended December 31, 2021, which reflects a 25% increase. Rental revenue increased 10.4% from $18.6 million in the three months ending September 30, 2022, to $20.6 million in the three months ending December 31, 2022. Rental revenue increased from $16.5 million in the fourth quarter of 2021 to $20.6 million in the fourth quarter of 2022, a 25% gain. The increases compared to previous periods were primarily due to the increased deployment of higher horsepower reeling units, with growth in the fourth quarter of 2022 supplemented by rental price increases. Rental revenues have strengthened and are now running between 85% to 90% of our total revenues in all comparative periods. As of December 31, 2022, we had 1,221 utilized rental units, representing just over 318,000 horsepower compared to 1,254 rented units representing 298,000 horsepower as of December 31, 2021. We ended the fourth quarter with 65.3% utilization on a per unit basis and 74.8% utilization on a horsepower basis. Notably, all of our higher horsepower equipment is rented, meaning that everything from 400 horsepower and larger is 100% utilized. Utilized horsepower increased by 7% in the fourth quarter compared to the year-ago period, while revenue per horsepower increased 27.3% when compared to the same period, demonstrating the robust price increases that we have been able to implement over the past year. Our total fleet as of December 31, 2022, consisted of 1,869 units and just over 425,000 horsepower. Our large horsepower assets comprised approximately 14% of our utilized fleet by unit count, but these units provide approximately 45% of our current rental revenue stream. Sales revenues for the sequential quarters declined from $1.8 million in the third quarter of 2022 to $1.3 million in the fourth quarter of 2022. However, on a year-over-year quarterly basis, sales revenue increased from $1.1 million to $1.3 million. For the full year comparison, sales revenues increased from $6.9 million to $8.6 million, representing a 24.5% increase. As noted in our earnings release, adjusted gross rental margin increased sequentially from $8.6 million or 46% of revenue in Q3 2022 to $11.3 million or 55% of revenue in the fourth quarter of 2022. This represents a rental gross margin increase of $2.7 million or approximately 30% in the sequential quarters. On a year-over-year basis, our adjusted rental gross margin of $11.3 million in the fourth quarter of 2022 more than doubled compared to $4.9 million in the same period in 2021. Adjusted rental gross margin as a percent of rental revenues was 55% in the fourth quarter of 2022 and 30% in the same period of 2021. If anyone recalls in the first quarter call of 2022, I stated that we would achieve at least a 50% adjusted gross margin in our rental business by the fourth quarter of 2022. I'm happy to say we exceeded that, with all the credit going to our service teams in the field. That is the primary financial metric, and they did an excellent job. Sequentially, we reported an operating loss of $316,000 in the fourth quarter of last year compared to an operating loss of $294,000 in the third quarter of 2022. The slight increase in operating loss from the current period was primarily due to higher SG&A and approximately $280,000 in equipment and inventory retirements. This compares to an operating loss of $8.2 million for the three months ended December 31, 2021. Operating income improvement was primarily due to higher rental revenue, higher rental gross margins, and significantly lower write-downs from rental fleet equipment retirements and obsolete inventory. Our net loss in the fourth quarter of 2022 was $757,000 or $0.06 per diluted share. This compares to a net loss of $80,000 in the third quarter of the year or $0.01 per basic and diluted share. The higher net loss in the quarter was due to higher SG&A and a higher income tax rate. On a year-over-year quarterly basis, our net loss for the three months ended December 31, 2022, was $757,000 or $0.06 per basic diluted share compared to a net loss of $5.6 million or $0.42 per basic and diluted share for the three months ended December 31, 2021. Improved rental revenue and gross margins were the primary contributors to the lower net loss. For the comparative full years, net income improved dramatically from a loss of $9.2 million in 2021 to a loss of $570,000 in 2022. For Q4 2022, adjusted EBITDA was essentially flat at $7.8 million compared to the prior quarter, but increased significantly from $2.3 million for the same period in 2021. I will note that SG&A expenses in the fourth quarter of 2022 were approximately $4.8 million, a $2 million increase from the year-ago period and an increase of approximately $700,000 in the third quarter of 2022. These increases were primarily attributable to severance and retirement expenses as well as other costs related to our executive transition process. Many of these costs were extraordinary and short term in nature, and we expect them to significantly decrease by the end of this year. SG&A is likely to fluctuate over the next several quarters due to trailing transition costs and the overall growth in our business, but we are acutely focused on these expenses and anticipate bringing them back into the 13% to 15% of revenue range that we have historically experienced. Our cash balance as of December 31, 2022, was approximately $3.4 million, with $25 million outstanding under our revolving credit facility. In 2022, we realized cash flow from operations of $27.8 million and used $65.1 million for capital expenditures, $57 million of which was expended on our rental fleet. As a side note, for those of you keeping track of the saga of our elusive $11 million tax refund, there has been some progress. We've been lobbying the Advocates Office of the IRS and recently had a conversation with the service. There is movement, but there’s a government speed movement. Refunds over $5 million have to go through an audit, which is estimated to take another year to complete. Mind you, this is on top of the almost three years we've already been waiting. In spite of that, we are celebrating the fact that it appears a real person exists with the IRS that acknowledges we have a valid claim. As indicated earlier, the compression market remains strong, and we continue to see demand for new compression units, largely in the high horsepower range. We expect to continue to deliberately expand our fleet to meet demand as long as such expansion meets our return expectations. While subject to change based on market conditions and variability in opportunities, we expect our annual capital budget this year to be $95 million. This may fluctuate due to the number of actual contracts we secure, our contract projections, and our assessment of the spec builds we need to pursue, but we think this is a realistic figure at this time. Before I take your questions, a couple of closing thoughts. First, as noted in our 10-K filed on Friday, our audit noted a weakness in controls related to our accounting for work in progress or WIP and how we categorize certain WIP in inventory versus long-term assets, as well as how and when we expense certain WIP inventory. This weakness essentially a balance sheet reclassification was a result of a lack of control policy that resulted in the misclassification of certain WIP inventories. As a result, we've made adjusting general entries to correct errors and work with our accounting staff and external auditors and consultants to address this issue, including developing appropriate controls to prevent this issue in the future. We believe the recent changes in our accounting and finance team and oversight from our new external auditors will mitigate future errors. Overall, we are pleased with the progress made over the past 12 months. While the noise around executive transitions could have been a distraction, NGS was able to remain focused on the business of growing our company and serving our customers, which is reflected in solid growth in our financial and operating metrics. Because now we're five years ago, we began our transition to a company focused on large horsepower compression. That transition continues and, as noted earlier, continues to grow in importance to our story. Already half of our rental revenue now comes from high horsepower compression, and large horsepower equipment is a key component of our margin growth. As noted last year or last quarter, we're now fabricating 2,500 horsepower compression packages, the largest units in our fleet, and continue to gain traction with those units as well as other categories of large horsepower equipment. We currently have 15 contracts for these very large packages. This is significant as we continue to leverage our large horsepower offerings with a broad range of existing and new customers, with an eye towards potential opportunities in midstream markets. We continue to sign rental contracts with both premium rate and term. Continued improvements in service and availability should allow that advantage to continue, and we believe it should extend to the 2,500 horsepower market. Also, in addition to our traditional compression business, we continue to see opportunities to provide compression related to methane reduction initiatives, which have received a boost from the Inflation Reduction Act. While still early in the game, our technology should not only reduce the carbon footprint of our compression equipment but should create operating and tax efficiencies for those engaged in that business. The balance of 2023 could be a pivotal year for this emerging business. On the governance and leadership front, our Board of Directors continues to engage in the search for a new Chief Executive and Chief Financial Officer. With that said, the team and I will continue to focus on the opportunities ahead of us. We are energized by daily activity and are excited about the future of our company. I'm grateful to J.D. Faircloth and his willingness to step in as interim CFO and help balance our Finance and Accounting Group. And as always, I'm incredibly grateful and proud of the entire NGS team for their dedication and efforts in making this not only a great energy compression company but a great place to come to work every day. Thank you, and I look forward to your questions.

Our first question comes from Rob Brown from Lake Street Capital. Please go ahead. Your line is open.

Just wondering, if you could give a little bit more color on the demand environment for high horsepower? I think you said you had 15 contracts in place. How is the new sales activity funnel? And how is the customer environment, I guess?

Now, the 15 contracts are just for 2,500 horsepower units. So, that's a brand-new market penetration for us. What we classify as larger horsepower, 400-horsepower and up, is very robust. We're sold out of those and we're building some more. More than likely, we expect those to be contracted as they roll off. If you move up into the 1,400 and 1,500 horsepower range, the same thing there. We're totally sold out in that respect, and we're building more of the 1,500 horsepower units. Again, most of—whether it's 400 horse or 1,500 horse or 2,500 horse for that matter, the majority of that equipment, 85% to 90% of it is already contracted. So obviously, the market is very robust. Right now, we don't have anything in the yard. Everything is being built either on pre-contracts or for the 400-horsepower, with some spec units being built in there because it's a pretty popular unit. So the demand is great right now, and we anticipate it staying that way. Our internal projections see a significant amount of big horsepower needed in the second half of the year and into next year. The OPEC move this weekend would do nothing to hurt that and probably enhance it. I would expect that the big horsepower just continues on unless we see some disruptive factor. But right now, we see it being pretty positive.

Okay. Great. And then the CapEx expectations of $95 million, how much of that is from that 2,500 horsepower market?

That—let me calculate in my head. That's probably— that's 1/3 to 1/2 of it, just those units right there. They're pretty expensive. So in the 1/3 to 1/2 range, but it kind of depends on how the rest of the build schedule comes out too on our 1,500 horse or a little toward 400 horse or something like that. But that gives you a rough idea, say, 35% to 50% of it is going to be that bigger stuff.

Okay. And then you talked about pretty nice growth in rental in the fourth quarter from my price increases. Do you see opportunities for further price increases? Or will that just flow through in '23 and drive the growth in '23?

We had some additional increases in Q1 of this year, which we'll report on in the next call. No, right now, I think we're at a good point. Any further price increases we see or choose to implement will probably just occur as a result of cost of goods going up—either the equipment itself or if we have continued inflation and supply chain issues—just inflationary impacts from those items. But from the point of market-driven or induced price increases that we may choose to do, we feel like we're okay where we are. Again, anything further will just be due to cost of goods or cost of service.

Our next question comes from Tate Sullivan from Maxim Group. Please go ahead. Your line is open.

Just looking at more changes in rented compressors, do you still have any smaller horsepower units coming back from the field? Or should it be, given your recent CapEx and $95 million CapEx plan, a pretty consistent cadence of increasing the total number of rented compressors in the field?

Any increase in the fleet is going to be obviously primarily driven by larger horsepower stuff. An increase in rented compressors would just be dictated by utilization, which we expect the high horsepower utilization to stay high. I think the medium horsepower will probably stay fairly steady. The only risk to utilization will probably be in the smaller horsepower, which is primarily driven by gas markets. But we haven't seen— even with the drawdown in gas prices, we haven't seen a whole lot of returns. We had some returns last year due to price increases, which we expected. Obviously, operators don't like the lower gas price. But we haven't seen a lot of equipment come back due to that. You have to remember, the gas price fell, but it didn't fall below where it's been for a decade. It went up mid- to the end of last year and then it came back down. But it kind of came back down to where it was—just the low prices we've all been used to for a long time. If you look at it on just a point-to-point basis, it looks pretty bad. If you look at the trend in the last year or two, it's pretty much business as usual. Gas price just doesn't do much. There's just a lot of gas in this country. We don't see a whole lot right there. We have seen some weaknesses in pricing on it, but that's about it—not a whole lot of returned equipment. I've had comments about, well, you go ahead and get this line of credit and you take on some debt you haven't had. People forget we used to have debt, but it's been 10 or 12 years ago. People do this and now oil prices had gone down. Of course, they came back up today. Gas prices have gone down, interest rates are going up. Oh my gosh! What the heck's going on? If you look at our overall fleet, about 25% of our revenue is driven by natural gas activity. So it's pretty small. It used to be 10 years ago, it was 100%. With this large horsepower diversification, we've started shifting our revenue towards oil commodity economics versus natural gas commodity economics. Only roughly 25% of our revenue is driven by pure natural gas activity now. The other 75% is driven by oil, mainly due to the gas lift operations that a lot of producers have started doing based on shale production. Yes, if you look at gas price, I'd love for it to go to $5 or $10. I don't think it's going to anytime soon. However, any variation in that gas price has a limited effect on what we're doing. It has no effect on our capital expense because we really don't reinvest in that smaller market, which is primarily driven by natural gas. Our investment now goes into the oil market. Both commodities fluctuate, but oil is a better commodity since it doesn’t stay low. certainly fluctuates but comes back into a fairly normalized range at times. Then you look at what's happened on the macro aspect from the banking and interest rates. There's everything else. There's all kinds of countervailing winds there. The interest rates, we've got a good banking group behind us. TCB is in there, and there are some big banks in there, that have done a lot of due diligence on our projections and financials, and they're comfortable with our plans. We have some nominal leverage requirements. We don’t project to ever see that going above 3:1. In a downturn, we are typically protected by longer terms and the higher rates. Whether it's debt you're looking at or just the normal fluctuations in the business, those contracts help get you through those. If you ever have to do something on the interest ratio, there are interest rate swaps that are fairly attractive right now, and you can go from variable to fixed, and vice versa if need be. We think we're in pretty good shape looking at the commodity pricing and macro interest rate environment.

And just one follow-up question on the compressors that you are retiring, and if you retire, maybe it's more of an accounting change when you choose to retire those units. Will there be any residual value in the retired units at all? Or do they just simply go to scrap with no potential proceeds long-term for you?

Yes. The ones we retired in Q4 were all smaller units pretty close to their depreciable life and actually a useful life. When we look at the retirement, it’s not just book value we look at, but it's the cost of overhauling something, rebuilding something back to usual potential, and then what's your potential economic benefit from it, right? What's your rent going to be? That drives those decisions. We were talking about $200,000 worth, which was actually about 150 or 200 units. So it wasn’t much of a write-down for the number of units, but they were primarily smaller, we got out of the fleet. We have the field guys strip off any parts they can reuse, and if we don't think we're going to use them to refurbish or reapply, we'll take them to scrap. One example of reapplication is what we announced last year: some electric motor conversion. We took some 250-horse class compressors, and put electric motors on them, and we're building up some electric drive packages. Therefore, we squeeze whatever we can out of that before we simply send the rest to the scrapyard.

Our next question comes from Justin Jacobs from Mill Road Capital. Please go ahead. Your line is open.

I appreciate you taking the time here. A couple of different categories of questions. Let me start on CapEx. The CapEx numbers are surprisingly large, $30 million in the most recent quarter. It sounds like you'd probably do something around another $30 million in the first quarter and $95 million for the coming year. Can you give me a description of what is in process of getting built? How many units are involved? Also, can you break that out by 2,500 horsepower, 1,200 to 1,300 horsepower, and 400 horsepower? Just trying to get a sense of what the fleet is going to look like as we move into the upcoming year.

Yes. From a debt balance standpoint, as I mentioned, we have $25 million at the end of '22 and $55 million at the end of essentially Q1 this year. We did spend $30 million in Q1. We had spent $25 million in Q4 because we had simply zero debt at the beginning of the fourth quarter last year. We're anticipating each quarter going forward to be about $20 million to $25 million. So Q2, Q3, and Q4 will each add to that $25 million plus our $95 million or $120 million debt balance by the end of this year. Now about the equipment count: I mentioned the 15 2,500 horsepower units. I don't want to give too much away to the various ones listening in. The majority of the remaining capital will be in the 1,500 horse units, which will probably make up roughly half of our total budget. And the balance between that and the 2,500 horse units will account for the 400-horse range.

Okay. So, let me go a little bit different direction. The all-in cost right now for a 2,500 horsepower unit—what is that?

The package is going to run in the $2.75 million to $3 million range.

Okay. And what is it for the 1,500 now?

Those are in the $1.5 million to $1.75 million range.

Okay. So those have gone up a little bit. My recollection from a year or two ago, they were more $1 million to $1.5 million. So, it’s the inflation. When we started building those 1,500 horse models probably almost four years ago, they were around $1.1 million roughly. They've gone up quite a bit. Okay. I can probably back into—are any of the 2,500 horsepower as of year-end? Were any of those out in the field? I think it was said that you had 14 contracted?

No. No, they're being built.

What's the expectation of timing for when they go out in the field?

It's going to be in the second half. It's hard to nail it down because some of that stuff shifts around, but it’s a Q3, Q4 sort of timeframe.

These are big CapEx numbers here. If we look at the earnings call a year ago, you told shareholders to expect $20 million to $25 million, but now we're doing $95 million this year. It's important for shareholders to understand kind of what the plan is and where we are going here on capital outlay. I appreciate some competitive concerns you have in terms of breaking out a number of units, but it’s very difficult to project what EBITDA is going to be generated out of this in the coming year and specifically the timing without some better detail of what the fleet is going to look like.

Yes. Our projections show that our debt would peak based on 2023 and this equipment being set and some EBITDA being generated in 2024. Obviously, the full year of whatever is put in the second half. Our debt would peak in about the fourth quarter of this year. I can only share what we see from a static standpoint based on our projections and what we see from the market. The EBITDA coming in starts paying that down, and we will have the debt paid down in a couple of years after that. That’s static. I know it. I know your question is, well, I want to know dynamics. I want to know what's going on next year. It's really hard to say what’s going on next year. If the market stays strong, it could be another $95 million; maybe I don't know. I hesitate to throw that number out there because it could be $50 million or it could be $25 million if we have a recession next year and things fall down. It's just hard to say. I'd have to really take a stab at something that we don't have any basis in fact for right now as far as what next year is going to look like.

Okay. All right. Let me go to a different topic here, which is the SG&A increase. If I look at 2022, it's $13.6 million, which is an increase of $2.9 million versus last year. All this increase is in Q3 and Q4. In the fourth quarter, you're running at 48% of SG&A. Two questions for you: first, what are the components of the $700,000 sequential increase from Q3 to Q4? And second question is, what are the components of the $2 million increase from Q4 a year ago?

The primary differences in the year-over-year are the retirement and severance expenses and, frankly, that it was my retirement agreement. Then John Chisholm's severance expenses, the interim there. So, we had higher costs—over $1 million on that. There were double salaries in there from a CEO standpoint for about six months, higher administrative salaries around $140,000 or $50,000, higher software expenses of about $150,000, and about $300,000 in higher consulting and stock expense. Now, sequentially, the consulting and deferred comp accounted for about $500,000 higher. Health insurance is a little over $100,000 higher, stock about $300,000 higher, and administrative salaries also increased. The majority of it is, as I've mentioned, some of these transition costs and my retirement agreement coming back in, with John being interim for six months, and the associated expenses there.

What were the nature of the consulting expenses?

We've had consultants working on the accounting side. We've had some—I don't know if the search expenses fell into any of those. I'll have to check on that. That may be a Q1 expense. Just some latest contract settlements and expenses we terminated.

That's one of my follow-up questions: Where are the search expenses? I know the company has multiple search expenses, which I was hoping at least that those are in Q4, but it sounds like that’s actually may be in Q1, so we've got incremental SG&A coming.

Yes. It doesn't look like the search expenses are in Q4; I think they will show up in Q1. There will still be some trailing costs, obviously, making it a bit more tough to predict the SG&A, but we think we’ll still be able to get down into that 13% to 15% historical range and will have it a lot better shaped by the end of the year.

Yes. Well, it sounds like it's actually going to go up a little bit because you're going to have your retirement agreement expenses hitting in both Q3 and Q4, and they're going to be there in Q1 still, I assume.

Yes. That will—but John Chisholm's expenses are totally in Q4 last year. I think a fair amount of those consulting expenses are in there too. The only thing coming on is that we see search expenses, but there are going to be some offsetting savings as well.

Yes. I mean it’s kind of big picture. As I look at Q3 to Q4, your company adjusted EBITDA went up $20,000 on what were rental costs?

Yes.

Okay. Yes, the Company adjusted EBITDA from Q3 to Q4 went up only $20,000. So your rental profit increase, which is material, is getting completely eaten up by SG&A. I'm trying to figure out what new units are coming in and when that EBITDA will roll in.

Yes—and no, you're right. That was disappointment in these results that the very good operating results got chewed up by some other transition severance retirement expenses. We don't break those out publicly on the SG&A, but that's looking forward and seeing what's coming off and what might come on. The only thing coming on would be that we see search expenses. Yes, we think we'll still be able to get down into that 13% to 15% historical range.

Okay. Let me go to just one last question briefly. This is kind of an audit function question around the Company. I know there's a material weakness in the K. Can you describe the issue a little bit?

Yes. It's primarily a balance sheet issue. There was some WIP that should have been classified as long-term assets versus inventory. That was the biggest issue, and there were some—primarily, it was engine compressor build parts, stepping build that was classified wrong. There were also some vehicle and software expenses that rounded it out, but the majority were compressor components and costs that were just misclassified on the balance sheet.

But you did—I mean, I think you mentioned another place you have brought in accounting consultants to— is that partially to address at least partially to address these issues?

Yes, to help us. The issues were addressed by our auditors and our personnel. We did employ an accounting consultant to help us write up some— clearly write up some findings. We thought it was better for a third party to write the findings for the SEC and the K to put a little more detail succinctly in there. That was the extent of the accounting consulting we used on that primarily to help us clearly define exactly what it was. But we, along with our auditors, have found it.

I also note also your earnings were delayed. Your call was rescheduled to this morning. This is the second time this has happened in the last year. Can you talk to me about why the earnings were delayed?

It's primarily just the transitions going on. We've got an interim CFO. With the earnings and everything, we had to essentially have Moss Adams come back in and attest to the findings. Anytime you switch auditors, which we did last year, the prior auditors had some review responsibility on that. So, the whole process took longer than we had anticipated. We held off the call, announced it about 10 days ago. We held off to make sure everything was done. Friday was the deadline for the K, so we went ahead and put that out in the earnings and then had to call it a day. It was a lot of transition and working through some of the issues that showed up in the material weakness.

Yes. So basically, the resignation of Moss Adams was a factor in this delay.

Only from the point that they had to come back in and review and attest to what they had done because they were part of last year.

Yes. Well, I'm saying the fact that they weren't the auditor. You got a transition here. There was in. So going through all that transition, plus not having a full-time CFO, that's an impact.

Yes, definitely.

Our next question comes from Hale Hoak from Hoak & Co. Please go ahead. Your line is open.

I know this whole transition of your retirement kind of drive down longer than you wanted and has been a little messier than you wanted. But appreciate you stepping back in and seeing it through. I'm curious, it seems like there's so much going on at the Company as the prior caller mentioned; you've spent almost your entire market cap in CapEx. As it relates to that, if you're spending $150 million of CapEx between 2022 and 2023, and I'm using round numbers, and I know you're hesitant to give guidance, which I totally appreciate. But is there any kind of directional numbers that you want us to think about on paybacks? I know when John Chisholm was involved, he was talking about kind of five-year paybacks or 20% returns. Can we think of this $150 million of CapEx over two years adding $30 million of incremental EBITDA once it's all up and running? Or is there any range you're willing to give us?

Yes. The returns we are looking at are in the right ballpark. We're looking at five to six years based on the equipment—five- or six-year cash-on-cash paybacks. Some are a little higher, but none of them are below the 15% to 20% range. Some of them are up into 20% to 25% range. So the returns look good. From an EBITDA standpoint, again, we start to get a line of guidance or projections, but the EBITDA returns will be in line with what that five- to six-year payout shows up to. So if you can look at that CapEx, I think you'll be able to take that CapEx number and look at that five- to six-year payback and be pretty close to what we think EBITDA is going to be.

Alright. And I guess getting back to your transition. There's a CEO search going on, but there are also some new directors being proposed. It seems probable—possible to probable to me that you have a different looking board in the next three months. It seems fair and reasonable to me that those potential new directors should have some input on who your new CEO is. Are you willing to stick around for three to six more months and let the board vote occur before a new CEO is committed by potentially a smaller and older board or the existing board?

Well, starting from the same perspective that I stepped back in when John needed to step down, I've got, as I remind people a couple of times, I've got a pretty good stake in the Company on over 5% myself. So, I'm intimately and intricately involved in how the Company operates and the returns given, and certainly the value derived through share price. I serve at the pleasure of the Board, and I would serve longer at the pleasure of the Board if need be. I'm not going to my agreement; it ends June 30. At that point, for the agreement, the CEO and President duties transition to the new appointment could transition earlier too, depending on what the search finds. That would be the— the agreement shows that as the last date. But if the Company and the Board deemed it necessary, I'm not—I'm not disconnecting my phone on July 1. I've been with the Company a long time. We feel like we've built a pretty solid foundation of stuff, and it looks like we're at a good jump-off point for some of the stuff. I'm here to serve at the pleasure of the Board, either moving out or standing in whatever the circumstance may be that the Board determines is best.

Well, the Board serves at the pleasure of the shareholders, and you're an extremely large shareholder, and our firm is your largest shareholder. I would love to see you stick around and let the new board shake out. It’s probable that there are two new directors. It seems fair, and reasonable for those people to have input on the CEO. That’s important to me. If the current Board tries to move through a new CEO before the annual meeting, I'd be extremely disappointed.

I appreciate your comments; I’m committed to the best interests of the shareholders and would also pursue to enhance shareholder value. I will serve at the Board's discretion, which may involve different aspects depending on what they decide.

Well, I appreciate your flexibility as always, and thanks for your hard work.

Okay, thanks, Hale.

We have no further questions. I would like to turn the call back over to Steve Taylor for closing remarks.

I appreciate everybody dialing in and the questions. As I just mentioned, I think we've built a good base to grow from. We have many opportunities ahead of us. Obviously, some things are different during these transitions. We have a bank line we need to utilize and use, and certainly, we need to deliver the returns that that demands and entails. I think we will have a good year going forward. Of course, I'll provide updates on our progress in the next first-quarter call. Thanks again to everybody, and enjoy your day.

This concludes today's conference call. Thank you for your participation. You may now disconnect.