Earnings Call Transcript - TTI Q1 2021

Operator, Operator

Good morning, and welcome to TETRA Technologies First Quarter 2021 Results Conference Call. Speakers for today's call are Brady Murphy, Chief Executive Officer; and Elijio Serrano, Chief Financial Officer. I will now turn the conference over to Mr. Serrano. Please go ahead.

Elijio Serrano, CFO

Thank you, Chad, and good morning. Thank you for joining TETRA's first quarter 2021 results call. I would like to remind you that this conference call may contain statements that are or may be deemed to be forward-looking. These statements are based on certain assumptions and analysis made by TETRA and are based on a number of factors. These statements are subject to a number of risks and uncertainties, many of which are beyond the control of the company. You are cautioned that such statements are not guarantees of future performance and that actual results may differ materially from those projected in the forward-looking statements. In addition, in the course of the call, we may refer to EBITDA, adjusted EBITDA, adjusted gross margin, adjusted free cash flow, net debt, liquidity or other non-GAAP financial measures. Please refer to today's press release or our public website for reconciliation of non-GAAP financial measures to the nearest GAAP measure. These reconciliations are not a suitable substitute for financial information prepared in accordance with GAAP and should be considered within the context of our complete financial results for the period. In addition to our press release announcement that went out earlier this morning and is posted to our website. I now turn it over to Brady.

Brady Murphy, CEO

Thank you, Elijio, and good morning, everyone. Welcome to TETRA Technologies' first quarter 2021 earnings call. I will highlight the quarter's achievements and our current outlook before handing it over to Elijio for information on cash flow, our balance sheet, and the potential effects of being included in the Russell 2000. The first quarter marks a full year since the COVID-19 pandemic began and has significantly affected the oilfield services market. With inventories decreasing and prices stabilizing at pre-pandemic levels, aside from the February winter storm, it seems the most severe downturn in activity is behind us, and a market recovery is beginning. I am proud of TETRA's accomplishments during this challenging period, including meeting important milestones that position us well for the recovering oil and gas market and for enhancing our low carbon energy opportunities. Although North American completion activity fell sharply last year, our unique offerings in the Water & Flowback segment have allowed us to maintain a positive adjusted EBITDA every quarter since the pandemic began, while our industrial chemicals and international business performed exceptionally, leading to improved TETRA-only adjusted EBITDA margins in 2020 compared to the previous year. Moving forward, we view the first quarter as the lowest point for our international and offshore completion activity, and aside from the period affected by the February storm, U.S. market activity has seen a notable recovery from last year's lows. Our March adjusted EBITDA margins for Water & Flowback were above 25%, and our Completion Fluids segment also performed well, giving us confidence in a strong second quarter and the rest of the year. During the first quarter, we reached several key milestones, including successfully executing the deconsolidation of CSI Compressco, generating over $30 million in cash while retaining an 11% interest. We reduced our term loan from $220 million to $184 million and achieved eight consecutive quarters of positive adjusted free cash flow. Despite the adverse impact of the February winter storm, we maintained positive adjusted EBITDA for our Water & Flowback segment. Furthermore, we have advanced several low carbon initiatives that have progressed faster than anticipated just 90 days ago. Adjusted EBITDA for the first quarter was $9 million, with the historical winter storms negatively affecting it by approximately $3.1 million. This quarter also included $4 million in gains from increased equity values in our holdings in CSI Compressco and Standard Lithium. We generated $5.4 million in adjusted free cash flow from continuing operations, even though cash flow generation was challenging due to early first quarter payments and increased inventory in anticipation of the peak season for our European chemicals. We concluded the first quarter with liquidity of $81 million, despite reducing our term loan to $184 million. Although our international and offshore business faced difficulties, revenue for Completion Fluids & Products increased by 5% sequentially, driven by higher industrial chemical sales due to winter weather conditions and rising demand for U.S. land oil and gas. Adjusted EBITDA decreased by $3.4 million due to a mix of higher U.S. land oil and gas sales and lower sales in higher-margin offshore international markets. This segment also suffered an $800,000 hit from the winter storms, which disrupted our chemical supply chain and caused many plants and operations to shut down. Adjusted EBITDA margins in the first quarter were 23.7%, the eighth consecutive quarter above 20%. We exited the first quarter with adjusted EBITDA margins above 25% and expect this trend to continue into the second quarter. The second quarter will also benefit from the seasonal uptick in our Northern European industrial business, which historically sees revenue rise by around $15 million compared to the first quarter. We anticipate stronger international and Gulf of Mexico deepwater activity due to delayed projects from the first to the second quarter and overall increased activity levels. At an industry conference in February, we presented a paper with ExxonMobil, showcasing the success of our CS Neptune product on multiple projects completed for them in recent years. We are grateful to ExxonMobil for their collaboration in presenting this paper, which highlights the advantages of an environmentally-friendly, zinc-free solution for challenging deepwater high-pressure wells. The drop in oil prices in 2020 due to COVID pushed several CS Neptune projects to later this year and into 2022. However, our list of opportunities remains promising, and we continue working with our customers to finalize their drilling plans and ensure well pressures align with CS Neptune's capabilities. For Water & Flowback Services, revenue and adjusted EBITDA for the first quarter declined from the fourth quarter primarily due to adverse weather impacts from the winter storm, which we estimate negatively affected adjusted EBITDA by about $2.3 million. Nevertheless, our flexible cost structure allowed us to stay adjusted EBITDA positive despite operational disruptions. Our BlueLinx automated control system continues to play a critical role in our integrated water management projects, helping us gain market share. As activity rebounds and the demand for field staff rises, the importance of our automation in controlling labor costs will grow. The number of integrated projects increased from 35 in the fourth quarter of 2020 to a record 47 projects with 22 different customers. Our customers see the value in integrated projects, and automation is essential for improving efficiencies, enhancing safety, addressing environmental issues, and decreasing the number of service providers they manage. Utilization of our proprietary SandStorm technology remains high, and we began taking delivery of more units in April, which we are deploying to generate quick cash returns. We also secured a second project in Argentina for a fully automated sand recovery system using SandStorm technology, in addition to the project announced in the fourth quarter earnings call. Our team is focused on implementing price increases, and we are seeing success in this area thanks to a better oil price environment and increased activity levels, along with our ability to consistently deliver top-notch efficiency and service quality in the industry. March marked a significant improvement over February for this segment; we achieved double-digit adjusted EBITDA margins in March and expect to exceed those for the second quarter due to stronger activity levels and improved pricing resulting from our ongoing deployment of SandStorm technology. Regarding our low carbon energy initiatives, we are concentrating on three key areas, all of which are progressing ahead of schedule compared to our earlier expectations. Yesterday, we announced a memorandum of understanding with CarbonFree to collaboratively advance an innovative and commercially viable carbon capture and utilization technology. CarbonFree's patented SkyCycle technology employs calcium chloride in converting CO2 to precipitated calcium carbonate. This market is well-established and represents a valuable use for CO2 waste streams. We are excited to partner with CarbonFree, leveraging our nearly 40 years of expertise in calcium chloride chemistry and our global presence. We see numerous cost and commercial advantages to this technology, which could lead to substantial growth for TETRA. Additionally, we hold leases covering over 30,000 acres in Arkansas with estimated bromine resources of 3.9 million tons and inferred lithium resources of 890,000 tons. The underground sales value of these resources, based on today's market prices for bromine and lithium carbonate, exceeds $18 billion. Given the significant role both minerals play in electrification and energy storage, the demand outlook is very promising. Most of our lithium resources stem from our collaboration with Standard Lithium, which is advancing as a key U.S. source of high-quality lithium carbonate. Per our contractual agreement, we received an additional 400,000 shares of Standard Lithium in April. In the first quarter, we also made significant strides in qualifying our PureFlow, the brand name for our high-purity zinc bromide, with various energy storage companies that utilize zinc bromide in their battery technology. We are currently engaged in commercial discussions with these companies and anticipate first revenue for this application in 2021, well ahead of our previous estimates. The commercialization of these technologies will create a new market for us, and the demand for our zinc bromide could be substantial. Like our collaboration with CarbonFree for carbon capture, we aim to work with these energy storage technology companies and leverage our deep chemistry expertise in a collaborative manner. Therefore, alongside the steady recovery seen in our Water & Flowback businesses and our robust position in the offshore Completion Fluids market with CS Neptune opportunities, as well as the predictable performance of our industrial chemicals business that consistently generates positive EBITDA and free cash flow, we are progressing with three significant low carbon energy initiatives that have the potential to be transformative for TETRA. As we pursue these opportunities, we remain transparent with our investors about the progress of each initiative. In the meantime, we will continue to execute our strategy and generate free cash flow from our two segments while further reducing our debt. Now, I'll turn it over to Elijio for additional insights, after which we will open the floor for questions.

Elijio Serrano, CFO

Thank you, Brady. I'll make a couple of statements first on the presentation of our financial statements and then talk about some balance sheet items. As mentioned on the last earnings call on February 25, with the sale of the general partnership and the incentive distribution rights and the 11 million common units of CSI Compressco on January 29, our balance sheet now completely excludes CSI Compressco. The income statement reflects the result of CSI Compressco as discontinued operations for January 2021 and prior periods. The cash flow statement for the first quarter includes the 29 days in January that we were still the general partner. When we report adjusted free cash flow for TETRA, we've excluded the first 29 days of January for CSI Compressco from our free cash flow. Income from discontinued operations includes a $121 million gain on the CSI Compressco deconsolidation transaction. The vast majority of this is a non-cash gain as the transaction resulted in the recapture of our carrying basis in CSI Compressco, given that we received over $150 million of distributions from Compressco and CSI Compressco since we took them public in 2011. As those distributions were received over the past 10 years that we were the general partner, the carrying value of our investment in CSI Compressco was reduced, and therefore the transaction resulted in a recapture of the carrying value. The transaction did not result in a taxable gain to TETRA. Into March 2021, TETRA continues to have a tax loss carry forward that will allow us to offset future U.S. pretax income by approximately $380 million. And as the economy recovers and we go back to generating taxable income in the United States, we do not expect to be paying U.S. Federal income taxes for a while. Then with respect to our results in the first quarter, we incurred $6.6 million of non-recurring charges. These charges included $2.9 million related to a cumulative adjustment for long-term compensation that was the result of the significant increase that we saw in our stock price in the first quarter, also includes $2.4 million of transaction and other expenses, mainly related to the CSI Compressco deconsolidation, $0.5 million of stock appreciation right expense, $300,000 of restructuring costs and $300,000 of stock warrant fair value adjustment expense. Those were the unusual items in the quarter. Our first quarter company-wide SG&A cost adjusted for unusual items was down 2% sequentially, compared to the 2% increase in revenue, and was 23% lower than a year ago. Our first quarter results also included a $4 million gain on the mark-to-market adjustments to the 11% ownership that we have in CSI Compressco and to the 1% ownership, or 1.2 million shares, that we own of Standard Lithium. We will continue to see mark-to-market adjustments for the equity we own of these two publicly traded entities. We reduced net debt from $133 million at the end of 2020 to $117 million at the end of the first quarter. Nothing currently remains outstanding on our ABL revolver. First quarter adjusted free cash flow from continuing operations was $5.4 million, almost $1 million above the first quarter of the year ago. We achieved this first quarter free cash flow despite paying the CSI Compressco transaction expenses and the typical first of the year payments for insurance, property taxes, year-end bonuses and so on. As a result of last year's strong free cash flow of $59 million and this year's first quarter free cash flow plus the proceeds we received in the CSI Compressco transactions, we have reduced our term loan from $220 million at September 30, 2020, to $184 million at the end of March 2021. The $36 million reduction in the term loan will save us $2.6 million of interest expense on an annual basis. And as a reminder, our term loan does not mature until the year 2025. We expect second quarter profitability to be up sequentially for all our segments, driven by increased oil prices driving the activity in the United States and international markets. The seasonality of our Northern Europe industrial chemicals business, where we typically see about a $15 million sequential increase in revenue and the price increases we are getting, in addition to continued deployment of our SandStorm technology. We remain focused on streamlining the organization and generating free cash flow to further reduce outstanding debt. The last item I'll mention is the Russell 2000. I previously mentioned that the decline in our share price last year resulted in TETRA being dropped from the Russell 2000. When we were dropped in the Russell 2000, we saw a lot of passive index-based funds exit their position in TETRA, putting even further downward pressure on our stock last year. The Russell 2000 has reconstituted every June. We believe that the cutoff to be part of the Russell 2000 this year will be somewhere between $265 million and $270 million. Our market cap as of the close of business yesterday was $315 million. This Friday is the first listing of the companies that might be part of the Russell 2000, which has been updated every Friday in June. The final listing is on June 25. If TETRA is added back to the Russell 2000, there is a possibility that we will see passive index-based funds adding TETRA back to their portfolio as many mimic their holdings to match the Russell 2000. If that is to occur, there is a potential to see strong demand for TETRA shares in May and into June, hopefully having a nice impact on our share price. I encourage you to visit the Russell 2000 website for updates. I also encourage you to read our news press release that we issued today for all the supporting details and additional financial and operational metrics. Additionally, we will file our 10-Q with the SEC before the end of the day today.

Operator, Operator

We will now open it up to questions.

Stephen Gengaro, Analyst

A couple of things, if you don't mind. When you look at the components that you guys talked about in the second quarter as far as margin expansion and the European calcium chloride business, it would seem to suggest that a 2Q EBITDA number that's in the mid-to-high teens is a reasonable target, is that in the ballpark of what you guys are thinking about?

Elijio Serrano, CFO

Yes, Stephen. We appreciate surpassing consensus and exceeding expectations. I would suggest not to get too far ahead of us, and if you're considering mid-teens, that may be more fitting. This is under the assumption that May and June proceed without any unexpected challenges, as we've had strong performance in March and April, and we're optimistic about current developments. Our European operations are quite stable and typically align with our projections. The key factor will be whether the offshore markets continue to perform as we anticipate.

Stephen Gengaro, Analyst

And just as a follow-up to that, the ownership of Standard Lithium and CCLP, will that show up in the EBITDA line and not the revenue line each quarter, like is that the way it will materialize on the income statement?

Elijio Serrano, CFO

That is correct, because at this point, we're not receiving any incremental shares from the 400,000 that we received in April for Standard Lithium. So we're up to 1.2 million, 1.6 million shares. Anything that increases or decreases the share price will do a mark-to-market adjustment that only reflects in income and EBITDA, and then our 11% ownership of CSI Compressco will also be mark-to-market without any impact to revenue. So both of them are going to be mark-to-market adjustments, and also as a reminder, from Standard Lithium, we're receiving about $1 million a year of cash for the agreement that we have in place with them.

Stephen Gengaro, Analyst

The difference in market capitalization between March and June, based on your percentage ownership, will show the impact on EBITDA.

Elijio Serrano, CFO

Yes, that is correct. Again, in addition to recognizing that we're getting about $1 million of cash from Standard Lithium on an annual basis that will also positively impact EBITDA, and then when we receive more shares from Standard Lithium such as what we did in April with the 400,000 shares, we will report those as income and EBITDA also.

Stephen Gengaro, Analyst

Got it. And then, one final one from me is just the balance sheet. You've been successful generating cash, reducing debt levels, has there been a discussion about refinancing the debt on the balance sheet, given where rates are and that your business arguably is having better and better visibility going forward?

Elijio Serrano, CFO

Very good question, Stephen. We've been paying down debt with excess cash. We're constantly testing the debt markets to see if we can find a more cost-effective, less restrictive term loan that might be out there, and so far, our testing of the market has not indicated that there is cheaper capital available to us. But that is something that we are doing on a consistent basis to try to find the most cost-effective capital for us to reduce interest expense.

Operator, Operator

The next question will come from Samantha Hoh with Evercore ISI.

Samantha Hoh, Analyst

Congrats on the quarter. And I was just wondering if you could maybe help us think about the year, what your expectations are for Completions, in terms of the mix of revenue coming from the different businesses that you have in Completions.

Brady Murphy, CEO

Sure. As we indicated during our comments, we see Q1 as the low point for the year in our Completion Fluids. As you're well aware, the North America activity came down very rapidly last year, but the international activity continued to come down through most of the year. But that has flattened and we see drilling activity rebounding slightly and our opportunities on the Completion Fluids side improving both on the offshore markets in the Gulf of Mexico as well as internationally improving for the rest of the year. So that side of the business we're optimistic about through the rest of the year, and then of course, our industrial chemicals business will see a European peak in Q2. But we're also continuing to gain some pretty good market share with our industrial chemicals business, and that's without the impact of some of these other future low carbon opportunities that we're discussing.

Elijio Serrano, CFO

And I think it's important that the SandStorm technology that we're deploying and the traction that we're gaining in South America is very encouraging. We've assigned some capital to take advantage of that given the quick payback that we're seeing. So in addition to activity, I think that we're also seeing market share gains benefit our top and bottom line.

Samantha Hoh, Analyst

Okay. With the integrated projects that you're working on, the water projects, that's quite a nice step up. Are you seeing incremental demand in some of the other basins outside of the Permian, maybe just if you could kind of quantify where that sequential ramp came from?

Brady Murphy, CEO

Yes. Well, definitely in the Permian, Samantha, we have a very strong market share position for really the water transfer, the treatment recycling and gaining more market share on the flowback side. So that is a good percentage of the integrated work that we're doing, but we're also taking on integrated projects in South Texas now, in Mid-Con and certainly in Appalachia. And we're working to penetrate the rest of the basins with the model that we have.

Samantha Hoh, Analyst

Okay. And then, just I was curious about the MOU that you guys announced last night. I think I read somewhere that the company, the partner, is actually working on this initial pilot plant. I was curious if you could speak to that development, if maybe just how far along this potential project is? Is there something that you could see contributing within the next year?

Brady Murphy, CEO

Well, absolutely. They are virtually finished with the construction of the pilot plant. Again, they've proven and tested each of the segments of their plant configuration. We actually had myself and our team visit with them at the Southwest Research Institute a few weeks ago, and I actually saw the plant in its final stages of construction, where it will be operational anytime now. But yeah, we're very excited about what that project offers. I think once the plant is up and running and they're fine-tuning some of the operating parameters of the plant, and I think CarbonFree, from what we know of their plans, will be in some pretty heavy commercial negotiations from that point forward to deploy their technology.

Samantha Hoh, Analyst

And what sort of emitters are they targeting? Is it like cement and what sort of industrial targets does that trend on the carbon side?

Brady Murphy, CEO

Yes, no, absolutely. Samantha, as part of that, any really flue gas, CO2 emitters is a perfect application. If you look at their website, you will actually see a picture of their Southwest Research Institute pilot plant and it's got a flue gas cylinder in the picture. When they're operating the plant, they're bringing the chemicals that they need, including calcium chloride from the top side and CO2 gas from the bottom, and then performing the precipitation right in the reactor.

Operator, Operator

And the next question is a follow-up from Stephen Gengaro with Stifel.

Stephen Gengaro, Analyst

Thanks. So just two other quick ones, gentlemen, just to make sure I'm on the same page here. So on the ownership position in Standard Lithium and CCLP, are your margin expectations, that you highlighted in the press release and on the call, are they exclusive of the impact of the changing stock prices in those two businesses?

Elijio Serrano, CFO

Yes. Well, Stephen, I don't think we're smart enough to try to get share prices 90 days out, so we're assuming that they're flat versus where they were at March 31, and that to get to our earnings target and our internal expectations for Q2 and the future quarters is that it's flat versus those numbers. Any upside is going to be a pleasant surprise to us.

Stephen Gengaro, Analyst

Great. That's what I assumed, I just wanted to make sure. And then, the other just quick one is when we think about the impact of these new initiatives, how are you guys thinking about the impact of those from a timing perspective? Are you thinking about them as positive contributors? I mean, obviously you're getting the Standard Lithium payment right now, but beyond that, are you thinking about them as sort of 2022-'23 events, or do you think you'll start to see any impact from them in the short term? I'm just trying to get a sense for how to think about the timing of an impact.

Brady Murphy, CEO

Yes. Stephen, so there's a couple of different categories, as you know, that we are pursuing, particularly on the low carbon side, on the zinc bromide electrolyte. As we mentioned in our call, we've been surprised that that's advancing much quicker than what we had previously anticipated last call. We probably would have said 2022 at the earliest, where we would see revenue from that, we're now fairly optimistic that we will achieve revenue because of the demand coming from these energy storage companies this year. So we believe we'll see first revenue from that zinc bromide supply this year, gaining some pretty good momentum into 2022 if the demand for their energy storage technology continues at the pace that they're anticipating. On the carbon capture with CarbonFree, obviously, they're going to be leading the charge in negotiating with their customer contracts and we will be working closely with them to execute on those, but we would anticipate potential revenue earliest late next year for the deployment of one of our first production carbons at our SkyCycle plants.

Operator, Operator

Ladies and gentlemen, this concludes our question-and-answer session. I would like to turn the conference back over to Mr. Murphy for any closing remarks.

Brady Murphy, CEO

Thank you. We appreciate your interest in TETRA Technologies and thanks for taking the time to join us this morning. This will conclude our call.

Operator, Operator

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