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Parker Drilling Co. (NYSE:PKD)
Q1 2019 Earnings Call
May 8, 2019, 11:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings, and welcome to the Parker Drilling First Quarter 2019 Earnings Conference Call. At this time, all participants are in listen-only mode. A question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press *0 on your telephone keypad. As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Nick Henley, Director of Investor Relations. Please go ahead, sir.

Nick Henley -- Director of Investor Relations

Good morning, and thank you for joining today's conference call. With me today are Gary Rich, President and CEO of Parker Drilling; and Mike Sumruld, Senior Vice President and Chief Financial Officer. We are pleased to have the opportunity to speak with you today and look forward to sharing new information about the company following the completion of our financial restructuring.

In today's call, Gary will provide a recap of our new capital structure and an update on each of our business segments. Then, Mike will provide details regarding the company's first quarter financial performance and Gary will close by providing some forward guidance and final thoughts.

As a reminder, during this conference call, management may make statements regarding future expectations about the company's business, management's plans for future operations, or similar matters. These statements are considered forward-looking statements within the meaning of the U.S. securities laws and speak only as of the date of this call. The company's actual results could differ materially due to several important factors, including those described in the company's filings with the SEC.

During this call, management will refer to non-GAAP financial measures. In accordance with Regulation G, the company has provided a reconciliation of these measures in its earnings release.

With that, I will now turn the call over to Gary Rich.

Gary Rich -- President, Chief Executive Officer, and Director

Thank you, Nick, and good morning, everyone.

As you know, we emerged from Chapter 11 on March 26, 2019 after completing a substantial financial restructuring in less than 4 months, and subsequently, relisted on the New York Stock Exchange less than one week later on April the 3rd. Before I get into the details of what we accomplished through this process, I want to say thank you to all of our stakeholders. This was a challenging process for all of us, including our investors, who we appreciate for their continued support throughout this process.

I also want to thank our customers and vendors for their continued loyalty to Parker throughout this process, as well. Most importantly, thank you, Parker employees. I am proud of the hard work you've accomplished, serving our customers with innovative, reliable, and efficient solutions. This process could have served as a distraction, but you didn't miss a beat, as proven by our strong first quarter results and the award of several new contracts. Lastly, I want to thank our former directors who helped us navigate the downturn and complete a successful restructuring process. Their insight and leadership are much appreciated by all of us at Parker.

As part of the restructuring, we set out three key objectives. First, we sought to preserve as much value as possible for our shareholders, and I am pleased that our pre-restructuring shareholders received both stock and warrants in the reorganized company at emergence, and had the opportunity to purchase additional shares at a discount as part of an equity rights offering.

Second, we wanted to reduce our leverage ratio to no more than two times our 2019 adjusted EBITDA. Our new capital structure includes a $210 million second lien term loan due 2024, which replaces $585 million of debt that was due in 2020 and 2022. As a result of this 64% reduction in debt, our leverage ratio will be less than two times our expected 2019 adjusted EBITDA, and should actually be less than one times on a net debt basis, which betters most of our peer group. In addition, our cash debt service costs, including interest on our long-term debt and preferred dividends, have been reduced from approximately $45 million to $23 million annually.

Third, we wanted to establish a capital structure that would allow us to pursue both organic and inorganic opportunities to grow our business. With a significant reduction in debt, an additional $95 million in cash raised through an equity rights offering, and a new $50 million revolving credit facility, we now have the right financial foundation and flexibility to take advantage of opportunities in the burgeoning recovery, and we are in a stronger position to manage the cyclical nature of our industry. We are very optimistic regarding our prospects for profitable growth in several of our markets and I'll discuss some of these opportunities in a moment. Although we achieved our restructuring goals and significantly de-levered our balance sheet, I want to emphasize that we will continue being disciplined regarding our investments and are determined to be a return-on-capital-focused company.

Turning to the macro outlook, we were pleased to see oil prices move sharply higher during the first quarter, with Brent ending the quarter at $68, or 26% higher than they were at the end of the fourth quarter. Supply and demand fundamentals are generally in balance and the uncertainties surrounding several key producing markets only further support this price recovery. As a result, we are starting to see the beginning of a long-term, broad recovery in the international markets, which we are well positioned to serve. In fact, we are not alone in our optimism regarding international growth as several OFS providers are realizing double-digit year-over-year revenue increases in their international business lines.

Further supporting the balance between supply and demand while aiding the international recovery is a concerted effort by many U.S. E&Ps to maintain discipline and operate within cash flow on reduced capital budgets. As a result, activity has tightened and the U.S. land rig count retracted slightly in the first quarter. Despite this recent reduction in rig count, we remain very encouraged by our U.S. rental services segment.

Several years ago, we recognized the need to provide better drill pipe solutions for our clients whose well programs were becoming increasingly complex and technically challenging. Working with our suppliers, we made the commitment to invest in a premium drill pipe with stronger connections, faster makeup speeds, and less costly maintenance requirements. Since we've added it to our portfolio, that product has maintained a very high average utilization rate, enabling us to capture additional market share, and improve our margins, and has become a more meaningful percentage of our overall business. This strategic decision in combination with our focus on quality and customer service is reflected in our performance since the downturn, and is especially noticeable in our first quarter results where we continued to see solid utilization and customer demand in our U.S. rental tools segment, despite the lower rig count.

In our international rental services segments, our strategy to differentiate Parker with a leading tubular running services offering and proprietary casing running tool technology has also set us apart and contributed to our growth. We know that our tools performance has a big impact on our clients' bottom line because they continue to reward us with high-profile projects and contract awards. In fact, we continue to be a tubular running services market share leader on lump-sum turnkey projects in key Middle East markets, where the stakes for our customers are extremely high, and both performance and efficiency are paramount to success.

Moreover, we recently received new contract awards for tubular running services in Iraq and offshore Mexico, and have extended our contract with a key client in the UAE for an additional three years. As international activity continues to increase, we also see several opportunities for our well intervention and service in tubular product lines to grow, as well.

In our U.S. lower 48 drilling segment where we service the inland waterways of the Gulf of Mexico, we continue to be the leader in terms of performance, equipment, capabilities, and market share. While we have a dominant fleet with experienced teams, the market simply continues to reflect a lack of drilling demand. Therefore, we have decided to retire three of our 13 rigs in this market. This action aligns with our objective to deliver positive cash flows in our barge business, and we will continue to evaluate the size of our fleet going forward in light of market conditions. Regardless, we will maintain a dominant position in the market and remain fully capable of servicing our clients' projects, some of which I will discuss shortly.

Over the last few years, we have focused on expanding the asset-light O&M business by leveraging the extensive experience and leadership of our U.S. lower 48 team. The California O&M project, which we announced in our 2018 third quarter earnings call, is a testament to our strategy and our team's creative ability to develop new forms of revenue without significant capital investment. In mid-February, we commenced the rig reactivation phase of this project and we look forward to continuing our strong performance as operations progress over the next couple of years.

Finally, I am pleased to report that in our international and Alaska drilling segment, several of our rigs are returning to service, and opportunities exist for others in the coming months. Our Latin American market in particular has experienced a substantial rebound since the beginning of the year. In addition to Rig 122 in Mexico working during the first quarter, we also received commitments for Rigs 221, 256 and 165. All three of these rigs will be working in Mexico and reflect the country's restored commitment to oil and gas development after years of underinvesting.

In Alaska, we are pleased to have Rig 272 contracted and working for the full year. Conversations with clients regarding our second rig in Alaska returning to service continued to evolve as this market shows ongoing signs of a rebound and we currently expect it to return to work no later than 2020. We also reactivated Rig 270 in Sakhalin Island, Russia, which is forecasted to operate through most of the year.

In addition to these asset-owned highlights, we continue to see O&M opportunities surface in many of our international drilling markets and we are poised to capture these, as well. In fact, we anticipate signing a new O&M contract in Atlantic Canada in the coming weeks. We are currently working under an LOI providing limited project support, while the platform topside is under construction over the next 2 to 3 years, after which, we will begin full O&M operations.

Overall, I'm pleased with the strong first quarter financial results that our team has delivered. I believe Parker is well positioned to take advantage of expanding activity in several of our markets and we now have the necessary capital structure from which to grow upon.

I will now turn the call over to Mike to discuss our first quarter results and then I'll provide some additional commentary on our outlook before we open up for questions.

Michael Sumruld -- Senior Vice President and Chief Financial Officer

Thanks, Gary.

For the 2019 first quarter, we reported revenues of $157.4 million and adjusted EBITDA of $28.4 million, or 18% of revenues. Compared to the 2018 fourth quarter, revenues increased $28.2 million, or 21.9%, and adjusted EBITDA increased $6.2 million, or 27.9%. In our rental tools business, we continue to see strong demand underpinning both segments. For the U.S. rental tools segment, quarterly revenues increased to $52.6 million from $48.8 million in the previous quarter. We saw a shift offshore with reductions on the shelf offset by higher Deepwater activity, and U.S. land results improved sequentially, almost exclusively due to higher-than-normal sales and repair revenue.

Overall, sequential revenue improvement of 8% outpaced the 5% drop in U.S. rig count, a consistent pattern for this segment since the bottom of the downturn in May 2016. Gross margin in the segment was $29 million, compared with $25.1 million in the fourth quarter, and gross margin as a percent of revenues increased by 360 basis points to 55.1% from 51.5% in the fourth quarter. This margin expansion was a result of a favorable revenue mix, as well as lower incremental operating expenses. Our U.S. rental tools business continues to deliver phenomenal results.

In our international rental tools segment, sequential revenues were down slightly to $21.1 million in the first quarter compared with $21.6 million in the fourth quarter. Gross margin was also slightly lower at $534,000 from $1.5 million in the prior quarter. Performance in the first quarter was largely a result of lower sequential whipstock sales in the UAE caused by customer timing delays, which will be rectified in the second quarter. This reduction was offset by continued share growth in our tubular running services business in the Middle East, as Gary mentioned earlier.

As a side note, as international markets begin picking up in earnest, I think it's worth looking back at this segment's recent performance as an indication for what is likely to come. From 2017 to 2018, our international rental tools business grew revenue by $18.2 million, or almost 30%, and our gross margin before depreciation grew by $9.5 million. This very healthy growth in incremental margin is a result of focusing on operational execution in key markets and product offerings, and as a growth trend, we expect to continue this year.

Turning to our drilling services business, we are encouraged by the rebound we're seeing in both segments, with O&M activity increasing, and international confidence growing. In the U.S. lower 48 drilling segment, revenues for the first quarter were $6.6 million compared with $2.6 million in the fourth quarter. Gross margin improved to a loss of $700,000 versus a loss of $2.7 million in the fourth quarter. Although utilization fell slightly from 6.9% in the fourth quarter to 3.6% in the first quarter as operators postponed program start dates, our first quarter revenues and gross margins benefited from the mid-February start of the O&M contract offshore California.

We currently have one barge rig working and expect activity to improve due to a couple of notable projects that will begin in the second quarter. This includes one project in federal waters, which marks the first in the market since the downturn of 2014. As Gary will highlight, we expect the combination of additional barge utilization and increased activity on our O&M project offshore California to deliver positive results for this segment.

In our international and Alaska drilling segment, revenues increased sequentially by 37% from $56.2 million to $77.1 million. This increase was driven by several events, including a reactivation of Rigs 272 in Alaska and 270 in Sakhalin Island, Russia, as well as increased activity in Mexico.

In addition, reimbursable revenues where we typically generate lower margins were up 95%, primarily due to a one-time purchase of approximately $10 million. We expect reimbursable revenue to drop back to more normal levels next quarter.

Gross margin for this segment increased to $7.7 million from $4.2 million in the fourth quarter, driven primarily by the two rig reactivations, and partially by reimbursable expenditures in our Sakhalin Island and offshore Canada O&M projects.

As a diversified and global oilfield service provider, we are constantly evaluating our portfolio of product offerings and business volume contributions to ensure we are capable of fulfilling our customers' needs while also generating solid returns on capital. For the full year 2018, our rental tools services delivered 53% of our consolidated revenue, and 94% of our consolidated operating gross margin excluding depreciation and amortization.

For the first quarter of 2019, our rental tools services business contributed 47% of consolidated revenue and 81% of our consolidated operating gross margin, excluding depreciation and amortization. In addition, O&M services provided 70% of our total drilling revenues in both 2018 and the first quarter of 2019. As a result, our rentals and O&M businesses combined contributed 86% of our 2018 revenue and 84% of our 2019 first quarter revenue.

While we expect solid growth this year in our drilling business from increased utilization of our owned rigs, we see continued expansion of the rental tools services and O&M drilling businesses going forward, which will further result in a high percentage of our earnings being derived from these quick payback and/or asset-light businesses. This vision is consistent with our strategy, which Gary mentioned earlier, of expanding into businesses that deliver a higher return on capital.

Regarding other financial items, our first quarter G&A expense was $8.1 million. Going forward, we expect our quarterly G&A to decline, and full year G&A to be between $27 million and $29 million. We reported a tax expense of approximately $700,000 in the first quarter. The reported tax expense reflects the mix of results in the jurisdictions in which we operate and our inability to recognize benefits associated with certain losses as a result of our existing valuation allowances. For 2019, we estimate our cash taxes to be approximately $6 million to $10 million.

Our capital spending in the first quarter was $9.2 million, primarily geared to rental tools. We currently expect our full year 2019 capital expenditures will be approximately $80-90 million, with approximately 80% of the spend directed to the U.S. and international rental businesses. The remainder will support the maintenance and reactivation of drilling assets when we have a contract in hand.

Turning now to our balance sheet and cash flows, as Gary mentioned earlier, our long-term debt at the end of the quarter was $210 million, resulting in a total debt-to-capitalization ratio of 42%, a significant reduction from $585 million of debt pre-restructuring. Although the current interest is high, 11% cash plus 2% PIK, we have the opportunity in the first six months from emergence to refinance our debt without a call premium, and the high-yield markets are continuing to improve.

We ended the quarter with a cash balance of $149.3 million, up $90.3 million from year-end, excluding $21.4 million of restricted cash that is held in escrow for the remaining restructuring fees and should be cleared by the end of the second quarter. Our unrestricted cash balance at the end of the quarter was $127.8 million, up $79.2 million from year-end. Total liquidity at the end of the quarter, excluding restricted cash was $153 million, consisting of $127.8 million in unrestricted cash and $25.2 million of available under our revolving credit facility.

That concludes the financial review. I'll turn it back to Gary for his final remarks. Gary?

Gary Rich -- President, Chief Executive Officer, and Director

Thanks Mike. Looking toward the second quarter, we expect our consolidated revenues will increase slightly, despite the unusually high reimbursable revenue in the first quarter. Excluding this reimbursable revenue event, which, again, has very little impact on margins, second quarter revenues will increase by 7-9%. We anticipate that adjusted EBITDA in the second quarter will increase by approximately 8-10% sequentially.

In the second quarter, we expect our rental tools services business will continue to deliver strong results. For the U.S. rental tools segment, we anticipate second quarter revenues and gross margin will be essentially flat compared with the first quarter as continued market share gains both on and offshore will be offset by the absence of higher levels of sales and repair revenue generated in the first quarter.

Our utilization remains strong, and we expect it will trend at or above the U.S. land rig count, which we expect will remain flattish through year-end. In the international rental tools segment, we anticipate second quarter revenues will be up 4-6% and gross margin as a percent of revenue will increase to low double-digits due to recent tubular running services contracts and whipstock sales. Additionally, we are continuing to pursue multiple growth opportunities in several of our core markets.

For our U.S. lower 48 drilling segment, we expect revenues and gross margin to increase in the second quarter due to higher levels of activity in both the Gulf of Mexico barge business and our California O&M project. While the inland waterways activity continues to be challenged, several of our clients who delayed projects in the first quarter still anticipate pursuing these drilling programs and have even expressed interest in additional projects subject to commodity prices and successful drilling results.

Our O&M project off the coast of California has an expected term of two to three years and provides meaningful contract backlog for the segment. This project will allow us to expand our offshore platform O&M expertise, a notable achievement which we can leverage for additional opportunities offshore California and in the Gulf of Mexico where activity is recovering.

In the international and Alaska drilling segment, we anticipate revenues will decrease due to one-time high reimbursable revenue attained in the first quarter. Despite revenues retracting by approximately 12-14% compared with the first quarter, gross margin for this segment should not be adversely impacted, and should remain roughly in line with the first quarter.

As I mentioned earlier, we are seeing the benefits of an active and successful 2018 tendering year and returning idle rigs back to work. We expect drilling operations to start late in the second quarter for Rig 221 and Rig 256 and early in the third quarter for Rig 165. All three of these rigs will be working in Mexico on long-term projects. Elsewhere in Latin America and other international markets, we continue to have positive dialogue with several clients regarding O&M opportunities, as well as contract extensions on active rigs. Although softness in day rates still exists in many international drilling markets due to an oversupply of rigs, as rig utilization increases, so too will day rates.

As you can see, we are experiencing some very positive momentum as we continue to execute our strategy and we now expect our 2019 adjusted EBITDA to range between $120 million and $130 million. As Mike mentioned, our anticipated capex spend for the year will range between $80-90 million. As a result of our business performance expectations combined with the reduction in interest expense, we anticipate generating positive cash flow in the second half of 2019.

In conclusion, we believe that we are seeing the start of a long-term upcycle in the international market, which will be a supportive backdrop as we execute our strategy. At the same time, we have a U.S. business that remains in a very strong position and will capture opportunities as that market continues its long-term growth. Furthermore, we have completed the restructuring process and now have a capital structure that puts us in a far better position to capture opportunities, make long-term investments, efficiently serve our customers, and achieve more attractive returns for our shareholders.

In closing, I'd like to thank our employees again for their focus and unwavering dedication to our customers. I'm very proud of our efforts as a company to adapt to such difficult conditions, and to overcome the hurdles that have arisen. I believe that we have emerged much stronger and are better positioned to achieve our near and long-term goals. In that vein, we are excited about the opportunities that lie ahead and look forward to updating you on our progress.

That concludes my comments for today. Operator, we are ready to take questions from the audience.

Questions and Answers:

Operator

Thank you. We'll now be conducting a question-and-answer session. If you'd like to be placed in the question queue, please press *1 on your telephone keypad. A confirmation tone will indicate you line is in the question queue. You may press *2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Once again, that is *1 to ask a question at this time.

Our first question is coming from Jason Wangler from Imperial Capital. Your line is now live.

Jason Wangler -- Imperial Capital -- Analyst

Hey, good morning, guys.

Michael Sumruld -- Senior Vice President and Chief Financial Officer

Good morning.

Gary Rich -- President, Chief Executive Officer, and Director

Good morning, Jason.

Jason Wangler -- Imperial Capital -- Analyst

I wanted to just ask, maybe, obviously it's been a short time since you came out of the restructuring, and it seems like just from the guidance you were just providing that certainly things look even better than maybe what you guys had expected then. Could you maybe -- specifically on the international side -- talk about what has changed as far as from the client side? I mean, obviously oil prices have perked up, but are you just seeing more confidence from them in the spending going the rest of the year or is there something else maybe that you're able to see that maybe was a little bit better than you thought even a couple of months ago?

Gary Rich -- President, Chief Executive Officer, and Director

Jason, this is Gary. Great question. I think we've long anticipated an international market that was going to rebound, if for no other reason than it's been underinvested for a substantial period of time. The question as to when it was going to actually start to materialize has always been out there and we've been saying for several quarters now that we were doing a lot of tendering activity, and I think that what we now see is the actual realization of the work that's associated with that tendering activity. Therefore, that's why we remain very optimistic or we stated our optimism about the long-term recovery on the international side as the work is actually materializing.

Jason Wangler -- Imperial Capital -- Analyst

Okay. Obviously, the spending, capex wise, as you guys talk about the rental tools segment in particular, I mean, it does seem like the U.S. side has some opportunities, but is it fair to think that the international side based on what you were just saying has more, and so as we think about that capital spend, it's more probably targeting the international side, or is it more on an opportunity-by-opportunity basis?

Gary Rich -- President, Chief Executive Officer, and Director

I wouldn't necessarily want to tag it as international. On the other hand, I would say that over 80% of our capital spend is in the direction of our rental tools business. Where we have opportunities to reactivate rigs, and most of them will be on the international side, that reactivation and any associated capex that might be required to reactivate those rigs will always be done only with certainty of contract and good returns on any investments that we need to make, but I don't want to try to separate capex between international and domestic right now.

Jason Wangler -- Imperial Capital -- Analyst

Sure, that's fair. I appreciate it. I'll turn it back.

Operator

Thank you. As a reminder, ladies and gentlemen, that is *1 to be placed in the question queue. One moment, please, while we poll for further questions. We've reached the end of our question-and-answer session. I'd like to turn the floor back over to management for any further or closing comments.

Gary Rich -- President, Chief Executive Officer, and Director

Thank you, Kevin. That ends our first quarter earnings call. Thank you for your time today and your interest in Parker Drilling. Please contact us if you have any questions regarding material covered in our earnings press release or during this call. Goodbye, and have a great day.

Operator

Thank you. That does conclude today's teleconference. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.

Duration: 31 minutes

Call participants:

Nick Henley -- Director of Investor Relations

Gary Rich -- President, Chief Executive Officer, and Director

Michael Sumruld -- Senior Vice President and Chief Financial Officer

Jason Wangler -- Imperial Capital -- Analyst

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