KLX Energy Services Holdings, Inc. (KLXE) Q3 2019 Earnings Call Transcript

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KLX Energy Services Holdings, Inc. (KLXE 5.97%)
Q3 2019 Earnings Call
Dec 05, 2019, 9:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the KLX Energy Services third-quarter 2019 earnings conference call. [Operator instructions] Please be advised that today's conference is being recorded. [Operator instructions] I would now like to hand the conference over to your speaker today, Michael Perlman, treasurer and senior director of investor relations. Please go ahead, sir.

Michael Perlman -- Treasurer and Senior Director of Investor Relations

Thank you, Sonia. Good morning, and thank you for joining us. Today, we are here to discuss KLX Energy Services' financial results for the third quarter ended October 31st, 2019. For comparative purposes, we have presented our financial results adjusted to exclude costs associated with the company's major downsizing program and its noncash asset impairment charge as described in the company's pre-announcement on November 19.

These costs are collectively referred to as costs as defined. The company's earnings news release, which was issued earlier this morning, presents our results. If you haven't received it, you'll find a copy on our website. We will begin with remarks from Amin Khoury, chairman and chief executive officer of KLX Energy Services.

Also, on the call this morning is Tom McCaffrey, senior vice president and chief financial officer. For today's call, we have prepared a few slides to help you follow our discussion. You can find our presentation on the Investor Relations page of the KLX Energy Services' website at klxenergy.com. In addition, copies of the slides are posted on our website for you to refer to.

Before we begin, we have some additional information to cover. Any forward-looking statements that we make are subject to risks and uncertainties, as always, in our prepared remarks and our responses to your questions. We will rely on the safe harbor exemptions under the various securities acts and our safe harbor statements in the company's filings with the Securities and Exchange Commission. We will address questions following our prepared remarks.

At that time, the operator will provide Q&A instructions. Now I'll turn the call over to Amin Khoury.

Amin Khoury -- Chairman and Chief Executive Officer

Thank you, Michael, and good morning, everyone. Thanks for joining us today to discuss our third-quarter financial results. We've got deterioration in industry conditions, which accelerated through the end of our third quarter ended October 31, 2019, reflects an intense focus on capital discipline, free cash flow generation by our exploration and production customers. This led to a sharp decline in sequential quarterly rig count and an unprecedented decline in active frac spreads from the second quarter to the third quarter.

In fact, there was a significant sequential decline in hydraulic fracturing activity during each month of the third quarter. Temporaneously, with the abrupt decline in activity, we initiated a comprehensive business review and cost rationalization program to align our cost structure with our current customer demand. Specifically, we implemented an approximate 17% reduction in force, we warm stacked the vast majority of our Permian-based wireline assets, and we aggressively cut costs in every area of our business. Notwithstanding the abrupt change in industry conditions, we generated approximately $41 million in cash flow from operations and approximately $31 million of free cash flow during the third quarter, increasing our cash balance to approximately $120 million for the quarter ended October 31, 2019.

Our $100 million credit facility remains undrawn. Looking forward, we will continue to carefully monitor our cost structure to ensure it is aligned with demand. We expect to begin to realize the benefit of our business realignment actions in the fourth quarter of this year. While we have reduced our personnel levels substantially, we are also recruiting experienced coiled tubing personnel to join the company as we have begun to receive and deploy five new large-diameter coiled tubing spreads.

A continuation and expansion of the company's coiled tubing strategy to gain greater share of customer spend by pulling through our broad range of asset-light services will be a major strategic priority in 2020, along with continued tight cost control, free cash flow generation and further strengthening of the company's balance sheet. On today's call, we will review the current oilfield services market, we'll discuss our third quarter of 2019 financial performance and we'll comment on our outlook. Let's begin by reviewing the current oilfield services market environment. U.S.

land market continues to be under pressure and exploration and production companies bring in, and in many cases, completely cut off spending and instead maintain an intense focus on free cash flow generation. This has resulted in significant sequential quarterly declines in completion activity, rig counts and frac spread counts across all major U.S. shale basins, as many E&Ps have either scaled back or have completely shut down operations for the balance of the year. Decline in activity is even more pronounced in the natural gas plays, as natural gas prices hit multiyear lows and growing supply concerns continue to weigh on activity.

Specifically, the second quarter to third-quarter decline in the aggregate number of frac spreads in the DJ, Niobrara and Williston basins, declined approximately 20%. In the gassier basins, including the Marcellus, Utica, Woodford and Haynesville, the number of active frac spreads declined approximately 50%. And in the Permian and Eagle Ford shale basins, the active frac spread declined approximately 22%. We expect North American drilling and completion activity to decrease further in the fourth quarter as the E&Ps further scale back their activities as they maintain their intense focus on cash flow.

In addition, we expect budget exhaustion and seasonal issues to further impact fourth-quarter activity. Let's turn to Slide 3 and review our third-quarter 2019 consolidated results. Third-quarter 2019 revenues of approximately $135 million decreased approximately 18% as compared to the second quarter of 2019. Adjusted operating loss was a negative $4 million compared to second quarter adjusted operating earnings of $11.9 million.

Adjusted EBITDA was approximately $17 million or approximately 13% of revenues compared to second quarter adjusted EBITDA of approximately $33 million or approximately 20% of revenues. Adjusted net loss was a negative $5 million or negative $0.22 per diluted share for the third quarter compared to second quarter adjusted net earnings of $10 million or $0.45 per diluted share. Before we review our third-quarter 2019 segment financial results, we'd like to mention that the company allocates all corporate costs through its three segments. Cost allocated to each segment for the three-month period ended October 31 were as follows: rocky mountains segment, $6.9 million; northeast/mid-con segment, $4.6 million; and southwest segment, $4.7 million.

Let's now turn to Slide 4 and review our third-quarter rocky mountains' financial results. Third-quarter 2019 rocky mountains segment revenues of approximately $58 million decreased by approximately $6 million or 9%. The decline in revenues was primarily driven by a number of our customers to spending operations for the balance of the year, along with lower activity levels among certain other customers. As previously discussed, the aggregate number of active frac spreads in the DJ, Niobrara and Williston basins declined approximately 20% on a sequential quarterly basis.

Adjusted EBITDA was approximately $12 million, resulting in an adjusted EBITDA margin of approximately 21% compared to second quarter adjusted EBITDA and EBITDA margin of $16 million and 26%, respectively. Let's turn to Slide 5 and review Q3 northeast/mid-con segment performance. Third-quarter 2019 northeast/mid-con revenues of approximately $38 million decreased by about 20%. Decline in revenues was primarily driven by a number of customers completely suspending operations for the balance of the year, as well as a number of other customers where there were substantially lower activity levels, particularly from natural gas customers.

The northeast/mid-con segment has the highest exposure as a percentage of revenues through natural gas customers. As previously discussed, in the gassier basins, including the Marcellus, the Utica, the Woodford and the Haynesville, the number of active frac spreads declined about 50% on a sequential quarterly basis. Adjusted operating loss was a shade under breakeven compared to second quarter adjusted operating earnings of about $4 million. Adjusted EBITDA was about $7 million resulting in an adjusted EBITDA margin of about 17%.

That compares to second quarter adjusted EBITDA and adjusted EBITDA margin of $11 million and 23%, respectively. Let's take a quick look at our southwest segment. For the third quarter, southwest segment revenues decreased about 28%, driven primarily by lower activity levels by existing customers and a decline in wireline revenues as the company elected to warm stack the vast majority of its Permian-based wireline assets due to the weak pricing environment. As previously discussed, the aggregate number of frac spreads in the Permian and the Eagle Ford shale basins declined about 22% on a sequential quarterly basis.

Adjusted operating loss was a negative $7.9 million as compared to second quarter adjusted operating loss of $1.1 million, and adjusted EBITDA was a negative $1.3 million as compared to a positive second quarter adjusted EBITDA of $5.6 million. Take a quick look at our financial position on Slide 7. For the quarter ended October 31, 2019, net cash flow provided by operations was about $41 million. The company generated free cash flow of about $31 million, increasing its cash balance to about $121 million.

Capital expenditures were about $11 million. Fourth-quarter capex is expected to be about the same as Q3 or roughly $10 million, reflecting the application of prior deposits on the new leased CT spreads. Total long-term debt of $250 million less cash resulted in net debt of about $129 million and the company's net debt to net capital ratio was about 28%. There were no borrowings outstanding under the company's $100 million credit facility.

And the company's net debt-to-adjusted EBITDA leverage ratio for the 12-month period ended October 31 was approximately 1.2 times. During the third quarter, the company's board of directors authorized a stock repurchase program of up to $50 million, and to date, we have repurchased about $1.1 million of our common stock. We remain committed to deploying capital where we believe it will generate the highest potential range -- return for our shareholders and evaluating share or debt repurchases or capital investments in our product service line through the same lens. Moreover, we believe our strong financial position will allow us to continue to explore strategic combinations.

Briefly review our outlook. We expect customer activity to decline further in the fourth quarter due to our E&P customers' intense focus on free cash flow generation. In addition to budget exhaustion and seasonal issues, while we expect to realize the benefit -- or begin to realize the benefit of our third-quarter cost reduction activities early in the fourth quarter, we are also recruiting additional experienced coiled tubing personnel to join the company in the fourth quarter as we have begun to receive and deploy our five new large-diameter coiled tubing spreads. Coiled tubing start-up costs related to the deployment of these five new spreads are expected to be a drag on our fourth-quarter earnings.

We expect to have all 13 of our large-diameter coiled tubing spreads in operation by the end of the first quarter of 2019. We will remain focused on serving the needs of our customers and gaining share of customer spend by providing a broad portfolio of services and equipment across all major basins, while preserving a solid balance sheet, maintaining a healthy level of liquidity and prudently managing our capital expenditures. In an operating environment where our financial strength is a key differentiator, we believe that our ongoing cost reduction efforts, along with the anticipated positive impact from the roll of -- rollout of five new large-diameter coiled tubing units and the resulting pull-through of our broad range of asset-light services will allow us to continue to gain share of customer spend and to generate free cash flow through 2020 despite the anemic demand levels the industry is experiencing. With that, I will turn the call back over to Michael.

Michael Perlman -- Treasurer and Senior Director of Investor Relations

Thank you, Amin. I'll now turn the call over to the operator for the Q&A portion of today's call. The operator will provide instructions on how to ask a question. Sonia?

Questions & Answers:

Operator

[Operator instructions] And our first question comes from Ben Carl of Simmons Energy. Your line is now open.

Ben Carl -- Simmons Energy -- Analyst

All right, thanks guys. I first just wanted to ask about the trade period margins over the coming quarters. Just given an expectation for the customer activity to decline like you'll just said, and compared with your cost reduction efforts, I mean, kind of qualitatively, what should we expect? Should we expect those to offset each other? Just any color there would be helpful.

Amin Khoury -- Chairman and Chief Executive Officer

Well, we're not going to give -- we're not in a position to be able to give out information on margins in the fourth quarter. Important thing, I think, is in the fourth quarter, we expect that our free cash flow will be more or less breakeven, maybe generate a few million dollars or use a few million dollars, but our focus right now is on free cash flow, managing capex very carefully, introducing our new coil tubing assets so we can execute our strategy. We should be in a position to execute the company strategy by the end of the fourth quarter of this year. And so during essentially all of 2020, we should have two and five-eight inch units in operation and six-two inch and three-eight inch units in operation, essentially all of which are new.

And where we are finally in a position to execute our strategy of pulling through a broad range of asset-light services. Our expectation is we'll generate positive free cash flow during 2020, and we'll further build our balance sheet. We expect to migrate, but we're not in a position to give any guidance on margins.

Ben Carl -- Simmons Energy -- Analyst

Yes, no problem. I guess, secondly, I just wanted to see if you could just break down your basin exposure. Maybe give us some more color on how the various basins are performing? And maybe just kind of how the rig count contracts, do you expect a more concentrated exposure in certain areas, assets moving around and just kind of your broad strategy with regard to the basin exposure?

Amin Khoury -- Chairman and Chief Executive Officer

Our strongest businesses are in the rockies, followed by northeast and mid-con. Southwest business is our weakest business now. I think during the coming quarter or 2, we don't have more visibility that, we should expect to see rough going in the gassier basins in the northeast. The weakest sector in terms of the oil plays, I would say, will be in the mid-con.

And the strongest overall business in the rockies. Probably the southwest segment will do a little better in the coming quarter as compared to the prior year.

Ben Carl -- Simmons Energy -- Analyst

Thanks that's all for me.

Operator

And the next question comes from Simon Wong of Gabelli & Company. Your line is now open.

Simon Wong -- Gabelli and Company -- Analyst

Hi, good morning. The five-coil tubing unit you will be receiving in the fourth quarter, do those units already have customer commitments? Or are you bidding for job currently?

Amin Khoury -- Chairman and Chief Executive Officer

We have -- actually, we received two. The third, we'll receive this week. Of the two we received have already gone to customers, the one that's coming this week is already slated for our customer. We expect to receive the last two by the end of our fiscal year, by the end of January 31.

So, we -- and both of those units are allocated to customers.

Simon Wong -- Gabelli and Company -- Analyst

And how are the pricing related to those units relative to, let's say, the first half of '19?

Amin Khoury -- Chairman and Chief Executive Officer

Pricing in the first half of '19?

Simon Wong -- Gabelli and Company -- Analyst

No, the pricing of those five units you just received or you're in the process of receiving, how is the pricing?

Amin Khoury -- Chairman and Chief Executive Officer

Well, it depends on the number of units that are dedicated versus the number of units that are doing spot work and that remains to be determined. About half the fleet or more will be dedicated units and a smaller portion will be doing spot work. And where they're doing spot work, they're doing it for customers which are near one another so that we can get the highest utilization where possible. The rates on spot work are higher than the rates on dedicated work.

So, you have higher utilization rate.

Simon Wong -- Gabelli and Company -- Analyst

OK. The cost drag that you mentioned related to the start-up costs of these coiled tubing units in the fourth quarter and first quarter of 2020, can you quantify how much that is?

Amin Khoury -- Chairman and Chief Executive Officer

We're taking out about $40 million in cost and we'll begin to realize the benefit of those cost reductions beginning in the fourth quarter. But at the same time, we'll be hiring in something in the neighborhood of 80 to 90 additional folks to roll out our coil tubing spread. So, we won't get the full benefit of the cost reductions which we've achieved until later in 2020 and the coiled tubing spreads are operative and pulling through services at the same time that the business should be growing at that time, and we're maintaining pretty close control of costs.

Simon Wong -- Gabelli and Company -- Analyst

The -- I just want to make sure I heard that right, the 40 million annualized cost saving that you just pulled off out of your company?

Amin Khoury -- Chairman and Chief Executive Officer

That's right.

Simon Wong -- Gabelli and Company -- Analyst

And -- OK, I'll say annualized. OK. And that -- OK. And then you originally had time to spend about 90 to 100 million capex this year.

It looks like it could be ramp down in the third quarter, is that related to timing? Or have you reduced your capital spending for this year?

Amin Khoury -- Chairman and Chief Executive Officer

So, our capex this year will be about $75 million. If we take into account the application of the deposits that we have on the coil tubing spread, it will come out to about 75 million now.

Simon Wong -- Gabelli and Company -- Analyst

OK, great. And then you have the number for 2020 yet, the capex number?

Amin Khoury -- Chairman and Chief Executive Officer

No, it will be obviously a very much lower number than this year. But we won't give out that number until we report our fourth quarter few months from now.

Simon Wong -- Gabelli and Company -- Analyst

OK. And my final question is in your press release and even your call this morning, you talked about stock buyback, debt repurchases, as well as strategic combinations. Can you rank your free cash flow priority in those vitals?

Amin Khoury -- Chairman and Chief Executive Officer

It will depend upon what alternative uses we have for cash at the time. So, we can't rank them unless we know exactly what we're looking at. And right now, we are looking at some alternatives, and we'll make the determination based on what gives our shareholders the greatest bang for the buck or the greatest return on our investment.

Simon Wong -- Gabelli and Company -- Analyst

OK, great. Thank you.

Operator

And ladies and gentlemen, this does conclude our question-and-answer session. I would now like to turn the call back over to Michael Perlman for any closing remarks.

Michael Perlman -- Treasurer and Senior Director of Investor Relations

OK. Thank you, Sonia. That concludes our comments for today. Thank you to everyone participating on this morning's call.

We look forward to speaking to you again next quarter. Bye.

Operator

[Operator signoff]

Duration: 25 minutes

Call participants:

Michael Perlman -- Treasurer and Senior Director of Investor Relations

Amin Khoury -- Chairman and Chief Executive Officer

Ben Carl -- Simmons Energy -- Analyst

Simon Wong -- Gabelli and Company -- Analyst

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