CSI Compressco LP

good morning and welcome to csi compresco lp's fourth quarter and year-end 2022 earnings conference call the speakers for today's call are john jackson chief executive officer of csi compresco lp and john byers chief financial officer of csi compresco lp ravi pruski vice president of operations is also in attendance all participants will be in listen only mode So if you need assistance, please send a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one near a touch-tone phone. To withdraw your question, please press star then two. Please note, this event is being recorded. I'll now turn the conference over to Mr. Byers for any opening remarks. Please go ahead.

Thank you, Anthony. Good morning, and thank you for joining CSI Compressco's fourth quarter and year-end 2022 results conference call. I'd like to remind you that this call may contain statements that are deemed to be forward-looking. These statements are based on certain assumptions and analyses made by CSI Compressco 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 partnership. Your caution 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 gross margins, adjusted EBITDA free cash flow, distributable cash flow, distribution coverage ratio, leverage ratio, utilization, or other non-GAAP financial measures. Please refer to this morning's press release or our public website for reconciliations of non-GAAP financial measures to the nearest GAAP measures. These reconciliations are not not a 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 on our website, our Form 10-K will be filed early next week. Please note that information provided on this call speaks only to management's views as of today, March 10th, and may no longer be accurate at the time of replay. With that, I'll now turn it over to John Jackson.

Thanks, John. Good morning, and thank you for joining our call today. We're excited to speak today about our fourth quarter 2022 results and the optimistic outlook we have for 2023. So let's start off with the results for the fourth quarter of 2022. This quarter continues the trend from last quarter of improving activity, translating into increased revenue and EBITDA. We've experienced improving activity for several quarters, but the effect of inflation earlier in the cycle led to increasing revenue, but marginal incremental EBITDA fall through. As the cost environment is stabilized, we've seen the financial results improve over the second half of 2022. Our contract services, aftermarket services, and parts sales all continue to show strong activity and EBITDA improvement. As it relates to our fleet or contract service business, utilization continued to improve quarter over quarter for the seventh straight quarter. Price increases on the existing fleet deployed have begun to close the gap of the effects of inflation. This is translated in the increasing fleet revenue quarter over quarter for eight consecutive quarters. Three trends are improving our forward visibility. First, our ability to term up equipment on expiring contracts. Secondly, redeploying existing idle equipment And third, deployment of our large horsepower new build units on multi-year contracts with marquee customers. Our sales team has worked hard to improve contract duration, but have placed equal importance on improving contract terms with our customers, specifically building inflation protection using cost inflators for contracts with terms longer than 12 months. We are pursuing price improvements as we continue to move our fleet to market pricing. Pricing in the mid to large horsepower segment of the market has been changing rapidly over the course of the last year. This has been the result of the last remaining idle units in the mid and large horsepower ranges that are owned by contract compression companies that have been contracted. Almost all additional horsepower in these categories now has to come from new builds as very few units are being returned by customers. The transition to market rates takes time as many units are under term contracts. As these contract terms expire, we will look to term out the unit and move pricing to market. This will continue to occur throughout 2023 like it did in 2022. While we've seen the effect of inflation to stabilize our cost environment over the second half of 2022, we will continue to see labor and part cost increases. At this time, we expect those to be much more modest and than those in early 2022 and in line with normal annual increases. Opportunity improvements exist related to our make ready costs for our fleet. As we deploy the bulk of our remaining idle reciprocating fleet in the first half of 2023, we would expect our make ready costs to reduce given that most of our reciprocating fleet units will be out on contract. The aftermarket services and parts business or AMS business performed well in 2022 with increasing revenues and improving margins. We have a strong pipeline of AMS activity, both in current contractual work, outstanding bids, and current customer requested proposals. While the first quarter is typically a bit slower with parts sales and AMS awards coming out of the holidays, we have seen a strong pipeline of activity and expect 2023 to be another strong year. We expect over the course of 2023 to transfer some of our people and shop space that have been making CSI-owned fleet units ready for deployment over into the AMS business, potentially creating more opportunity for growth year over year. Our capital spending for 2023 will be focused on deploying additional idle fleet units, converting some units from natural gas-driven to electric motor drive units, and funding large horsepower new build units that are currently on order. Our overall goal will be to generate a modest amount of free cash flow after our growth capex to reduce absolute debt balances and improve liquidity. Most of our customer discussion surrounding capital has begun to shift to 2024 as lead times remain long and customers are planning well in advance to avoid compression needs being a constraint to their ability to produce natural gas and crude oil. Our guidance as a firm reflects opportunities for additional financial improvement. This comes from a combination of deploying the remaining fleet, building new units, improving pricing, and reducing our make-ready costs without a significant inflation response on the remainder of our cost structure. One item to keep in mind when looking at our guidance for 2023 is that in December 22, we had an international contract expire through its natural course. As of December 31, 2022, the contract has not renewed. Currently, management is having ongoing conversations with the customer over renewal or extension and and our guidance reflects no renewal of this contract. If that contract is renewed in whole or in part, we would update our guidance at that time if the contract terms warranted a revision to our guidance. Overall, we're bullish about the macro environment and the longevity of this cycle. We've seen a consistent focus on returns this cycle across the spectrum. Despite recent lower gas prices, we believe in the long-term need for natural gas. This is evident both in the increasing production and consumption of natural gas in the U.S. throughout the course of 22 and into 23. As our industry remains focused on returns, this discipline, we believe, will result in a longer, more stable multi-year cycle. We're excited about the overall improving results and the forward activity levels that are contracted. Given the overall macro backdrop, we expect to have a continually improving year in 2023. In summary... We continue to see a strong demand environment for our products and services heading into 2023, and we will remain flexible as we navigate the rapidly changing environment, position ourselves for success for what we believe to be a longer and stronger cycle in the years ahead. We're looking forward to an exciting 23 for our industry and specifically for CSI Compresco. I'll now turn the call over to John Byers.

Thanks, John. For the fourth quarter of 22, CSI Compresco reported adjusted EBITDA $32.4 million. compared with $26.4 million in the fourth quarter of 2021, a 23% increase. This was driven by increased utilization and pricing in our contract services segment, particularly among our large horsepower equipment. Our contract services revenue was up to $68.6 million from $61 million in the fourth quarter of 2021, a 12% increase. Year-over-year utilization increased from 86.8% or 286.8% compared to 80.8% at the end of 2021. Our AMS business performed very well in the fourth quarter and for the full year of 2022. Compared to fourth quarter 2021, AMS revenue was up 52% to 20.7 million compared to 13.6 million. Full year AMS revenue was up to 73 million from 53.5 million in 2021, a 36% increase. Distributable cash flow was $13 million compared to $9.9 million in the fourth quarter of 2021. We paid our fourth quarter distribution of one cent on February 14th with a distribution coverage ratio of 9.2 times. Full year 2022 distributable cash flow is $42.4 million, implying a DCF per unit of approximately 30 cents. At year end, our total liquidity, cash on hand, plus outstanding ABL capacity was 46.4 million on December 31st, 2022, which compares to 32.7 million at the end of 2021, a 42% increase in liquidity. We're executing on our plan to reduce overall leverage while growing the business. Our net leverage ratio peaked at 6.8 times in the third quarter of 2021, dropping to 6.2 times at year-end 2021, Now we sit at 5.5 times. If you annualize the second half 2022 EBITDA, we have a net leverage ratio of 5.2 times. Our focus in 2022 has been reducing leverage while balancing liquidity and growth. Looking forward to 2023, as John mentioned, we plan to reduce overall growth capital spend relative to 2022 and emphasize debt reduction and liquidity. Today, we announced 2023 guidance with an adjusted EBITDA range of $125 to $135 million. Growth capital will decline year over year to the range of $23 to $25 million as we increase our focus on strengthening our balance sheet. We anticipate exiting the year, exiting 2023, with a net leverage ratio of between 4.8 and 5.2 times. Since joining CSI two years ago, our mission hasn't changed. We're focused on balancing growth and liquidity as we work towards simplifying our capital and organizational structure, which will position CSI to thrive in all phases of the energy cycle. We'll now open the call to questions.

We will now begin the question and answer session.

To ask a question, you may press star then when you tell the phone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two.

At this time, we'll pause momentarily to assemble our roster.

Our first question will come from Brian Derubio with Baird. You may now go ahead.

Good morning, gentlemen. Good morning. A couple of questions for you. I guess, first of all, John Byers, can you help us understand how much you spent last year on make-ready costs?

Are you asking about make-ready capital costs or just on the expense side?

On the expense side.

I'd say given the fact that we went to a system conversion and started the year with a lot of, let's say, people understanding how to put things in the right spot so we could understand it, Our belief is it's somewhere between $2 million and $3 million a quarter. Okay. That helps just as a general guide. Yeah, it varies widely based on what's going on and how much of what you're doing, capital work or expense work, but it's in that ballpark. Got it.

And as we think about utilization rates, what do you think is the effective utilization rate that you can hit over the next two years?

Well, I believe if you – so I think we've talked about this a little bit before on our calls. Our fleet consists of three big buckets, and that's reciprocating gas jacks and rotary screws. So on the reciprocating fleet, which represents 80-plus percent of our fleet, we'll be approaching the upper 90s this year, 96%, 97% if all – If we put the rest of our equipment out that's contracted and we don't get much back, we're going to be in the upper 90s. Our gas jack and reciprocating, excuse me, our gas jack and rotary screw fleet is in the 50% to 60% range. So when you blend all that together, you get 90-ish as a composite fleet. But when you compare the reciprocating component, it'll be upper 90s.

Okay, that's helpful on that. And then just you mentioned a little bit, any color on, you know, how long it's you're seeing it's taking to get a new high horsepower equipment delivered. I know there's still some backlog with Caterpillar hearing some that there's backlogs, excuse me, with some of the fabrication shops. Any additional color there would be really helpful.

I think it remains in the same kind of general categories we've been talking about. You're sort of in that 50 to 60 week category for Caterpillar engines. I think the frames from Ariel have shortened up a bit. You can get them maybe in half that time. And then when you think about electric motor units, the drive itself, maybe 30, 40 weeks, but the The VFD, the variable frequency drive, depending on how many you're ordering, if you want one or two, you might be able to get them in 35, 40 weeks. If you want 20 or 30, it's as we get them, we'll get them to you. So it could be 45 weeks, it could be 55 weeks, and that's, we're experiencing that right now on some of the electric units we've installed, the VFD, we were given delivery date, and then it slides two months. So you have the unit installed, you have everything ready to go, you're waiting on the VFD. So that's That's what I'd say is the biggest unknown. They kind of give you a target date for a VFD, but it may or may not even come close to that. So that's on the electric side, so it's a bit different than the Caterpillar and Ariel are a lot tighter on their quoted deliveries.

Understood. Final question for me. How much of your fleet would you describe as on current market pricing or current rate card versus rate cards that may be a year too old?

Well, the market's moving pretty rapidly every month. So I would say what we thought was market in the fourth quarter of 22 is probably now 5% out of market in 2023. So if you take that perspective, I'd say very little of our fleet is at market. Now, how close is it to market? It's probably within maybe When I'm talking about this now, I'm really talking about mid to large horsepower. The smaller horsepower, we can get some pricing here and there. We've been able to move price up to reflect our cost structure, but the really, really, really tight segment of the market is the 800 horsepower and up. There's just nothing idle available out there in the market, and as a result, the pricing is moving up to reflect that. So I would say the market has moved a lot in the last six months up. So with that in mind... What we've turned up in the last three months would be, quote, unquote, at market. And what we're talking about as we extend new existing contracts moving in throughout this year, we'll move that to market. But very little is at market. Understood. It's moving. I mean, it's changing every month or six weeks. Frankly, we're working with our customers. A lot of people, I don't want to say they're slow to change and optimize their fleet, But given the environment they're in, they're like, well, a lot of times you think, oh, I've got a 1,300 horsepower unit, but my production is declining. I really need to move it down, but there's no rush. And so over time it happens. But with pricing changes, it's forcing people to think about optimizing sooner. So there's a little bit more churn in the fleet that's positive in a way because you're taking a unit off that's going to come back in six months and you're moving to a two-year or three-year term now while the customer gets right-sized on their equipment. But the counter to that is they've got to find that equipment to right-size with. So there's a push-pull going on with some of this on the right-sizing where people are terming out maybe equipment they don't need quite as large a unit, but they need something. So we're trying to work with our customers and figure that out, but we're also saying the units we have, this is the market price for the unit. And while it may be oversized, we'll try to optimize you down to a smaller unit or move that unit out to someone else that that wants that larger size unit. And frankly, I think the things we put in a year ago, you know, we probably averaged price increases last year on the units we touched. We probably averaged about a 10% price increase. Some were 25, 30, some were five, but we probably averaged 10% on the units we touched. I would expect to see the same kind of change this year on the units we touch.

That's very helpful. I really appreciate all the color. Thank you. Yep.

Our next question will come from Salman Akhil with Stifel.

You may now go ahead.

Thank you. Good morning. Just following up on that line of questioning and thinking, can you say how much 800 horsepower and above you have coming up for recontracting this year?

What I can tell you is that we have – I don't have it sliced that way in my head, but I'll tell you that right now we have – Last year at this time, our fleet was month-to-month versus had some term on it was 50-50. This year at year-end, it's 72% of our fleet has some term on it. Of that, 26% of our entire U.S. fleet has term longer than a year. So if you take that, 75% of our fleet can be touched this year. And I would say that's on a proportional basis, it's probably in line with our large horsepower fleet too, given... given what we have. So maybe 60% of our large horsepower fleet can be touched this year because they are on multi-year contracts. I'd say it's somewhere in that range.

Okay, that's helpful. And then when you're renewing your contracts, and I assume you continue to have inflation adjusters in there, are you having to do those subject to cap or is the environment strong enough that you're just saying we're just going to pass through you know, our variables and, you know, no caps, et cetera.

It's customer-by-customer specific in what we're doing. So some have caps, some don't. It really just depends on the situation and what. You've got to look at everything in totality, right? What's the term? What's the rate? What's the standby rate? And how does CPI factor into that? So there's a lot of give and take, but we have a combination of with and without caps. Got it.

And how much of your fleet is in electric right now?

It's about two plus percent, two and a half percent, something like that. Got it.

You called out an international contract. It's not in guidance, but if it did, it would be incremental to guidance. Can you just say how much it was of 2022? Because I assume you highlighted it because it would be, you know, if it came back in its entirety, it'd be meaningful. So I'm just

It could be meaningful if it came back in its entirety, yeah, but I think given the nature of how it changed over the course of the year and it's embedded in other operations in that country, we'd really rather not, since it's not in our numbers and not in our guides, we'd really rather not talk about it, but it is in the millions of dollars. That's all I'll say. Okay.

And then you talked about the aftermarket services and you talked about a strong pipeline. I don't know if you can Is there a backlog there? Is there a way you can maybe help quantify or how we should be thinking about that?

Yeah, I don't have a numeric backlog for you at this time. That's a good question. And we do think about it that way. We do have a backlog of business. I would say the AMS business typical backlog duration is 45 days or 60 days. Because these contracts, this work, maybe it takes that long. Maybe it takes 45 days. And maybe you're contracting work that's going to come in in 45 days. So I think what we've really spent our time on over the last four to six months, as we've seen our fleet reach this 97% utilization, give or take, maybe that we're going to have at the end of Q1, early Q2, on a reciprocating fleet, that we're going to have shop space available, and we've been very much focused on filling that shop space up with AMS work where possible that's good quality work. The reality is the AMS business is driven largely by a lack of labor, you know, or labor. Whether you have it or don't is whether you can get the work done. You can get the parts generally, and you can get all the shop space potentially, but if you don't have labor, it's a waste of time. So we focus primarily on our fleet first and AMS second, and now we're shifting that as we have a shop space. So By Q1, we'll see if we can get some more visibility to you on backlog numbers, like a quoted backlog. But right now, it's still going to be relatively short in duration. We've thought more about a pipeline of activity. So we have existing backlog in the book. Then we have quoted backlog that there's a hard quote out. We're waiting on a response. And then there's what I'll call RFPs, or things that we're working on directly with a direct source to a customer. that has a lot of activity. So segmenting those pieces out and seeing that activity level is kind of how we think about it as, is it really busy or is there open gaps in the shop space and there's open gaps in our bidding? And right now we're not seeing much of that. Right now we're seeing where we can be pretty selective on the work. We're actually choosing not to bid on certain jobs and certain types of jobs where we're not as good at executing that kind of work. So I'm rambling around a bit to say I don't have a number for you, but I think we've high-graded the work we're doing and the backlog we're building so that we have a much better chance of continuing to execute at a high level. And that's probably not answering your question, but I'll try and have something for you by Q1 on numerics. But we're still working on that ourselves.

Got it. And I appreciate all that color. I really do. So thank you for that. But I also heard you say that really it's going to be ultimately limited by the amount of labor you can get. And it sounded like you were trying to maybe move some people from one segment to the other. That's right. So, okay.

That's right. Largely because if you think about how much – our utilization moved up four points or so in 22. I mean, in 21, it moves up six points in 22. It's going to move up if things – Go like we hope. It's going to move up a little bit more, as we've just talked about on this call, another two or three points in 23. So you're going to move up 12%, 13%. You've touched fleet units that were idle, that were sitting in your yard. You always have churn. A unit comes back. You may have to do some work on it, do an overhaul on it, maybe reconfigure it, ship it back out. But repositioning, taking fleet that's sitting in your yard for the last couple of years through COVID and now getting it out, that was a major effort. in our shops across the organization. Once it's out and running, you have less running through your shop. This is all getting termed out, so you're going to be working on it more in the field than in the shop. So that shop space, which is largely driven by just people, is now freeing up a bit, and that's why we think we have more opportunity to drive AMS through using those same bodies we already have on our payroll and just shifting their work from what I'll call a cost center to shifting them to a profit center. And that's why we think our make-ready combination of that and AMS business creates a profit opportunity for us this year.

Got it. And then just the last one on this. As I'm listening to you, will you use AMS just to service existing customers, or do you think you'll actually be able to reach out and bring new customers in because you've got capacity that other people may not have?

I think, yeah, we're not just servicing, I'd call, our existing fleet customers. We're servicing people that we have a lot of longstanding relationships with that. So first off, people that we have a good relationship with that I think we trust and work well with each other. We know what their expectations are. That's who we're working with first. But certainly there is additional business that's coming our way that people are asking us to quote on that we're working on. So, yeah, we can expand our customer. visibility, our customer segment there, I think, as we expand the shop space availability. Great. Appreciate all the color. Thank you for the time.

Thanks.

Our next question will come from Jason Self with Millennium.

You may now go ahead.

Hi. I have two questions. The first one is, I noticed a great quarter in terms of adjusted EBITDA, but in net cash provided by Operating activities, that was a reversal from very large cash generation in Q3 to a small cash utilization in Q4. I was wondering if that's a result of building some inventory, or is it late pay on accounts receivable? What is the cost of that?

It's a little bit of a build in working capital, particularly inventory, as we work through some of these supply chain issues. The biggest difference is the fact that we pay our bond interest on a semiannual basis. So October 1st, we had a $23 million interest payment, which relieved a payable and resulted in net cash outflow.

Okay, thanks a lot. And then the second question is... when they're talking about the AMS business, that's the amine unit business, and I was wondering whether you're planning to market your amine units to natural gas processing plants that want to do carbon capture.

Well, those are actually two distinct businesses for us. We do have the amine business. The AMS business actually is just an acronym for aftermarket service, so it's where we work on third-party fleets. So we have The AMS business we're trying to grow, but your question on the aiming is good. We do have some idle aiming equipment that we've seen a pickup in activity on that quoting. And, you know, by definition, the aiming plant is a carbon capture type piece of equipment. It's then what does the customer do with that afterward? Do they vent that to the atmosphere? Do they re-inject it? and right now most of our plants are on sites where the customer has chosen to vent it. However, we would love to engage with our customers on ways to dispose of that in a way so it's not sent up in the atmosphere. So that opportunity does exist, and we do talk to customers a lot more about that now.

Good question. Okay, so the Inflation Reduction Act, basically makes it much more economically viable to capture the CO2 and to dispose of it to generate the 45Q tax credit. So are these gas processing plants contacting you to see if you can deliver them more amine units, or is that it hasn't hit the market yet, even though the Inflation Reduction Act was passed last summer?

We have had seen an uptick in inquiries and quotes on aiming plants, whether that's a function of the Inflation Reduction Act or just a function of gas that's in high CO2 areas. It's hard for us to speculate at this time, but we have seen in 2022, second half of 2022, quite a bit of pickup in that area.

And I think the IRA has driven more interest in electric drive compression. taking brownfield sites, removing gas-fired engines, and replacing it with electric drivers. So I would say from an impact standpoint, we're probably seeing more impact on the compression side of the business than the aiming side of the business.

Okay. Thanks a lot.

Thank you.

This concludes our question and answer session.

I'd like to turn the conference record to John Jackson for any closing remarks.

Again, we thank you for joining us. We remain very optimistic about 23. We like where we're headed. We like what's going on. We appreciate your interest and look forward to delivering some great results for you in 23.

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