Drilling Tools International Corporation

Greetings and welcome to the Drilling Tools International Conference Call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ken Dennard. Sir, the floor is yours.

Thank you, Operator, and good morning, everyone. We appreciate you joining us for Drilling Tools International, or more commonly referred to in the industry as DTI. We welcome you to DTI's conference call and webcast. With me today are Wayne Prejean, Chief Executive Officer, David Johnson, Chief Financial Officer, and Jameson Parker, VP of Corporate Development. Following my remarks, management will provide a high-level commentary of the benefits of the SDP acquisition, a review of the 2024 second quarter results, and updated outlook before we turn the call to you for your questions. There will be a replay of today's call. It will be available by webcast on the company's website at drillingtools.com, and there will be a telephonic recorded replay feature available until August 13th. Please note that any information reported on this call speaks only as of today, August 6, 2024, and therefore you're advised that time-sensitive information may no longer be accurate of the time of any replay listening or transcript reading. Also, comments on this call will contain forward-looking statements within the meaning of the United States Federal Securities Laws. These forward-looking statements reflect the current views of DTI's management. However, various risks and uncertainties and contingencies could cause actual results, performance, or achievements to differ materially from those expressed in the statements made by management. The listener or reader is encouraged to read ZTI's annual report on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K to understand certain of those risks, uncertainties, and contingencies. The comments today may also include certain non-GAAP financial measures, including not limited to adjusted EBITDA and adjusted free cash flow. These non-GAAP results for informational purposes, and they should not be considered in isolation from the most directly comparable GAAP measures. A discussion of why we believe the non-GAAP measures are useful to investors Certain limitations of using these measures and reconciliations to the most directly comparable gap measures can be found in the earnings release, which is on our filings page or with the SEC. And now with that behind me, I'd like to turn the call over to Wayne Prejean. He's the DTI's Chief Executive Officer. Wayne.

Thanks, Ken, and good morning, everyone. I will begin my remarks with a quick review of our Superior Drilling Products acquisition and synergies, observations on second quarter results, and discuss how we are dealing with the market softness in North America. After that, I will hand off the call to David to go through the financials and our revised 2024 outlook. Also on hand today is our VP of Corporate Development, Jamison Parker, available during Q&A for comments on our recent acquisitions. Starting with SDP, we believe this acquisition, along with deep casing tools completed in March, has created a step change for DTI to offer current and prospective customers proprietary products into expanding markets, both domestic and international. These two transactions are outstanding examples of how we are showcasing DTI's growth opportunities, with a particular focus on our presence in the Middle East. Our rationale for the SDP acquisition is quite compelling. Over the next 12 months, we expect to realize an excess of $4.5 million in identifiable SG&A synergies and realizable NOL tax benefits. In addition, there are vertical and horizontal integration synergies that include approximately 60% CapEx savings on new DNR tools and 45% margin capture on repair and maintenance of our global drill and ream assets. Superior is headquartered in Vernal, Utah. The team and state of the art facility adds to DTI's offering additional engineering and product development, PDC cutter brazing and bit repair expertise, a substantial manufacturing facility with precision machining capabilities, and of course, our ongoing drill and ream repair center. In addition, after a significant investment and three years of trials and development, a fully staffed and operational PDC bit and drill and ream repair facility in Dubai, UAE, a local bit repair contract with ongoing revenues, as well as several hundred fit-for-purpose DNR tools on the ground across the Middle East. This provides us fuel in the tank to serve our clients in the region. While our vertical and horizontal integration synergies are activity and backdrop driven, We believe they will prove to be quite significant once market activity stabilizes and the RIT count improves into 2025 and beyond. Adding to these synergies, we also gained an approximately $6.6 million receivable from the selling party to extinguish a note which will accrue to DTI's benefit, effectively reducing the total purchase price of the transaction from $32.2 million to $25.6 million. subject to purchase price accounting adjustments. As you can see, the SG&A synergies of $4.5 million, the capex and cost reduction, the note due of $6.6 million, and millions in previously invested rentable assets and infrastructure add up to a very meaningful long-term accretive value to DTI. Moving now to our 2024 second quarter operating results, the U.S. rig count experienced continued softness in the quarter compared to our flat rig count outlook earlier this year. So, what have we done to adjust to the softer market conditions and rig count decline? First, we have implemented a cost reduction program for an annualized savings of $2.4 million in overall cost. We will continue to appropriately scale our operations to adjust for the activity levels in North America, but we'll continue with our growth initiatives in other markets where growth opportunities are available. Currently, our cost adjustment decisions are focused more on the near-term environment, realizing that our current and short-term needs must be met with a lower cost structure while still keeping our eye on the long-term. Additionally, We were able to manage capital expenditures during the quarter and improved our adjusted free cash flow by $3.2 million compared to last year's second quarter. Our unique business model enables us to generate returns despite a decline in North American land activity. As a result, we are maintaining our adjusted free cash flow guidance range from $20 million to $25 million for the full year. David will add more commentary to our updated outlook shortly. And now, some observations of the market and what has transpired over the last few months as oil and gas customers have reduced activity. Our customers, the operators, and oilfield service providers became very focused in improving efficiency and producing more with less. It appears E&P mega-mergers have begun to slow, and operators have turned their attention to integrating, executing, and rationalizing their drilling programs. In essence, these operators are utilizing their best rigs as efficiently as possible by deploying their best crews to drill longer laterals with more producing footage, all with fewer rigs. Also important, they are much more efficient with a focus on minimizing drilling mistakes, like lost and hole events. Operators will look to redeploy additional rigs when demand picks up. And we believe demand will eventually rise and should require more drilling and producing activity. Certainly things have changed over the last decade, and although oil and gas operations are much more efficient, producing wells typically peak early in their life, then decline year by year. If we believe demand will continue to rise, then more wells will be needed to meet that demand. For the next few months, and likely through mid 2025, we expect a soft activity pace for North America, and are confident rig counts and well counts should rise in 2025. International markets should be flat to upwards with less volatility. Due to the current North America market softness, we have had to align our core rental tool business to remain more competitive. As our customer landscape shifts with mergers and our customers rotate oilfield service suppliers to find best cost and value, we have had to be more flexible by adjusting commercial terms to meet our customers' changing needs. Although we have strategic modes for these events, we are not immune to this type of request and have installed key initiatives to deal with this transitory trend. In some product lines, we have adjusted to pricing reflective of footage drilled as opposed to price per day. And yes, it's challenging, but we will prevail and be more vibrant coming out of this downturn like we have during so many other market downturns. As we have previously stated, In a steady-state environment, our business consistently delivers 30-plus percent adjusted EBITDA margins and mid- to high-teens adjusted free cash flow margins. While we have taken measures to adjust to lower demand, we believe we will be well-positioned to come out stronger when the market recovers. Although we have acquired some new revenue streams with product sales, such as deep casing and service repair revenue, superior drilling products, Our business model has historically relied mostly on rental, repair, and recovery revenues. Our customers count on us to maintain a relevant and sustainable fleet of equipment. The rental and repair income provides the basis for our rental model. The tool recovery revenue, also known as lost and damaged equipment charges, allows us to sustain our fleet, which enables us to not only remain relevant, but also generate positive adjusted free cash flow throughout the energy industry cycles. This is one of those cycles. As I said previously, our blue chip customers prefer to rent downhole tools because it would not be efficient to own and maintain their own fleet due to the many extorted configurations, hole sizes, geographies, and engineering requirements. Bottom line, our customers rent tools from DTI because we provide high quality service and value along with our substantial fleet of tools to best serve their needs. This, along with our acquired new products and revenue opportunities, positions us to continue to capture a greater share of the industry on a global scale. Longer-term demand trends remain robust. Agencies such as the EIA expect oil demand to continue to grow through 2050. Many industry experts are forecasting that the medium to long-term natural gas demand outlook is very strong, particularly with the new LNG capacity slated to come online in 2025 and 2026, and with electricity demand rising rapidly to accommodate the anticipated growth of data centers. DTI is well positioned for this industry trend. We have been extremely active in the M&A market since going public in June 2023. as we work to position DTI for future growth, which is what we said we would do. And we continue to believe that there are meaningful consolidation opportunities that exist in our sector. It is our stated goal to make thoughtful acquisitions a significant part of our growth strategy. We have established an M&A framework and robust M&A pipeline that will allow us to selectively and strategically consolidate numerous oilfield service, product, and rental tool companies that meet the criteria for our growth plan. With that, I'll turn it over to our CFO, David Johnson, for a review of our financial results and outlook. David?