National Energy Services Reunited Corp

Good day and welcome to NESR's third quarter 2021 earnings call. With me today is Sharif Foda, Chairman and Chief Executive Officer of NESR. On today's call, we will comment on our third quarter results and overall performance. After our prepared remarks, we will open up the call to questions. Before we begin, I'd like to remind our participants that some of the statements we'll be making today are forward-looking. These matters involve risks and uncertainties that could cause our results to differ materially from those projected in these statements. I therefore refer you to our latest earnings release filed earlier today and other SEC filings. Our comments today may also include non-GAAP financial measures. Additional details on reconciliation to the most directly comparable GAAP financial measures can be found in our press release, which is on our website. Finally, feel free to contact us after the call with any additional questions you may have. Our investor relations contact information is available on our website. Now, I'll hand the call over to Sherif.

Thanks, Chris. Ladies and gentlemen, good morning, and thank you for participating in this conference call. The global commodity outlook is stronger than it has been in nearly two decades. On the oil side, as predicted more than a year ago, all the underinvestment and supply gap along with North America capital discipline, will lead to significant supply deficit, which will consequently cause activity increases starting later in 2021. And this is what we are seeing now. As we have been very vocal about it, MENA region will carry most of the load, primarily because our customers always have taken the long view and have invested in spare capacity as well as they understand that nobody but them will be able to fulfill this demand, especially in the short term, and they can sustain it longer than anybody else. This will put pressure on the talent and equipment from service providers to deliver on these needs, which, as you know, is a function of the health of the service industry. As I have been doing since the beginning of the pandemic, always wanted to be physically with our customers, listen carefully to their plans and needs, and feel the pulse of the evolving energy dynamics. This quota is no different. I spent a lot of time in the field, in the different countries, like Saudi, UAE, Oman, Egypt, and Libya. Additionally, we started to have face-to-face industry forums, and I'm glad that I was able to attend and present in most of them. I can tell you that everyone, without exception, is extremely bullish on the activities. They want to secure the adequate resources to ensure deliverability of their objectives and also very focused on meeting their ESG goals and commitments. They are reviewing and discussing the service industry's strengths and weaknesses and running proper sensitivity analysis on the different scenarios. This again reminds me of the 2005 super cycle. I also let Nesb leadership visit to Libya to see all the customers in the entire country. We spent a solid week with the NOC and all the operators and visited the remote field locations. We wanted to ensure we are there for them at the highest level. and we understand what is needed to restore the production to previous country high. We are discussing together multiple approach and new business model given the nature of the activities and the fastest way to revive the production from shut-in wells. Additionally, we are reviewing how to have a paradigm shift in using the existing resources, enhancing them, capitalizing on the fact we have 100% national trained workforce that understand the subsurface and the facility constraint. We have placed a multi-discipline team to look at the entire value chain and propose solutions to our customers. Meanwhile, we are looking into the water scarcity using flared gas and how could we produce in the different fields in a sustainable manner. Overall, we are completely aligned with our customers in the region. for fast activity increases in the coming quarters. And this feedback from recent customer meetings gives me confidence that the outlook is very strong, as we had predicted previously. Now it is on us to demonstrate our industry-leading localization and execution as the national champion of MENA. Since we front-loaded our CapEx, as I have said before, NESS remains ready and nimble to meet the demand of our customers, who will look to put activity and production capacity to new heights in the coming year. We continue to invest in human capital and equipment as we are convinced that this cycle will last for several years, and the talent gap will surely be felt very soon. Next, I want to turn to the ongoing COP26 climate summit. and how the industry can be a total game changer in pushing the world and humanity forward in energy transition. Clearly, governments around the world are elevating the important issue of climate change, which will most likely result in laws and regulations that further incentivize green spending, particularly in Europe and North America. What the market may not appreciate is how our forward-thinking customers in the MENA region are also taking leadership roles in the energy transition. We have all seen the Saudi Green Initiative demonstrating its commitment to its people and to the world. I was impressed with the level of details they laid out their plans. Aramco again, as a world leader, explained how committed they are to achieve net zero and how they walk the talk and put credible targets and how they will achieve it. Additionally, you also saw recent announcements from the Kingdom on their plans for using the gas from Jafura for generating blue hydrogen. And as you know, NEOM already has inked to build the largest green hydrogen facility in the world. The key now is to remain pragmatic on how best we use our resources to achieve what is best for the humanity. We do not want just to pass the emission from one area to another. What we want is to lower the overall carbon footprint and how to achieve that while looking at all other angles from eliminating waste and elevating the lives of people under the poverty lines. As I espoused in my hydrogen panel during the Future Investment Initiative in Riyadh last week, OFS can play a major role in actualizing this vision by taking the produced water and using the electricity generated from heat from the producing gases and facilities along the gas feedstock to provide the essential ingredients for this endeavor. Our thesis is that the industry can leverage existing infrastructure and production streams to support the production of new energies like hydrogen. We have invested in technologies to deliver part of this workflow, and I personally see a great opportunity by leveraging all this new tech and mesh it with our existing footprint, technical know-how, and more importantly, project execution capabilities. This is where NEST ESG impact comes in. After we launched this new segment in January of this year, NEST has partnerships and investment in several technologies. In particular, in the water space, where I strongly believe our industry can play a vital role, especially in a water-starved region like the Middle East. I believe once we prove the economics in several projects, this segment will be as big or even bigger than our other two segments. Our esteemed customers play an enormous role in their existing economies, and they are all and will be at the forefront of development and adoption of green technologies, which will enable the transition with the aim of not only the largest oil and gas companies, but also the largest full spectrum energy companies in the world. On the water side, Following the previously announced and ongoing water pilots in Iraq and Saudi, we have been in continuous dialogue with customers' inquiries and proposals for additional projects in the region. A key feature of this water market is that we are bringing new technologies in front of oil and gas producers. So it's a market that we are essentially creating alongside our tech partners that today do not exist. In emission detection, We recently finalized the MOU with another IP partner, which we should announce shortly at ETIFAC, to bring CHD and H2S detection capability to the region that is moving quickly to both quantify and reduce scope 1 and 2 emission in normal upstream operation. Similarly, we are also moving quickly in the realm of flame management and elimination. and I believe that there are fantastic bundling opportunities with both emission detection and flaring. Progress across all ESG impact sub-segment is being driven both bottoms-up by NETS in continuously canvassing and evaluating the new energy technology landscape, and also top-down from forward-thinking customer partners. NETS' flexibility and nimbleness is key in having these discussions and in bringing new ideas to the table. Our open technology platform, much like it has enhanced our oil field service portfolio, is also the key element in bringing new innovations to the ESG impact discussion. Now, I want to turn to another key theme that is driving both our strategy and our positivity for the future, which is the progress we have made in our D&E segment with a number of key technology investments, breakthroughs, and partnership that will completely transform our capability in this segment. So far in 2021, we have announced marquee technology alliances in the direction drilling tools with Phoenix Energy Service, a company that continues to break records in NAMM and now doing the same in MEA, and Ultera, the US leader in drill bit technology. Over the last couple of years, we decided to invest ourselves with some of the most innovative minds in the industry to come up with new state-of-the-art downhole technologies. One of these investments is around rotary steerable technologies. And what new could we bring to the industry? Historically, typical development cycle has been in the range of several years, five to seven normally. Our aim was to do that in less than three years. And I'm glad that we have recently tested our innovative RSS tool with one of our customers, and we managed to deliver the well ahead of time with superior performance. We continue to test the tool with other customers, and we believe we will have a commercially viable, leading-edge RSS in the very near future. The tool is designed to have minimum maintenance cycle and greater dogleg than existing tools in the market. This will complete our portfolio of drilling technologies and enable the company to enter that space. So with a market-leading motor, market-leading bit, the latest generation RSS, we feel fairly confident that we can offer our customers alternatives with the same quality and service delivery they have witnessed from us in the production space. Recent D&E contract awards highlight the strategic focus of ours. During the third quarter, we announced more than $150 million in D&E awards across FlickLine, tubular running services, and testing with several key NOC partners. In terms of innovative breakthroughs, we decided to increase our investment in kinetic pressure control. They had successfully commercialized a deployment in deep water and is receiving multiple orders from several clients. We have implemented successfully multiple trials in Saudi for the fit-for-purpose device for co-keeping operations. This technology today is relevant in all the basins globally, as this is essentially a true environmental ESG technology to take the probability of blowout to zero. We see ample opportunity to pull this technology through in areas with high H2S and those proximate to local communities, given the clear safety and reliability feature of this technology. For some of our customers, this is transformational, as it now allows them to access reservoirs which were off-limits before. Another seed investment we have done is ice, thermal harvesting, where we are a significant shareholder. and will form an anchor tech for our offerings around the hydrogen opportunities. This has now progressed, with patents being granted, and is generating significant interest from not only oil and gas, but industrial and power generation space. In one study, by utilizing the heat generated by power plants, this technology was able to deliver an additional 10-15% power versus what was previously being generated. Our industry fuels the growth of the world and is the most reliable energy source. Alongside the oil production, we do generate associated gas, sometimes wasted. And with each barrel of oil, we produce reservoir water that is, again, not used all the time. And we generate a lot of heat from the well all the way along the processing chain to bring this product to market. We are everywhere in this chain. And we can take these raw materials to help our customers deliver their plants and properly reduce the carbon footprint. Carbon capture and storage is absolutely essential. Furthermore, the industry has the infrastructure. It just needs economical technologies and the regulatory framework to put all these together and deliver on the ground. On that note, I will pass the call back to Chris to talk about the financials.

Thank you, Sharif. Turning to our results, we reported quarterly revenue of $218 million. This is flat over the prior year quarter and 7 percent down over the second quarter. The sequential decline was primarily driven by lower unconventional frac activity, partially offset by higher activity in Kuwait. Adjusted EBITDA in the third quarter was $49 million, or 22 percent of revenue. This represents a decrease from 26 percent in the prior year quarter and 23% in the prior quarter. The sequential decline was primarily driven by the leverage impact of lower production revenue. EBITDA adjustments of $5 million for the quarter were mainly for headcount restructuring costs, non-capitalizable project startup costs in circuit markets, transaction and integration costs associated with our recent Kuwait acquisition, non-capitalizable SAP and SOX implementation costs, and certain non-cash FX charges due to currency weakness in Libya and Algeria. Moving to our segments, our production segment revenue for the third quarter was $138 million, declining 7% over the same period last year and 10% over the prior quarter. The sequential decrease was primarily driven by lower frac activity. Adjusted EBITDA margins for the production group were 26% in the third quarter, down from 27% in the prior quarter, as we maintain our current manpower structure in anticipation of improved markets in upcoming quarters, as clearly highlighted by Sharif. Separately, our drilling and evaluation segment revenue of $80 million in the third quarter was up 13% compared to the same quarter last year, but down 3% sequentially. Adjusted EBITDA margins of 21% in the third quarter were flat sequentially. Depreciation and amortization increased to $36.7 million in the third quarter compared to $35.1 million in the second quarter of this year. The sequential increase was primarily related to additional DNA from the recent Kuwait acquisition as well as the impact of additional employee equity grants. We expect DNA to be in the $38 million range next quarter. Interest expense in the third quarter was $3.7 million, up from $3.2 million in the prior quarter due to higher debt levels. The reported tax rate for the first nine months of 2021 was 19.7%. Excluding the net benefit of adjustments of reserves on prior year taxes, our reported tax rate would have been 22.9%. The sequential increase in our tax rate is due to an unfavorable shift in income across tax jurisdictions. We expect to improve upon this rate going forward as the income mix shifts more favorably and through the benefit of certain tax planning initiatives. Adjusted net income and EPS, which includes the impact of the noted EBITDA adjustments, were $7.08 million per diluted share. Switching to free cash flow, we are pleased with another quarter of positive free cash flow generation of $17 million. This brings the year-to-date cash generation to $64 million compared to $11 million in the first nine months of last year. While we continue to improve in our invoicing and collections, DSO increased by nine days over the prior quarter level, still bringing the year-to-date DSO down 18 days, a strong accomplishment by the whole NESR organization. This sequential increase was primarily driven by the impact of summer holiday processing delays. We expect to see the DSO levels improve in the fourth quarter. Capital expenditures in the third quarter were $18 million, down slightly from $21 million in the second quarter. In the fourth quarter, capital expenditures should increase to approximately $45 million, in line with our full-year estimate of capital expenditures near $100 million. We continue to expect free cash flow in 2021 to significantly increase over 2020 levels due to flat plan CapEx, continuous improvement on fleet utilization, and improved DSO. Net debt decreased to $326 million at the end of the third quarter, compared to $335 million at the end of the second quarter. The sequential decrease is primarily from higher net cash balances from the free cash flow generated in the quarter. As of September 30, 2021, our net debt to adjusted EBITDA ratio was 1.6, flat from 1.6 last quarter. Also, we remained in full compliance with our primary credit facility financial covenants in the third quarter. As was noted in the press release, we're extremely pleased with the refinancing that was recently completed this quarter. We are proud to have entered into a green loan facility as part of the broader refinancing, which is based on certain sustainability key performance indicators encompassing environmental, social, and governance metrics. With the addition of two additional banks to the syndicate and increased commitments from our existing lenders, we have expanded the term loan capacity by $175 million revolving credit facility, or RCF, by $15 million and the working capital facility by $140 million. We will utilize the additional term loan funds to repay the current $65 million RCF balance, $10 million of term debt acquired through the SOPESCO transaction, and $36 million of short-term debt, leaving approximately $64 million of additional cash plus the full $80 million RCF to fund additional growth opportunities in 2022 or pay down additional short-term debt. We will not be required to make any term loan amortization payments until the first quarter of 2023, and the term loan repayment period has been extended by two years. The increased working capital facility will provide us more capacity to issue LCs for contract bids and awards. Also, we are pleased with the progress we have made on our SAP projects. We have implemented the system in countries representing approximately 80% of our revenue. We expect all of our operations to be using the new system for 2022 transactions. This will provide us a common and enhanced platform that will facilitate SOX compliance in 2022 and provide opportunities to enhance financial reporting and analysis. In addition, we will be able to improve our back office efficiency by centralizing certain functions that were impractical when on multiple ERP systems. Lastly, as you've already heard from most reporting companies, the activity bottlenecks from supply chain impacting our short-term growth are transitory, and we believe that burgeoning capacity tightness will give a way to service pricing improvements in 2022 and beyond if the OFS industry as a whole stays disciplined. In the interim, as we have shown with our margin performance, we will stay vigilant on cost control, and equipment deployment will be prioritized to margin accretive opportunities. Also, we will continue to strategically invest in our D&E segment as part of our long-term growth and portfolio strategy. We believe strongly that the next six months will be an inflection period, and conversations after this period will be dramatically different than what we have had in the last two years for the industry. NESR has strongly grown through the tough times for the industry, and we firmly believe that the next leg will come from how well we deliver on our core as well as new endeavors. We are squarely focused on this. In conclusion, we are very pleased with the even stronger financial health of our balance sheet and the financial market's appreciation for our strategy and outlook. I will now turn the call back to Sharif for his closing remarks.