Enerflex Ltd.

Good day and thank you for standing by. Welcome to the InterFlex fourth quarter and year-end 2024 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 1 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 1 1 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to Jeff Federley, Vice President, Corporate Development and Capital Markets. Please go ahead.

Thank you, Liz, and good morning, everyone. With me today are Mark Rossiter, President and CEO, and Preet Densa, SVP and CFO. During today's call, our prepared remarks will focus on three key areas. One, the continued strong operational performance of the business and our outlook for 2025. Two, capital allocation, including capital spending and direct shareholder returns. And three, our progress and near and long-term strategic priorities. Before I turn it over to Mark, I'll remind everyone that today's discussion will include non-IFRS and other financial measures, as well as forward-looking statements regarding Enerflex's expectations for future performance and business prospects. Forward-looking information involves risks and uncertainties, and the stated expectations could differ materially from actual results or performance. For more information, refer to the advisory statements within our news release, MD&A, and other regulatory filings, all available on our website and under the CDAR Plus and EDGAR profiles. As part of our prepared remarks, we will be referring to slides in our updated investor presentation which is available through a link on this webcast and on our website under the investor relations section. I'll turn it over to Mark Rossiter.

Thanks, Jeff, and thank you all for joining us on this morning's call. We delivered a strong finish to the year with solid operating results across Enerflex's geographies and product lines. Our energy infrastructure and aftermarket services business lines continue to provide steady, reliable performance and revenue streams, reinforcing Enerflex's ability to deliver sustainable returns across our global platform. Energy infrastructure and aftermarket services generated 69% of our gross margin before depreciation amortization in 2024, and we expect these business lines will continue to represent the core of Enerflex's profitability in 2025. Our strong operational performance and focus on maximizing free cash flow has resulted in a rapid deleveraging of our balance sheet, We reached the low end of our target leverage range, closing 2024 at 1.5 times compared to 2.3 times at the end of Q4 2023. And we expect to make further progress in 2025. Our business remains strong, supported by roughly $1.5 billion in contract backlog for our EI assets and a $1.3 billion backlog for our ES business line. Before reviewing our operational performance and business outlook, I would like to comment briefly on the geopolitical tensions across North America. We continue to closely monitor the situation, including the potential application of tariffs. Based on currently available information, the direct impact of tariffs on Enerflex's business is expected to be mitigated by the company's diversified operations and proactive risk management. Enerflex's operations in The United States, Canada, and Mexico are largely distinct in the customers and projects they serve with negligible cross-border traffic for finished goods. The company has been working to mitigate the impact of potential tariffs. The United States is Enerflex's largest operating region, generating 45% of consolidated revenue in 2024 by destination of sale And we believe the company is well positioned to benefit from growth in domestic energy production. Enerflex's operations in Canada and Mexico generated 10% and 3% of consolidated revenue in 2024, respectively. And now a few highlights for each of our business lines. The energy infrastructure business continues to perform well across our three core regions, the United States, Latin America, and the Middle East. In the United States, the fundamentals for contract compression remain strong, led by the expected increases in natural gas production, notably in the Permian Basin. We are pleased with the operational performance of our U.S. contract compression business, reflected utilization in the mid-90% range for both the quarter and full year 2024, and revenue per horsepower per month and profitability showing continued momentum. Slides 18 and 19 of our investor presentation highlight our fleet composition and the strong relative operating performance of the business. Demand for new contract compression equipment in the United States remains strong, and we expect our contract compression fleet will grow from 428,000 horsepower at the end of 2024 to over 475,000 horsepower this year. New units are being deployed under multi-year contracts in core operating regions with a focus on larger horsepower, natural gas, and electric drive applications. Slide 16 and 17 highlight our international energy infrastructure business, which includes approximately 1.2 million horsepower of operated compression and 26 build, own, operate, and maintain, or what we call BOOM projects in the Middle East and Latin America. Our two produced water projects in Oman continue to perform very well, and we're in the process of expanding one of the sites, which we highlight on slide 20. Our international energy infrastructure business is supported by approximately $1.4 billion of contracted revenue and an average contract term that exceeds five years. Turning to aftermarket services, this business line benefited from strong activity levels and customer maintenance activities. We are especially pleased with the performance of our AMS business in countries where Enerflex also operates EI assets, reflective of a differentiated solution and our strong competitive position in core countries. On the engineered system side, we recorded bookings of $301 million inclusive of a $75 million derecognition with no associated gross margin of future revenue related to the termination of the cryogenic natural gas processing facility project contract in Kurdistan. The majority of bookings during the quarter originated in the North American segment and relate to gas compression solutions. Total engineered systems backlog held steady at $1.3 billion, and we expect the majority of this backlog to be converted to revenue over the next 12 months. We are very happy with the continued strong project execution in our ES business, with margins during Q4 of 2024 also benefiting from a favorable product mix. However, during 2025, ES gross margin before depreciation amortization is expected to be more consistent with historical long-term average for this business plan, reflective of the weakness in domestic natural gas prices during much of 2024 and a shift of project mix in Enerflex's ES backlog. Notwithstanding near-term revenue for this business plan is expected to remain steady. Enerflex is encouraged by initial customer response to improve domestic natural gas prices and the medium-term outlook for ES products and services continues to be attractive, driven by expected increases in natural gas and produced water volumes across Enerflex's global footprint. Before I turn the call over to Preet, I want to review Enerflex's priorities for 2025. These include, number one, enhancing the profitability of core operations. Number two, leveraging the company's leading position in core operations. to capitalize on expected increases in natural gas and produced water volumes, and three, maximizing free cash flow to strengthen our financial position, provide optionality for direct shareholder returns, and invest in selective customer-supported growth opportunities. With that, I'll turn it over to Preet to speak to the financial side of the business.

Thanks, Mark, and good morning, everyone. Enerflex delivered fourth quarter results that exceeded the ranges included in our 2024 guidance. We're particularly pleased with our ongoing progress in efficiently managing working capital, lowering net finance costs, and optimizing the company's debt stack. I'll start with highlights for our fourth quarter. We reported consolidated revenue of $561 million compared to $574 million in Q4 23 and $601 million in Q3 24. Gross margin before depreciation and amortization was $174 million, or 31% of revenue, compared to $158 million, or 28% of revenue in Q4-23, and $176 million, or 29% of revenue during Q3-24. Adjusted evident was $121 million, compared to $91 million in Q4-23, and $120 million during Q3-24. Energy infrastructure performance continued to be strong, with gross margin before DNA of $86 million compared to $87 million in Q4-23 and $91 million in Q3-24. Aftermarket services gross margin before DNA was 22% of the quarter, benefiting from strong customer maintenance programs. Aninflex's SGA of $92 million was $18 million higher year-over-year and up $10 million on a sequential basis, mainly due to increased share-based compensation and a bad debt recovery of $9 million in the comparative 2023 period. Cash provided by operating activities was $113 million in Q4-24, which included working capital recovery of $39 million. We are pleased with our ongoing global efforts to efficiently manage working capital. Free cash flow was $76 million compared to $139 million during Q4-23, which included a working capital recovery of $112 million and $78 million in Q3-24. Starting the fourth quarter, Enerflex modified its calculation of free cash flow, which is now defined as cash provided by operating activities plus total capital expenditures, growth and maintenance, mandatory debt repayments, and lease payments, while proceeds of asset dispositions are added back. Details of this calculation are included in our press release and MD&A. Now we'll touch on our balance sheet and further deleveraging. We exited the quarter with net debt of $616 million, which included $92 million of cash and available liquidity of $614 million, compared to $588 million in Q3. During the quarter, Interflex redeemed $62.5 million of its 9% notes due October 2027. The redemption was completed at a price of 103%, and we expect the ongoing interest saving associated with the notes redeemed will materially exceed the redemption premium paid. As a result of our continued focus on financial discipline and operational execution, we repaid $359 million of debt since the beginning of 2023 and reached the low end of our target leverage range of one and a half to two times. Further details are included on slide 22 of our investor presentation. Let me shift to capital allocation. First, our CapEx plans. We invested $47 million in the business during the quarter, consisting of 32 million capital expenditures, primarily for maintenance, and 15 million for expansion of an EI project in the Eastern Hemisphere that will be accounted for as a finance lease. Benaflex is targeting a disciplined capital program in 2025, with total capital expenditures of $110 to $130 million. This includes $40 to $60 million for growth capital expenditures. Similar to 2024, disciplined capital spending will focus on customer-supported opportunities. The majority of our growth focused on expanding our U.S. contract compression fleets. As Mark mentioned, we expect to grow our fleet by over 10% in 2025, with new units deployed under multi-year contracts in core operating regions. And now, direct shareholder returns. Enerflex returned $2 million to shareholders through dividends in Q4, and this number will increase starting in Q1 2025, with the previously announced 50% bump to our dividend. This increase coincided with Enerflex's leverage ratio falling within the company's bank-adjusted net debt to EBITDA ratio of 1.5 to 2 times. Going forward, capital allocation decisions will be based on delivering value to Enerflex shareholders and measured against Enerflex's ability to maintain balance sheet strength. In addition to increases to the company's dividend, share repurchases and disciplined growth capital spending, Enerflex will also consider reducing leverage below its target range to further improve balance sheet strength and lower net finance costs. Unlocking greater flexibility positions the company to capitalize on opportunities to optimize its debt stack and respond to evolving market conditions. I want to thank Interflex employees for their efforts in delivering continued strong operational financial results. Our focus remains on generating sustainable free cash flow, further improving balance sheet health, and positioning the company for long-term growth and value creation. With that, I'll turn the call over to Mark for closing remarks.

Thanks, Preet. We're proud of the operational financial and strategic progress made in recent quarters. I want to emphasize that the underlying macro drivers of our business remain strong, with the ongoing focus on global energy security and the growing need for low-emissions natural gas, resulting in strong demand for Interflex's energy infrastructure solutions. Against this backdrop, our business plans continue to deliver solid performance, and we are focused on enhancing the profitability and resiliency of our core operations and Interflex's ability to generate strong returns for our shareholders over the long term. I look forward to building on our progress and we will now hand the call to the operator for questions.

As a reminder, if you'd like to ask a question at this time, please press star 11 on your telephone and wait for your name to be announced. To withdraw your question, please press star 11 again. Please stand by while we compile the Q&A roster. Our first question comes from a line of Aaron McNeil with TD Cowen.

Hey, morning, all. Thanks for taking my questions. Mark, I can appreciate the desire to have some flexibility in capital allocation, but now that you've hit the low end of your debt target range, what's preventing you from having a more prescriptive capital allocation strategy?

Yeah, thanks for the question, Aaron, and I'll ask Preet to lean in in just a second here. You know, I would like to acknowledge what you just said. We're really comfortable with our operations. You know, the fact that 69% of our revenues are coming from ES and AMS that we consider quite recurring is a really strong part of our overall thesis. We committed to a range of CapEx spending in the year, and we are committed to, you know, staying within that range of capital spending. And as it pertains to... Other uses of the free cash flow, I'll just pass over to Preet. Thanks, Mark.

So, I mean, we're at the low end of the 1.5 to 2 range. We may dip a little lower, as mentioned. We feel at this time it's prudent to further deleverage and ensure flexibility. Two primary reasons. One, optimize our debt stack, reduce interest costs, improve free cash flow. And also, just to respond to the evolving market conditions, specifically North American markets where there's a Fair bit of ambiguity around items such as tariffs in the nature, the magnitude, and potential impact to the broader industry is yet to be understood. And we feel it is prudent to be, you know, it's prudent to be further deleveraging today. And, you know, as we get further down the line, capital allocation, we're disciplined growth capex, committed to the range we provided, share buybacks is something we'll also consider. Increased dividends, we've done that recently and consider that going forward also as part of direct shareholder returns. And also for the debt reduction, we do think prudence is important today, and this is all balanced against continued balance sheet strength and health.

And just as a follow-up, do you have a specific leverage target in mind, or is it just a broader generalization at this point?

Well, let's continue to stay in the 1.5 to 2 range, and once again, we may dip lower for the reasons I noted, but our range is still as stated.

Gotcha. You know, you note in the disclosures that the backlog is predominantly compression-based. Can you speak to the processing opportunity pipeline? Is it just a function of lumpiness, or are there other macro factors at play there?

I'd say, Aaron, lumpiness. And I think what I'd like to point out is that our Q4 bookings were largely compression-oriented, but that doesn't mean that our total backlog is compression-oriented. You know, we had three-quarters of pretty significant process bookings. Q4 had a little bit more compression than process. But the process stuff is lumpy, but I don't see any indication from our customers of a deprioritizing of processing activity. It's just when the projects come and go. And they are much bigger, and they come in bigger chunks than the compression, which is really more of a drumbeat-type order book.

Makes total sense. Appreciate the feedback.

As a reminder, if you'd like to ask a question at this time, please press star 1-1 on your telephone. Our next question comes from the line of Tim Monticello with ATB Capital Markets.

Hey, good morning.

Sorry, I'm getting a little bit of chalkiness on the line, so if I cut out, it's not my fault. I just want to ask a little bit about the margins. Yes, margins were particularly strong in the fourth quarter and you guys have been sort of talking about this normalization and yes, margins for a couple quarters now. Can you elaborate on your expectations for that margin and when we might start to see that normalization? And perhaps if you can talk a little about the magnitude.

Hey Tim, it's Jeff. highlighted in his prepared remarks, the fourth quarter results benefited from very good execution and a favorable product mix. As was referenced in Erin's question, we've seen an increased proportion of compression bookings going into the backlog, which typically generate lower margins relative to processing. And so when we look at the expectations for 2025, it's a function of that mix playing into it and also some of the pricing impacts that we saw over the course of 2024 associated with weaker natural gas prices, especially on the compression side. So it's not necessarily something that we think will happen in a single quarter, but as the $1.3 billion backlog is executed, that's where we think margins normalize themselves to that long-term average.

Okay, so you're thinking, I guess, sort of progressively lower margins in that business line through the next few quarters?

I think that's a reasonable way to think about it.

Okay. And then the U.S. rental compression business, U.S. broke out the margins in this quarter, pretty impressive, and saw some growth even quarter over quarter, and certainly screens well above peers. Do you think that level of margin contribution is sustainable?

Yeah, I think so, Tim. You mean as far as relative to the contribution to Androflex's overall margin production?

I just mean on a percentage basis.

Yeah, I think so. I mean, right now the market is good in the United States for contract compression. There's a lot of capital discipline amongst the big providers. There's a lot of need for gas compression as the producers in the Permian are experiencing higher gas-to-oil ratios in new production, and volume of gas that they need to handle and get to market is increasing. So the demand is there for these services. We've got a high-quality fleet, and it's not the biggest fleet, but it allows us to be purposeful in the customers that we work with and make sure that we do, there's a lot of things that go into driving that kind of a gross margin performance, and we're really focusing on having the best quality assets, the best quality people operating those assets for our customers, and try to work with the customers that are most oriented with Interflex's long-term growth plans.

Okay, that's helpful.

On tariffs, can you talk a little bit about, I guess, the internal thought process around you know, what the impacts could be. Clearly, stocks are all reacting negatively to tariff sentiment, although, you know, your business lines seem somewhat insulated just given their sort of geographic, you know, encapsulation, I suppose. So, like, what do you think the downcase scenario is and where do you get to at a point where your leverage ratio is feel comfortable enough that you could use the downside in the stock as a buying opportunity for a share of purchases?

Tariff impacts for us are largely a supply chain issue. And 70% of our business roughly is infrastructure and AMS. And in the infrastructure business especially, our three biggest costs are lubricants, people, and spare parts. And the spare parts are largely sourced out of the United States. And we've been working closely with the providers of those spare parts to understand if they anticipate any increases in prices based on having to buy materials that will now have tariffs on them. And we've been working with those suppliers for going on six months now. And like we said in the prepared remarks, we're being proactive and doing our best to mitigate the potential impact. But again, that's That's the third out of the three costs on pretty high margin businesses. The engineered systems business is the one that has the biggest supply chain management requirements of us. And in the United States, which is our biggest engineered systems business by far, we source in the United States and build equipment for U.S. customers primarily. And so, again, we've been working with our supply chain to try to understand the impact of any price increases, but know also that when we quote new equipment, we put pretty short pricing validities on those quotations. And as soon as we get the orders, you know, we work very diligently to lock in all of our major expenditures with our suppliers. And, you know, when there's not a lot of tariff noise going on, You could give a client a quote and it's good for 30 days, maybe 60 days, and you could pretty reliably represent that price if you get an order. These days, we've got price validities to say 10 days or five days, and we're in constant communication with our suppliers to make sure that they're not expecting price increases. Because if they're expecting and they tell us about it, we can capture it and make sure our customers know very quickly so that we're not caught unawares. Well over 60% of our costs for an engineer systems project are locked in within the first couple of weeks of getting the order. So it all happens very quickly. And unfortunately, we had to bust out the playbook from 2016, where we had the exact same situation going on when there were steel tariffs put in place by the first Trump administration. And so we've been exercising those same plans really since back in October. when, you know, in the run-up to him being elected and his, you know, having some tariff talk in his campaign speeches. So it's something we're on. I would think of it largely as supply chain for us and largely in engineered systems and know that we've got, you know, teams of people that are very used to managing the prices we quote to customers and the supply chain costs in, like, every hour we're making updates to these kinds of things. Now, I do think that Canadian producers could experience, at least in the first quarter, a bit of a wait-and-see attitude as it pertains to their own capital planning for new infrastructure as they try to understand the impact and magnitude, if indeed they're producers that market their products south of the border, which I think a lot of Canadian producers do. We had a really good year in 2024. getting orders for Canadian infrastructure providers, mostly midstream providers, in the Montnichet, Prince Rupert, etc. We're just going to have to see how it impacts the overall Canadian oil and gas patch spending. But again, Canada is 10% of our business. It impacts the engineered systems portion of our Canadian business primarily. And I think that our global portfolio and our and our ability to really serve and focus customers in those regions from operations in those regions is doing a lot to not eliminate tariff risk, but definitely to provide a significant tariff risk mitigation.

Okay, got it.

And then just quickly, Preet, can you talk a little bit about working capital expectations and flows for 2025 versus 2024?

Yeah, you know what? I mean, we expect a little bit of unwind. We had a good year 2024, finished the year well. Debt reduction came down pretty significantly in Q4, so expect a little bit of an unwind. We have built a global discipline in working capital management, centrally managed, deployed globally, and very pleased with where we're at. So expect a modest unwind, but nothing significant that we can see in the cards.

So you're expecting investment in working capital in 2025? Just to clarify.

Yeah, somewhat stable. Once again, unwind a little bit and then keep it stable most of the year going forward beyond Q1. But like I said, we're focused on it heavily, and we don't expect significant swings.

Okay, thanks very much.

Our next question comes from the line of Jamie Kubik with CIBC.

Yeah, good morning. Thanks for taking my question. It's been just over three years since Enerflex announced the acquisition of Extern. The company's debt level has returned to the low end of its targeted range. Is it too soon to talk about further M&A for the company? And if not, could you just remind us of Enerflex's acquisition criteria?

Thanks. It is a little bit too early to talk about new M&A. Jamie, thanks for the question. This is Mark. We're really happy with what we got right now. You know, we're number one provider of engineered systems and infrastructure and services in our core markets. And I think there's a lot of value to be generated by working that competitive position and, you know, improving gross margins, you know, growing revenues with the really strong macro of North American natural gas. And I really don't see any immediate or midterm need for acquisitions from Enerflex's point of view to continue shareholder value creation. You never say no to anything, but it's really not part of what I would perceive as being important at Enerflex. I think we've got a much greater ability to grow shareholder value organically than inorganically.

Okay, great. And then can you talk a little bit about the dynamic between Canada and the US right now with respect to just where natural gas prices have moved to in the two different markets? Have you seen more interest in your US operators and potential expansions relative to Canada? And can you just expand a little bit further on what you're seeing on that side?

You know, we had a really nice, I call it the Trump bump after Trump got elected. there was a big run-up in activity in the latter half of November and throughout December from U.S. operators, and I think they were actually holding on a little bit in the run-up to the election to see what they ought to do. And I would just say the United States, as steady as she goes, we've experienced good levels of demand from midstream companies and E&P companies in the United States going on a couple of years now. And I don't expect that to change much. Consolidation in the U.S. has had a big role to play in that. It's not nearly as peaky and cyclical the last couple of years as it was, you know, throughout the shale growth, you know, from 2003 up to 2016. So steady as she goes, the United States, you know, we keep our eye on produced gas volumes in the United States and they continue to grow. And we're a big player in that market. And as gas volumes grow, we'll be selling and operating new equipment for those customers. In Canada, we had a great 2024. Canadian infrastructure companies definitely had some very attractive growth projects that they invested in, and we benefited from those investments. Like I said just a few minutes ago, I think it'd be quite reasonable to see Canadian infrastructure providers wait a little bit, and as they talk with their producer partners to try to decide the impact of tariffs and if indeed their growth capital spending would be at all impacted by the uncertainty in the markets in the near term. So we're keeping a close eye on that. All that being said, we've got a great backlog in our Canadian manufacturing shop, and we've got good service business in our Canadian operations, and I think that's going to provide a relatively good 2025.

Thank you for that. That's it for me.

That concludes today's question and answer session. I'd like to turn the call back to Mark Rossiter for closing remarks.

Since there are no further questions, thank you for joining today's call, and we look forward to providing you with our first quarter financial results in early May.

This concludes today's conference call. Thank you for participating. You may now disconnect.