CSI Compressco LP
Q2 2020 Earnings Call Transcript

Published: 3 Aug 2020

[Operator:]

Good morning, and welcome to CSI Compressco LP Second Quarter 2020 Earnings Conference Call. The speakers for today’s call are Brady Murphy, President of CSI Compressco LP; Elijio Serrano, Chief Financial Officer for CSI Compressco LP and also for TETRA Technologies, Incorporated, which is the general partner of CSI Compressco LP; Also in attendance today is Michael Moscoso, Vice President of Finance for CSI Compressco LP and Jacek Mucha, Treasurer for TETRA Technologies and CSI Compressco. All participants will be in listen-only mode. [Operator Instructions] Please note that this event is being recorded. I’d now like to turn the conference call over to Mr. Mucha. Please go ahead.

[Jacek Mucha:]

Thank you, Nick. Good morning and thank you for joining CSI Compressco’s second quarter 2020 results conference call. I would like to remind you that this conference call may contain statements that are or may be 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. You are cautioned 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, backlog, leverage ratio or other non-GAAP financial measures. Please refer to this morning’s press release or to our public website for reconciliation of non-GAAP financial measures to the nearest GAAP measures. These reconciliations are 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 as posted on our website, our Form 10-Q is planned to be filed with the SEC on or before Tuesday, August 4, 2020. With that, I will now turn it over to Brady.

[Brady Murphy:]

Thank you, Jacek. Good morning everyone and thank you for joining CSI Compressco’s second quarter 2020 conference call. I’ll give a recap of our second quarter performance and an update on the market environment and then turn it over to Elijio to provide information on the balance sheet, cash flow and liquidity. First, I’d like to start out by recognizing the exceptional dedication and performance from our management team and all employees for a job well done in one of the most challenging quarters our industry has ever seen due to COVID-19. To maintain adjusted EBITDA nearly flat with the first quarter in an environment dealing with the health and safety of our workforce, our two largest customers and multiple others shutting in production, and overall customer activity declines at a record face is very good execution in the face of extraordinary circumstances. Our executive team is meeting constantly to assess, reassess and proactively respond to the changes we’re seeing with the market and the COVID-19 pandemic in each of our geographic areas where we operate. We’re pleased that a few employees that have been directly impacted by the virus have recovered or are recovering well, and then we have not had any situations where we could not service or deliver on our customer’s requirements. The Board and I are very proud of what our management team and employees are accomplishing in this environment. Moving on to our results. As I mentioned, one of the highlights for the quarter is delivering EBITDA of $27 million, which is nearly flat with the $27.8 million we generated in the first quarter, but with a macro backdrop of historical activity reductions in the U.S. land markets. Unlike prior downturns, where the impact to the compression business lagged drilling and completion services, we saw an immediate impact from our customers’ request for price concessions, returning units and shifting units from operating to standby. In turn, we took immediate actions across all fronts and acted quickly and decisively on what we can control. We reduced costs through staff reductions, furloughs and adjustments to salaries and benefits while also reducing third-party costs and negotiating concessions from our suppliers. In doing so, we’ve managed to significantly reduce our overall fixed cost structure, something we will benefit from not only now, but as the market recovers. We made the decision to close our fabrication operations and took out significant overhead at the corporate level. As we went through the quarter from the start to the end of June, we saw increased levels of stabilization in our cost reductions taking effect. For the full quarter, despite declines in activity from lower utilization and from price concessions, Compression services gross margin actually improved sequentially by 300 basis points. Aftermarket services business gross margins also improved by 500 basis points. And our normalized cash SG&A expenses were reduced by 10%. As anticipated and discussed on our Q1 earnings call, our compression services revenue and gross profit decreased sequentially but compressing services margins improved from 51.9% in the first quarter to 54.9% in the second quarter, a significant accomplishment given the declining revenue base. These are the highest compression services margins in CSI Compressco’s history. Compression services fuel costs were reduced by 20% while revenue decreased 14%. Some of the cost savings also came from the lack of startup costs associated with redeploying compression units. Aftermarket services revenue declined from the first quarter by 12%, but gross profit increased by 33%. The drop in revenue was due to weakened customer demand as they deferred maintenance spending and non-replenishment of part inventories. Gross profit increased due to a combination of cost reductions and change in product mix. Equipment sales revenue increased by 2.5 times from the first quarter, which drove a consolidated sequential revenue increase of 7%. We completed a significant amount of new equipment deliveries mainly into Latin America. We previously announced our plans to shut down our fabrication operations, given the lack of backlog, and also indicated our intentions to sell the building and real estate. In early July, we completed the sale of the Midland Texas fabrication facility for gross proceeds of $17 million. These fund were received in early July. Our backlog of $8 million will be delivered in the third quarter, after which we will exit the new equipment sales business. As we move into the third quarter, the macro environment remains uncertain due to continued concerns of COVID-19 and the impact and uncertainty around oil and gas supply and demand dynamics. During these continued difficult times, our strategy is to stay aligned with our core customers, keep as many of our dedicated and talented employees as we can, employ creative standby solutions to minimize equipment releases, increase unit concentration to reduce costs and continue to migrate to customers with strong balance sheets. During the quarter, our fleet on standby reached a peak of 20%, but as oil prices stabilized and began to improve during the latter part of the quarter, many operators started to bring production back on line and we finished the quarter at 15% of our horsepower one standby. As we start the month of August, that will come down by meaningful amount as one of our top customers began bringing wells back into production. We believe our utilization low point will now be better than the previous downturn. This is a more optimistic view than we had in our first quarter earnings call, given the more stable view of the market than where we were this time last quarter, but clearly much market uncertainty remains. We’re seeing that our compression services pricing concessions have stabilized in the mid to high single digits. We expect our after services market business is going to be under some pressure for the rest of the year, as it’s dependent on equipment maintenance and replenishing parts for our customers, items that customers often delay during downturns. So overall, I want to, again, commend our management team and employees on the strong second quarter and navigating through these tough times. We still expect a difficult market environment in the second half of the year, but the fundamentals of our business will be intact for many years to come. In the immediate and foreseeable future, we’re focused on the things we can control, such as costs, safety and the service quality as we navigate the partner through this downturn, successfully and responsibly. I’ll now turn it over to Elijio.

[Elijio Serrano:]

Thank you, Brady, and good morning, everybody. I’d like to spend a couple of minutes on the non-recurring charges we incurred, cash flow, on the balance sheet and on our capital structure before we open up the call to questions. In the second quarter, we incurred $15.8 million of non-recurring charges of which $9 million are related to the write-off of vital compression ets and related field inventory, which are non-cash charges. $4.8 million are related to transactions, accounting and legal fees associated with the recently completed bond exchange and $2.1 million are related to other costs, mainly severance and costs associated with rightsizing the organization. During the second quarter, we generated $4.8 million of cash from operating activities. In the first half of the year, we have generated $18 million of cash from operating activities. Free cash flow for the first half of the year is $10.6 million. We ended the second quarter with $6.8 million of cash, up from $2.4 million at the beginning of this year and the outstanding balance on the ABL revolver was only $1.5 million [ph] at the end of the second quarter. We were able to reduce maintenance capital expenditures by almost 40% in the second quarter versus the first quarter, in response to the slowdown in business activity levels. Distributable cash flow was $8.4 million in the second quarter. In the first half of the year, distributable cash flow is $17.1 million, which annualizes to $34 million or approximately $0.71 per unit. This compares to a unit price at the close of business on Friday of $0.95. This is not a bad DCF yield. For the full year, we expect growth capital expenditures to be between $4 million and $8 million; we expect maintenance capital expenditures to be between $20 million and $22 million; and we expect to invest in automation, and remote monitoring systems and technology that we believe create competitive advantages and will result in fuel cost savings. In the upcoming investor meetings and the earnings calls, we will highlight and spend more time on these investments and how they are generating returns for us. This year, we expect to spend $3 million to $5 million in this area. On June 11th, we announced a successful exchange of unsecured bonds for secured bonds. $215 million of our unsecured bonds with an August 2022 maturity were exchanged for secured first lien, and second lien bonds with respective maturity dates of 2025 and 2026. As part of the process, we eliminated $9 million of debt. We were able to successfully extend maturities or eliminate $215 million of the August 2022 unsecured bonds. Our maturities are now $81 million with a coupon at 7.25% due August 2022 and all of the other bonds are due in 2025 and 2026. As part of this transaction, we’re able to markedly use cash interest expense with a pick option on the $155 million of the second lien debt. After this exchange and given the market conditions, our mandatory cash outflows on an annualized basis are approximately $75 million, including $48 million of interest expense, approximately $20 million of maintenance capital expenditures and approximately $5 million of cash taxes and lease payments. This compares to our second quarter adjusted EBITDA of $27 million. We are comfortable that we are nicely prepared to manage through this downturn and the reduction is spending by the industry. Our strategy to address the $81 million of August maturities is to accumulate $10 million to $25 million of cash between now and August of next year to repay a portion of the $81 million in cash and to refinance the balance. We believe that given our financial performance and the actions we are taking to manage costs and to create liquidity, we will find partners for this refinancing. Talking about liquidity, in the second quarter, we initiated a series of actions to monetize assets that we felt were not giving us the appropriate returns and the predictability of earnings that we are looking for. In July, we sold and collected for $17 million in gross proceeds the sale of our Midland fabrication real estate and buildings, transaction costs were only around $300,000. In early July, we received $2.6 million in proceeds for the sale of non-core midsized assets that were idled and unlikely to go back to service. In addition, last week we received a purchase order to sell $6.7 million of large idled horsepower units to one of our significant customers. We expect to provide aftermarket services to this customer on the assets that they will be buying from us. We expect this sale to be completed and the proceeds to be received by the end of the third quarter. The sum total of these items is $26 million of cash proceeds that will be used to fund our maintenance growth and technology CapEx and therefore free up cash flow from operations to improve our liquidity. We will continue to evaluate all the assets in our fleet. And those assets that might not generate the returns and the persistency of earnings that we’re looking for will be targets for monetization to create additional liquidity, especially those assets are unlikely to be put back in service in the near future. CSI Compressco has a $35 million asset base revolver with a term borrowing base of approximately $21 million before outstanding letters of credit. $1.5 million was drawn on the revolver at the end of the second quarter. The revolver matures June 2023, and is secured with field inventory and receivables. We do not expect to have any amounts drawn on the ABL in the near future. CSI Compressco’s net leverage was 5.1 times at the end of the second quarter, down from a high of 7 times at the end of Q2 2018. And as a reminder and very important, none of the outstanding bonds contained any maintenance covenants. Overall, we had a solid second quarter, completed a bond exchange to push out a significant amount of our maturities and are in the process of creating incremental liquidity to shore up the balance sheet. We like where we are, given the market environment. Nick, with that, let’s open it up for questions.

[Operator:]

We’ll now begin the a question-and-answer session. [Operator Instructions] First question comes from Praveen Narra from Raymond James. Please go ahead.

[Praveen Narra:]

I guess, I just want to start maybe helping us parse through the revenue per horsepower and cost for horsepower trends. As we think into, 3Q there’s a lot of moving parts obviously. So, I guess, you mentioned the pricing concessions have really shallowed or stopped coming down. So, I guess, can you help us think through how much of that was already reflected in the 2Q P&L and then how much is still to come in the 3Q?

[Elijio Serrano:]

So, Praveen, and I think the key item is that we started working with our customers at the back end of the first quarter, and then began putting those concessions in place in April, and they gradually took hold through the quarter. So, we have not seen the full three-month impact of those concessions. So, while all they bottomed out, we think that the third quarter we’ll see the full impact of three months of those concessions, because the second quarter reflected those gradually coming into the system.

[Praveen Narra:]

Okay. And I guess from the standpoint of the cost side of that, obviously cost came down tremendously. Can you help us understand how much of that was because of units on standby and how we should expect the cost per horsepower to trends into 3Q?

[Elijio Serrano:]

So, cost came down through a combination of efforts. I think, our management team did an exceptional job. And as soon as they saw customers start to pull back equipment, concessions for price increases started to come in, they started shutting down everything. We implemented temporary salary reductions. We aggressively managed over time. We suspended, for example, any 401(k) contributions on the employer side, not knowing how difficult this was going to be. So, a lot of it was led by management initiatives that are completely within our control. Now, in some cases where equipment got returned, we don’t need those resources to go out and perform maintenance on the equipment that’s either on standby or has been returned to us. So, eliminates costs, that eliminates over time that eliminates salary, but also more importantly that eliminates lube and oil, and components costs. So, all that -- I think the sum total of all that benefited us during the quarter. Same way, some of those initiatives gained traction immediately in the early parts of April, because we were very aggressive in taking care of it. Others scaled down as equipment started getting returned. So, I think that we’ll see the current run rate of expenses stay consistent into the second quarter -- into the third quarter, I mean.

[Praveen Narra:]

Okay, great. So, on a per horsepower basis, we can actually hold 2Q’s into 3Q, even with the units calling back out?

[Elijio Serrano:]

And remember, Praveen, and we talked about this in the past that the economics on a per horsepower basis are very different for the small versus a large -- revenue per unit on the small units is sometimes as much as 2.5 times to 3 times revenue per horsepower on the big units. So, take that into account as you model.

[Praveen Narra:]

Yes, absolutely. And then, I guess, maybe if I could, just one last one, just in terms of the utilization of equipment into 3Q. You mentioned that it’s going to be better than in the 2016 downturn. Can you help us understand, whether it’ll be fully reflected? Do you think the bottom could be in 3Q or whether this is going to take time to play out?

[Elijio Serrano:]

It’s our impression that the utilization will bottom out in the third quarter. And when I look at the number of units that we expect to have operating for the year, especially looking at the big units, we think the bottom is going to be somewhere in the August-September time period, and then it starts to rebound. And again, that’s based on what our current -- our customers are currently telling us. But, as we have seen in the last three months, their information direction is changing very-rapidly, but current information tells us, it’ll bottom out in the August-September time period.

[Praveen Narra:]

That’s very helpful. Thank you very much, guys.

[Operator:]

Thank you. The next question comes from Steven Ruggiero, R.W Pressprich, please go ahead.

[Steven Ruggiero:]

Thank you. Elijio, nice results. Just to follow up on the last question with bottoming out in August-September. Is there any implication there for your second large, super major customer coming back and bringing standby units on?

[Brady Murphy:]

Of course, those units on standby are still part of our utilization calculation. So, bringing those back on from standby to operating, obviously boosts our revenue. But, it doesn’t have a dramatic impact in our -- on our utilization if I’m understanding your question correctly.

[Elijio Serrano:]

And as a reminder, if equipment is returned to us and we’re not billing for it, it’s part of our utilization, it’s not part of the numerator. Obviously, it remains part of the denominator. If a customer puts equipment on standby and we continue to bill them some amount, it’s part of both, the numerator and the denominator.

[Steven Ruggiero:]

Got it. And that’s clear. Thanks, Brady. Elijio and Brady, then, if you could just -- do you have any sense when that second super major may bring back its standby units to operational?

[Brady Murphy:]

Yes. I mean, we’re in discussions because we’re obviously a major part of their production. So, we’re in discussions with them constantly. I would say there are probably 30 days or so behind, if I had to guess today where our first customer was that we mentioned came back in August 1st, but that’s my estimation. I can’t confirm that.

[Steven Ruggiero:]

Okay. And then, for modeling purposes, the last couple of quarters have been in that $10.2 million level for SG&A. Is that a good number for third and fourth quarter, or do you have additional savings that we expect to see flow through?

[Elijio Serrano:]

I would suggest that a lot of the savings from the SG&A side have taken -- gained traction. So, modeling at that level is appropriate.

[Steven Ruggiero:]

Okay. And final question, Elijio, you mentioned that using the $26 million receipts from the asset sales for maintenance CapEx prospectively. Do you expect that you’ll be using any of that to buy back debt or are you just in a build - liquidity build-up mode now through year end?

[Elijio Serrano:]

We’ll evaluate whether we can take out unsecured bonds in the open market, but pricing on both will be a critical factor. And, I think more importantly, in periods of uncertainty, the prudent thing to do is to build up as much liquidity as we can, knowing that there remains uncertainty in the market. So, we’ll evaluate the pricing on the bonds that are out there, the unsecured bonds. Otherwise, we’ll just build cash to try to use that as part of the refinancing date next year.

[Operator:]

The next question is from Brian DiRubbio of Baird.

[Brian DiRubbio:]

Just out of curiosity, the Midland, Texas facility, so a lot quicker than I anticipated. Was that sort of the procedure you received there? Was that generally in line with what you were expecting originally?

[Elijio Serrano:]

Well, if you asked that three years ago, I think, the answer would have been different. But in today’s environment and given the uncertainty in the market, we’re pleased with the outcome.

[Brian DiRubbio:]

Again, $17 million gross, can you provide a net number?

[Elijio Serrano:]

$300,000 of expenses, so $16.7 million.

[Brian DiRubbio:]

Okay. All right. Actually, that’s perfect. As we think about -- I know you said you want to build up cash over the next year. But, as we think about the new second lien notes, is it the Company’s intention to pick -- to elect the option at this point in time, or what do we need to see you guys to make a decision, whether to pick those bonds or to pay the full 10% cash?

[Elijio Serrano:]

During periods of uncertainty, we want to preserve cash. So, it’s highly likely we’re going to go pick early, until we get a better sense of the market is rebounding and there’s predictability into the future.

[Brian DiRubbio:]

And then, just back to the question on buybacks. I mean, cash is fungible. So, I know you said, you’re going to use the $26 million towards maintenance CapEx, but at the end of the day, cash is just fungible. Is it, the question -- I guess, one way to put it, as you look at growth CapEx over the next 12 months, I know you add certain projects sort of in the pipeline already this year. As you think about growth CapEx, projects versus possibly repaying -- buy back bonds in the open market. We’d love to get your thought process, how you’re thinking but that equation?

[Elijio Serrano:]

Yes. Any growth CapEx will be only for our critical customers, will be directed at existing networks where we’ve got clusters of equipment, and obviously, if we don’t have those specific assets that they are looking for. Otherwise, I think that we looked for existing fleet to keep redirecting assets to contemplate them through our core customers, unlikely that we will use growth CapEx to pursue opportunities. It will be growth CapEx only for our existing customer base and those that are core customers. And obviously, with the strong balance sheet, and we like the customer base and the concentration that we have, we like the balance sheet of our customers, we feel we’re in good shape there.

[Brian DiRubbio:]

Yes. So, just final question for me. Cash flow is just a little light versus last year. But, the costs incurred for the exchange -- is that the amount of cash, I guess cash interest payments were a little bit higher also through the exchange, is that correct?

[Elijio Serrano:]

Yes. So, the transaction related expenses for legal fees and the bank-related costs, the accounting related costs of 4.7 are all cash. And those are split between the second quarters and there is some coming in the third quarter.

[Operator:]

The next question comes from Sharon Lui of Wells Fargo. Pleased go ahead.

[Sharon Lui:]

Just a follow-up question on the compression gross margin. It was very strong this particular quarter, and I believe you said it’s sustainable through probably the back half of the year with the turndown in the business. But just wondering, in terms of looking at how much of that cost reduction is permanent, and how much sort of increase again when business starts picking up?

[Elijio Serrano:]

So, Sharon, when equipment is being deployed, we incur startup cost. And clearly, there was almost no startup costs being incurred in the second quarter. And I think that you’ll see that very comparable to what our publicly traded peers also report. We do have temporary salary reductions in place. We have 401(k) that we’re not matching on the company side, but the management team has also made structural changes. We think that when the market rebounds and we’ve got confidence that there’s a path forward that is predictable, some of that cost will come back into the system because we want to keep and maintain our strong employee base. But, some of the changes are structural in nature that should not recur. Now, the other thing that I do want to reference and we’ll talk about it more in the upcoming investor conferences and earnings calls, is that we’ve been investing quite a bit of time and effort and now capital on automation, remote monitoring, and we think those are going to make a big difference. They’ll give us predictability so that we can do maintenance on a predictive basis rather than on a routine basis. And some of those are just now gaining traction that will benefit us and help us long-term in the future. So, some of them are temporary to address a downturn, but some of them are also structural changes. And we’re also in the early phases of getting the benefit of some of the technology that we’re investing.

[Sharon Lui:]

Okay. That’s helpful. And then, just a question in terms of the asset sales with your compression equipment. When you think about it, what type of I guess returns or multiples are you realizing on those types of sales?

[Elijio Serrano:]

Well, so, if they’re idled and unlikely to go back to work, it’s an unlimited return. We mentioned that we sold $2.6 million in early July, and we collected that cash that was primarily for mid-sized equipment that we don’t see that equipment going back to work anywhere in the immediate future. So, I would call those very high returns. Then, on the other equipment, it’s primarily with a key significant customer. They wanted to own the assets that we have available. We’ll put them in the same network that we work with owned fleet, and we’ll provide aftermarket services. So, that was more to accommodate our key customer requests, and actively looking to sell some of the large equipment. We believe that the large equipment, both the 1,380 horsepower and the 2,500 horsepower is a core part of our fleet on a go forward basis. And our preference is to retain that equipment. But, when a key customer sales, we’ll take some of that equipment, put it in network, continue provide services, we will accommodate those customers.

[Sharon Lui:]

Okay. And I guess, two housekeeping items in terms of the equipment sales in the third quarter, is there a backlog, or should we see some revenue recognition for that?

[Elijio Serrano:]

So, the 2.6 versus 6.7 is firm, either already completed or with a purchase order on hand. And also recognize that at any point in time, we sell between $1 million and $2 million of equipment, primarily older equipment comes off of a network. Brokers are always asking us if we’re open to selling older equipment. So, on an annual basis, we’ll sell anywhere from $4 million to $8 million of older equipment. I think, that’s probably appropriate to continue to expect that anywhere between 1 and 2 a quarter of older equipment is to continue to be sold. The two items that we called out are I’ll call them exceptional one-off items that we’re going to see the benefit of.

[Sharon Lui:]

Okay. And then, in terms of the interests that you can either pay in cash or pick is the expectation that you will pick the interest expense or pay in cash?

[Elijio Serrano:]

Well, right now, during periods of uncertainty, likely we’ll go pick, but we’ve got the option to evaluate that in advance of every scheduled payment. Right now the thought process is this.

[Operator:]

Thank you. The next question is from Orin Hirschman of AIGH Investment Partners. Please go ahead.

[Orin Hirschman:]

On the price concessions, you mentioned single digit. Can you just go again into detail? Those price concessions you mentioned, some were reflected in the past quarter, some will be in this quarter. Again, you touched upon it in terms of those moderating and/or going away. Could you just take us through that? I know it’s a fluid situation, just take us through what’s going on there.

[Elijio Serrano:]

Orin, I’ll start it and then I’ll let Brady add any additional comments. I mentioned earlier that we started those -- started receiving those requests at the tail end of Q1. We started negotiating and working with customers in April and they started coming on line gradually April, then May and then June. We -- and as Brady mentioned, we believe that we received the vast majority of those concessions for price requests. So, we saw them phase in during the second quarter, but we’re going to see the full three-month impact in the third quarter. We do not yet see a clear line of sight to be able to begin to recoup some of those. So, expect that the impact in Q3 will reflect three full months, and the impact in Q2 was a gradual phase in those price concessions.

[Orin Hirschman:]

You mentioned single digit -- a single digit number, is to take like a 7% or 8% number and assume then more or less half of it last quarter, and additional half I think this quarter? How should we look at?

[Elijio Serrano:]

I think you are directionally correct.

[Orin Hirschman:]

In terms of the equipment sales where you retained the service, what happens when those go into standby mode at that point?

[Elijio Serrano:]

So, at that point, if the customer now owns them and they shut them in, clearly, we’re not getting any revenue for the fleet, if a service or a rental. But, if they put them on standby, then there’s no aftermarket services on them. If they’re operating, then they need to be served as with lube oil, replacement of any component -- be six weeks or so.

[Orin Hirschman:]

Then again, if they’re on standby and they own them, they don’t pay you anything at that point?

[Elijio Serrano:]

Correct. Because when we perform after market services, it’s on a time and material basis, we’ll go out there and bill them for parts, components, and service when we drive out to their units. Yes, there’s not a monthly fixed fee for equipment that the customer owns for us to perform services on. It’s when we are out there on their equipment.

[Orin Hirschman:]

Got it. Just one other question in terms of the smaller horsepower within the fleet, I know it’s on the big piece of the fleet. But, to call out what’s been going on there and most of the utilization coming down in that area or not what you would think necessarily?

[Brady Murphy:]

I think, the smaller horsepower, we saw some releases earlier on. Again, a lot of the smaller horsepower is related to gas production, gas wells, single wells, not centralized multiple wells. We did see some stabilization of that fleet near the end of the second quarter. We’re probably now at the utilization rate pretty close to where we were at the bottom of the last cycle. But, we do feel that with the gas market improving, fundamentals improving by the end of this year going into next year that we have some opportunities to put more of that fleet to work.

[Elijio Serrano:]

And, Orin, as a reminder to everybody that the zero to 100 horsepower, that’s a small piece of our overall fleet. That’s only 8.2% of our operating fleet at the end of June or about 75,000 horsepower that’s operating.

[Operator:]

The next question is from Selman Akyol of Stifel. Please go ahead.

[Selman Akyol:]

I just want to kind of go back and think about gross margin for a minute, and thinking about standby, and how does that impact gross margins as they come back on line. Is that a drag to gross margins as standbys come back?

[Elijio Serrano:]

So, Selman, the standby rates can vary. In some cases, it will be as much as 70% of the original monthly fee; in other cases, it can be below 50%. It’s dependent on whether it gets put on contract when it’s on -- put on standby, if it’s on contract or if it’s on month-to-month. When we put it on standby, obviously, we’re not out there adding lube and oil; we’re not out there replacing valves; we’re not out there doing anything with the panel boxes, and we don’t have personnel driving out to those locations. We basically cease incurring any cost for them. The gross margin that we receive when it’s operating, in some cases matches the gross margin that we have when it’s on standby. So, it really depends on the mix that comes back. If it’s some of the units that are currently on contract with an agreed upon standby rate, the benefit might not be significant. If it’s a month-to-month contract that we put it on standby at rates, say, below 50% as an example, it might be incremental to gross margin and put it back to work.

[Selman Akyol:]

And then, you also highlighted or mentioned in the opening comments, deferred maintenance spending by your customers. I’m just kind of wondering how long that can really go on.

[Elijio Serrano:]

Well, there’s deferred maintenance from two perspectives, that’s deferred maintenance on our own fleet and we can control that and then, deferred maintenance by a customer from an aftermarket services perspective. So, they’re seeing the same thing we are. Some of them are shutting in part of their own fleet that they own. Some of them are pulling units off of production, because the volume of gas is not supported. And when they do both, they don’t require any ongoing either recurring maintenance or upgrades and overhauls that they do. So, we assume that the equipment our customers own goes through the same process that equipment that we own that we service ourselves. If it’s on standby, unlikely for anything to be done on a monthly basis. If it’s pulled off of production of production, they park it until they need it back on line. Then, they’ll call us for startup support. And then, if they need to do an overhaul or a rebuild of the engine and it hits that time cycle, they’ll call us out to do that.

[Operator:]

Thank you. The next question is from Joseph Von Meister of Intermarket. Please go ahead.

[Joseph Von Meister:]

Just one quick question. What was the high horsepower utilization in Q2, and where do you expect it to be in Q3?

[Elijio Serrano:]

So, we ended the second quarter on the big units, those over a 1,000 horsepower at 88.2% utilization. And if you recall, at the peak, we were close to 98%. We also mentioned that we think it’ll bottom out in the August-September time period. So, we think that that utilization still has a little bit of a downside pressure to come, but not significant from the 88%.

[Joseph Von Meister:]

Sounds good. That’s better than expectation, as I recall.

[Elijio Serrano:]

Yes. Brady mentioned earlier that our tone and our impression today is more positive than it was 90 days ago. And I think that is driven by our two significant core customers that have a really solid balance sheet and a well defined strategy, and the feedback that we’re getting from both.

[Joseph Von Meister:]

Your total slate, what is the high horsepower and medium horsepower component at the end of Q2? And where will it be at the end of Q3, given the sales that are being contemplated?

[Elijio Serrano:]

So, the big unit active operating horsepower were 914,000 horsepower. And Michael, correct me if I’m wrong. I’ve got Michael Moscoso on the line.

[Michael Moscoso:]

…greater than a 1,0000 horsepower.

[Elijio Serrano:]

Active and operating at the end of June. And Michael…

[Joseph Von Meister:]

What about the total fleet?

[Elijio Serrano:]

Total -- I’m sorry. Let me back up. The total fleet was 914,000; the big units were 521,600. And then, Michael, the amount of equipment being sold that’s large horsepower in the third quarter. Remind me of that number, please.

[Michael Moscoso:]

Yes. The majority of what we’re talking about being sold is actually medium horsepower. So, large horsepower is about 7,500.

[Elijio Serrano:]

Okay. So, out of the equipment sales that we mentioned, only that amount is over a 1,000 horsepower. And again, that amount that we’re selling to a key customer, we’re going more likely perform aftermarket services for them.

[Joseph Von Meister:]

So, just to clarify your fleet of high horsepower unit at the end of Q2 was 521,000. Did I get that right?

[Elijio Serrano:]

Active operating horsepower. Now, the sale that we mentioned is not part of this number because that equipment is not active, nor operating. So, it doesn’t impact this 521,000. It only -- that 521,000 is the numerator. The 7,500 horsepower that Michael mentioned is coming out of the denominator.

[Operator:]

[Operator Instructions] This concludes our question-and-answer session. I’d like to turn the conference back over to Mr. Brady Murphy for closing remarks. Please go ahead.

[Brady Murphy:]

Thank you, everyone. We appreciate your interest in CSI Compressco and thanks for taking the time to join us this morning. This concludes our call.

[Operator:]

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