RigNet Inc
Q3 2015 Earnings Call Transcript

Published: 10 Nov 2015

[Operator:]

Ladies and gentlemen, welcome to RigNet's Third Quarter 2015 Earnings Conference Call. My name is Carmen and I will be coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session after prepared remarks by management. [Operator Instructions] As a reminder, this call is being recorded. I would now turn over the presentation to Marty Jimmerson, RigNet's Chief Financial Officer. Mr. Jimmerson, please proceed.

[Marty Jimmerson:]

Thank you, Carmen. Good afternoon and welcome to all of our listeners. With me today is Mark Slaughter, CEO and President. Yesterday, after the market closed, we issued a press release regarding our third quarter earnings. The release is available in the Investor Relations section of our website. Mark will begin today's call with a review of our third quarter 2015 performance, and then I will follow up with some financial details. Mark and I will then open up the call for questions. Before we begin, let me remind everyone that our call will contain forward-looking statements. Except for historical facts, all statements that address our outlook for the remainder of 2015 and beyond, as well as activities, events, or developments that we expect, estimate, believe, or anticipate may or will occur in the future, are our forward-looking statements, which involve substantial risk and uncertainties that could significantly affect expected results. Actual future results could differ materially from those described in such statements. You can obtain more information about these risk and other factors in our SEC filings. Now, it is my pleasure to turn the call over to Mark.

[Mark Slaughter:]

Thanks, Marty. Again, to all our employees, customers, investors and other interested parties from across the globe, I want to thank you for joining our third quarter 2015 earnings call. Like most companies in the oilfield services industry RigNet has experienced increased market headwinds in recent times as deals with the lower commodity price environment that is led to a reduction in oil and gas drilling activity. Moreover the industry wide focus on lowering well construction cost and intensifying competition from existing providers and new entrants seeking a bigger slice of the smaller pie provide further challenges while supply, demand, fundamentals remain out of balance. With that said, it is also clear that RigNet's remote communication solutions are playing an important role in improving productivity and driving efficiency at lower breakeven well cost. Integrated operations for example were much of the managerial and technical expertise exists in all away from the rig allows for distributed over side and decision making that grows an importance in a lower oil price environment. By providing robust and reliable remote communication solutions, RigNet supports the industry's need for reduced well cost and improve productivity in the current environment. RigNet is also maintained its focus on developing new business in this environment. We are particularly proud of our sales and business development efforts as we have recently announced new customer wins in both our managed services and TSI businesses. Even though the drilling market continues to experience challenging conditions, there are still major customer opportunities that we are pursuing and winning. While we do not know how long the current market conditions will persist, we remain committed to extending RigNet's services to new customers as well as new sites with existing customers so that we are well positioned when market conditions ultimately improve. Last week RigNet also announced that it will be acquiring TECNOR, a leading remote communications provider in Mexico. RigNet has long served the offshore drilling industry in Mexico, but recent energy reforms had opened the doors to foreign investment portend a positive step change in drilling and production activity both offshore and onshore that led us to pursue this acquisition. While it is certainly a small company relative to RigNet, TECNOR will bring local presence and knowhow, marketing positioning in oil and gas and other verticals and serve over time as a spring board deeper into Latin America. Regardless of the point in the energy cycle, RigNet helps enable the increasing digitization of the oilfield by providing digital technology solutions across the life of the field from drilling through production. The mission critical role of our remote communication solutions is at the heart of RigNet’s importance to the oil and gas industry, whether in periods of high growth or in today’s lower commodity price environment. Today’s macro environment clearly presents RigNet with some near term challenges but also unique opportunities to strengthen our capabilities, expand our market presence and emerge as a stronger and better Company. Looking briefly to our financials, revenues declined in the third quarter to $66.3 million, principally as a result of reduced customer spending in a lower commodity priced environment. The majority of the revenue decline over the third quarter came from our telecom systems integration or TSI business unit which was impacted by lower capital project spending by operators in the upstream oil and gas segment. We also in the quarter experienced lower recurring revenues in our managed services business due to offshore rig stacking and scrapping, which included lower operated revenues as a result of an increasing number of warm and hot stacked rigs we serve that are being marketed but not actively drilling. Adjusted EBITDA at $14.5 million or 21.9% of revenue benefited from cost containment taken earlier in the quarter but was impacted by the sequential revenue declines in both TSI and managed services. RigNet serves both offshore and onshore drilling rigs all around the world but it’s revenue and profitability are much more closely tied to offshore drilling, given the mission criticality of our services and the data intensity associated with offshore drilling operations. So while the Company does have some exposure to onshore shale drilling it further believes that unconventional shale drilling will be an important driver of the Company’s results over the long term, it is important to note that RigNet is much more levered today toward offshore drilling activity levels. Against that backdrop it is important to highlight that the offshore rig count is significantly less volatile than the more publicly visible figure for U.S. land rigs which has dropped over 60% since its peak in the third quarter of last year. In addition, please keep in mind that demand for RigNet services is primarily linked to the total number of offshore rigs in operations not supply demand fluctuations or volatile day rates that drillers charge operators. With this in mind, the active and addressable offshore rig count worldwide was 735 at the end of the third quarter with marketed utilization of these rigs declining to 78.4%, and the number of actively drilling offshore rigs down further to 492 which was a decline of 42 rigs or 7.9% over the quarter. For the first three quarters of this year, actively drilling offshore rigs have declined in total of 22%. Looking forward to next year, there are a scheduled 156 rigs rolling off of operator contracts and further there is 78 newbuild rigs scheduled to enter service, which will continue we believe a challenging environment for offshore drillers pursuing a declining number of offshore drilling projects. Our market visibility is very limited at this stage and there is high uncertainty around the ultimate depth and duration of this oil and gas industry downturn but we certainly expect challenging market conditions in drilling to persist into and perhaps even beyond 2016. Turning to RigNet in the third quarter. We were building on a total of five rigs that included 245 active and addressable offshore rigs which was a one third share of such rig that represented a decline of 18 rigs in the quarter which was generally in line with the market decline. Average revenue per offshore rig declined 1.1% over the quarter, primarily as a result of an increasing proportion of rigs served in warm or hot stack mode where there is not a billable operator. Since October 1, 2014, we have been notified directly by customers or through public announcements that 55 offshore drilling rigs we serve will be cold stacked or scrapped. By the end of the third quarter, we had stopped service on a total of 30 of these 55 rigs with six leaving service in the fourth quarter of 2014, six in the first quarter of this year, 11 in the second quarter and 7 in the third quarter. This leaves a balance of 25 offshore rigs that we expect will be leaving service in the last quarter of this year and into next year to be offset by any new remote site additions over the same period. Taking a more long term view of offshore drilling which is the primary market that we serve today, our thesis continues that this accelerated market transition to newer offshore rig fleets is more favorable over the long term for RigNet due to increasing technological sophistication of these rigs and how that increased technology manifests itself at the higher demand for our remote communications solutions. Thus despite the market headwinds in upstream oil and gas today, we remain very positive about the long term attractiveness of this key market segment. In our managed services business, which we report as our east and west segments, our sales and business development efforts are highly focused on growing our market share of onshore drilling rigs served by adding new customers and new sites from existing customers. In addition under our life of the field focus we are equally focused on providing our remote communications solutions to offshore and onshore productions sites, which offer a relatively more stable market for our services within upstream oil and gas. Our TSI business segment has been experiencing declining revenue due to lower activity in backlog. I was pleased that the TSI business added significantly to backlog in the quarter showing the ability to pivot its sales and business development efforts from upstream projects to the more active midstream and downstream segments of the oil and gas industry. In particular TSI won another telecoms project for a new LNG export terminal to be constructed along the U.S. Gulf Coast and showing further flexibility TSI even won a telecoms project for a renewable energy facility a wind farm to be constructed in the German sector of the North Sea. Although TSI revenue this quarter is lower than recent historical periods, the new larger multiyear projects will all eventually lead to higher quality TSI revenue as the recent backlog editions convert into billable work. RigNet is indeed facing market headwinds in upstream oil and gas that we believe may last throughout next year perhaps longer. But that said RigNet's business is substantially driven by the number of active addressable rigs and more important the growing data needs not the day rates that drillers charge operators. Further we believe that our customers have leveraged and particularly during this down period will continue to leverage our remote communications solutions to help reduce our operating and overall cost. In particular our remote communications solutions support diverse mission critical needs such as remote management, real-time monitoring, remote access control, remote safety supervision and preventive maintenance, all of which represent key enablers for substantial cost savings opportunities in upstream oil and gas. Thus in view of lower energy prices overall reduced drilling budget and a supply demand imbalance in offshore rigs, we expect our customers to continue their focus on improving productivity and reducing overall cost, which we believe will continue to increase our customers' utilization of our mission critical service offerings as we help operators, drillers and service companies operate in a productive, efficient safe manner. In closing though our forward visibility is limited, we believe we will continue to experience short-term pressures on our top-line results and we'll persist into and perhaps through next year and we are positioned over the long-term to strengthen our market position and overall capabilities. We continue to win new business and provide a mission critical remote communications platform for our customers both in good times and in bad. We believe our story is stronger than just current commodity prices and we hope that our relatively performance will ultimately garner appropriate recognition in the capital market. We remain firmly committed to our strategy of addressing the digital oil field as a mission-critical technology solution provider helping our customers operate in a more productive, efficient safe manner. I remain encouraged by the progress we're making and I look forward to leading organic and inorganic moves that expand our technology solutions portfolio, enhance our capabilities, broaden our geographic footprint, open new vertical market runway and position us to continue to serve our customers with distinction. With that said I'll now turn the call back over to Marty for a more detailed financial review.

[Marty Jimmerson:]

Thank you Mark, now let me share some more detail about our third quarter 2015 financial results. During the third quarter of 2015 we reported revenue of 66.3 million representing a decrease of 21.5 million or 24.5% compared to the same quarter last year. Telecom Systems Integration, TSI revenue declined by 8.2 million compared to the prior year quarter primarily due to reduced activity and backlog. Managed services revenue declined 13.3 million compared to the same quarter last year which was primarily attributable to one North America Land which declined 3.0 million as a result of significant declines in rig activity, two, offshore rigs contributing 4.9 million to the decline primarily due to coal stackings and to a lesser extent reduced operator utilization, and three other site which declined 5.4 million as a result of fewer other sites served and lower ARPU per site as customers focused on variable expenses. Looking at our quarter-on-quarter revenue performance total revenue in the third quarter decreased 8.8 million or 11.7% compared to the second quarter of 2015. TSI revenue declined 4.8 million which represented 54.5% of our quarter-on-quarter decline. Managed services revenue declined 4.0 million compared to the second quarter primarily attributable to one, other sites which declined 1.6 million as a result of fewer other sites served and lower ARPU per site as customers focused on the variable expenses, which also included 200,000 of decline from our North America land operation, and then lastly offshore rigs contributed 1.6 million to the quarter-on-quarter decline primarily due to coal stackings and again lesser extent to reduced operator utilization. Adjusted EBITDA was 14.5 million or 21.9% of revenue a decrease of 5.7 million or 28.2% over the same quarter last year and a decrease of 4.0 million or 21.7% quarter-on-quarter. The decrease is compared to the prior year quarter and quarter-on-quarter resulted from decreased revenue as discussed previously. Partially offset by benefit from cost containment actions including our resource reallocation and restructuring plans announced earlier this year and our separate global cost savings initiative focused on all third-party spend category. We reported total SG&A expenses of 15.6 million in the third quarter compared to 19.3 million in the prior year quarter and 18.1 million in the prior quarter. On July 13, 2015, we announced a plan to reduce our workforce based on continued declines in the oil and gas market conditions that resulted in a total restructuring charge of 1.3 million associated with this plan. Excluding $800,000 of SG&A expense associated with this restructuring charge. SG&A expenses would have been 14.8 million in the current quarter. SG&A decreased compared to both the prior quarter and the prior year quarter due to savings from the resource free allocation restructuring plan, as well as benefits from our cost savings initiatives. As disclosed in our 10-Q filings today, our TSI business has a balance of 10.2 million as of September 30, 2015 included in cost and estimated earnings in excess of billings on uncompleted contracts. This balance relates to a single multiyear project that commenced in 2013 prior to our acquisition of Inmarsat Enterprise Energy business unit and is expected to reach substantial completion by the end of this year. We believe these amounts which customer is disputing impart are owed under a customer contract where RigNet has a right to payment for work related to a certain change order. We will continue at current cost and recognizing revenue related to this change order as the project is not yet complete and is expected to ultimately continue for the early part of 2016. Management believes it is reasonably possible that the dispute with the customer may result in a loss, which we cannot currently reasonably estimate. We have initiated the dispute resolution process under the contract and are actively working with the customer to resolve this matter. We expect to be in a position to provide more information by the time we sign off on our 2015 year-end audit. During the third quarter of 2015, as a result of reduced internal cash flow projections from our North America Land reporting unit, which has been adversely impacted by a significant decline in U.S. land rig counts, we recorded a $10.9 million impairment charge of goodwill and a 1.7 million impairment charge of the intangibles related to this reporting unit. Both the goodwill and intangible charges are related to Landtel Communications, the U.S. land remote communications company that RigNet acquired back in 2006. As a result, we have no remaining goodwill or intangibles associated with our North America Land reporting unit. Although we still have 18.5 million of goodwill remaining in the Eastern Hemisphere segment of which the fair value of this reporting unit significantly exceeded the carrying value plus goodwill. Cash earnings decreased to 12.2 million or $0.69 per diluted share in the third quarter compared to 15.4 million or $0.86 per diluted share in the second quarter of 2015 and 14.8 million or $0.83 per diluted share in the prior year quarter. Unlevered free cash flow defined as adjusted EBITDA less capital expenditures decreased to 8.4 million in the third quarter compared to 10.2 million in the prior year quarter and 10.4 million in the prior quarter. Capital expenditures were 6.1 million in the third quarter compared to 10 million in the prior year quarter and 8.1 million in the prior quarter. In the third quarter we reported consolidated net loss attributable to common stockholders of 10.9 million or $0.62 per diluted share, excluding 12.6 million related to the impairment charge related to goodwill, and intangibles in our North America Land operations and the $1.3 million restructuring charge both previously discussed herein, consolidated net income attributable to common stockholders would have been 3 million or $0.17 per diluted share compared to 5.9 million or $0.33 per diluted share in the prior year quarter. Net income attributable to common stockholders was 6 million or $0.34 per diluted share in the prior quarter. Our effective tax rate for the three months ended September 30, 2015 was not meaningful due to both the $12.6 million impairment of goodwill and intangibles and the 1.3 million of restructuring charges which significantly decreased our consolidated pre-tax book income and thus increased the valuation allowance recognized in the period ending September 30, 2015. Excluding the impairment and restructuring charges, our effective income tax rate would have been approximately 33% for the third quarter. Now, turning to the balance sheet. As of September 30, 2015, our cash including restricted cash was 65.5 million, net working capital was 116.7 million and our debt was 79.8. Our gross debt to EBITDA leverage decreased to 1.6 times as of September 30, 2015, while our net debt leverage declined to 0.2 times. As of September 30, 2015, $90 million was available under our $125 million revolving facility. Now for an update on our ERP project. We commenced go-live procedures during the second quarter of 2015 in our Western Hemisphere operations excluding Brazil, which represents our highest volume and most unique transactions. During the third quarter, we dedicated our project implementation team resources through improving system performance and the control environment, while also adding additional ERP training in the Western Hemisphere. As a result, we now plan to launch our Eastern Hemisphere in early 2016. Total expenditures related to our ERP implementation have been 6.8 million since inception with 500,000 incurred during the third quarter. Wrapping our third quarter results were impacted by continued deterioration in the upstream oil and gas macro-environment, while we have limited visibility and it is difficult to predict how much longer and lower this cycle could persist. Based on conversations with our customers, it appears that market condition will continue to be challenging into and perhaps even beyond next year. We do believe that a rebound will occur and remain focused on sizing our Company to the current business environment conditions while continuing to position our Company for the long-term best interest of our customers, employees and stockholders. Further we believe we have the financial strength to withstand the current adverse environment and to take advantage of both organic and inorganic opportunities to strengthen our position for the long run. With that Mark and I are happy to answer your questions. Carmen, please open the line for questions.

[Operator:]

Thank you. [Operator Instructions] And our first question is from the line of Tim Horan from Oppenheimer. Your line is now open.

[Tim Horan:]

Can you talk about how much expenses you can take out of the business with restructuring I guess how much have you realized at this point with the reduction from that headcount and other expense reductions that you're taking and I guess what's kind of a good run rate in this question?

[Mark Slaughter:]

Tim for the most part the resource reallocation plan we benefited in the third quarter from the savings associated with that plan or maybe a little bit left the plan that was announced in July, it was not 100% complete, it was a smaller amount of savings but it was smaller number. We're not in a position to give guidance on kind of what the real run rate of SG&A is going forward but as stated in our transcript, we're continuing to focus on sizing the business accordingly.

[Tim Horan:]

And your gross profits has been kind of jumping the last couple of quarters quite a bit, was there anything going on in this quarter versus last and I know you kind of made some comments you're seeing more price competition from new entrants and existing competition, could you may be clarify that a little bit? Thanks.

[Mark Slaughter:]

Yes, and there is nothing particular there we still think that the overall utilization of our bandwidth, our network is still extremely high and well within our tolerances. We monitor that closely. We did see in addition to what you mentioned some pricing pressure, but what we've really seen is kind of more the variable aspect of our business such as service calls and other variable billings that we have that impact the margins, but nothing else to mention other than that.

[Tim Horan:]

And just last I know when the downturn first started you said offshore that was usually about a 1 year lag between project visits that was that type of lead time to get projects done, and we are just starting to hit that now where the next 12 months could get a lot weaker in terms of usage per rig or number of rigs getting kind of cold stack if the price oil stays down where we're at now and may be we've been kind of above triangle so offshore has held up a little bit for awhile? Thanks.

[Mark Slaughter:]

Yes I mean we certainly saw in the quarter, this is Mark some deteriorating market conditions and as we've said we expect that to persist into perhaps beyond next year, but we're continuing to win new business. I think the hit for us has been the stacking and scraping of existing rigs that we serve that are leaving the market plus for the rigs that we’re still servicing today, there is an increasing proportion of them that are in warmer hot stacked mode meaning we don't have a billable operator or service company because they're not actively drilling. And that could be as much as two-thirds of the revenue off of that rig, if it is only for charging the driller. [Multiple Speakers] No, just go ahead sorry Tim.

[Tim Horan:]

Just a rough idea what percentage is warm stacked now for Briggs and maybe what percentage that can go to just a very high level?

[Mark Slaughter:]

Well I think what I’d ask you do is something we've given to all the listeners that we probably wouldn't provide that, but I think you could look at the market mix and as a first order analysis apply that to the third of the rigs that we serve, that’s probably a fair approximation.

[Operator:]

And our next question comes from the line of Tom Dillon from William Blair. Your line is now open.

[Tom Dillon:]

Can you talk about the where relative pricing for the new TSI contracts are shaking up?

[Mark Slaughter:]

Yes you’re talking about the larger wins.

[Tom Dillon:]

Yes.

[Mark Slaughter:]

They’re consistent with the margins that we’ve been earning on prior jobs. I don’t think we’re seeing any pricing pressure there. These are normal margins projects they’re just larger in scope as we’ve been pivoting midstream and downstream.

[Tom Dillon:]

And then which hemisphere has the majority of remaining offshore rigs to be cold-stacked? Can you guys give us a little bit more granularity there?

[Mark Slaughter:]

Tom I need to go look at it, but given kind of what -- I am just going to anecdotally comment it feels like it probably is more slanted towards the western hemisphere than it is to eastern hemisphere.

[Operator:]

And our next question comes from the line of Walt Chancellor from Macquarie. Your line is now open.

[Walt Chancellor:]

Just want to touch on the TSI project where you have a contracts dispute there. How much more cash do you think could come out as you work on this project?

[Mark Slaughter:]

We do expect that this project is winding down we think will be substantially complete by the end of the year. We need to pull out at the end of the year and then come back in and do what you would really consider to be your final acceptance testing. So there is a number out there but I am not in a position to give you the final number today, or what our estimate is.

[Walt Chancellor:]

And then I guess you touched on the competitive dynamics but you’ve obviously sort of secured some notable wins among some descent sized customers offshore that you have highlighted in press releases. If you could walk us through what’s enabling your success there and how you’re approaching that continued piece of growth I guess?

[Mark Slaughter:]

Yes this is Mark again, so thanks for the question. I think as we look at our business, we’re first trying to pursue the remaining sites we don’t serve for existing customers as well as new logos or new customers within our core markets of offshore drilling and onshore drilling. So as we think about that first that’s where we’re trying to certainly cover our flank maintaining our customer service level with our existing customers but trying to capture that additional business. So it’s all about growing our market share in our core markets, descending and extending that market share. Secondly, there is some natural hedging within the upstream sector by taking a life of the field approach and so we have a very strong emphasis on trying to add offshore production facilities floating and fixed manned facilities because they operate under different economic standards and there is a lot more stability in that part of the upstream space at the moment. So we have a lot of focus there as well. But that said the first order of business is really trying to press our position in offshore drilling today which I think we’re certainly showing some traction today.

[Operator:]

Thank you. [Operator Instructions] And our next question is from the line of Alan Klee from Sidoti. Your line is now open.

[Alan Klee:]

For the TECNOR acquisition is there anything you can tell us in terms of the price you paid and what the opportunity or anything financial related to them?

[Mark Slaughter:]

Given the fact that it’s immaterial to our results we’ve chosen not to provide any financials around the business itself or the price that we paid. It will be funded out of our existing cash, I think that’s important to note. And it’s an interesting business for us it’s really the discontinuity that’s come about as a result of Mexican Energy Reform and the fact that more of the oil and gas market is going to be open to other western players. And so we see an influx of capital spending over the medium to long-term into oil and gas projects and we saw this as an opportunity to build some local knowhow and presence. Interestingly even though it’s not a very big business it also has some positioning in some other vertical markets in maritime and government which provide some interesting experimentation for us as we contemplate some moves beyond oil and gas as we continue to lay out our strategies.

[Alan Klee:]

And then for the two new larger offshore drilling contracts that were mentioned, is there any way we can get a sense of kind of what the opportunity of new rigs are that could be served as a result of them?

[Mark Slaughter:]

Well I think in the case of the press releases we did list the number of rigs associated with each award and I am trying to think if we broke out between floaters and jack-ups we probably just provided the total count. But I think you can from that get a sense of the opportunity by applying some sort of ARPU number against that. Reminding you also that, it's not just about landing the driller, the anchor tenant but also the fact that we can capture additional revenue overtime from operators and service companies and off duty rig hands.

[Operator:]

And ladies and gentlemen, this concludes our Q&A session for today. I would like to turn the call back to Marty Jimmerson for any final remarks.

[Marty Jimmerson:]

Thank you Carmen, again to our listeners we thank you for listening in this afternoon, this will conclude our call and if you need follow up call with management please reach out to us. Thanks and have a great day.

[Operator:]

Thank you for participating in today's conference, this concludes the program and you may all disconnect. Have a wonderful day everyone.