Superior Drilling Products, Inc.
Q2 2021 Earnings Call Transcript

Published: 13 Aug 2021

[Company Representatives:]

Troy Meier - Chairman, Chief Executive Officer Chris Cashion - Chief Financial Officer Deborah Pawlowski - Investor Relations

[Operator:]

Greetings! And welcome to the Superior Drilling Products, Incorporated Second Quarter 2021 Financial Results. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. . As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Deborah Pawlowski, Investor Relations for Superior Drilling.

[Deborah Pawlowski:]

Thank you, Victor, and hello everyone. We certainly appreciate your time today and your interest in Superior Drilling Products. I have with me on the call Troy Meier, our Chairman and CEO; and Chris Cashion, our Chief Financial Officer. Troy and Chris will go through their prepared remarks discussing our second quarter of 2021 results and talk a little bit about the market conditions and what we are seeing here today. Then we will open the call for questions. You should have a copy of the financial results that we released before the market this morning and should also have the slides that will accompany our conversation today. You can find both of those documents on our website at www.sdpi.com. If you would turn to slide two, I will point out that we may make some forward-looking statements during the formal discussion, as well as during the Q&A session today. These statements apply to future events that are subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from what is stated here today. These risks and uncertainties are provided in the earnings release, the slides and other documents filed by the company with the Securities and Exchange Commission. All of these documents can be found on our website or at sec.gov. I want to also point out that during today's call we will discuss some non-GAAP financial measures, which we believe will be useful in evaluating our performance. You should not consider the presentation of this additional information in isolation or as a substitute for results prepared in accordance with GAAP. We have provided reconciliations of non-GAAP with comparable GAAP measures in the tables accompanying the earnings release as well as in the slide deck. So with that, if you would turn to slide three, you will see Troy's name, and I will let him begin. Troy.

[Troy Meier:]

Thanks Deb. Thank you. Thanks everyone for joining us. As we go into our second quarter 2021 conference call, we're going to be talking about a lot of exciting opportunities and also talking about some strong, very strong business growth that we see here at Superior. When you look at what's driving the demand for what we do, it's the North America market when we – if you look at North America and you look at it’s up 74% and what that does for our business is it drives every business unit that we have at Superior, whether it's the third party machining, the PDC refurbishment. And when we talk about PDC refurbishment, that's everything that we take a certain skill set that we have here, that our team is very good at doing and it can be when we braze the PDCs into REMA blades, when we braze them into the DNR, when we braze them into the drill bits, that PDC refurbishment activity has been very busy. There's some exciting stuff going on there and as we manage this growth spurt, it's exciting to see how people are relying more and more on us all the time to produce a high quality product, a brazed product that we've been providing for so long here at Superior. If you look at our third party drilling tool manufacturing business, that's the Machine Shop, that's the high end machines that we talked about, we've got – you know we brag on our staff here as we brag on our team here that does the PDC refurbishment. I also like to brag on the team that we have developed in our machining side of things. It's a very unique team. These people over there are programming machines, they are running machines, they are understanding tooling cuts, types of tooling that we need, they take CAD files from our larger customers and help them out with those files to convert those to match the drawings that they've asked us to produce. And again, in that part of our business companies are relying on us more and more to provide them with these services and we'll talk more about that in future opportunities here after we go through the financial side of things. And when you look at the increased drilling activity in North America, it's great for driving the DNR demand. The DNR is a wonderful tool that operators are finding to help them with – to create good wellbore and good wellbore qualities and it also helps them with the longevity of their tools, their BHAs. There's a lot of reasons why people should be running a Drill-N-Ream and more and more people are figuring that out as time goes on. When we are talking about Drill-N-Ream, I’d also like to talk about some of the things that Drill-N-Ream are allowing, some of these operators to do. When we just had a few weeks ago an operator drill a very unique profile well, where they were able to go down because of acreage positions. They were – they could only go out on a 5,000 lateral, but what they were able to do by running Drill-N-Ream was they were able to go down their 8,500 feet, somewhere about there, make their curve go straight out 5,000 feet, bend to the left, go out another 2,500 feet, bend again to the left, come back another 5,000 feet. So totally changing the evaluation of that acreage that at one point in time would have been a 5,000 foot lateral is all you could do on there. This team went in and made a U shaped well and get it to perfection, and I think that's going to be a new advanced drilling process that we're going to see in some of these basins. It's really incredible what they did. We look at international opportunities and growth here. Our international revenue increased 37%. As you all know, we've talked about the issues that the Mid-East is where our international activity is happening currently and you all know that COVID hit over there and lockdowns are still in place. When you look at people moving in and out of countries like Oman or Kuwait, it's still very restricted. So our team was able to still bring up that, increase that revenue, bring on new customers. We've got some exciting stuff going on with some high profile customers that the team has done very well in breaking into those markets. And again, we'll talk about that on future opportunities. So when you look at all the stuff that has happened in Q2 to the business and you'll see that in the financials here that Chris talks about, we're just getting started. We've got to drill this business back and get some good trained staff back in place, but lots of opportunity. With that being said, I'm going to turn it over to Chris. Chris.

[Chris Cashion:]

Okay, thank you Troy, and welcome everyone. Let's continue our review by turning to slide six, where we provide an overview of that revenue increase that Troy was talking about. You see that we have doubled in Q2, more than doubled our revenue in Q4, 2020. So we've seen increases in all of our product lines as Troy mentioned; increases in drilling and tool sales, higher drilling royalty and repair fees, as well as higher contract services revenue. So all lines of business improving and we're really pleased about that. We are benefiting from an increase in rig count as we ended the quarter with an average U.S. rig count of 451 rigs. That was an increase of 15% from the first quarter of 2021 and up 78% from last year's low point third quarter average. Additionally, we're seeing the higher demand for the Drill-N-Ream given its support efforts of operators to improve those rig efficiencies and you heard Troy describe that U shaped well that was drilled. Pretty amazing when you think about what they were able to do; and the Drill-N-Ream, absolutely one of the technologies that enabled that. We are optimistic that this recovery that we've seen so far this year, we'll continue at a steady pace and support growth in the second half of the year. The international markets have lagged the recovery in the U.S.; however, as Troy mentioned, we are seeing positive developments as we continue to gain traction with our strategy and the penetration of the Drill-N-Ream in the Middle East. The international rig count quarterly average has now increased the last two quarters and that average was 734 for Q2. Overall, our international revenue was up 37% year-over-year and 38% sequentially. So not only the product lines in North America, but internationally some good strong increase in revenue. We believe we're going to continue to make further inroads as we partner with global oilfield service companies and benefit from increased market activity, as well as our new product development efforts later this year and into 2022. Now let's turn to slide seven and take a look a little deeper at tool and contract services revenue on slide seven. The improvement in the contract services, it reflects that higher PDC refurbishment work. From an increasing rig count and the expansion of products we manufactured for our long term legacy customer. Tool sales and rental revenue up roughly $300,000 or 35% sequentially, again reflecting the strengthening conditions in North America. With international revenue, it’s also included in this revenue line item as we are renting our tools in the Middle East. Tool sales for the North American market have been steady as the fleet both expands and is upgraded with replacement tools. Other related tool revenue which includes Drill-N-Ream maintenance and repair fees, as well as royalties, was up $321,000 or 39% sequentially. This increase demonstrates the market demand for the Drill-N-Ream in North America. The company took aggressive actions to reduce cost in 2020, to align operations with lower demand. You can see the results of our three phase cost reduction program on slides eight and nine. The last phase was completed in October of last year, and as you can see on slide eight, we are maintaining our cost discipline by keeping overhead costs low and balancing that with higher demand. We have been re-staffing with direct labor personnel to support current and expected demand. Now, I should note that cost of revenue in Q1 2021 included an unusual number of international shipments of tools back to the U.S. for repair. We have now leased a facility in the Middle East and expect to be preparing the Drill-N-Ream in the region later this year. In total, second quarter operating expenses were down 3% sequentially, largely reflecting the timing of expenses related to year-end close and the reduction in amortization expense. As a result of our cost control efforts and given the higher demand in the market, we generated operating income of $116,000 in the quarter. Now this compares to an operating loss of almost $1 million in Q1 2021. So an operating loss of $1 million in Q1, 2021; operating income of little over $100,000 in Q2. We are really pleased with how the business has turned in this quarter. And we can see it further on slide 9, when we look at our net bottom line and our adjusted EBITDA, both which improves significantly. This clearly demonstrates the strong leverage we have on higher volume in this business. For the quarter net loss was nearly breakeven. As you can see on the chart, nearly breakeven in Q2 and just look back in Q3, 2020 is a negative $1.7 million. It was negative $1.1 million just last quarter, Q1, almost breakeven in Q2. Adjusted EBITDA that we used to measure operational performance was substantially higher at nearly $1 million, 28.2% of revenue. Please see the supplemental slide at the back of this presentation deck that describes non-GAAP measurement reconciliation table from GAAP to non-GAAP. Now let's go to slide 10 where we highlight our balance sheet, which has strengthened with the building of cash and lower debt levels. The company generated $400,000 in cash from operations during the year-to-date period, and our cash balance at the end of the quarter was $2.7 million, up from $2 million at the end of 2020 and roughly double what it was at the end of September 30 of last year. Long term debt, including the current portion was up slightly due to a slightly higher balance in our working capital revolver. In July, subsequent to the quarter end, we paid the next to last payment, a $750,000 principal payment of $750,000 on the hard run note. That leaves us with just one more final $750,000 payment, which is not due until October 2022. As a reminder, our long term lease on our Vernal, Utah property, while a long term liability is not classified as debt, it is noted as a financial obligation on our balance sheet. So with that, I'm going to turn the presentation back to Troy to wrap up with a review of our outlook and opportunities. Troy.

[Troy Meier:]

Thanks Chris. So as we look at going forward and we look at continued growth in the North American market, we believe that the rig count will have a – we'll see a couple of rig improvements weekly. We believe that the rig count will be up come year end and we're seeing that with the orders that are being placed on our machining facility right now. It's obvious that the market is looking for a continued growth and we know that we're supporting that growth with the products that are being ordered to-date that will be going in the hole in three, four or five weeks from today. So we're going to continue to gear-up to meet the demand. We have a tremendous demand right now on our facility. When we look at the opportunities that are out there, the large serve-cos have asked us to pick it up even more and support them even more and we're more than happy to do so. We're doing a very managed growth and making sure that we get people in here that we need to keep up the high quality work that we're putting out. So it's really exciting to see the team build and as we've done multiple shifts to increase our volume and we're finding out the more volume we do, the more companies are wanting to give us. So it's really neat to see this development. We still, as we look at the international, it's a good steady manageable growth. Our management team there is doing a wonderful job. We've identified some fantastic customers that are coming on and understanding the value of the Drill-N-Ream tool and these customers are large customers that are excited about the performance they are getting from the Drill-N-Ream and it's saving them time and money and there's a lot of inquiries going on and again, it's – we're managing that growth very well as we also managed the growth here in the domestic market. We're getting ready to test our large bore series in Saudi Arabia where we'll be finishing those tools up and they will be going in the hole first part of Q4. So we're looking for some feedback on that. We know that the large bore series were good in countries like Oman and Kuwait. So we expect to see some good feedback there, but every country is different and I'm anticipating good performance on those tools. We're working on some global agreements with some large serve-cos that allow us to work with their companies much more effectively, moving tools in and out of countries and understanding the price structure that we'll be charging for our services and also leaning on them to help us with logistics. We all know we're an extremely small company and we don't have a logistics team. We have some people who got to step in and out of that role, but we're happy to say that we get support from these larger serve-cos that are very, very well, do very well logistics and we look to them for some guidance and direction as we send our tools to support their efforts in some of these places that we haven’t been. We're also looking at really stepping up our opportunities within customers, our legacy customers and customers that we've been working with for a while as we look at adopting product lines. We know that we can turnkey entire product lines. There's no reason for us just to machine the body here and then send it somewhere else to have functions perform that we do very well here. So we think we're getting an audience for this turnkey or what we're calling product line adoption as we set up cells to take these products that our customers so desperately need to enhance their top line revenue, and we think we can turn those products outside of our normal manufacturing base if you will and have these products come in to an identified cell, that from the raw pieces still to a finished product it's done in that cell and it's very efficient, very timely, and we think our customer base is going to respond to that very well. So we look forward to continued growth throughout the year, very strong growth, but very well managed. We still have our eye on the COVID as everybody does. We're hoping it doesn't slow down any international development that we got going on there and domestic, but we're very – we've got a very positive outlook. I think it's going to continue to be a good strong year for us. And with that being said, I'm going to turn it back over for Q&A.

[Operator:]

Our first question comes from John Bair with Ascend Wealth Advisors. Please proceed with your question.

[John Bair:]

Thanks. Good afternoon and congrats Troy and Chris for a pretty sharp rebound in this quarter. I know some of it didn't out do it, but you've positioned yourself well it seems and starting to bear positive results, glad to see that.

[Troy Meier:]

Thank you John.

[Chris Cashion:]

Oh! Thank you.

[John Bair:]

Got a couple of questions, some pretty simple, but curious on first off this status of meeting the listing of continued listing requirements, that's one question. And the second one is on, given that the rig counts been picking up from what I've seen and been reading. A lot of it is coming from independent privately owned operators, and I'm wondering if you are seeing a pickup of adoption of your tools by those players as opposed to the big integrated companies and major independents?

[Troy Meier:]

Sure. So your second question first if you will. We are seeing the independents picking up our tools. They realize the value that these strong E&P companies are seeing with Drill-N-Ream and it makes a better cell when you can use a large E&P company as a reference point, and especially if that large company is drilling well very effectively. But on your first question, Chris, go ahead and answer that.

[John Bair:]

Are you seeing new customers then in that world?

[Troy Meier:]

We are. Yes, we are.

[John Bair:]

Is it a meaningful percentage of your total volume then or…

[Troy Meier:]

Well, you know if you look at the big E&P’s, you know they own the majority of what we got going on you know. They have the majority of the rigs, right? So yes, we do see these companies coming on that have one rig, two rigs and we're seeing it and it is meaningful. But every time we get someone new that's running the Drill-N-Ream and especially as efficiently as these – as they are drilling these wells, you know one new rig coming on could mean multiple runs a month, so it is meaningful.

[John Bair:]

Good, good, okay.

[A - Chris Cashion:]

Yeah John, regarding the NYSE continued listing initiative, we submitted a plan. The plan was accepted and part of the plan is to provide quarterly updates to the NYSE as to how we're tracking toward that plan. The last update we provided was the Q1 update back in May, and it was accepted by the NYSE. We are tracking positive to that plan and we'll be providing our Q2 update this coming Monday, 16 August, so so far so good.

[John Bair:]

Okay, great. And then one – a couple of other quick questions. One on, how much additional drilling time is required for these companies when they are doing these U shaped design? I mean, if it's kind of the first one or whatever, I'm sure they are being a little more cautious initially perhaps, but is there a significant difference in time versus a straight lateral?

[Troy Meier:]

You know, I honestly don't know the answer to that question. It's – the excitement was let's see if we can do this and then to hear back weeks later to find out, yes, they did it and casing what our market calls bounced off a bottom is a good thing, that your chasing goes right to bottom with no issues and that's the really important part, especially with all the 90 degrees bends you have in there. But I do think that the team that they had, they are top notch and I'd be willing to bet that the footage they drilled probably runs right in line with the footage rates, NP rates being drilled on just about every well that these guys touch. They are very efficient, they are very good and they're drilling the curves. It used to be that a curve was a big deal and it does take some time. These teams are drilling these curves now in five, six hours where it wasn't very long ago those curves would take a couple of days. So they are very efficient and I think the fact that you know it was – instead of being a 5,000 foot well, it ends up being a 12,500 foot well. That extra time to drill 2.5x further was probably a really good win for that company, especially being able to book more production out of that, out of that spacing, that acre spacing.

[John Bair:]

Great! One last quick one, and how are you positioned with critical materials as your demand for new tools are coming along?

[Troy Meier:]

We find it, you know steel prices since March have gone up 5x, so that's – I'm glad that we looked ahead and we had our steel as we looked at what we thought this year would be like. We've been there and we're at a point now where we're ordering the steel that will carry us through to the end of the year. So far we've been able to build the fleet we need and build the fleet that our customers need and been able to – I think as far as steel purchasing goes, which is one of our main things that we purchased, we even support some big serve-cos and help them purchase steel. So we've got a really good in on how we purchase steel and the group that we have involved there has done a tremendous job. We get a little nervous sometimes on the cutters, you know the diamonds that we put in there, because they've been hit as hard as everybody has, hurry and give us this stuff now, and so there's some cheaper alternatives out in the marketplace that we don't feel the quality is quite as good as what we demand for our tools and for our customers tools. So we put pressure on the high end manufacturers that we feel are stepping up. But there's been a time or two that we were a little nervous, but they came through and got us cutters and we seem to be using our vendors very well in spreading that out, so that we don't get in a bind.

[John Bair:]

Great! Thank you for taking those questions. I'll get out of the way for somebody else and good luck going forward.

[Troy Meier:]

Hey! Thanks John.

[John Bair:]

Yup. Take care.

[Operator:]

Thank you. Our next question comes from Dick Ryan with Colliers.

[Dick Ryan:]

Thank you. Hey Troy, a couple more on the North American front. The configuration that you talked about, is that an operator that had been using the DNR in the past, and going forward is that a reference point you can alluded to or is that proprietary for them that that sort of effort doesn't really get to transfer to other potential customers of yours?

[Troy Meier:]

No. I think that the group that has done this is a special team and they are really good at what they do, and that the news will come out and they may have already talked about it some. But I believe that everybody will start looking at their acreage position a little bit different and understanding that you can go down and make these complex well geometries and be fine, and to do something like that a few years ago was unheard of. You wouldn't have even thought of doing something like that. But today, these teams out there are incredible. They are very smart; they’ve got some good leadership and they are willing to let their team do what they think they can do, and I do believe this technology will be shared, and I think you know where this has happened is a place that lot of activity is going on and so it will create the demand for people to relook their acreage positions and go in there and drill these complex shaped wells that prove to be winners for them. So yes, it'll spread, the oil patch is very small. Directional drillers drill for this company today and that company tomorrow, and they take they take their best practices with them. So, it's going to be exciting to see how this develops.

[Dick Ryan:]

Okay, you’re telling that on greater market penetration, is that coming through DTI or other sources?

[Troy Meier:]

No, that’s DTI. DTI has done a great job. They've got a tremendous team down there that has done a good job with the Drill-N-Ream. They've got a good management team in place. They're a good organization and their customers appreciate the value that they bring to them and they've done a good job, they really have.

[Dick Ryan:]

Okay. I'm looking at the comment in the release on your not-necessarily guidance, but your comments going forward that you expect growth through 2021 and then be back on track next year to resume the growth pre-COVID, kind of the end of ‘19. Are you talking on an absolute basis? I mean back then you were looking at $18 million, $19 million, $20 million. Are you talking more on the growth rate, which I think the revenue projections back then were double digit, 15% plus or minus per year with EBITDA margins, kind of in that mid to upper 20% range.

[Troy Meier:]

Yes, I mean, it's – when you look at what we did first quarter of last year, we were on a really good pace even though rig count had been declining, you know declined all through 2019. But when we got to 2020, it was – we had geared up, we had staffed the proper staff here, we trained well. We knew that there was some wonderful opportunities that we could go capture now to take on more work and we know that there is a large group of companies out there that need what we have, but we've got to be able to support it. We've got to be able to – one of the things that we have is, we've got some customers right now that are after, say the Strider tool, the Coiled Tubing Strider and we are getting to this Stride tool and we're going to get that back out there. But right now our focus is on the growth that we have in our company right now today to support the legacy customers we have and the opportunity we have in the Mid-East. And now as we bring on more and more people is what we're doing right now. We'll start bringing the Strider back out. We're going to have that tool out, and this time it's not going to be put back on the shelf, if and when things slowed down. It'll have a very good audience. So when we talk about growth in getting back on track, we felt that we had a very good program set in front of us. We knew where we were going and we knew how to get there, and we know the market would respond very well if we could prove this, if we could prove our growth and our path out, and we feel that that's going – we feel that we're back on that path. But we're going to spend this year, you know building up a tool inventory for the Mid-East and supporting our opportunities there, and also support opportunities with our legacy customers and what they're asking is to do as we look at product line adoption. And also making sure that we don't slip with supporting the growth that DTI has and what they need to do as we look at fleet maintenance on their tools, fleet maintenance on the Baker Hughes tools. We're managing all of that as we grow and we think that when we get through this year, we're going to be back to ‘okay, what else? What else is out there that we've got to go tackle?’ And we know there's a lot out there for us to go tackle. And so we're going to where we – we're going to be very selective and look at those tools that are going to bring us and keep margins good and bring us high demand for our services.

[Dick Ryan:]

Okay, great. Thank you.

[Troy Meier:]

You're welcome. Thank you.

[Operator:]

Thank you. There are no further questions at this time. I'd like to turn the floor back over to Troy Meier for any closing remarks.

[Troy Meier:]

And thanks again everybody for joining us. As you can see, we've got a lot of opportunity going forward. We're going to continue the pace. We have challenges like everybody does. When you look, you know you mentioned steel supply. I believe we're doing a good job on that and I believe that we're going to be able to keep continued good strong growth throughout the remainder of this year, and I'm excited for new products coming on as we roll into 2022. It's very exciting times here and we've got a great staff and a great team that's looking forward to the challenges that this increased market has given us. With that being said, I just want to thank everybody for joining us.

[Operator:]

Ladies and gentlemen, this concludes today's webcast. You may now disconnect your lines at this time. Thank you for your participation and have a great day!