Superior Drilling Products, Inc.
Q1 2020 Earnings Call Transcript

Published: 8 May 2020

[Operator:]

Greetings! And welcome to the Superior Drilling Products Incorporated, First Quarter 2020 Financial Results. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.It is now my pleasure to introduce your host, Deborah Pawlowski, Investor Relations. Thank you Ms. Pawlowski, you may begin.

[Deborah Pawlowski:]

Thanks Victor and hello everyone. We appreciate your time today and your interest in Superior Drilling Products Inc.On the call with me are Troy Meier, our Chairman and CEO; and Chris Cashion, our Chief Financial Officer. They are going to provide you with some prepared remarks, discussing the current situation of the company, the results of the quarter and a little bit on where we see things going, and then we’ll open the call for questions.You should have a copy of the financial results that we released before the market opened this morning and you 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.As you are aware, we may make some Forward-Looking Statements during the formal discussion, as well as during the Q&A session on today’s call. These statements apply to future events that are subject to risks and uncertainties, as well as other factors that could cause the 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, I’m going to turn it over to Troy to begin. Troy.

[Troy Meier:]

Thanks Deb. Thanks everybody for joining us. Go ahead and turn to slide number four in the slide deck. Let's talk a little bit about what we did in Q1.When you look at the numbers that Chris will be going over, you'll see that the stuff that we started doing, midway last year we started talking about building stronger relationships with our domestic partners, while at the same time working our Mideast, what we’ve been doing over there, building that up, really staying focused, really within one country over there and we're now starting to migrate out of that country as the tool’s a success. The Drill-N-Ream tool has been tested in other areas and we’ll talk about that more as we go on through this presentation.But what you see in the first quarter, the tool revenue grew 5% and that was a combination of the efforts that we had both in our international markets, our Mideast market, as well as the domestic market and what we've been doing with our domestic channel partner and it shows one, that they have great relationships with their customers. I mean when you look at, and realize that their revenue is growing even with the market shrinking 25%, when you look at the rig count, and again Chris will deal with this a little stronger.But when you look at the rig count to a year ago in January, and as of the continued decrease all the way through Q1 of this year, it's really a good testimony to the tool and the performance of the tool and the operators that are using the tool, and understand the efficiencies the tool creates, as well as the strong customer relationships that our channel partner has with some very high-end customers. So we're pleased with what’s going on there and what’s happened there and they've done a great job.When you look at our Contract Services, again we started really going after that halfway through the year last year. We started to focus on deeper and stronger relationships with our legacy partners, and that started really paying off as we started to get in other works. You know anything with a PDC cutter in it that we could one, manufacture, which our manufacturing, we did a lot of drilling tools; in this case for Baker Hughes, but also you know placing the Diamond Cutter, the PDC cutter in other tools as well has just dipped, and so there's an opportunity there.Obviously the current market conditions are going to really stifle that opportunity, but it’s still there and we’re still going to pursue it, but you know on the Contract Services was up 10% and a lot of that was repairing new tools other than just bits and its was also manufacturing new tools. So we are very pleased with what we were doing there.Let's go to the next slide, slide number five. When we look at that, some of the things that we've been doing as we got hit here with you know this, what some people call a Double Black Swan; we’ve renegotiated pricing for repair services.When you look at our DNR customer, unlike our channel partners here in the States, worked with them, right at the onset of this we look to see, you know supporting their efforts. Their customers were asking for a discount and we went in there and we worked with them and we discounted our repair services with them 10% and we're also able to get a rush fee involved in there. As we try to right size our organization, we need our customer to work with us as well and not just spend in a big load of units that need to be repaired and they want him back rush.And so, our customers are working with us to keep work flowing through the shop in a timely manner, in a manner that allows us to not either be slammed with a ton of work or have nothing at all.We were also able to amend an agreement with our legacy customer DHI. In that agreement, you know the big – I guess the high point of that agreement was the number of units that they would give us, make sure that we got and in exchange for that we gave them exclusivity, that we would not be doing the work we perform for them for anybody else, and you know we still have a wonderful agreement with Baker Hughes.They understand that times are extremely tough and that we've got to do what we got to do to make sure that we keep our business moving forward. And so we’ve agreed upon taking that exclusivity clause out, and that gives us the opportunity as we look into our international markets and domestic markets.What else can we do for other companies? What products? What services do we provide, can we provide and that we're very good at, that may have a really good opportunity as we go into – I mean, you look at it in the international markets, because you know right now we’ve introduced two international markets as the Drill-N-Ream tool and we have services and other tools that we can provide to that market I think that will be very exciting as we go forward through this rough period of time, just to say at the least.We look at our cash burn, we are working on that, we've got it down to $1.1 million. We think we can still do more work there and get that down. We've been able to defer the principal payments on the Hard Rock notes. Again, the holders of that note has been very gracious and have worked with us in the past, and have worked with us again and so that’s going to be you know wonderful going forward to not have such a burden.We are still working on extending our mortgage. We believe we'll get that done, but we think we've got to get out of this current environment before we can get banks to look at it seriously, but we're working on it and we believe we'll get it done.The Mideast, again as we look at that and the other international opportunities, what we have going on there that I think you’ll all find very interesting, very exciting is, is when we start dealing with what we call the ITM Groups with these large service companies, I don't believe there's a service company out there, at least if you look at the top four, the largest four that don't understand the ability of the Drill-N-Ream tool.They get it, they understand it, and it's kind of interesting that when we start dealing with the ITM Groups and they know that to turnkey these wells for these NOCs, they've got to be efficient, they’ve got to be quick, and it's got to be done right, that’s how they make money, and they call us and they want the Drill-N-Ream tool to help them do that. So we think there’s a tremendous opportunity there as we start to look at large service companies to put the Drill-N-Ream tool into their turnkey operations.And it's just not in the Mideast that we're getting requests for this, from these ITM Groups. It’s around the globe, its South America, its Europe, it's in South Asia. So we’ve got some great opportunity there that we're being very cautious on how we go forward with these companies and making sure that we understand the day’s pay and shipping requirements, duties and VATs and I think we've got a team put together that’s doing a tremendous job on that.So with that being said, I'm going to turn the time over to Chris.

[Chris Cashion:]

Okay. Well, thank you Troy and welcome everyone. Let's continue our discussion by looking at slides seven. And as Tory mentioned, we had a strong revenue growth quarter, 6.4%, and particularly impressive we feel with the decline in the market of 25% in the U.S., both of our products and services, the tool repairs, as well as the Contract Services, both show good growth and tools revenue, that’s up roughly $170,000 or 5%, and as Troy mentioned, that's attributed to that sort of expansion that we have in the Middle East with our Drill-N-Ream.And then in addition, the Contract Services with Baker Hughes, that was up as well quarter-over-quarter and that's – as Troy mentioned, we're doing more products for them, repairing products bits and a product called The Blades.So we’re real pleased given what’s happening in the market place. We’ve being able to report $5.4 million of quarterly revenue. That happens to be the second highest quarterly revenue that we’ve reported since 2014, and so we’re really pleased with how things started and particularly with the international and how that is taking off.And just to remind everyone of that trend line on international, that $800,000 of revenue in the current quarter versus $200,000 in Q1 of last year, that’s a 4x increase and it climbed steadily across the year. $300,000 in quarter three of last year, and up to $600,000 in quarter four and I’m might add that we did start seeing weakness in the month of March, but in the first couple of months and into this year things are just looking really, really well.Now let’s go to slide eight and take a little deeper look at the tool revenue. As you see for the quarter, about 50/50 between tool sales and rental and other related tool revenue, and I just might remind everyone, the other related tool revenues is comprised with the royalty and maintenance fees, and included in the tool sales and rental revenue was the international revenue. And once again, we talked about how that’s expanded and grown really well. We've been very pleased with the success that we’ve had and even with the softness and how that international expansions been going.As you know, the navy-blue part of that bar, that’s the other related tool revenue or what we call the recurring revenue, and that those royalty fees and current maintenance fees and. What’s important to note here is that the – and Tory hit on this somewhat in his remarks, but at the beginning of calendar year 2019, there were 1,083 rigs operating in the United States and that rig count steadily dropped across 2019 and ended at the end of the third quarter March 31 at 728.So that is a 33% drop in the rig count from the beginning of calendar 2019 to the end of the first quarter. And you can see that our recurring revenue, just look at how that is steady and as a matter of fact up slightly Q1, 2020 to Q1, 2019. So that’s what we are talking about when we talk about in the place of the declining and falling rig counts, we continue to maintain. It’s actually increased somewhat, the activity that the Drill-N-Ream has seen in the market place. So while new tool sales have been down, the fleet that is deployed has been quite active into the back of our quarters as this chart shows.So now let’s got to slide nine and take a look at our operating expenses. Our cost of revenue as a percent of sale is 43%. It’s about 260 basis points over last year's first quarter. In the current quarter cost is up because of higher international volume, and we begin those cost cutting moves that Troy alluded to. Well, we call it Phase 1 and in Phase 1 we put a Press Release out on that; decreased salaries, reduced head count, those kinds of things and we had some severance cost that were associated with those actions. $200,000 in severance costs in Q1 of 2020, so it’s dated with Phase 1 of right sizing the organization.As you see a huge SG&A decline in Q1, 2020 versus Q1, 2019 and that’s a result of less stock compensation expense and accrued bonus expense.Now take a look at depreciation and amortization. You can see that it’s down from around $1 million to about $760,000, that's a 25% decrease and that decline is due to lower amortization expense as a result of fully amortizing a portion of our intangible assets. Those portion of assets that became fully amortized happened in May of 2019.It's important to note as Troy mentioned that we have taken out in our Phase 1 of cost reductions, we’ve taken a couple of hundred thousand dollars out of our breakeven. As Troy mentioned, we're down to about $1.1 million in revenue as our breakeven level and we were running $1.3 million or so before we took those actions.Now let’s go to slide 10 and we are really pleased to be able – to have to show here net income of $198,000 in this current quarter, a $0.01 per market share and on an adjusted basis $466,000 or $0.02 per share, so a good bottom line. The revenues are stronger and it fell to the bottom line.And the EBITDA, we still use adjusted EBITDA and we believe that’s a good measure of our operational performance and that came in at $1.2 million and it’s about the same as the first quarter 2019. Bear in mind, we had some of those severance costs that hit us in this quarter that we didn’t have in the first quarter of 2019, and that EBITDA as a percent of revenue, 23%. So we continue to hang in that low to mid 20’s for EBITDA, and you see that on a trailing 12 month basis of $4 million of EBITDA, 21% of revenue.Now let's go to slide 11. Well, you can see that we ended the quarter at $3.3 million in cash, up from $1.2 million at the end of 2019. We had mentioned at the end of the year 2019 that there was a delay in receiving some receivables; receivables that did not come in in Q4. Well it came in in Q1 as we got to benefit collecting that money. We also had cash generated from operations of $2.2 million and that’s a solid increase from $900,000 in the first quarter of 2019.Our total debt is down again. We continue to bring our debt levels down another $400,000 to roughly 4%, and then we did make another principal payment on the Hard Rock Note. We made that payment on April 5, so right after reporting of these numbers, another $750,000 of debt was paid. That leaves $1.5 million on that Hard Rock Note, and as Troy mentioned, the holder of that note has booked with us once again; agreed to extend that maturity out to October 5, 2022. So the last two principal payments of $750,000 each; the first one, that principal payment was extended to July 5, 2021 and that second payment October 5, 2022.Now in exchange for that we did bump the interest rate to 75 basis points to 8%, and interest payments will continue as previously scheduled. In addition, we are in conversations with our clients regarding extending the maturity on our $2.8 million mortgage on our Vernal property. I believe we are very optimistic that we'll be able to get that extended and will continue to work with our bank to get that done. Currently because that's within 12 months we've got that. That mortgage is sitting in our current liabilities in our balance sheet.Now let's go to slide 12 and discuss where are we given the COVID-19 pandemic and its significant impact on the demand for oil. As I mentioned earlier, the U.S. rig count has declined in the quarter and it’s been declining since the beginning of 2019. Even with those declines we were actually on track through February of this year to exceed our expectations for 2020.Once again as Troy mentioned, that's a testimony to the tools performance. The advantages of the tools the operators are seeing both internationally and domestically, and then the world change. In fact, the significance and steadiness of the change can be seen in the dramatic decline in the rigs and the other parts. So rigs have come down another 44% to 408 is the rig count as of this past Friday.Well, as you might expect the contraction in this industry will impact our second quarter. We know that our tool provides a measurable value for oil and gas operators, improving their drilling efficiency, but when the market is in contraction as it is now, everything slows down.Interestingly through April, we had a really decent, decent amount in the month of April. We expect to see things to slow and we expect that the third quarter of this year will be our toughest quarter in the U.S.The Middle East has slowed down. They were – they had the same sort of stay-at-home restrictions that we've had here in the U.S. However, in the last week or so we’re seeing some more engagement with our customers, but it's still slow, so we're thinking that the Middle East activity will improve in the second half of the year, so – but unlike the U.S. that we believe will be – continue to decline and Q3 being kind of the bottom. We're thinking that in the Middle East Q2 will be the bottom and we're expecting the second half of the year to see some improvement in the activity of the operators, and as I said, we're already seeing things unsolved [ph] a bit with the operators in the Middle East.So the second half of the year we're expecting international to do well. However, with the contraction in the industry we’re working on a Phase 2 cost reduction efforts and we believe that we can take out another couple of hundred thousand dollars out of our breakeven, our monthly per month cash requirement, and so we'll continue to work on that and we’ll continue to manage those numbers.We believe that within this scenario that we've got the liquidity to get through 2020 and into 2021 and that is with continued funding of expanding our Middle East [inaudible]. And so with that funding effort and the cost containment things that we're doing in Phase 1 and Phase 2 that’s onboard, we're quite confident that we're going to get liquidity to get through 2020 and into 2021.We're really excited as Troy mentioned about conversations that we're having with major oil field service companies internationally, and we believe that the international project, they're going to help offset this U.S. market contraction.So with that, I'm going to turn it over to – turn it back to the operator for questions.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from Mike Reed [ph] who is a Private Investor. Please proceed with your question.

[Unidentified Participant:]

I'm just wondering how prices are holding up in the Middle East, and can you charge a little more as you expand in new countries?

[Troy Meier:]

Well Michael, when you look at the pricing over there, it's better than it is here in the U.S. and we have seen some request or some support with some pricing reduction. We've not done anything as of yet, but it has – it's only been, it's been very minimal, the companies that have – I should say, the country that has asked for that. But no, we haven't been under any pricing pressure on our international market at all. But I'm not saying yet that we won't see that.

[Unidentified Participant:]

Are you getting a lot of repeat business, customers using your product over and over?

[Troy Meier:]

Yes, yes. I mean when you look at the way it's structured, so far what we’ve been doing in the Middle East, it's all based around national oil companies, right. So when we look at our customer over there, it’s actually the national oil company and they are finding a lot of support with the Drill-n-Ream for the issues that they're having. So it's just – it's getting – the engine – drilling engineers are also understanding the tool and as we get every month that goes by, we're building up that portfolio of success that we’re able to share with the other engineers and it's really starting to roll at a good steady pace now.

[Unidentified Participant:]

Okay, last question. How about any new areas outside of the Middle East; your think anything will happen soon?

[Troy Meier:]

We do. You know we're working – again, I told you with the ITM Group’s, the turnkey projects. We're working on some stuff in South America, we're working on some stuff in Eastern Europe; we're getting requests out of South Asia, so yes I do believe that we’ll – in the second quarter here we’ll be stretching outside of the Mideast, but it will be small. We're taking very small, but firm steps as we do this.

[Unidentified Participant:]

Okay, thank you very much.

[Troy Meier:]

Thank you.

[Operator:]

Thank you. Our next question comes from Dick Ryan with Dougherty. Please proceed with your question.

[Dick Ryan:]

Thank you. Hey Troy, just to reset the Middle East, you're just dealing with the one NOC at this point?

[Troy Meier:]

No, we're actually dealing with more. We've had runs in – when you look at the NOC’s that we’ve run tools with, I want to say we've got one, two, three, four – I believe we've got four now when you look at the Mideast. They have run the Drill-n-Ream and they've been very successful runs, but things move slower over there and they are very aware, these countries that have run the tools. These national oil companies who have been part of running the Drill-n-Ream are very aware of what the tool does for them and it's now just getting that into, you know into their well bore and into their drilling program.We have one – as a matter of fact, I think maybe I mentioned it before on our last call, but an incredible gas well that was drilled in the UAE was actually drilled with the Drill-n-Ream in the DHA and they are very, very pleased with the performance. And so it's just – it's now getting to them and saying, this is how we're going to incorporate this into your drilling programs and teach them that they just – don't just use this when you have a problem. Use this to help you, so that you don't have problems and that's what we're doing now.We've got a phenomenal team. Chuck and the group have done a really good job. You know we've got a good technical team in the Mideast that's actually now expanding outside the Mideast and working in other areas as well. You know we've got chemical engineers that speak multiple languages. You know our team that we built over there is a good one and we're very proud of the work they are doing.

[Dick Ryan:]

Okay. So with the exclusive with Baker gone, I would assume that for Middle East opportunities as well, how do you bring those – that service to that market? Is it also through these service providers that you've been dealing with, with the DNR?

[Troy Meier:]

No, no. We only had a lot of requests since we've been over in the Mideast to start support in that area with you know the technology that we have behind repairing the PDCs. But also when you look at our team, we have I would say some of the best drilling tool designers in the world that work with us and work for us. They are a part of our team and so we've got opportunities there that we haven't looked at in the past, that we’ll now look at. It could be a lot of products that need to be repaired and serviced or it could be new products, new opportunities for our own product line going into some of these well bores.

[Dick Ryan:]

Okay. When the market returns, would the exclusive come back into play with Baker or is it now you just unleashed to offer these services?

[Troy Meier:]

You know, I don't know. It would have to be done off of volume commitments, right. We would weigh that out at the time when the U.S. market comes back. What does that mean as far as the volume commitment from Baker? And of course we’d weight that out and say, is that more appealing than what we're currently doing?We value our relationship with Baker. We've been dealing with them you know in my whole career, but you know been under contract with them for 24 plus years and we really respect them and appreciate everything they've done. And if there's a chance to strengthen that relationship with them, we sure would do it.

[Dick Ryan:]

Okay, one last one. You mentioned growing market penetration in the U.S. Is that through DTI or are there other things that you're doing either direct or with another parity.

[Troy Meier:]

No, it's all been DTI. They've done a phenomenal job. If you noticed it, the market's been pulling back and they've been marching forward. You know they've got a great management team, they got great leadership; they've done a fantastic job.

[Dick Ryan:]

Okay, great. Thank you.

[Troy Meier:]

You bet.

[Operator:]

Thank you. There are no further questions at this time. I would like to turn the floor back over to management for closing remarks.

[Troy Meier:]

I want to appreciate everybody for joining us today and look forward to seeing you on our next earnings call and we’ll keep marching forward and doing those things that we've got to do to build a strong company and get through this. Once again, thank you very much.

[Operator:]

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