Superior Drilling Products, Inc.
Q3 2019 Earnings Call Transcript

Published: 9 Nov 2019

[Operator:]

Greetings and welcome to Superior Drilling Products’ Third Quarter 2019 Financial Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.I would now like to turn the conference over to your host, Deborah Pawlowski, Investor Relations. Thank you. You may begin.

[Deborah Pawlowski:]

Thanks, Rob, and hello everyone. We appreciate your joining us here today. We are going to have Troy Meier, our Chairman and CEO, and Chris Cashion, our Chief Financial Officer provide their prepared remarks after which we will then open the call for questions.You should have a copy of the financial results that we released yesterday after the market closed as well as a copy of the slides that will accompany our conversation today. If you don’t, you can find both of those documents on our website at www.sdpi.com.As you are likely 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 Securities and Exchange Commission. 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 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 will turn it over to Troy to begin. Troy.

[Troy Meier:]

Thanks, Deb and thanks everyone for joining us. As you all know, we are in a very tough market right now. But we are going to be talking today about some great things that we are doing as Superior and some things that are happening and I think that you will all be very happy with very pleased with.As we start off with the Mideast, you know what we are doing over there as we introduced our tool, our technology to the Mideast, staying focused, with just few countries over there. We have been able to sign contracts with several leading oil field service companies that have the contracts to supply tools such as the Drill-N-Ream to the large NOCs. We have got them contracts in place, the team over there has done a really good job getting them put into place and as you can see our Mideast revenue is up 44% in Q3.Some of the things we have talked about in the past, we have looked at the opportunity over there and know that we have got a chance over there to run multiple tools in a well bore. And one of the things we got early on was a request for larger tools then we were currently building our largest tool, just few months ago was 12-inch series tools. And we have proven up the 12-inch series class over there.And when we talk about the Mideast, keep in mind that we are staying focused. Just in a couple countries, we are really keeping our team, we are a very small team, and we are staying focused in just a few countries. So keep that in mind as we talk today.But we were getting requests for a 16-inch tool, when you get to a tool that size, it is a lot of weight, the Drill-N-Ream is a 10 foot long tool, it takes 10 foot piece of steel that is 16-inch diameter, which will start out a 17-inch diameter. There is a lot of manufacturing challenges that you have to overcome.And our engineering team, our manufacturing team has done a phenomenal job at looking at the Drill-N-Ream and taking that and making that a three part - three piece tool if you will, and so that we could start doing much larger sizes.The 16-inch tool is the first tool that we did with this new manufacturing method. And the tool has been run now several times and has knocked it out of the park. The tool is performing very, very well. We are very pleased with what we are seeing, it is holding up good, and it opens it up so that we can also now look at our other tools and see if we can - our smaller tools, and see if we can be more efficient in the manufacturing of them.But what we have got now is we are currently in the hole over there with a 16-inch tool, and then we are going to follow it up with a 12-inch tool and then follow that up with an 8-inch tool and then follow that up with a 6-inch tool. And so those of you that have been tracking us for a while, that is really unique.If you look at the U.S. what we do over here in North American market. You get a tool, maybe 1.2 tools per run with various customers and to go in there and already be looking at doing four tools per well on some wells, we are going to follow that one up with a three tool per well.The next one we are looking at, they start with 12-inch so it will be a 12-inch, 8-inch and 6-inch. Lot of good opportunity over there for multiple tools per well. Done a wonderful job with the team that we are building up over there.Our management has looked at and hired application engineers that is very welcome and it is very bright and doing a wonderful job. We have got drilling engineers, now multiple drilling engineers on-board that are doing a good job. We have got an operations support team behind them.The Mid-East is coming along very well and we are excited about the growth opportunities in the Mid-East. So we are happy with what we are seeing there. If we look at what we got going on here in the U.S., we have, as you all know, we expanded our efforts with our legacy customer, our legacy partnership and what we are finding there is a lot of support that we are giving them on large products.So typically when you look at a PDC bit, a diamond drill bit. You talk 7-inch, you talk 8-inch, you talk 12-inch, but typically when you start getting in larger 16-inch categories, there is a lot of manufacturing issues that you will run into, just like what we have seeing on the drill ring.But our team has done a phenomenal job and we actually are doing a lot of work in the 20-inch, 22-inch, 24-inch 26-inch size of drill bits, building them new and supplying them to our legacy partner and we are very proud of what they have been able to do.So there is a lot of exciting stuff as we look into these larger diameter tools and knowing that we can manufacture these things and manufacture them efficiently and keeping our quality incredibly high to support that.We have talked earlier about the CapEx spend we will have regarding a new machine that we are bringing in that is even going to make us more efficient as we do these large products. We talk about what is our team here, our general partner in the U.S. DTI, who has done a phenomenal job in this marketplace still penetrating top operators and getting out there and selling the performance of this product.Well, we know that in this environment you have got to really watch your inventory, you really got to watch your CapEx spend and when you need something, you need it now. And so we are bringing in this new piece of equipment that is going to help get a turnaround time that is even though we have what we believe is a super good turnaround time this will even make it even quicker.So that tool is currently in the port of LA and will be putting it in over the next few weeks and be able to support both our legacy customer and our channel partner much, much better, so we are happy about what we have got going on there.Schrider Technology we have got the runs going on up there in Alaska, that we have talked about they are performing very well. We actually had our legacy customer that came down to our facility got to see the tools run. They have been running them up and improved over, the seed tools, you know we stripped them apart, we have ran them on our flow-loop at our [bernal] (Ph) campus and they are very happy with the performance.So, what this particular tool is doing now is taking all of the designed features that are going into our large open hole tool. And even though the ones in acreage, they are open hole as well. We are coil tubing, we are cutting the window, we are going out and in the open hole, they are still the smaller tool, but this small tool has all the features that our large tool as incorporated and we are very pleased with what we are seeing there.We have built a alongside of our flow-loop that we have at our bernal campus. We also have taken and built a tank that supports our like drilling fluids that we will see in the real world and we have been able to take this tank and we can spin parts in this very abrasive environments and testament house before we go to a large test site like Catoosa.So, we are pleased with what we have got going on there. The team has put themselves in a good position to finalize this big tool and get it commercialized. I know I told you that we are going to get that done this year. We are still shooting to have that done this year, and I feel really good about the position we are in.Keep in mind to know we are small and when we get a lot of manufacturing quest, like we currently have with a lot of big products that we are currently doing and seeing all hands on deck. So, no excuses, but we still are R&D team quite often lately and have them supporting some of our manufacturing efforts as we got a designed and make new fixtures and come up with new ways, new programs to really remove steel and the pockets in a very, very large parts. But they are doing a great job. We are very pleased.If you go to the next slide deck, Slide 5, and you look at our progress so far into 2019. You know, we say that Q3 best quarter for DNR history and internationally that is definitely true, and if you look at the runs they are increasing steadily in our international markets like we said, we are pleased with our channel partner in DTI, they are holding their ground, they are still - they are focused on penetrating the top operators, and they are doing a good job as well.We are getting a lot of attention and request for this technology outside of the two countries that we are focused in right now in the Gulf coast, the Gulf States and we are really, really just trying to keep brained in and stay focused, let's penetrate these market here.But, you know, sometimes when a big customer calls, we okay, let's let them run the tool over and cutter and it has been a phenomenal job offshore in cutter. It is been a phenomenal job in Oman, it has been a phenomenal job in the UAE, it has been a phenomenal job in [indiscernible].The issue is when we go to some of these places and do this, it is not - what happened if your tool doesn't work. We know the technology, we know the Drill-N-Ream, if you got a drill bit on the drills string this technology is going to work.And the issue is when it does work, how do you service that tool? And how do you give that that customer that E&P customer, a good turnaround time to service the tool which is just performed very, very well for him. And that is going to be some of the things as we go into 2020 that we are going to be having to figure out.As again, we are a small team and that this has got a lot of demands globally for a product and we have got to start working with those channel partners that can - that have a global footprint that can get this technology out there.One of the bullet points here, working to overcome this perception of an in-line reamers is we went international, what we found as E&P companies that were kicked back and they would say no, no we are not interested and we know that those in-line reamers don't work.That has been the toughest thing for us to get over on, there is a few customers, few competitors that went out there not customers but competitors that went out there with some technology on in-line reamers and really many of the waters.And we have been able to go in there now and convince these operators to give it a try. It is not like any tool that you have run before and we know you will be very pleased with it. And once we get them to use that, they are very pleased with it and the performance is like nothing they have had before.So, as we look forward, we are looking to penetrate the global markets like we said, with a much larger team. We know we are very small and the time is now to get Drill-N-Ream out there and get it globally and we are in good talks with our legacy customer to do just that. And, hopefully here in the next earnings call we will have some good information on that.Well with that being said, I'm going to turn it over to Chris for financial details. Chris.

[Christopher Cashion:]

Okay. Thank you, Troy, and welcome everyone to our call today. Let's continue our reviews by looking at Slide 7, and take a look at our revenues. As Troy mentioned, and as I think probably everyone on this call knows, this is a very difficult market that we are in. The rig count, the U.S. rig count since December 31, 2018 is down roughly 24% and that is as of Backer Hughes’ counts last Friday.So what I want to emphasize on this chart first is when you look at our quarterly revenue, Q3 2018 to Q3 2019, you see that we are hanging right around a $4.5 million to $5 million quarterly revenue line. As a matter of fact, Q3 of this year is the highest revenue we have had in the last five quarters. So we are very pleased with how our business is holding up in a very challenging marketplace.That is $5.1 million of revenue breaks down between our contract services business. That is the Backer Hughes bit refurbishment business as well as what we call our third-party manufacturing business that Troy was alluding to. And that is that navy blue part of that of that revenue bar.And we had a great quarter in Q2, you see how that is improved over the last half of 2018 and into 2019. And we are very pleased to see that we are right at the same, roughly $2 million mark in Q3. Once again, that is the expanded relationship and new contract we entered into in April 1, 2018. Where we are refurbishing additional product for our customer. And we continue to see a good stable business there.Our tool revenue business, that is the drilling Drill-N-Ream, that is the light blue part of that chart, that is a bit more lumpy. As you can see, when you look quarter-to-quarter. we will look at that a little more detail on the next slide. But overall, we are real pleased with how that business from Q2 this year to Q3 years is up 23% and - the rig count down 7%, average rig count quarter-to-quarter.You look at Q3 of last year we are down a couple hundred thousand dollars roughly 5% with the rig count down 12.5%, 13%. So anyway, you kind of look at the market whether beginning of this year, to-date, quarter-to-quarter averages. We are holding in there and we are really pleased with the way the businesses is withstanding this downturn.Let's go to Slide 8 and take a look in a little more detail about tool revenue part of our business. Roughly that is two pieces of business, there is a recurring revenue stream and that is the navy blue part of the bar at the bottom of this chart.That is royalty and repair maintenance revenue. And you can see a very stable business Q3 2018 to Q3 2019 that navy blue part of that bar is brought in that $1.7 million, $1.8 million every quarter, good stable business. And that is a testimony to our current distributor in the U.S. They are holding their own, they are doing a good job in this declining marketplace of continuing to get runs with the tool. And so that is an indication that they are doing a good job for us.We need to penetrate a higher share of that market, their shares in the 16% to 17% range. As we said, they are holding their own with market activity. We have got - energy above that and we know that because when we look at just West Texas, we see a 25% to 30% share of the market. And there is really no reason why we shouldn't have that kind of market share across all the basis of the U.S.So we are still in increasing discussions with a second partner in North America to continue that penetration, that is upside for us. We have got more market share that we can get in the U.S. and we are very optimistic that we will get a second partner on-board and we will see that.Last point on this slide far right hand bar. Once again, that navy blue part of the bar that is recurring revenue, this is stable revenue, you see that - when you look at a trailing 12-months basis, 61% of the revenue. So as a tool sales, like I said, that is the lumpy part of quarter-to-quarter. That stabilizing part of our revenue stream. We are really pleased with that. We are glad to see the way that continues to grow.Let's go to Slide 9 and take a look at our operating expenses. You will see that OpEx is up a little bit Q3 2019 to Q2 2019 and it's SG&A and that is the top part of this chart. We have got the international expansion that is the SG&A part of our international expansion.We have added a couple of people, this year we are up to three folks that are handling sales and marketing types things for us. And so we have increased our cost base and as we expanded outside the U.S., and as Troy mentioned we have pleased with how that revenue was growing Q3 versus Q2.We were up a couple of hundred thousand dollars per quarter Q1, Q2 of this year were up to just under $300,000 and so that inflection point that we have been talking about, we saw that inflection in Q3 and we are optimistic that we will keep growing that part of the business.Some long-term incentive comp expense, I want to emphasize that is non-cash and there is some higher professional fees. We had some accounting that we had to take a hard look at and so we have spent some money with our auditors, this was money that was spent in Q3 last part of Q2 that led to the restatement that we have talked about the last time we got together.And so those expenses are one-time kinds of expenses and we look at SG&A for Q3, 2019, you see a $2.5 million number that is not really representative of our run rate. Our run rate is more in Q2 this year Q1 and at kind of $2 million, $2.1 million and you will see in our guidance when we get to our guidance slide, roughly $8.5 million annually is what our SG&A is. So there is some unusual spending going on in Q3. I just want to emphasize that long-term incentive comps spending that is non cash.Down in cost to revenue, the percent is up versus sales that is two things, our [Aveline] (Ph) facility that we put in place October 1, 2018, we started to spending a little bit of money in Q3 last year, hiring a few people, getting ready to open up that facility. But still had a little bit of spending in late September, but last year there was - like September spending this year of full quarter of spending. So that is part of what you see here versus year-over-year.And then the international side, we spent money putting logistics, maintenance, tool, repair facility cost in place in the Middle East. So a couple of repair facilities, one is West Texas and one in the Middle East and that we are poised now to see good operating leverage of that fixed cost base has been moved forward.Let’s look at Slide 10, take a look at our net income and we look at things on an adjusted basis and we have reconciliation in the back of the slide deck that shows exactly what we adjust out. So if you look at net income on an adjusted basis, we are hanging a $300,000 to $400,000 kind of a range, roughly 6%, 7% to 8% of revenue and we are pretty pleased with how that is holding in there particularly with the challenges in this marketplace.And then adjusted EBITDA that is a measure that we think reflects our business and the performance of our business in a way that we would like to emphasize that and we are holding in there at that low 20s kind of a range 23, 22, 21 kind of EBITDA as a percent of revenue. And real pleased with how that is holding up and in the bottom line like I said on an adjusted EBITDA were positive.Slide 11, look at the balance sheet. Cash is down $400,000 net cash in this quarter. We had a $800,000 receipt or collection from a customer that at ordinarily we would have collected before September 30th, it slipped a little bit. We did collect that in early part of this quarter, if not for them slippage that would have been a positive net cash quarter for us.And once again, there just some issues on their side. We typically would have collected that money ordinarily, that didn't happen and so it led to a negative net cash quarter for us, but just want to emphasize that, that money did come in, came in early part of this quarter and if it had came in when it normally, would have we would have had a positive net cash quarter.Total debts we continue to bring it down. We really like the way to total debt chart looks since December 31, 2016 to September 30th of this year, almost a 50% decline in total debt. And then we have picked up another payment on a hard rock note October 5th, another $750,000 payment on that note. And so, that is the light blue part of that is total debt line and that is down to $3 million as we sit here today. And that $3 million would be paid off in 2020, and then we will have satisfied debt obligation. So, we are really pleased about how we have been bringing down the debt in our business.And then our revolver, we have got a couple million dollars of available borrowing base offer, we have drown it down somewhere around $800,000, $900,000, and we have got a couple of more million that does is available collateral. So, we could pulled that down if we need to. So, we have got the flexibility financially to continue to hang in this marketplace.From the CapEx perspective, let's look at Slide 12. I want spend just a little bit of time looking at our segment of cash flows in our queue and just to make sure everyone knows kind of what we are talking about when we look at the disclosures on that statement. We have got roughly $400,000 of CapEx that we shown under purchases of property, plant and equipment when you look at statement cash flow.We have got a couple of supplemental information line item down below that that we want to emphasize. One is about $600,000 item, that represents the Drill-N-Ream tools that we manufacture that we add to our Middle East fleet of tools as you know, we do not sell those tools in the Middle East. We are renting those tools and so we are building up and have been building up a fleet of tools.Since we manufacture those tools, we don't buy those tools from a third-party, no one else can manufacture those tools other than us. But since they are not purchased capital item from third-party, we need to disclose that as a non-cash item, down under supplemental information, and when you look at our statement cash flow, that is what you see.$582,000 of capital PP&E sitting on our balance sheet, but it is not considered cash, because we didn't buy that from a third-party. It is capital for us, it is an investment in the business and it is what we refer to as CapEx or increases in property, plant and equipment, but it is technically non-cash.The other item that you see is the last item on the supplemental information and that is the acquisition of that - or the down payment on the acquisition of that training center that Troy spoke about. We will finish off that purchase this month. We will get that machine in place. It will improve our efficiencies in our manufacturing plant, and that financing was directly from the finance company to the manufacture. That is pulled out as well out of our purchases number of above, that is a couple hundred thousand dollars.So, when you add up those three numbers, you have about $1.2 million of what we considered capital invested in the business. And so we just wanted to make that clear as you look at our queue, how to get to the numbers that we talked about when we talk about what our capital investment is in our business.Now let's go to Slide 13. And look at our guidance in 2019 and some preliminary expectations for 2020. Revenue 19 to 19.5, that is right in-line with what we said the last time that we spoke. We do see some softening in Q4, we have seen it every year, Q4 it is soft, that is a part of the cyclicality of this business.And so we see some softening coming in Q4, but we are maintaining that guidance, we saw that in Q2 when we spoke and so that 19 to 19.5 is right where we were the last time. Gross margin is the same 58% to 61%.Here is that SG&A number $8.5 million that is a run rate of a couple million dollars quarterly that we spoke about. D&A 3.5 in interest. CapEx $2 million to $2.5 million, this includes that inventory that is converted into PP&E that we spoke about on the previous slide and also includes and directly financed equipment.And so we have got another roughly $1 million and we expect to be spending in Q4 and that is Troy mentioned that machine, the down payment on it in Q3 and we will receive that machine and finish up that purchase and we are still building a rental tool fleet in the Middle East and so we have got that spending baked into Q4 that is why you see a $2 million to $2.5 million number. Once again, year-to-date, capital spending 1.2 through nine-months.A little preview of 2020, we believe we will grow our revenue in this business 15% to 20%. We don't think the U.S. marketplace is going to do much more than what it is doing now. We are kind of with everybody else, the expectations going forward, just kind of holding it, we have been just hanging there about where we are, no great expectations for the U.S. rig count to do anything crazy in 2020, but we don't need it to.We have got growth opportunities internationally. We have got growth opportunities for the second distributor in the U.S. And we have growth opportunities that is drier. So we say 2020, once again 15% to 20% revenue increase in a market that is flat to down.EBITDA margin, we see that improving with that growth into the 25%, 30% range, as we saw in the previous slide in the low 20s right now, we get this volume, we see that operating leverage and we will get up to a 25% to 30% kind of range on the EBITDA margin.With that, that concludes our prepared remarks and I would like to turn it back over to Rob for the Q&A session.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from Jason Wrangler from Imperial Capital. Please proceed with your question.

[Jason Wrangler:]

Good morning guys. I wanted to ask, Troy, as you talked about the Middle East, North Africa region, the agreements you have with three companies. How is that broken down and did each one had beaten that they kind of have to go off tool or just kind of how you think about it as you have a couple of different partners in that how you have been [indiscernible]?

[Troy Meier:]

So if you look at the contracts that we have, we really those contracts are in within one country. We have got, if you look at how they operate over there, this falls into a rental tool category. And in that category, these are the three companies that can take a tool like that to the operator.It is not just say [indiscernible] had one of this tool, they have got to go through one of these three service companies. And in Asheville, we started off which is one, I know we brought on another one. And we now have all three of them.So one country, all three of the service companies that can deliver a tool of a Drill-N-Ream tool and we feel very good about all three of them, they are on three now getting it in the hole and they are all making revenue with the tool and enjoying that. And they are loving the performances they are seeing, it gives them pull through sales for some of their other products. So, they are very happy with it.

[Jason Wrangler:]

Okay that is helpful And then, Chris, the balance sheet continuing to get better [indiscernible] payment is back down, as buyer. As you think about next year and another year of cash flow you know you there is a continued focus on beating those payments, or would there be any acceleration of debt repayment or just kind of how you think about it, as you kind of look at next year?

[Christopher Cashion:]

We are just going to keep our current schedule. It is aggressive enough as it is. I mean, we have got $750,000 principal payments due each quarter, as you know. And so we will just stick with that, we got a balancing continued investment in our Middle East fleet, so that is a capital item.And so we want to be able to fund those investments as they need arises. And so paying down the debt early is not really the way we are thinking about it. We just stick to this schedule, we will have that $3 million before we pay off and we will be celebrating, I can tell you.But no, I don't think we will be accelerating it and you know the interest rate is not bad on that debt. I mean, it is seven and a quarter, 7. 38 something like that. If it was, high-double-digits, mid-double-digit kind of kind of interest rates, and maybe that would kind of motivate us to go ahead and kind of pay it off early. But it is really not a terrible cost.

[Jason Wrangler:]

I appreciate the time guys.

[Christopher Cashion:]

You bet. Thank you Jason.

[Troy Meier:]

Thanks Jason.

[Operator:]

Our next question comes from John White with ROTH Capital Markets. Please proceed with your question.

[John White:]

Good morning guys. It sound like a lot of progress being made. Troy, what is driving the request for 16-inch tool?

[Troy Meier:]

What we see over in the Mid-East, there is a lot of complications in the vertical section of the well bore. And we are finding out that the Drill-N-Ream helps them with these complications, whether it is slopping shale or a swelling salt or just leaving a shale exposed to fluids too long. The Drill-N-Ream is helping them and when you look at the Drill-N-Ream and the performance issues get, one of the things that we talked about is it is more than just a well bore conditioning tool, it increases their fee rate, it reduces shock and vibe.You have your BHA or Bottom Hole Assembly, your motors aren’t chunky, and your MWDs aren’t seen that harsh vibration that cracks them down. And then you are able to come out of the hole without having the battery and traditional drilling methods over there is they drill some hole and then they come up and then they ream that hole.Back ream or short trip they call it, you know they drill 500 to 1,000 feet and they come up in short trip, or find out they don’t have to short trip, if they put Drill-N-Ream on its doing the job and those operators that still believe that “hey this is the way we have done, we have to short trip.”We are proving it to them, look when you are pulling out of the hole, are you seeing weight, are you seeing any issues with the way and they are no. And when you are short tripping are you reaming anything, do you see that you are hitting any formation, they are saying no. Okay, then don’t waste your time doing that. The Drill-N-Ream has already done that for you.And so, as we do this more and more, if you were to ask me a year ago what we would be doing 16-inch tools and I would have said no. But not only the 16-inch, we are looking at - we are getting request now for 22-inch, we are getting request for 24-inch. So, yes there is big opportunity there, there is market there that really see the benefit and some of the top drilling engineers over there have tapped into this. And it is really neat to see what is going on.

[John White:]

I appreciate the detail, thanks very much. And that is all I have got, but congratulations on the balance sheet improvement.

[Troy Meier:]

Thanks, John.

[Christopher Cashion:]

Thanks, John.

[Operator:]

Our next question comes from Dick Ryan with Dougherty & Company. Please proceed with your question.

[Richard Ryan:]

Thank you. Troy in the Middle East anymore thoughts on whether that stays a rental business model or to now move to sale those models and does that limit you moving from just Kuwait to other countries or can you just kind of layout how that expansion may flow as well?

[Troy Meier:]

So right now as we prove out the tool we have prove out the value of the tool. It is very beneficial for us to maintain control of that fleet. We know how many runs we are getting in between repairs and we are building this case or this is the true value of this tool in this market. And so I throughout 2020 we will maintain control of that fleet. It will still be ours, we will hold on to it.There is an opportunity to go to other countries but we stepped out a little bit, we don’t like doing that, because the performance ends up being really good and then how do you service the tool and it creates an issue. And again we are a small Company, we don’t have logistic group, on each one of these countries are different that you deal with and we know that the just setting up a repair facility to get these tools repaired and back out in the field has been a major obstacle.You know when you get legal advice, in which countries you do business in and you try to figure out who you do business with in those countries. It is an issue and so we feel we are teaming up with some great people over there, but we know that there is large companies that have global footprint that are already there. They have facilities there that we could repair these tools in. They have sales team and they could get these tools out much quicker.But, yes, I mean, I knew what we are proving right now Richard, is the fact that, if you are drilling a well board, if you are drilling a hole, drilling has got something, that has got an advantage for you and I mean, we went off shore in cutter and the customer wanted a larger than nominal tool, because that is what Brand-X would give them.And so, we said, no. Well this is the tool that we think will work very well for you and they were a little bit upset and they said, no, we are going to run Brand-X, Brand-X didn't perform. And we have seen that time-in-time again and they come back and say, “well, you know, their tool is a quarter inch over, yours is only 16.” We really don't want to run it, but we are going to have to. Our tool knocks it out of the park and there is a reason our tool only have to be a $16, because it is designed to perform in a certain way. And they we are incredibly pleased with the performance on this offshore application.Yes, so we have run in the UAE. I can honestly say everywhere we have run over there the tool has performed incredibly well, and there is a tremendous opportunity to expand outside of the country we are currently working in. And as you all know, the biggest country over there, we haven't even touched yet.

[Richard Ryan:]

Is there a difference in the number of runs you are experiencing over there versus domestically before repair?

[Troy Meier:]

There is. What we are finding out is, this tool is designed. It has got a what we call a dome, this spherical shaped hard pad protects the customers casing if they are rotating in the casing and I mean, that is there just to protect the casing as they are rotating in that casing and drilling out of casing.And so, we are working on the material that will hold up much better and we are working with some world-class companies on that, because that is the part that still has to be repaired. And so what we do is, the tool will come out of the whole efforts first run, that cutters look fantastic, performed well, the cutters are fantastic. But this tungsten carbide dome will be worn because that is what it does. That is function it performs. It work instead of the customers casing.The smaller tools, the 6-inch we have diamond dome in there. So, you can get run after, run after run with those, but once we start to getting up to the 8-inch, the 12-inch, 16-inch the weight of the tool and the size of support that we need, the diamond dome is just not available and if it was it would cost a fortune.So we choose to continue to build up this acreage run. But, what it allows us to do is we can then have what we call just a level one type repair where we are not heating it up to get to the cutters out, our operation team has done a really good job working with our engineering team to find the material that is what is called a cold applications.So we can take this material and put it on without having to heat the tool up and we can do that remotely. So it allows us to get multiple runs, and not have a tool that we run, the cutters come out and look good, but the dome is worn and then we have put it into a limited use.Essentially, our limited use says, if you are going to be rotating casing, don't use this tool because the domes are worn, but if you are going to be rotating outside your casing, you are fine. It makes it so where we don't have to put a limited use on these tools, and again our operations along with our engineering team has come a long way and I think we will have something that allows us to get, quite a few.When I say quite a few, it is going to be the neighborhood of three, four runs before we go to repair it. But we do - there is a lot less wear and tear on the cutters in general on the tools we run in the Mid-East versus the tools we are running here.

[Richard Ryan:]

Okay. One last one for me. The expanded relationship with your legacy customers rep in their domestic business or are you expanding internationally with them?

[Troy Meier:]

You know a lot of the expansion we have been doing is on parts that we don't know where they go. Right. So when we make X amount of 22 inside product forum, new product forum, we have no idea where that product goes. We ship it out of our shop and then they go and finish the assembly and it goes somewhere and we don't know where that is on.So, that would be on that and we talked about machine services, third-party services that we do. When we talk about the opportunity for expansion globally on Drill-N-Ream, we are just early on in the talks on that, and we are looking to hopefully have something solid, sometime in Q1, I would say, and we can talk about in more detail.But we think that they have got a pretty good footprint, could do a good job at this. And we think there is a lot of synergies, we feel we can be beneficial supporting their efforts International, and we think that the Drill-N-Ream product will provide them with a lot of pull through sales for their current product line.

[Richard Ryan:]

Sure. Okay, great. Congratulations on the quarter and the good outlook for 2020. Thanks.

[Troy Meier:]

Thank you.

[Christopher Cashion:]

Thank you.

[Operator:]

Our next question comes from John Sturges with Oppenheimer & Company. Please proceed with your question.

[John Sturges:]

Thank you. First very nice quarter considering the fall and the rig counts that we have seen in the past nine-months. I'm just curious about, you have two models, you have Mideast model and you have your historic U.S. model of conducting business. The Mideast model gives you greater depth insight as to a lot of the product development, so I can see why you want to stay there for the next 12-months. But is it more or less profitable than the existing U.S. model? Is there any color you can provide as to whether you are going to keep the two models or whether one will very likely take precedence over the other globally?

[Christopher Cashion:]

Yes, John, this is Chris. At some point, we do want to migrate the international/middle east model to a U.S. model. The profitability that we are seeing right now operating under our rental model is comparable is the best way to say it to the profitability of the U.S. model.What we have got to validate is the value add to the operators in the Middle East. That is how we develop the pricing points in the U.S. model, this tools sale price point, the repair price point, the royalty that we get in the U.S. Those price points were driven off of a value add. Type of pricing models.As opposed to some cost plus basis. So we need to continue to operate in the Middle East and continue to see exactly the value to the end user. And once we get our hands around that data and we think, it will be another year, quite honestly, in order to validate across the board. Then we would very much like to move to a tool sale model and would intend to do that.But we really think through 2020 is probably going to take that additional time to really get enough runs, get enough of a population, enough database to demonstrate and compelling reason to price the tools at the level they need to be priced. The price points will be different, because as Troy mentioned, we can already see that the value add is different. And it is a higher value add, is what we are seeing in Middle East versus the U.S..

[John Sturges:]

So basically, at some point you expect to be a sale, rental, refurbished models globally?

[Christopher Cashion:]

Yes. We love the way that is working in the U.S. and that is what we would like to see around the world.

[John Sturges:]

Terrific. Thank you. Great job.

[Troy Meier:]

You bet.

[Operator:]

Our next question is from John Bair with Ascend Wealth Advisors. Please proceed with your question.

[John Bair:]

Thank you. Good morning gentlemen. Wondering very optimistic in your release about the demand for your tools in general and the different sizes. So the question is, do you feel comfortable with being able to meet the total tool demand as it is expanding in the Mideast. In other words, you have the fabrication capacity to deliver those tools in a timely manner. And particularly since you are talking about different tool diameter sizes and so forth. How that all fits together?

[Troy Meier:]

We are, we are very comfortable with the demand on the Mideast. John what we have to look at here domestically, as well as the Mideast is the size of tools. When you look at our facility and our machine centers. When you start throwing large diameter parts into a facility that was not used to doing those before, there is some complications that we have to overcome.It is not that we don't have the equipment to do it. It is just in this environment everybody wants when they order something, they want it now. So the turnaround time becomes increasingly smaller. And so they wait till last second to order it, because they don't want that cost. And hurry up and get it now.Well when you have several different customers doing that and rushing it, you don’t get a lot of flexibility to move stuff around. And so what we have had to do is identify what machines are getting hit the hardest and can we support some of the function, so if you look at our machine being buyback these machines, there is a turning function and there is a milling function done with live tooling.That milling function that is done with live tooling is very, very critical, it has got to be very precise and there is a very unique way that we do this stuff. And so the turning function that you have on these large machines can be done on something else. And that is what we are bringing in, that is this new machine we are purchasing.If you look at the Drill-N-Ream and you look at raw stock, we take off of anywhere from 60% to 72% of that material is removed to make the tool. And a large part of that material is done in a turning function. So, what our goal is with this new machine center is to take that turning function off of the machines that are seeing a demand because of the size of product we are building. And put that turning function on to essentially a workhorse CNC turning center. And then do all the critical milling functions in these machines that we have.So, we have the equipment, we have the personnel, it is just the way that the request for product comes in, we want to make sure that we can satisfy our customer’s needs by keeping a very quick turnaround time even with high demand on one particular type machine.

[John Bair:]

Okay. We feel like it is all pretty well under control at this point.

[Troy Meier:]

Yes, we do.

[John Bair:]

Yes. And that is a rather astounding number almost 70% of the material is cut away. So I assume that gets recycled in some form or fashion that you are able to kind of recapture some of that product cost, raw material cost?

[Troy Meier:]

Its turned into chips and you know scrap dealer comes and take the chips.

[John Bair:]

Okay. So you do get some sort of monitory compensation in a sense from that?

[Troy Meier:]

Yes. Very, very minimal.

[John Bair:]

Yes, okay. Very good. Alright. Thank you for answering the question.

[Troy Meier:]

Thank you.

[Christopher Cashion:]

You bet.

[Operator:]

We have reached the end of the question-and-answer session. At this time, I would like to turn the call back to management for closing comments.

[Troy Meier:]

Well, again thanks everyone for joining us and we appreciate the support that you have all given. We are in a tough marketplace as you all are aware and we are making sure we are doing those things that keep us focused on not just the relationships that we have had for many, many years, but as we build new relationships with new channel partners, that we service them and keep quality where it needs to be.And we know that throughout next year the rig count here in the U.S. is going to be low, but still we are in the good place to survive this downturn and actually make it profitable. And again thank you very much and look forward to seeing you on our next call.

[Operator:]

This concludes today's conference. You may disconnect your lines at this time, and we thank you for your participation and interest in Superior Drilling. Thank you.