Cactus : 4th Quarter and Full Year 2022 Earnings Call Transcript

Cactus, Inc. (NYSE: WHD)

Q4 2022 Earnings Call Transcript

February 23, 2023 @ 09:00 AM Central Time

Call Participants

EXECUTIVES

Scott Bender

President, CEO and Director

Stephen Tadlock

Vice President, CFO and Treasurer

Joel Bender

Senior Vice President, COO and Director

Steven Bender

Vice President, Operations

William Marsh

Vice President of Administration and General Counsel

John Fitzgerald

Director of Corporate Development and Investor Relations

ANALYSTS

J. David Anderson

Barclays Capital

Stephen Gengaro

Stifel, Nicolaus & Co.

Dave Smith

Pickering Energy Partners LP

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Presentation

Operator

Good day and thank you for standing by. Welcome to the Cactus Q4 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded.

I would now like to hand the conference over to your speaker today, John Fitzgerald, Director of Corporate Development and IR. Please go ahead.

John Fitzgerald

Director of Corporate Development and Investor Relations

Thank you, and good morning. We appreciate you joining us on today's call. Our speakers will be Scott Bender, our Chief Executive Officer and Steve Tadlock, our Chief Financial Officer. Also joining us today are Joel Bender, Senior Vice President and Chief Operating Officer, Steven Bender, Vice President of Operations, and Will Marsh, our General Counsel and Vice President of Administration.

Please note that any comments we make on today's call regarding projections or expectations for future events are forward-looking statements covered by the Private Securities Litigation Reform Act.

Forward-looking statements are subject to a number of risks and uncertainties, many of which are beyond our control. These risks and uncertainties can cause actual results to differ materially from our current expectations. We advise listeners to review our earnings release and the risk factors discussed in our filings with the SEC. Any forward-looking statements we make today are only as of today's date, and we undertake no obligation to publicly update or review any forward-looking statements.

In addition, during today's call, we will reference certain non-GAAP financial measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are included in our earnings release. With that, I will turn the call over to Scott.

Scott Bender

President, CEO & Director

Thanks, John and good morning to everyone. During the fourth quarter, the company set records for both quarterly revenue and Adjusted EBITDA. This was also our 8th consecutive quarter with Adjusted EBITDA growth. I was particularly pleased with the margin performance in each of our revenue categories. The fourth quarter is usually our weakest due to seasonal factors, but results were strong across the board and highlighted the Company's best-in-class margin and return profile.

Some fourth quarter highlights include:

• Revenue increased 2% sequentially to a company record of $188 million;
• Adjusted EBITDA improved by 4% sequentially to a company record $66 million;
• Adjusted EBITDA margins were 35%, up 90 basis points versus the third quarter;
• We paid a quarterly dividend of $0.11 per share; and
• We increased our cash balance to $345 million.

I'll now turn the call over to Steve Tadlock, our CFO, who will review our financial results. Following his remarks, I'll provide some thoughts on our outlook for the near-term before opening the lines for Q&A. Steve?

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Stephen Tadlock

Vice President, CFO and Treasurer

Thank you, Scott. Note that all the historical and forward-looking data referenced today will be for Cactus on a standalone basis only, and not inclusive of any potential impact from the pending FlexSteel transaction, which is expected to close in the coming weeks. As Scott mentioned, Q4 revenues of $188 million were 2% higher than the prior quarter. Product revenues of $125 million were up 2% sequentially, driven primarily by an increase in rigs followed. Product gross margins of 41% rose 120 basis points sequentially due largely to operating leverage and lower branch costs.

Rental revenues were $27 million for the quarter, up 1% versus the third quarter. Gross margins were up 420 basis points due to better asset management and lower repair costs, as well as declining depreciation expense.

Field service and other revenues in Q4 were approximately $36 million, up 1% sequentially. This represented approximately 24% of combined Product and Rental-related revenues during the quarter, inline with expectations. Gross margins were 24%, up 20 basis points sequentially driven by lower supplies costs and branch-related expenses.

SG&A expenses were $23 million during the quarter, up $6.9 million sequentially. The increase was attributable to higher professional fees and expenses, $7.4 million of which were related to the pending acquisition of FlexSteel. Excluding these transaction-related expenses, SG&A was $15.5 million, and 8 percent of revenue. We expect SG&A exclusive of transaction-related fees to be relatively flat in Q1 2023 with stock-based compensation expense of approximately $3 million dollars.

Fourth quarter Adjusted EBITDA was approximately $66 million, up 4% from $64 million during the third quarter. Adjusted EBITDA for the quarter represented 35.4% of revenues, compared to 34.5% in the third quarter.

Adjustments to EBITDA during the fourth quarter of 2022 included approximately $3 million in stock- based compensation, $7 million in FlexSteel acquisition-related fees and expenses, and an add-back of $2 million in other expense related to the revaluation of the Company's tax receivable agreement. Consistent with the fourth quarter's presentation, we've now revised the Adjusted EBITDA for the third quarter of 2022 to exclude $1 million in FlexSteel acquisition-related expenses that were not previously added back to our adjusted results.

Depreciation expense for the fourth quarter was $8.1 million. Approximately $8 million is expected in the first quarter of 2023. Income tax expense during the fourth quarter was $7.9 million.

During the fourth quarter, the public, or Class A ownership of the Company averaged 80% and ended the quarter at 80%. Following the equity offering we completed in January of this year, our Class A ownership is expected to average 81% of the total shared outstanding during the first quarter. Barring further changes in our public ownership percentage, we expect an effective tax rate of approximately 21% for Q1 2023.

GAAP Net income was $41 million in Q4 2022 versus $42 million during the third quarter. The decrease was driven by higher transaction-related expenses, which more than offset increased gross profit across our various revenue categories.

We prefer to look at adjusted Net Income and earnings per share, which were $44 million and 57 cents per share, respectively, during the fourth quarter versus $40 million and 52 cents per share in Q3 2022. Adjusted net income for the fourth quarter applied a 25% tax rate to our adjusted pre-tax income generated during the quarter. We estimate that the tax rate for adjusted EPS will be 25% during the first quarter of 2023. As previously stated, we've revised the adjustments for the third quarter of 2022 to include the $1 million in acquisition-related expenses that were not previously added-back.

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During the fourth quarter, we paid a quarterly dividend of $0.11 per share, resulting in a cash outflow of approximately $8.4 million, including related distributions to members. In January, the board approved a dividend of $0.11 per share to be paid in March.

We ended the quarter with a cash balance of $345 million, up $24 million sequentially. Operating cash flow was approximately $39 million during the quarter, with net working capital representing a cash outflow of approximately $21 million. This was driven in part by a decrease in accounts payable due to the timing of seasonal payments. In addition, payables declined in advance of anticipated first quarter inventory declines. Excluding non-routine items associated with the FlexSteel transaction, we expect net working capital to be relatively flat during the first quarter of 2023 and down as a percentage of revenue following a strong January.

Net capex was approximately $6 million during the fourth quarter of 2022. Capital requirements for our business remain modest, and we will continue to exercise discipline with regards to capital expenditures. For 2023 we expect net capital expenditures to be in the range of $35 to $45 million dollars. This is inclusive of the potential purchase of a currently leased domestic property for approximately $7 million, the buildout of a new R&D facility in Houston and assumes $5 to $10 million in growth capital dedicated to international expansion toward the end of the year.

That covers the financial review, and I will now turn the call over to Scott.

Scott Bender

President, CEO and Director

Thanks, Steve.

As stated earlier, the Company generated record revenue and EBITDA during the quarter.

U.S. Product market share increased to 40.2% during the period as rigs followed rose by approximately 7%. From 3Q 2022 through December of 2022 we added 26 rigs, in-line with projections provided during our last earnings call. Product EBITDA margins improved by 110 basis points during the quarter to 41%.

During the fourth quarter, the majority of our rig additions came from public companies, but we also increased our rig count with private operators. Thus far during 2023 we have witnessed a mid-single digit percentage increase in public rigs followed, which has been partially offset by a slight decrease in private rigs followed, particularly in gas basins.

For the first quarter of 2023, we still expect Cactus' average rigs followed to be up 3 to 5 percent sequentially, despite the overall decline in the U.S. land rig count. As you know, our core customers tend to be the larger, well-capitalized oil producers, who are less reactive to short-term swings in commodity prices. Nonetheless, we are prepared to deal with the impact that lower natural gas prices will likely have on the industry, particularly in the Haynesville, an area weighted towards privates. We are also excited to be introducing several technical wellhead enhancements which are in the final stages of testing.

First quarter 2023 Product revenue is expected to be up approximately five percent versus 4Q. Product EBITDA margins are forecasted to be in the 41 to 42 percent range for the first quarter. We feel good about the prospects of market share gains as evidenced by our ability to achieve market share of over 42% in February.

From an international perspective, there are really no changes regarding our plans for Product commercialization in the Middle East by 2024. In addition, we continue to benefit from opportunities outside of Saudi.

On the Rental side of the business, revenues increased by 1% during the fourth quarter and were up over 40% year-over-year. International increases drove the sequential top line improvement. For the first quarter of 2023, we expect rental revenue to remain relatively flat. EBITDA margins should be in the low 60 percent range with potential for expansion late this year as we introduce cost-saving enhancements.

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In Field Service, EBITDA margins improved by 20 basis points during the fourth quarter, overcoming what is typically the weakest seasonal quarter of the year. Revenue was 23.6 percent of combined Product and Rental revenue during the period. Field Service revenue for 1Q 2023 is expected to remain between 23 and 24 percent of Product and Rental revenue. Field Service EBITDA margins are expected to be approximately 28 percent.

Regarding the FlexSteel acquisition, management is excited and optimistic about this unique combination. As noted earlier this month, we received no comments from the FTC or DOJ during the HSR waiting period. From a financing perspective, we successfully raised $166 million of net proceeds from an equity offering in January and have made substantial progress regarding our permanent debt financing. At this time, we expect to close on a new $125 million Term Loan A facility and a new $225 million upsized revolving credit facility upon transaction closing, which should occur during the first quarter of this year. FlexSteel's fourth quarter financial performance was in-line with our expectations. Following the closing of the transaction, Cactus will provide additional details on the expected financial impact of the first quarter. We look forward to sharing the same once we close.

Despite recent weakness in natural gas prices, we are optimistic regarding our customer base, which is larger and primarily oil-focused. Cactus remains well positioned to deliver for shareholders amid an overall healthy market backdrop. With that, I will turn it back over to the Operator and we can begin Q&A. Operator?

Question and Answer

Operator

Thank you. At this time, we'll conduct a question-and-answer session. [Operator Instructions] Our first question comes from the line of David Anderson of Barclays. Your line is open.

J. David Anderson

Barclays Capital

Thanks. Good morning, Scott. How are you?

Scott Bender

President, CEO and Director

Hey, David. How are you?

J. David Anderson

Barclays Capital

I'm doing great. I was hoping if you can step back a little bit and talk about the US, the overall US onshore market, and really how you see duration of this cycle compared to, say, other cycles, let's say 2008, 2012 or 2013 timeframe. You touched on the end there. Everyone's sort of waiting for this natural gas story to have this ripple effect. Some people even think it's going to collapse the US services market. But would you make the case it's a more resilient market? I mean, there's fewer players - everyone seems more disciplined in terms of capacity and pricing. I think you're seeing in your business as well. Shouldn't this all result in a cycle with more duration? Can you maybe expand on that a little bit?

Scott Bender

President, CEO and Director

Wow, David. All right. So I think that what we've seen - let me first talk about natural gas. What we've seen is weakness in the Haynesville. I'm sure you know that. We've not seen the same weakness in the Northeast. And the Haynesville is a very high-cost area to operate and it's dominated by private players. So one would expect that with lower gas prices, the Haynesville would suffer. For those of our customers that have multi-basin exposure, we're seeing a redeployment of rigs out of the Haynesville and into those

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