Energy Recovery, Inc. (ERII) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Energy Recovery, Inc. 2020 Annual Stockholders' Meeting. I would now like to introduce to you, Mr. Robert Mao, Chairman of the Board and President and Chief Executive Officer of Energy Recovery, Inc. Mr. Mao, you may begin.

Thank you. I want to welcome you to Energy Recovery's 2020 Annual Meeting of Stockholders. We are pleased that you are with us. I will act as Chairperson of this meeting. William Yeung, our Chief Legal Officer, will act as Secretary for the meeting. At this time, I call the meeting to order. There are 5 items of the business on today's agenda: one, to elect 2 Class III directors to the company's Board of Directors; two, to approve the 2020 incentive plan; three, to ratify the appointment of Deloitte & Touche LLP as the independent registered public accounting firm for the company, for the current fiscal year ending December 31, 2020; four, to hold an advisory vote on the 2019 compensation of the executive officers named in the summary compensation table of our 2020 proxy statement; and five, to transact such other business as may properly come before the meeting. After the conclusion of the stockholders' meeting, I will provide a brief report on the company. Before we begin, I would like to introduce guests who are present today. Our Board of Directors joining us today include Pam Tondreau, our Lead Independent Director; Alex Buehler; Olav Fjell; Sherif Foda; Arve Hanstveit; and O. P. Lorentzen. Also present at today's meeting is Brad Poole and Jean-Denis Ncho-Oguie, partners in the accounting firm of Deloitte & Touche LLP, auditors to the company. Andrew Thorpe of Mintz Levin, our outside legal counsel, specializing in security matters; and [ Cassie Weedon, ] the Independent Elections Inspector appointed by our Board and retained through Broadridge Communications Solutions, Inc. (sic) [ Broadridge Investor Communication Solutions, Inc. ] In advance of this meeting, Ms. Weedon took her oath as Inspector of the election. At this time, I will turn the meeting over to William to begin the formal matters to be discussed at this meeting.

Thank you, Bob. Before we begin, we want to state that we are excited our Annual Stockholder Meeting is being conducted virtually through a live audio webcast. By holding a virtual meeting, we're enabling stockholders from around the world to attend and participate in our annual meeting, which allows for increased access and participation at no cost, regardless of a stockholder's size, resources or physical location. We have also adopted a series of safeguards that we believe provide all stockholders the same rights and opportunities to participate in this meeting as they would at an in-person meeting. Stockholders logged into the meeting website will be able to submit questions by typing them into the text box on the meeting website through the end of the meeting. The company will post all of the questions and answers to those questions on our Investor Relations site as soon as practicable after the meeting. We are conducting this meeting in accordance with our bylaws and the meeting rules of conduct and procedures. The meeting rules and agenda are available on the meeting website. As a reminder, stockholders attending the virtual meeting can vote their shares online through the closing of the polls, by logging into the meeting website as a stockholder and clicking the 'Vote Here' button on their screen. If you have previously voted by proxy and do not wish to change your vote, your vote will be cast as you previously instructed and no further action is required. Finally, please note that the meeting is being recorded and will be available for replay on the meeting website for 90 days. The Board of Directors set May 21, 2020, as the date of record for the stockholder meeting. A copy of our stock register as of May 21, 2020, is available on the meeting website. We have received the affidavit of distribution of Broadridge Financial Solutions, which indicates that the notice of meeting and accompanying proxy materials and annual report were mailed to stockholders of record on the record date for this meeting. In addition, I have been advised by Ms. Weedon, the Inspector of Election, that at least a majority of the issued and outstanding shares entitled to vote is represented in person or by proxy at today's meeting. Since the majority of the shares are represented here today, a quorum is present, the meeting is duly constituted and the business of the meeting may proceed. The polls are currently open. [Voting]

Polls will close after all proposals are introduced. There are 4 items of business to be voted at this meeting. The first proposal concerns the election of 2 Class III directors. Board of Directors has nominated Alexander Buehler and Robert Mao for election to the Board of Directors to serve until the Annual Meeting of Stockholders in 2023. The second proposal concerns approval of the Energy Recovery 2020 incentive plan. The 2020 plan was approved by the Board on May 5, 2020, and if approved, will replace the company's existing 2016 incentive plan. The third proposal concerns the ratification of the appointment of Deloitte & Touche LLP as the independent registered public accounting firm for the company for our current fiscal year ending December 31, 2020. The proposal #4 is an advisory vote on the compensation of executive officers named in the Summary Compensation table of our proxy statement. That concludes the presentation of the items of business that you've been asked to vote on at today's meeting. And the polls are now closed. I have received the preliminary voting results from the inspector of elections based on proxies received immediately prior to today's meeting. The preliminary voting results are as follows: proposal one, each of Mr. Buehler and Mr. Mao have been duly elected; proposal number two, the 2020 incentive plan has been approved; proposal number three, the appointment of Deloitte & Touche LLP as our independent auditor for 2020 has been ratified; proposal number four, the compensation of our named executive officers has been approved by advisory vote. All votes are subject to final count certified by the Inspector of Elections. We will report the final vote results on a Form 8-K filed with the SEC within 4 days from today's meeting. There being no further business to come before the meeting, 2020 Annual Meeting of Stockholders of Energy Recovery, Inc. is now adjourned. Mr. Mao will now provide a brief report on the company. As a reminder, today's presentation may contain forward-looking statements that are based on current expectations, forecasts and assumptions and involve risks and uncertainties. Actual results may differ materially from these forward-looking statements due to various risks and uncertainties about our business, which are described in our filings with the SEC, including our annual report on Form 10-K and our quarterly reports on Form 10-Q. We assume no obligation to update any forward-looking statements. With that, let me turn the call over to Bob.

Thank you, William. Now I will make a brief report on our company. As we begin our fifth month of the coronavirus pandemic in the U.S., I remain confident in Energy Recovery. I proactively position the company to be able to operate in our new normal. And we continue to operate safely and effectively at full manufacturing capacity as of today. We're taking care of our customers, fulfilling sales orders and protecting the lives and livelihood of our employees. We remain financially strong with a solid balance sheet and plenty of cash reserves. Today, the desalination industry has remained strong, and long-term trends remain intact. We're in the midst of a secular shift in desalination demand as water needs grow globally due to climate change, increased population growth and industrialization. This demand comes down to the basic difference between wants and needs. People need water even during an economic crisis. Desalination is a key answer to these acute water needs in countries around the world. And we're proud to play an important part in providing clean, fresh water to millions of people. In addition, the ongoing technological shift from thermal to reverse osmosis desalination continues, providing a strong fundamental catalyst for growth in the reverse osmosis industry, with a potential market of roughly $0.5 billion for Energy Recovery. In short, desalination is not going away. Despite some uncertainties as we look at the next 12 to 18 months, we still believe that the long-term growth we have communicated in the past quarters will remain in place. The desalination industry is in a fundamentally strong position, and we are ready to help serve this market as it continues to grow and meet the demands of people all over the world. And now I will turn to Oil & Gas. Let me be clear, the VorTeq is in a fundamentally stronger position than it was when I became interim CEO 8 months ago. We have solved every major technical challenge we have faced. And our field test in June, Liberty witnessed firsthand that the technology works, and that we can successfully integrate the VorTeq with Liberty software, equipment and frac crews. Liberty also saw that the VorTeq will not impede frac operations nor cause a failure to a job. Satisfying customer safety and quality concerns is a critical milestone to getting a life well frac. This opinion was echoed by Liberty's President, Ron Gusek, when he stated, and I quote, "We are excited about the results we have seen in Texas, and we're working with Energy Recovery and our customers to move the VorTeq to a live well. During the most recent field tests, we have been able to better appreciate the potential of the VorTeq and its ability to integrate into existing frac spreads." We all recognize that the VorTeq pass has been a tough one, and it has taken longer and cost more than originally planned. One thing that has not changed, however, is the need for frac operators to protect their valuable high-pressure pumps. Incremental improvements have been made in pumping industry since 2015, but the real solution is to allow pumps to do what pumps do best, pressurize and pump water, that's it. We continue to believe our VorTeq is the solution. With this belief firmly in mind, we approached our former licensing partner to establish strategic and logistical alignment as we look towards commercialization. However, as reported in the recent press release and discussed during our last investor's call, ERI and Schlumberger agreed to an amicable termination of the exclusive licensing agreement due to different strategic imperatives. To be frank, this termination was the best possible result for ERI, given the recent upheavals in the oil market and the changing landscape of North America frac, including our former partners' reduced the presence in that market. We now have the freedom to approach the entire pressure pumping market and to work with enthusiastic partners like Liberty and others, to realize the potential benefit of the VorTeq for the shell frac market. While exiting that contract may seem to add some uncertainties to how the VorTeq's potential will be monetized, there were obvious limitations in the remaining within agreement that provides a little potential for ERI. We're comfortable with the path chosen and confident in our ability to execute, provided the final hurdles to commercialization are resolved. On the call on June 30, I discussed the 2 critical advancements we have made in the VorTeq. First, we processed sand concentration more than double that was originally envisioned by the system. I cannot overstate the importance of this accomplishment. The higher the sand concentration, the fewer pressure exchangers will be required on the frac side and lower the cost to ERI and our customers. Second, the VorTeq skid model we tested with Liberty has since posted into our website, will be our production model 1.0. It is an elegant, simple, single PX skid solution, which takes advantage of these higher sand concentrations. This more compact solution is less costly to produce with reduced lead times and has a smaller footprint. It is, therefore, less intrusive to frac operations. In addition, this model allows operators the freedom to scale the VorTeq up or down, to configure their jobs, depending on their needed flow rates, pressure and overall job configuration. In short, the technology is advancing, and we are confident where we stand today. This is not to say that risks do not remain. Before we can commercialize, we must pass 3 key hurdles. First, we must successfully frac 2 or 3 live wells to ensure that the VorTeq is operating as needed repeatedly. Second, we must reconfirm with live well data, the value proposition for our customers. And finally, we must increase the life of the PX cartridges themselves to ensure that the product is creating value for Energy Recovery. At the end of the day, if we cannot clear each of these 3 hurdles, we will not proceed with commercialization, and we'll stop investing in this effort. At our next earnings call in 2 weeks, we will discuss these remaining challenges in more detail. Our goal is to provide our shareholders the ability to understand our progress and the logical future decisions on the VorTeq that we will make in the coming months. I will now turn to our incubation efforts. The lessons we have learned from VorTeq in working with such high pressures and harsh fluids will serve us well going forward. We have challenged the limits of the PX and established the sandbox in which we will focus future development and applications. This VorTeq technology has proven that it can operate under pressures from 1,000 pounds per square inch to 10,000 or more. It can handle liquids as mild as seawater to those as harsh as the fluids in hydraulic fracking. We have identified potential industrial applications in a variety of industries, including but not limited to water or oil and gas, simply by modestly increasing the lower end of our operating pressure on the PX. We are not a water company nor are we an auto and gas company. We are a PX company. We are the pressure exchanger experts, and that expertise will drive the future growth of our company. As I have said before, we will approach growth in a disciplined way. This includes taking a rigorous approach to new product introduction that promotes efficient spend and closer alignment between functional business areas. Our focus is to deliver commercial results quickly or alternatively stop investing if market or technological conditions adversely change. Finally, I'll comment on our ESG efforts. Growth also includes discipline around our operations. To this end, I am pleased to share that we will release Energy Recovery's first environmental, social and governance report later this year. As we grow along the installed base of our pressure exchangers, we feel now is an appropriate time to launch our first ESG report. While our business has always been aligned with sustainability issues, such as addressing global water scarcity, our ESG report reflects our commitment to continue improvements in this area. We are early in our ESG journey and look forward to your input once our report is public. Thank you, and have a good day.

Ladies and gentlemen, this concludes today's program, and you may all disconnect.