Precision Drilling Corporation (PD) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to the Precision Drilling Corporation 2024 Third Quarter Results Conference Call. I would now like to hand the conference over to Lavonne Zdunich, Vice President of Investor Relations. Please go ahead.

Welcome to Precision Drilling's third quarter earnings conference call and webcast. Today, I'm joined by Kevin Neveu, our President and CEO; and Carey Ford, the CFO. Yesterday, Precision reported strong third quarter results, which Carey will review, followed by outlook commentary and an operational update from Kevin. Once we have finished our prepared comments, we will open the call to questions. Some of our comments today will refer to non-IFRS financial measures and will include forward-looking statements, which are subject to a number of risks and uncertainties. Please see our news release and other regulatory filings for more information on financial measures, forward-looking statements and risk factors. As a reminder, we express our financial results in Canadian dollars, unless otherwise indicated. With that, I will pass it over to Carey.

Thank you, Lavonne. In the quarter, Precision delivered year-over-year growth in revenue, adjusted EBITDA and net earnings. The resilience of our high-performance, high-value business model, geographic diversification and organizational focus on cash flow and return on capital, drove our financial results. We continued to strengthen our balance sheet with $49 million of debt reduction during the quarter and $152 million year-to-date, reaching the low end of our target range of $150 million to $200 million in 2024. Share repurchases were $17 million during the quarter and $50 million year-to-date, tracking the target of 25% to 35% of free cash flow allocated to shareholders. We expect strong cash flow during the fourth quarter, and we'll continue to make progress with these targets. Longer term, we plan to reduce debt by $600 million between 2022 and 2026 over the next 9 quarters, with approximately $190 million remaining, achieve a leverage level below 1x net debt--EBITDA and increase our direct shareholder returns toward 50%. Precision's progress on balance sheet strength and shareholder returns has positioned us to be able to capture opportunistic high-value investments. We are increasing our 2024 capital spending plan from $195 million to $210 million to fund multiple contracted rig upgrades and take advantage of purchasing in-demand drill pipe for 2025 drilling programs ahead of potential import tariffs. In the past, we pursued similar opportunistic investments while meeting our annual capital allocation goals. These include the High Arctic and CWC acquisitions as well as year-end pull-forward capital purchases at the end of 2023 and again this year. These investments have all produced excellent returns for our shareholders. In fact, as of the third quarter of this year, we believe the assets purchased in the High Arctic transaction have paid for themselves in approximately 2 years. Moving on to Q3 performance. Adjusted EBITDA of $142 million included a $200,000 share-based compensation recovery. Net earnings were $39 million or $2.77 per share, representing the ninth consecutive quarter of positive earnings for Precision. Funds provided by operations and cash provided by operations were $113 million and $80 million, respectively. Margins for Canada were $12,877, lower than guidance due to rig mix as we had increased demand for Super Single and Double rigs. Margins for Q4 are expected to be approximately $15,000 a day with increased winter seasonal ancillary revenue pull-through. In the U.S., drilling activity for Precision averaged 35 rigs in Q3, a decrease of one rig from the previous quarter. Daily operating margins in Q3, excluding the impacts of turnkey and IBC were USD 10,888, essentially flat from Q2. For Q4, we expect margins to decrease slightly to approximately USD 9,500 a day. Internationally, drilling activity for Precision in the current quarter averaged 8 rigs. International average day rates were USD 47,223, a decrease of 8% from the prior year due to incurring 44 non-billable utilization days for a rig undergoing a certification. This decrease was offset by a positive year-over-year rig mix. In our C&P segment, adjusted EBITDA this quarter was $20 million, up 40% compared to the prior year quarter. Adjusted EBITDA was positively impacted by a 34% increase in well service hours, the integration of the CWC acquisition and improved pricing. C&P results were further supported by Precision rental business, which is realizing increased demand and utilization for centrifuge equipment on Super Triple rigs for customers in the Montney. Our contracted rig fleet continues to support our outlook with average annual rigs under contract in 2024 of 18 in the U.S., 23 in Canada and 8 internationally. Now moving to the balance sheet. As of September 30th, our long-term debt position net of cash was approximately $775 million, and our total liquidity position was approximately $510 million, excluding letters of credit. Our net debt to trailing 12-month adjusted EBITDA ratio is approximately 1.4x, and our average cost of debt is approximately 7%. We expect our net debt-to-adjusted EBITDA ratio to be approximately 1.3x by year-end. Moving on to guidance for 2024. We expect depreciation of approximately $300 million, cash interest expense of approximately $70 million, cash taxes to remain low and our effective tax rate to be approximately 25%. We expect SG&A of approximately $100 million before share-based compensation expense. And we expect share-based compensation charges for the year to range between $40 million and $60 million at a share price range of $80 to $120, and the charge may increase or decrease by up to $20 million based on the share price performance relative to Precision's peer group. With that, I will turn the call over to Kevin.

Thank you, Carey. I am pleased with the third quarter financial results and remain confident with the outlook for the balance of the year as we continue to make progress towards achieving our stated objectives. Our confidence stems from the focus and discipline across the Precision organization, seeking to maximize free cash flow from every aspect of our business. This is ingrained in our culture and underpins everything we do. I'm also very pleased that Precision's increased international and Canadian rig activity has more than offset the constrained U.S. market. For the third quarter, Precision is one of the few service companies reporting a material increase in overall activity, billing 10% more drilling days compared to the same period last year. And as I'll cover later in my prepared comments, we remain confident in the Canadian and international markets, while we expect a modest increase in the U.S. as reloaded budgets for 2025 kick in. Looking forward to next year, our multiyear journey to improve our balance sheet and reset our capital structure will turn an important corner as our debt leverage drops below 1x EBITDA. While this may not be our final debt level objective, the company will enjoy substantial increased financial flexibility to further exploit opportunistic growth investments to increase shareholder capital returns and execute further capital structure improvements. A good example of this opportunistic investment strategy is the multimillion dollar advanced purchase of drill pipe Carey mentioned. We took advantage of excess vendor inventories and vendor discounts while front-running possible tariff increases, procuring drill pipe that we will utilize during the upcoming year. There should be no question that Precision shareholders will be the prime beneficiaries of this resetting of the capital structure through increased capital returns and opportunistic growth investments, which should all enhance the enterprise value. So now turning to our operations update. In Lower 48, it's steady as she goes is the theme. Customer demand remains constrained by volatile oil prices, soft natural gas prices, customer consolidation and annual budget exhaustion. Precision's U.S. rig activity continues to be relatively stable, albeit at levels below where I'd like. Rig activity remained in the mid-30s over the past quarter, and we expect to sustain this level through the fourth quarter. With 2025 budget reloads on the horizon, we are seeing signs of a modest rebound in U.S. activity as we have added 7 term contracts since the end of the second quarter with activation dates ranging from beginning late this year into the first few days of 2025. The day rates on the ST-1500 contracts remain in the low $30,000 per day range, while our ST-1200s also in that booking group are in the upper [ 20s ] range. I want to reiterate comments I made in the past that we're not looking to defend market share with aggressive pricing with driller subsidized rig moves or any other high-value services combined or included in the day rate. We believe it remains fundamental to our high-performance, high-value strategy that we pursue the appropriate financial returns for the exceptional value our rigs provide our customers. Regarding these new contract additions, 5 of these contracts are with the consolidating majors, and we believe this is a good indication that operator consolidation is transitioning to full integration and that Precision is becoming a beneficiary of these majors high-grading and rationalizing the drill contractor mix. Also notable is that each of these contracts includes additional premiums for our Alpha automation, Alpha apps and several of our EverGreen diesel reduction solutions. On that note, 2024 has been a very strong year for EverGreen product rollout. Approximately 50% of our active rigs across our fleet have at least one EverGreen solution installed and are earning incremental revenue. Precision's EverGreen strategy to deliver both economic value and diesel fuel reductions to our customers while earning a premium return on investment for Precision, ensures that the full value produced by these solutions is shared equally between Precision and the operators. I expect this fleet-wide rollout to continue for the next several years as we continue on our efforts to improve energy efficiency, reduce diesel consumption and continue to transition to low emission power solutions for our rigs. Now turning to Canada. Demand for our rigs targeting heavy oil, condensate and LNG remains very high. Consequently, the demand for our Super Singles and Super Triples remains very high. The importance of the Trans Mountain pipe reducing the oil export bottlenecks has been a huge stimulus for oil, heavy oil and condensate drilling activity. So for those of you on the call who may be less familiar with the Canadian heavy oil drilling market, let me provide a brief overview. Heavy oil drilling and production in Alberta is very well understood by the operators and has been technically derisked for a vast geographic extent ranging from Northwestern Alberta across to the western edge of Saskatchewan. These reserves are huge with decades of drilling inventories, including conventional heavy oil, SAGD, oil sands and Clearwater. The scale is immense. And while the technical and geological risk is low, the producing zones are relatively shallow, generally under 3,500 feet vertical depth and usually involve horizontal wells and in some cases, slant style drilling. The well completion costs are relatively inexpensive as no fracturing or stimulation is needed. The drilling operation is the key cost driver, and hence, customers will pay a premium for safe, high-efficiency rigs which can drill and move quickly and efficiently. Specifically in the Clearwater, the operators utilize these complex multi-well designs where wellbore accuracy and placement is critical. These customers desire operational excellence and high efficiency and will pay a premium for well-trained crews on high-performance rigs. Now since this heavy oil is thick or viscous and difficult to pump, gas condensate liquid is blended with the heavy oil to improve or reduce the viscosity for easier pipeline transfer and oil shipping. The Canadian market is short about 275,000 barrels per day of condensate, which drives the condensate commodity price roughly in line with the WTI prices and then stimulates drilling for this important resource. We've been pleasantly surprised by the near instantaneous customer response to these market drivers with a wide swath of our client base increasing activity almost immediately following the Trans Mountain pipeline entering service. Utilization for our Super Single rigs, drilling heavy oil and for our Super Triple rigs, drilling Montney gas and gas condensate are both at historic highs for these rig classes. Today, we have 75 rigs operating in Canada and expect this pace to continue, other than a short -- few days around Christmas as some customers may give rig crews a break before getting fired up for what looks like a very busy 2025. We expect winter activity to ramp up fast and early this year, beginning as soon as December 27th, with our activity hitting high 70s or low 80s by the end of the first week of January. Peak activity this winter should exceed last year for Precision. Based on current customer plans, the seasonal spring breakup will be weather-driven, not budget-driven. And we expect a busy spring breakup period similar to last year with many rigs on large multi-well pads operating through breakup. Now I'll remind the listeners that in the spring of 2024, our seasonal activity declined only 33% from winter levels due to that high percentage of pad drilling rigs operating through breakup. And we expect this reduced seasonality trend to be a permanent shift in the Canadian activity profile for Precision. Now over the last several weeks we've received multiple customer inquiries for additional conversions of our Super Single rigs to full pad systems. These upgrades include: increasing the torque the rigs can deliver; increasing the mud handling capacity and capabilities for the rigs; and adding pad equipment to the rig. The payback on these upgrades is less than 2 years, meeting our capital return expectations. Now, following the integration of the CWC transaction from late last year, Precision is also now a meaningful participant in the price-sensitive [ tele-double ] market. While not previously a focus for Precision, today, we are operating 8 [ tele-doubles ] and as many 12 rigs of this class at times during the third quarter, with substantially more than -- substantially more than the combined pre-close total of 6 rigs and well above the 2 [ tele-doubles ] Precision operated separately last year. Now for those of you less familiar with the Canadian rig market, the rig I'm referring to is a telescoping double, or commonly called a [ tele-double ]. These are shallow to medium depth double stand rigs. And while they lack the overall high efficiency of a Super Triple rig, they can compete on single well pads with some of the lower-grade triples. Now the industry overbuilt this rig class between 2005 and 2015 as these were primarily targeting shallow gas and the Cardium and Viking oil plays. During that time, Precision largely focused on building out then our newly introduced Super Triples for the Montney and expanding our fleet of well-known Super Singles for heavy oil. Now the Canadian market remains oversupplied with these [ tele-doubles ] and the market rates for these rigs are still substantially lower than both our Super Triples and our pad equipped Super Singles. However, this is a market where Precision's scale-based cost advantage, our operational leverage, superior safety and crew capabilities, enables Precision to operate [ tele-doubles ] and still earn an accretive margin and deliver meaningful free cash flow. And this rig class will not require any meaningful allocation of capital outside of normal maintenance spending. So turning to our Canadian well service business. The integration of the CWC assets is complete, and we've achieved our planned synergies, as Carey mentioned earlier. More importantly, we have Canadian basin-wide coverage with meaningful exposure in every operating area in Alberta, British Columbia and Saskatchewan. The winter season looks very busy, likely with the industry-wide crew shortages keeping tension on the supply side of well servicing availability. We believe our scale and focus on crew safety and retention will give us a leg up on the competition as customers scramble to get the service rigs they need. Now turning to our international business. It's also steady as she goes. As Carey mentioned, we experienced a [ lull ] in revenue during the third quarter due to an extended recertification of one rig. That rig was back up and operating a few days ago, and we expect Q4 revenue for international group will trend closer to normal levels. We're also expecting a tender package later this year or early next year in Kuwait, which may give us an opportunity to activate our one remaining idle rig during 2025. We'll keep you informed as this progresses. Essentially, Precision's international activity in Saudi Arabia and Kuwait, while significantly up from 2023, is a strong, stable generator of free cash flow for Precision. So to conclude my comments, I want to thank our customers and our investors for their strong support for Precision. And I want to thank the people of Precision once again for a strong operational quarter with excellent financial results. So I'll now turn the call back to the operator for questions.

[Operator Instructions] Our first question comes from Kurt Hallead with Benchmark.

And I think, Kevin, you referenced a much more stable, or relatively stable kind of outlook for Canada going out into next year with the potential for the Canadian LNG to cause a shortage in Super Triples. Can you expand upon that a little bit? To what magnitude do you think there -- if there is to be a shortage, what that magnitude would be?

Kurt, that's a great question. And you'll notice my comments were a little brief on LNG in our prepared comments. First thing I'll say is we were surprised by how quickly customers responded to the takeaway capacity for the Trans Mountain pipeline. And I'd say the demand was probably 10% to 15% higher than we expected, resulting from that pipeline expansion. So we're watching anxiously to see how LNG Canada fires up. We know the pipe gas is going to the pipe now to get the facility commissioned. We're still hearing the first shipments are going to be happening in -- at the end of the second quarter and 2025 for LNG Canada. So I think that we'll see rig demand increase and might be 2 or 3 rigs or it could be a little more, maybe 4 or 5 rigs. But it feels like demand is in that kind of 2 to 5 rig range to balance out the needs for LNG Canada.

Okay. Great. Appreciate that color. And then maybe for Carey, kind of referenced the dynamics around some of the potential upgrades that you got coming for some of these Super Single rigs and so on. How should we think about free cash flow conversion in 2025?

Yes. So if you remember, Kurt, all of the rigs, whether it's Super Single or Super Triples, they're modular and the upgrades that we're doing are really bolt-on upgrades. So typically, they're going to kind of be in the $1 million to $3 million range. So an individual upgrade won't upset a prescribed capital allocation plan, whether it's 2024 or 2025. So I would -- before we announce our formal plan at the beginning of next year, I would say that it will likely look pretty similar to this year with allocations towards debt reduction and share repurchases. And I'll just -- I'll leave it there.

Yes. I think we'll give more clear guidance on our plans in 2025 early in the year, like we typically do.

Okay. Great. And one more thing, just for clarity. Kevin, again, in your press release, you referenced, you got, I think, 7 contracts starting up at the end of the year for projects in 2025. Is that going to be sufficient to kind of keep your run rate at -- in the mid-30s? Or is that going to be -- are those 7 rigs going to wind up being additive to that 35 rig count that you had in the third quarter?

Kurt, that's a really great detailed question, and I'll do the best I can to answer it. There's still a fair amount of churn in the uncontracted rigs. We've got a block of rigs that are uncontracted, they're well to well. And there has been churn, and that churn is going to continue between now and the end of the year. I'd say that the range is kind of low to mid-30s to maybe as high as low 40s early in the next year. But there's a range. And I think increasing commodity volatility probably keeps it towards the low end of the range and more commodity price stability probably moves us to the higher end of the range. So, hate to give you such a wide range. I don't think it's going to impact our capital or free cash flow plans dramatically because I think we're covering a lot of that with our international and our Canadian businesses.

Our next question comes from Waqar Syed with ATB Capital Markets.

Carey or Kevin, when do you expect U.S. drilling margins to bottom?

So that's -- they may have already bottomed, but if there's more weakness in the industry rig count, maybe they haven't. I think the resiliency this year has been really impressive for us and for the industry. One dynamic of our margins that I think you probably would see comparing to some of our peers that have already reported, they're several thousand dollars a day lower, and there's a couple of reasons for that. We had about 60% of our rigs that were working in the third quarter were Super Triple 1500s. The rest were 1200s or a few of the CWC rigs that we acquired at the end of last year. When we strip out the non-Super Triple 1500 rigs, our day rates were right in line with where our peers that have already reported, reported day rates. and our margins would have been a couple of thousand dollars a day lower, which is a result of the lower fixed cost absorption that I've mentioned a couple of times on previous calls. So I think the margins for Precision are quite a bit better for our Super Triple 1500s than what we're reporting on average. And we would expect certainly to have some stability in those margins in the coming quarters.

Okay. And you now have some seasonality in your activity in Q4 and Q1, primarily for some of those CWC rigs acquired in the Rockies area. Do you expect that seasonality this winter as well? And if so, what would be the impact like?

Well, that seasonality is in the range of 2 to 4 rigs, which normally wouldn't trouble me too much, but with 35 rigs running, 2 to 4 rigs starts to sound like a bigger number. I think there's a fair amount of churn, and there's a pretty good chance we can mitigate that, but it will be a day-to-day review with our operations team and sales team.

And how many rigs -- and I can look up as well, but how many rigs are working in the Rockies right now for you?

Yes, it's in the range of 2 to 4 rigs depending on what's happening on a day-to-day basis.

And that would just be [ Wyoming ]. We have another 6 rigs or so working in Colorado.

Okay. And Kevin, you mentioned about these 7 contracts that you won with majors and consolidators. Do you know if this is incremental demand? Or if you are, you said that there was some high-grading going on. Are they high-grading from some of the small drilling contractors or it's also happening with some of your large 4 peers as well?

It doesn't appear that we're taking market share away from a large peer. It probably looks like we're replacing lower-grade rigs. Sometimes it's hard to tell exactly.

Our next question comes from Sean Mitchell with Daniel Energy Partners.

A couple of thoughts. We've heard some rumblings about obviously a seasonal slowdown in Q4 in North America over the course of the last week or 2. But with gas prices in the strip showing some signs of life, are you guys hearing anything from your customers on increasing activity on the gas side?

Sean, great question. I think there's probably a little bit more optimism on gas now, [ there ] might have been a few weeks ago. And certainly, seeing seasonal prices improve and then LNG coming on this in the next 12 months. I think there is a little more focus on gas, and I think that you'll see the gas rig count move up at least modestly.

Got it. And then maybe one follow-up.

Let me qualify that. Every time I've made a rig count -- prediction of rig counts going up, a week after the conference call, something changes that.

No, that's fair. It's tricky.

It's tricky.

Any -- maybe a follow-up here. Can you share your thoughts about kind of growth in your current service lines and any additional service lines you guys might pursue in the world of M&A?