STEP Energy Services Ltd. (STEP) Earnings Call Transcript & Summary

Good morning, and welcome to the STEP Energy Services Fourth Quarter and Year-end Conference Call and Webcast. [Operator Instructions] I would like to remind everyone that this conference call is being recorded today, March 17, 2022, at 9:00 Mountain Time. I will now turn the conference over to Regan Davis, Chief Executive Officer for STEP Energy Services. Mr. Davis, you may proceed.

Thanks very much. I'll start by apologizing. We have had technical difficulties getting logged into this call in spite of 2 very successful dry runs prior so. With me today is Steve Glanville, our Chief Operating Officer and President. He'll be providing some comments; as well as Klaas Deemter, our CFO. What I'll do is I'll turn it over to Klaas for his comments. Klaas will turn it over to Steve, and then I'll -- I have some closing thoughts.

Thanks, Regan. Good morning, everyone. It's good to be back. Before we begin, I'd like to remind everyone that this conference call may contain forward-looking statements and other information based on current expectations or results for the company. Certain material factors or assumptions that were applied in drawing conclusions or making projections are reflected in the forward-looking information section of our 2021 annual MD&A. Several business risks and uncertainties could cause actual results to differ materially from these forward-looking statements and our financial outlook. Again, please refer to our MD&A and our 2021 annual information form for the year ended December 31, 2021, for a complete description of business risks and uncertainties facing STEP. We'll also refer to several common industry terms and certain non-IFRS measures in this call, which are, again, more fully described in our MD&A. You can find the AIF and our MD&A, along with our financial statements, on SEDAR and our website. I'm going to give a brief overview of the results for the quarter. Most of my comments will draw comparisons to the fourth quarter of last year, but I'll also make some commentary with respect to our results on a sequential basis. Let me start off by saying what a difference a year makes. The last 24 months had been some of the toughest that many of us have faced in our careers. I am extremely proud of the resilience that this company and this industry have displayed through this time. We have overcome obstacles that none of us could ever have predicted, but the indomitable spirit that drives this industry never flickered or faded. And I want to publicly recognized the men and women of this company who define what it means to deliver the exceptional client experience and the exceptional employee experience. Well done. Now let's get down to business. The fourth quarter saw the highest revenue since Q1 2020 with revenue of $158.7 million, which is 122% higher than what we experienced in Q4 of 2020. Activity levels across the board were generally higher year-over-year, following improved commodity pricing and significantly stronger industry environment compared to this time last year. Our Canadian business had a revenue of $91.5 million, up from $41 million recorded in Q4 2020 and up sequentially from the $83.5 million in Q3 2021. Our adjusted EBITDA in Q4 '21 for the Canadian operations was $13.6 million, up from $5.6 million in Q4 2020, although down modestly from Q3 2021. The sequential margin erosion was partly result of a shift in job mix to more single-well work, which is less efficient than the multi-well pads as well as a rapid rise in our key input costs, such as sand, chemicals, logistics, fuel and labor. We were able to obtain some pricing improvement through the quarter, but not enough to offset all these inflationary pressures and the decline in efficiency in the job mix. Our U.S. business had a revenue of $67.3 million, up 120% from $30.6 million in Q4 and up 35% from $49.7 million in Q3 2021. The U.S. business had steady utilization through the quarter on all fracturing and coiled crews, which was a significant factor in the EBITDA of $8 million earned in the fourth quarter. This is a record amount for the fourth quarter earnings in the U.S., and this demonstrates the profit earnings and potential of this business. On a consolidated basis, the company earned $17.3 million in adjusted EBITDA for the fourth quarter, about 11% of revenue, and had a net loss of $6.2 million. This is a significant improvement over Q4 of 2020, which saw $2.4 million in adjusted EBITDA, about 3% of revenue, and a net loss of $17 million. However, Q4 2021 was sequentially lower from the $18 million in adjusted EBITDA and $3.4 million in net loss. On an annualized basis, 2021 saw a significant recovery over 2020, with revenue improving to $536 million, up 45% from the $369 million in 2020. Full year adjusted EBITDA was $63 million, more than double the $31 million in EBITDA earned in 2021. Our net loss was significantly smaller as well, down to $28 million from $119 million, which was -- in 2020, which was negatively impacted by a significant impairment related to the COVID-19 pandemic. Capital expenditures for the quarter were $11.7 million, bringing our full year capital spend into about $37.2 million. We'll carry over about $5.5 million into 2022, which should be largely spent in the first half of the year. Our Board approved a 2022 capital budget of just under $48 million, which is largely directed towards maintenance capital. I also want to point out that as happens in most years, we expect that there will be some carryover of the 2022 capital budget into 2023. We exited the quarter with net debt of $186.9 million, which was just under $22 million lower than the same period last year. We are extremely pleased with the progress that we've made on reducing our debt, having repaid more than $120 million since October 2018. We expect that this net debt balance will continue to reduce through 2022 as we begin our quarterly principal payments of approximately $7 million starting on March 31, 2022. With that, I'll turn things over to Steve, who will provide some more color on our operating conditions in Q4 and our outlook for 2022.

Yes. Thanks, Klaas, and good morning. Let's take a few minutes to talk about some of the operational highlights that we realized in the fourth quarter, as well provide brief commentary of how the first quarter is progressing for the business. Utilization was strong through most of the fourth quarter outside of the typical holiday season slowdown around U.S. Thanksgiving and Christmas. The higher-than-typical utilization for the quarter is a direct result of the increase in drilling activity due to surge in commodity prices. WTI rose just below $70 a barrel at the start of the quarter and hit a peak of about $84. Drilling rig count hit levels not seen since pre-COVID levels for both U.S. and Canada. The U.S. rig count averaged about 545 rigs, which was up significantly from 484 in the third quarter and almost double in the levels that we've seen in Q4 of 2020. On a combined basis, we pumped over 500 million tonnes of proppant on 508 operating days with 7 of our frac crews. I'll dive a bit deeper and discuss the operating results for each of our geographic regions. For our U.S. business, we had a full quarter of operating 3 of our fracturing crews, which were all positioned in the Permian basin. We saw high utilization of roughly 83% and completed over 1,500 stages on 229 operating days during this period. As Klaas had mentioned, inflationary pressures became more acute in this quarter with supply chain disruptions, commodity price appreciation and an increased industry activity resulting in escalating costs throughout the business. We were able to work with our clients and passed along price increases to offset margin compression. On our coiled tubing business in the U.S., we maintained and operated a fleet of 8 deep coiled tubing units in the quarter across 4 of the basins: Permian, Eagle Ford, Rockies and the Bakken. Utilization averaged around 70%, which was an increase of roughly 5% from the previous quarter. We achieved higher activity levels, both in the Rockies and the Bakken, due to an increase in wells drilled, coupled with less competitive pressures in these areas. We are extremely pleased with the momentum and improved results that our U.S. business achieved in the quarter as revenue and EBITDA increased nicely relative to Q3. Switching to our Canadian business on the frac side. Our Canadian frac business achieved high utilization this quarter of around 76%, with our four spreads compared to the same time last year of only 50%. Our clients seemed eager to complete work prior to the holiday season with the acceleration of their 2022 programs. We did, however, experienced a 2-week delay with 1 of our large crews due to problems associated with the client's well conditioned that pushed some of the planned work into Q1 of 2022. Our fleet of fracturing assets were very active, primarily operating in both the Montney and Duvernay areas of the basin. On to our coiled tubing business. The Canadian coiled tubing business was also very active in the fourth quarter, where we operate a 7 deep capacity coiled tubing units across the basin, with the primary focus in the Montney. We also experienced an increase in activity in the Duvernay as several of our clients require our deep capacity coiled tubing expertise for this area. The business unit had an 80% increase in revenue when you compare it to Q4 of 2020. Our team's focused efforts on predictive and preventative maintenance program allowed us to operate the complete year with approximately 10 million running meters without a single injector failures on our clients' locations. A big thank you to our team of maintenance and operational professionals for this amazing accomplishment. As we look forward into our business, rig counts in 2022 are expected to track approximately 20% higher in Canada relative to 2021 and 25% or more in the U.S. The increase in rig count will drive the demand for our services, which will push the limits to the overall fleet capacities. We believe there is roughly 17.5 million horsepower in the U.S., which about 4.2 million of that horsepower will require extensive capital and most likely will not be reactivated to the basins. The same ratio can be applied for the Canadian fleets of about 1.7 million. Most fleets today require approximately 50,000 horsepower, either on location or in various stages of maintenance, to achieve the increase in pumping efficiencies that we're seeing today of about 20 hours a day. Simple math suggests we are on a balance to slightly undersupplied market. The tightness of equipment supply will also be intensified by the difficulty in recruiting personnel to staff active equipment. The industry, as everyone is aware of, was forced to lay off thousands of qualified personnel during the prolonged downturn, many of whom have found employment in competing industries. As that, we've been able to retain a highly trained group of professionals through this period, and we've been able to distribute this experience throughout the organization as we onboard new recruits into our business. Our operations, both in Canada and the U.S., have experienced very strong levels of activity thus far in the first quarter, besides some minor delays in January, due to the extreme cold temperatures witnessed in our Canadian operations. Battling through these conditions requires immense operational preplanning, and our team executed at a high level with minimal STEP nonproductive time. I'd also like to acknowledge our team's ongoing efforts in managing the complexities of this business during COVID. It has been 2 years since the onset of the global pandemic, and our teams have navigated additional safety protocols and changes to operational procedures, varying degrees of lockdowns and restrictive measures and some working remotely with professionalism and a level of execution that I'm very proud of. Throughout 2021, we continue to showcase our operational excellence with some of the most active operators in our operating areas. As we gain sight into our second quarter, we're already seeing increased activities prior to Q2 of 2021 for both geographic regions. Currently, our Canadian frac schedule is filling up nicely with utilization expected to be approximately 60% on our four crews. Of course, that's pending seasonal spring breakup conditions. In the U.S., with the increased drilling activity, we expect similar utilization metrics as we are seeing in the first quarter. I know there's been lots of talk about pricing discussions. Of course, with the marked increase in the rig count on both sides of the border, we will continue to see a corresponding demand for completion services. As this demand continues, we anticipate the market will become undersupplied with equipment. Because of our strategic alignment with active operators and the constructive conversations we have already had with our clients, we will be well positioned to capture pricing improvements beyond cost inflation, which will ultimately translate into higher margins for our business. I'll now pass it over to Regan for closing comments.

Thanks, Steve. I'll be -- for the most part, reiterating comments made by Klaas and Steve, but I'm going to speak to the geographic districts separately. So I'll start with Canada. What stands out to me about Q4 in Canada is the strength of the quarter for the company. Anybody who's followed the company for the last few years would note that our fourth quarter typically tails off due to budget exhaustion. And what we saw this year, as already noted, was clients looking to get more work done before the end of the year than in prior years. So it really did fill up the quarter nicely. We were successful in passing price increases along. However, the cost side kind of outstripped those pricing since the lower margins. If I look at Q1, we continue to see a very, very busy -- or we've seen a very busy Q1, and we continue to expect that for the rest of the quarter. Very happy with the cooperation we've seen from our clients as we've been moving prices up and ultimately improving margins. Jumping back to the U.S. and speaking about -- I just want to go all the way back to Q3. That was the first quarter in 2021 that the division generated positive EBITDA. And we were fortunate enough to stand up a third frac crew, an additional coiled tubing unit. And you would have seen the sequential improvement, Q4 versus Q3, was very notable. And as we look into Q1, we are seeing very, very strong utilization. We are seeing the market being very dynamic, but in principle, costs are rising, which we expect to translate into improved margins sequentially. Now just pausing and thinking about our operations for Q1, Steve talked about COVID. To dig into that a bit, everybody knows Omicron was sweeping through the population in December, January, February. And I can't stress enough the effort and commitment we've had from our professionals in helping us keep our operations running safe and efficiently. When we had at times, 1/3 of a crew test positive and need to be sent home to be isolated. We had people working their days off. So just a herculean effort from the team through Q1 and very grateful for that. Looking to Q2 and beyond, back to Canada again, Steve mentioned we have a very strong calendar for Q2 [indiscernible] of the stronger rig count, a reflection of the cash flows our clients have. And as we look through Q2 and into the back half of the year, we do genuinely see the market being undersupplied. There was periods of that occurring in Q1. So very excited about the outlook going beyond Q2. And then jumping over to the U.S. relative to Q2 and beyond, same sort of story. It's our view that the U.S. will likely add rigs at a faster rate than Canada, partly due to the availability of rigs. We are going to be challenged as an industry to add more equipment because of people. So again, I expect increased tension on the supply-demand side of our business in the U.S., which we believe will translate into improved financial results. And the final comments I'd like to make is I'd like to thank our clients for their ongoing support. They have been battered for 4 months, 5 months now with ongoing pricing increase talks. And I know that, that's taking its toll on them as they're needing to rationalize and justify these increasing costs to their Board, et cetera. So I do appreciate their support and cooperation. I'd like to recognize, once again, our professionals are the differentiator for STEP. Many of them have Class I licenses. It is those folks that make this company work. It is those folks that we can be grateful to for North America being the source of clean, reliable and abundant and affordable energy. And again, I can't say enough to our operations team for the job they do for the company. And that will -- that's the end of my comments, and we'll open up to questions.

[Operator Instructions] Our first question is from Waqar Syed with ATB Capital Markets.

Steve, in the U.S., we continue to hear about frac sand shortages hitting Permian, logistics problem from trucking. Doesn't seem that like that's impacting your activity, but could you provide some color on that?

Yes. Waqar, and great question. Obviously, we're seeing a tightness in basically supply of -- particularly in basin sand in the Permian. A lot of our clients that we've aligned with are basically supplying proppant to our business. But we have had great relationships and great contracts in place with our sand vendors to be able to keep our fleets active.

So Waqar, if I can just add on to that. Our U.S. supply chain team took advantage of an opportunity at the end of Q4 to prepurchase a bit of sand. And that's been a very -- turned out to be a very wise decision on the part of that group, and it's been able to keep our crews running here. Sand supply is a dynamic environment. It changes from day to day, from week to week. We're on top of it as best as we can through our supply chain groups there, but acknowledge that it's a challenging environment down there.

Okay. And then for the U.S. business, when I look at your number of fracturing days per spread per month, it's roughly around 25.4 right now. That's a very high level of performance. So as we look into 2022, is the upside of quarterly pickup in revenues all going to be from price increases, because you're hitting kind of the wall on utilization or efficiencies?

Another great question, Waqar. Definitely, we're able to pass on, as we've mentioned, both Regan and I talked about, we've been able to pass on not only inflationary costs, but also improved margin to our business. Operating frac crews at 25 days a month with travel days, et cetera, it is obviously at high utilization. So our incremental revenue and margins are going to come by way of kind of price increases and even some proppant chemical that we're pumping.

Okay. And then any chances, any thoughts on reactivating the fourth crew in the U.S?

Yes, definitely signs of that, for sure, Waqar. As we have talked in previous -- our previous quarters, we've been really focused on our IOR technology. And that takes up some of that -- the fourth crew horsepower to be able to compete in that. We are also seeing some refrac opportunities as well as some frac-through coil opportunities that we're actively pursuing today with that frac crew. And until, I think, prices get to a point where it makes sense or a longer commitment, we'll be looking at operating that frac crew on a full-time basis.

Okay. And then from a CapEx perspective, is the CapEx going to be equally weighted each quarter? Or is it going to be a little bit lumpy?

It will be a little lumpy, Waqar. Like what we're having to do now is put down POs for sure to make sure we can secure parts. There's a bit of pent-up demand as we came into 2022. Some of that's going to be absorbed with that carryover from '21. I wouldn't worry too much about the lumpiness. It's going to -- it will probably be a little bit front-end weighted. And as activity picks up, we may have to add more to the back half of the year. It's probably not unlike the profile that we saw last year.

Okay. And in terms of working capital, as consumer of cash or release of cash, could you give any guidance on how you see Q1 and then the rest of the year?

Yes. So we're a little tight admittedly at the end of the year last year. We've got lots of liquidity. With the amount of business that we're doing right now, we're pushing those working capital requirements up. But overall, I don't see any reason for concern. Our lines are adequate for what we're doing right now. We'll see some build here as we head out of Q1 and then into Q2, we'll see that harvest come back and reduce our lines.

The next question is from Keith MacKey with RBC Capital Markets.

Just wanted to ask about the U.S. frac. The utilization, obviously, very strong in Q4. How do you expect that to trend in Q1 and Q2?

Yes. Good question, Keith. Very similar. I mean, we've -- obviously, we're almost on the first quarter right now. We had some minor delays in weather in Midland. There was a little bit of a winter storm that went through that delayed some of our operating days, but nothing of material. So definitely seeing that continue to increase through the rest of the quarter and then into the second quarter for sure.

Got it. And just as far as customer mix for who you're working for in the U.S. and the term contracts, are your fleets all on -- certainly on long-term contracts that extend for a better part of the year? Or is it more pad-to-pad kind of work?

Yes. I would say, like, in general, there's some -- lots of discussion going on from our clients' perspective that are looking at locking up top-tier equipment. Just a reminder, we have 60% of our fleet in the U.S. that is either Tier 4 or on dual fuel. So our clients that we're working for today have been great partners with us for quite some time. They're adding capacity to their overall CapEx is what we're being told. And so yes, we do have what I would consider kind of 2 crews that are committed to really 2 clients. And then our third crew is kind of filling in some spot work that we have.

Got it. So as far as your ability to raise pricing on the 2 committed crews versus the 1 spot crew, is there a difference in the timing and magnitude that you think you'd be able to realistically move pricing in those fleets?

It's a daily discussion, Keith, that we're having with our clients. As you know, I mean, fuel prices have really skyrocketed in both Canada and the U.S. And so our clients have a great appreciation of what our business has to go through. It's very obviously complex understanding the costs, et cetera, associated to the business. So we have daily and weekly conversations with our clients. And so far, they've been extremely receptive with the -- not only the level of service that we provide, but the high level of execution on the wellheads.

I'm showing no further questions at this time. I'll turn the call back over to Regan Davis for any closing remarks.

Thanks, everyone, for joining in. The one thing we didn't touch on is in prior comments, we've referenced a new process that we're bringing to the market called IOR single shot. That has been -- that's a disruptive sort of enhanced recovery technology that we've been working to commercialize. And we're very excited to share that we have our first project taking place next week. So look forward to providing an update on that very unique technology for which we have IP protection courtesy of our gas frac business. So that would be one comment left out. And I'll close off by saying thanks for joining and talk to you soon.

Ladies and gentlemen, this concludes today's conference call and webcast. Thank you for participating, and you may now disconnect.