ChampionX Corp

NASDAQ:CHX

Earnings Call Transcript 2019-Q1

[Operator]

Hello, and welcome to the Apergy First Quarter 2019 Earnings Call. My name is Michelle, and I will be your operator for today's conference. [Operator Instructions] Please note that this conference call is being recorded.

I will now turn the call over to Mr. David Skipper. Sir, you may begin.

[David Skipper, executive]

Thank you. Good morning, everyone. With me today are Soma Somasundaram, President and CEO of Apergy; and Jay Nutt, Senior Vice President and CFO of Apergy.

During today's call, Soma will discuss Apergy's first quarter highlights and market outlook. Jay will then discuss our first quarter results and will be referring to the slides posted on our website, before turning the call back to Soma to discuss the progress on our growth initiative. And then we will open the call for Q&A.

I would like to remind our participants that some of the statements we will be making today are forward looking. These matters involve risks and uncertainties that could cause material differences in our results from those projected in these statements. Information concerning the risk factors that could affect the company's performance and uncertainties that could cause material differences to actual results from those in the forward-looking statements can be found in the company's press release as well as in Apergy's annual report on Form 10-K. And those set forth from time to time in Apergy's filings with the Securities and Exchange Commission, which are currently available at apergy.com.

Except as required by law, the company expressly disclaims any intention or obligation to revise or update any forward-looking statements.

Our comments today may also include non-GAAP financial measures. Additional details on reconciliations to the most directly comparable GAAP financial measures can be found in our first quarter press release and slide presentation for this call, which are on our website.

I will now turn the call over to Soma to discuss Apergy's first quarter results.

[Soma Somasundaram, executive]

Thank you, David. Good morning, everyone. I would like to welcome our shareholders, our analysts and our employees to our first quarter 2019 earnings call. Thanks for joining the call.

We executed well in the first quarter and delivered solid financial results. During the quarter, market activity progressed as we expected with the seasonally slower start in January, followed by progressively improving activity for the remainder of the quarter. We believe that our demonstrated strong execution, as well as continued progress on our growth initiatives, continues to result in a differentiated performance in the oilfield equipment and technology space.

Turning now to our financial results from the first quarter, revenues increased by $19 million or 7% year-over-year. Our revenue growth was driven by solid results in both of our operating segments. Consolidated adjusted EBITDA increased by 14% year-over-year, reflecting strong execution and operating performance in both of our segments. Consolidated adjusted EBITDA margin increased by 150 basis points to 24% from 22.5% in the first quarter of 2018 as we continue to demonstrate good cost discipline. Compared to the first quarter of 2018, we did incur $2 million of additional corporate cost in the quarter, associated with Apergy becoming a stand-alone public company.

Our cash from operating activities more than doubled to $20 million in the first quarter of 2019 from $8 million in the year-ago period. Consistent with our previous year, we expect operating free cash flow to increase remainder of the year as we recover the building adjusted working capital in the quarter. In line with our capital allocation priorities, we continue to make good progress on deleveraging our balance sheet and repaid $25 million of term loan debt. Since our spin-off, we have repaid $70 million of debt, and we are well on our way towards achieving our target leverage of 1.5x debt to EBITDA.

Our Production & Automation Technologies segment revenue grew 5% year-over-year and was led by our high customer service focused ESP offering, international artificial lift platform and cutting-edge digital portfolio. The sequential decline in this segment's revenue was due to the expected seasonally slower start in January. As the quarter progressed and ESP capital budgets were reloaded and released, we saw increasing active delevel across our artificial lift product lines, including the acceleration of our ESP installations as we exited the quarter in March, our ESP installed rate significantly outpaced our January installed rate.

Digital products recorded significant revenue growth at 28% year-over-year. Growth in our digital portfolio in the quarter was led by our downhole monitoring and asset-integrity management technologies.

As we look at specific basins, our Production & Automation Technologies segment recorded strong year-over-year growth in Permian and Bakken.

Turning to Drilling Technologies segment. Our first quarter revenue increased 12% year-over-year, significantly outpacing the growth in the worldwide average rig count of 2%. This outperformance continues to be driven by customer demand for our technologically advanced polycrystalline diamond cutters and diamond-bearing technology. Sequentially, revenue increased $2 million, while adjusted segment EBITDA was roughly flat as product mix, higher input cost and a challenging pricing environment offset the increase in revenue.

Turning to our geographic revenue mix. We continue to execute well across our global footprint, posting year-over-year growth in nearly all geographic regions we participate in. International revenues increased 10% year-over-year in the first quarter. Growth in international revenue was led by strong artificial lift activity in the Middle East as well as robust diamond-bearing shipments.

Within North America, our U.S. revenues increased 5% year-over-year, while revenue in Canada was down 16% due to the challenging market environment in Canada.

Before I turn the call over to Jay to take you through the details of the consolidated and segment financial results, let me take a few minutes to share our view of the current market for our products. In the second quarter of 2019, for Apergy, we expect modest sequential growth in revenue and adjusted EBITDA, driven by growth in our artificial lift and digital product, which will be partially offset by lower-adjusted segment EBITDA and margin percent in Drilling Technologies due to the seasonally lower rig count in Canada. We expect the Canadian rig count and Drilling Technologies results to recover in the third quarter.

From an industry perspective, in the second half of 2019, we expect activity levels to remain constructive, supported by the continued strength in oil prices. We believe that our production-oriented artificial lift, high-value digital and differentiated drilling products are positioned to deliver another year of positive results.

Now let me turn the call over to Jay.

[Jay Nutt, executive]

Thanks, Soma, and good morning, everyone. Beginning, as David mentioned, I'll be referring to the slides posted on our website. And beginning with Slide 4, Apergy delivered solid results in the first quarter of 2019, posting both revenue and adjusted EBITDA at the top end of our guidance range.

Revenue was $302 million for the first quarter, an increase of $19 million or 7% compared to the first quarter 2018 performance and a decrease of $10 million or 3%, sequentially. The sequential decline was primarily due to the expected seasonally slower start in January, which was amplified by the significant decline in commodity prices as we exited 2018.

In the quarter, year-over-year revenue growth in the U.S. was just over $12 million or 5% and non-U.S. revenue growth was $6 million or 10%. Adjusted-diluted EPS was down $0.02 or 6% year-over-year to $0.32.

As we pointed out in our earnings release, the first quarter 2018 results did not reflect all the stand-alone public company costs, including a fully built-out corporate staff and interest expense associated with our debt. The absence of such expenses from the prior result -- prior year results, somewhat limits comparability on a diluted earnings per share basis.

Cash flow from operating activities was $20 million in the first quarter, up $12 million from the year-ago period. While the first quarter has historically been one of the lower quarters for operating cash flow, we did outperform the prior year due to better working capital utilization.

During the quarter, we experienced some seasonal build of working capital, primarily due to receipt of long lead time inventory items that were placed on order in Q4 of 2018, along with some slowing of customer payments as a result of the lower commodity prices exiting 2018. We'll utilize some of the inventory in the second quarter in support of our sequential growth expectations, and our teams are proactively working with our customers to reduce our DSO. Consistent with prior quarters, we expect to achieve improved cash flow over the remaining quarters of the year.

Turning to Slide 5. From a macro viewpoint, we saw a significant rebound in oil prices in the first quarter of 2018 compared to the commodity price volatility that we experienced as we exit 2018. We believe that the outlook for U.S. completions activity will remain constructive as operators continue to focus on achieving their production targets. Given the disciplined approach that's being taken pertaining to E&P spending, we believe the improvement in commodity prices that was achieved during the first quarter has provided our customers with increased confidence in their capital spending plans and that market activity will remain constructive for this year. Looking beyond 2019, we believe that the industry fundamentals continue to be good for our businesses and that our growth accelerators are aligned with the progression of the industry.

Moving to Slide 6 and looking at consolidated first quarter performance. Net income in the quarter was $22 million, and diluted earnings per share were $0.29. After adjusting for the impact of spinoff and restructuring-related items in the quarter, adjusted net income was $25 million or $0.32 per diluted share.

We generated adjusted EBITDA of just over $72 million during the first quarter compared to $64 million in the first quarter of 2018. As I mentioned, the results from the first quarter of 2018 do not include all the expenses that would have been incurred had Apergy been a stand-alone public company during the period.

In the first quarter of 2019, we incurred approximately $2 million of additional corporate cost, associated with being a stand-alone public company compared to prior-year period. Sequentially, adjusted EBITDA decreased $5 million on the $10 million revenue decrease with sequential decline, primarily due to the expected seasonally slower start in the first quarter.

In the first quarter, net interest expense was just over $10 million, which is roughly flat from the fourth quarter as the benefit of deleveraging was largely offset by a slightly higher LIBOR component in the interest rate.

Our effective tax rate in the quarter was just over 21%. In the quarter, we benefited from some smaller discrete tax items, primarily tax benefits from equity compensation and a slightly lower blended state tax rate. Consistent with our approach to capital discipline, capital expenditures in the first quarter of 2019 were just under $10 million, including continued investment in our ESP-leased asset portfolio compared to capital spending of $13 million in the first quarter of 2018. Our free cash flow conversion ratio was 17% in the first quarter of 2019 and was impacted primarily by the seasonal build in working capital in the quarter. Similar to prior years, we expect to report higher conversion ratios over the balance of the year.

Turning to Slide 7. Production & Automation Technologies revenue finished at $224 million in the first quarter, an increase of $10 million or 5% from the first quarter of 2018 but down $11 million or 5% compared to the fourth quarter 2018 performance. The year-over-year improvement was due to continued growth from our artificial lift and digital product offerings with growth occurring across nearly all geographies.

In particular, we continue to drive significant growth in our electrical submersible pump product line, and our digital revenues were up 28% year-over-year. The sequential decline in the segment revenue was primarily due to the expected slower start from our short-cycle artificial lift products early in the quarter as the momentum of lower customer spending in Q4 2018 carried over into January. After the slower start, we experienced a progressive -- a positive progression from the beginning of the quarter through March.

Adjusted segment EBITDA rose 17% to $46 million in the first quarter from $39 million in the year-ago period, driven by the revenue growth and strong cost discipline. Adjusted segment EBITDA declined $4 million or 9% from the fourth quarter of last year, primarily due to the expected lower artificial lift volume in the quarter. Adjusted segment EBITDA margin was 21% in the current quarter compared to 18% in the first quarter of 2018.

Our year-over-year margin improvement reflects the benefits of solid operational leverage on the increased volume. Sequentially, adjusted EBITDA margin decreased 80 basis points due to the slower seasonal start of the year.

Our Production & Automation Technologies business continued to have a healthy book-to-bill ratio at 0.98x compared to 1.01x in the first quarter of last year and 0.99x during the fourth quarter of 2018. Consistent with our capital allocation policy, in the first quarter of 2019, we made the decision to consider options pertaining to our pressure vessel fabrication business as it's not core to our portfolio.

Near the end of the quarter, we executed a nonbinding expression of interest with a reputable company that has a strong presence in this product line. We believe this is positive for both Apergy and the expected buyer. In addition, we're pleased that this potential transaction provides more opportunities for the employees associated with this product line. As a result of this decision, we recorded a $2 million restructuring charge in the first quarter. This business represents about 2% of our Production & Automation Technologies revenue, and we expect to fully divest the business in the coming quarters of 2019.

Moving to Slide 8. Drilling Technologies posted revenue of $78 million in the first quarter, representing an increase of 12% from the first quarter of last year and outpacing the worldwide average rig count growth of 2%. The $8 million year-over-year revenue growth was driven by both our polycrystalline diamond cutters and diamond bearings.

Revenue from diamond bearings was up 86% compared to the year-ago period. Compared to the fourth quarter of 2018, Drilling Technologies revenue was solid, increasing 2% from $76 million, in spite of the decline in U.S. and Canadian average rig counts, leading to a flat worldwide average rig count.

Adjusted segment EBITDA increased 8% to $29 million in the current quarter from the first quarter of 2018, primarily driven by the higher volume and the benefits of our productivity initiatives, which were somewhat offset by a challenging pricing environment, a higher mix of bearings versus cutters, higher material input cost and somewhat higher corporate expenses associated with Apergy becoming a publicly traded company.

Sequentially, adjusted segment EBITDA decreased 1% from $30 million in the fourth quarter as product mix, pricing headwinds and higher input cost offset the increase in revenue. Adjusted segment EBITDA margin was stable at 38% in the first quarter of 2019 compared to 39% in both the first and fourth quarters of 2018.

In the quarter, our Drilling Technologies business continued to have a good book-to-bill ratio at 1.01x. The quarter end ratio compares to 1 in the first quarter of 2018 and 1.03x during the fourth quarter of last year.

Moving ahead to Slide 9. On the balance sheet, first quarter ending debt, net of debt discounts and deferred financing cost, was $638 million. Cash at the end of the quarter was $28 million. As noted in our earnings release, we repaid another $25 million on our term loan, consistent with our commitment to our capital allocation priorities, which include funding our organic CapEx needs as well as reducing our leverage through earnings growth and debt reduction.

At March 31, Apergy's total leverage ratio was 2.1x, and our available liquidity was $273 million.

Turning to Slide 10. For the second quarter of 2019, we expect consolidated revenue in the range of $305 million to $315 million and adjusted EBITDA within a range of $72 million to $76 million. We expect growth in our artificial lift and digital businesses as a result of the customer-spending momentum that was building as we exited Q1, and this will be partially offset by the expected seasonal decline in our Drilling Technologies businesses that materializes due to the Canadian breakup.

We anticipate that interest expense will be approximately $10 million and that our depreciation and amortization expense will be approximately $30 million. Our effective tax rate is expected to be in a range between 23% and 25% in the second quarter.

Our full year capital spending forecast is unchanged at approximately 2.5% of revenue for infrastructure-related growth and maintenance, plus an additional $20 million to $25 million for capital investment directed at expanding our portfolio of ESP-leased assets. As we shared previously, we may increase our capital investment plans in the second half of this year should our growth initiatives support additional investments.

I'll now turn the call back over to Soma for some closing comments before we open up the lines for questions and answers.

[Soma Somasundaram, executive]

Thank you, Jay. Before we open the call to questions, I would like to update you on our progress on the key growth initiatives for 2019 and beyond.

Our first growth initiative is in our ESP product line, where we continue to drive significant growth and share gains in the U.S. and conventional markets. On a year-over-year basis, we posted especially strong growth in the Permian, Bakken and Rockies, which was partially offset by a decline in Mid-Con. Additionally, our customer relationships continues to be strong. We are continuing to increase our position with our top 25 customers, resulting in significant growth in business year-over-year with them. Our strong product offering combined with our digital monitoring solution and industry-leading service continues to win in the market.

Our second growth initiative is focused on existing well conversions to rod lift as production declines. As production from previously completed wells continues to decline, the pool of available rod lift-candidate wells continues to grow, providing us with a multiyear growth opportunity for our rod lift product line.

In the U.S., for the 12 months ended March 31, 2019, our rod lift revenues increased in the mid-single digits as our brands continue to compete well in the marketplace. We hear continued improvement in demand from pump jack manufacturers, which are positive indicators for the subsequent demand for rods and downhole pumps.

Our next growth initiative involves driving significant growth in our digital product revenues. We're focused on developing fit-for-purpose solutions, designed to improve customer productivity and operational economics as well as growing our software-related recurring revenue streams. To that end, in the first quarter, we introduced our second-generation memory tool for downhole pressure and compression monitoring. This tool lowers total cost of ownership for our customers through improved reliability and decreased power requirements. Continued adoption of our digital technologies resulted in a 28% increase in our year-over-year digital product revenue in the first quarter.

Revenue growth in the first quarter was driven by both our downhole monitoring and asset-integrity-management products.

Our fourth growth initiative is the continued innovation and advancement of our diamond sciences technology, including our polycrystalline diamond cutters. In the first quarter of 2019, our Drilling Technologies segment had 13 new patents issued, bringing the total issued patents since the beginning of 2008 to 741.

Customer adoption continues to remain strong for new technology, and that -- this resulted in 46% of our revenues in the segment in the first quarter coming from products introduced within the last 3 years.

Additionally, we continue to make good progress on exploring applications for our diamond sciences technology, outside of the oil and gas industry. Our final growth initiative is focused on driving continued adoption of our diamond bearings in downhole applications. On a year-over-year basis, revenue from our diamond bearings was up 86% in the first quarter. Sequentially, revenue from diamond bearings was up 16% in the first quarter. Revenues from our diamond bearings business represented about 17% of our Drilling Technologies revenue.

Demand for our bearings continues to be strong, and we are investing to expand our capacity. We have recently signed a lease for 40,000 square feet of manufacturing space to further expand our capacity to meet the demand.

We delivered solid financial performance in the first quarter and continue to execute well on our growth initiatives. We expect to deliver another year of positive results in 2019.

Finally, I want to thank all of our employees for their continued efforts and passion in improving lives of our customers, our employees, our shareholders and our community. I'm proud of their accomplishments, and it is a privilege for me to lead such a great team.

With that, I would like to open the call for questions.

[Operator]

[Operator Instructions] The first question in the queue comes from Jud Bailey with Wells Fargo.

[Judson Bailey, analyst]

I was wondering if we could dig in a little more on the PAT revenue composition. You highlighted the growth in U.S. ESP and international and digital year-over-year. I was wondering if you could give us maybe a little more color on kind of what was the fastest grower within that bucket. And then conversely, what contracted the most and offset the growth, just to help us get a sense of the moving pieces within PAT? That'd be great.

[Soma Somasundaram, executive]

Yes. Thanks, Jud. So let me take that by products -- broad products and geographic regions. So from a year-over-year perspective, as we mentioned, the ESP product line grew 14%. So we experienced pretty much growth in all product lines, except in our rods product line.

And as you know, rods is one of our product lines where we also have a distribution channel. That's a combination of E&P customers as well as we go through large distributors. So when we look into it, we found that in Q1 of last year, there's a little bit more inventory build with our distributors in the first quarters, which was absent this year, and a part of it is related to the decline in commodity prices as we exited in the fourth quarter of last year.

So we feel comfortable that the rod lift will sequentially grow, and we have seen that progressively getting better through the quarter.

When you look at the geographical regions, in U.S., we grew 5% year-over-year in our artificial lift -- in overall artificial lift. Canada was very challenging as you have seen. And in Canada, we almost declined 24% in artificial lift. And the rest of the world, we had a pretty solid growth across different regions.

[Judson Bailey, analyst]

Okay. I appreciate that level of detail, Soma. And then my follow-up is, you've said previously, I believe it was in a -- if U.S. market is flattish year-over-year in 2019, you anticipated the ability for ESPs to grow double digits. I just wanted to, kind of, circle back as the year has, kind of, unfolded. Any reason to think that doesn't materialize? And is the market trending maybe stronger than you would've thought when you made that statement initially?

[Soma Somasundaram, executive]

Yes. No, I think as we -- what we said in the prepared remarks, we saw strong momentum in our ESP as we exited March. So we have no reason to believe at this point that given the strength in the commodity prices and even in a flattish capital environment, we should be able to grow double digits on our ESP.

[Operator]

The next question in the queue comes from Ian MacPherson with Simmons.

[Ian Macpherson, analyst]

I wanted to, I guess, touch on the Drilling Technology side. We've been maybe a little surprised at the lack of response in the rig count to higher oil prices, just given the sort of paradigm shift with spending this year.

So we -- you've noted Canadian seasonality impacting that business negatively for Q2, but we also haven't seen the U.S. market, at least horizontal rig count, bottomed just yet.

And so I wonder how that impacts your view for the drilling bit inserts business and the bearings business for the U.S. market as we progress into the back half of Q2. If you have any -- I know it's not a long-visibility business for you, but what your thoughts are on the progression forward for the U.S. market?

[Soma Somasundaram, executive]

Yes. Thanks, Ian. Clearly, as we have reported, the first quarter, we saw really nice growth on the Drilling Technologies. And both of our product lines, both cutters, as well as bearings, grew. So if you do the math, year-over-year, we did 12%. Cutters grew almost 8%. As we reported, bearings grew 86%. So we saw a nice growth.

As we progress through the year, a couple of things on our mind is, obviously, the capital discipline that has taken hold. It's not just in the E&P environment as more and more in the oilfield services environment and as well.

And as you -- the primary customers in our Drilling Technologies segment are oilfield service companies. So as we look through the year, we feel the rest -- after the sequential decline in Q2, we will see the recovery in Q3, but it's going to be more flattish, after that, is how we are looking at it.

As we have said before that our cutter business always tends to modestly outperform the rig counts and footage drilled because of our innovation efforts. So there are projections out there which cause a rebate from flattish rig count progression to modestly down for the rest of the year when it comes to the U.S. rig count. But that will be somewhat offset by the international rig count growth.

So we feel after the seasonal recovery in Q3, it's going to be more flattish in the second half for our diamond cutter business. And...

[Ian Macpherson, analyst]

Understood. And then for my follow-up, I was looking at your year-on-year growth comps for your digital product revenues within PAT. And the 28% growth in Q1 is pretty similar to year-on-year comp you had in Q1 of last year, but then your growth accelerated to more of a 50% level for the rest of 2018. I wonder if you also see that year-on-year growth ticking up for the rest of this year in digital as it did last year.

[Soma Somasundaram, executive]

So on our digital -- and obviously we're pleased with the 28% growth. But as you know, the big part of our digital tent is also -- at this point is also hardware. And that tends to be somewhat lumpy, and we have mentioned that before that from quarter-to-quarter, sometimes that can be lumpy.

So the way we think about it is not so much from just from a 1 quarter to another quarter, we look at it as saying are we seeing healthy progression in the adoption. So the way I would describe, Ian, is you should expect us to have a healthy growth rate year-over-year on our digital. Quarter-to-quarter, there could be some spikiness in growth. But overall, it should remain healthy.

[Operator]

The next question in the queue comes from Byron Pope from Tudor, Pickering.

[Byron Pope, analyst]

Just a quick question on Drilling Technologies. So you mentioned in the earnings release, it sounds like some of the year-over-year growth in the segment was really driven by international diamond-bearings shipments. And it seems as though the diamond bearings are really tying into directional drilling and even high-end rotary steerables. And so could you just speak to the extent that you're seeing those diamond-bearing applications really resonate with some of the international directional drillers even at the high end in the rotary steerable market?

[Soma Somasundaram, executive]

Yes. We are definitely seeing this. And some of the international shipments are also to -- the large oilfield service companies, where their international drilling and the international rotary steerable have taken a stronger growth. So some of these shipments, internationally, are also to the locations of the large oilfield service companies, with whom we already do business with, Byron.

[Byron Pope, analyst]

Okay. And then it's just a quick second question. As I think about the range of the Q2 guidance, is there -- based on the line of sight that you have today, is there -- is the variability really driven more by Drilling Technologies and maybe the magnitude of spring breakup in Canada? Or is it more in the Production & Automation Technologies side? Just trying to think about the low versus high end of top line guidance and what factors really influence that.

[Soma Somasundaram, executive]

Yes. I think it's more driven by what I would call it the Drilling Technology side because that is the most short-cycle business we have, right? So I think it's more driven by that.

In the PAT side, we feel the momentum is good across product lines. So it's more around the Drilling Technology side.

[Operator]

The next question in the queue comes from Chase Mulvehill from Bank of America.

.

[Chase Mulvehill, analyst]

So I guess first I kind of want to stick to rod lift a little bit. Could you maybe talk about your 2019 outlook for rod lift? You gave us some good color on ESPs. And then also, if maybe you could touch just briefly on kind of what you're seeing in the market from a pricing standpoint on rod lift and then maybe also on ESPs.

[Soma Somasundaram, executive]

Yes. On the rod lift side, we see the -- when we see the activity progression what we've seen in the first quarter and as we have seen in April, we see nice modest sequential improvement on the monthly order rates. As you know, in rod lift, a big part of our business is daily sales, right? Because we -- these are pump shops and -- that deliver every day based on customer demands, right?

So we see that nice daily order rate improvement sequentially. So we expect that it should continue to progress through Q2 and Q3. And Q4, as you know, we tend to have that seasonal slowdown as holidays set in. And again, the budget exhaustion, we wait -- we have to wait to see how that plays out this year but we feel comfortable, the progression will be positive Q2 to Q3.

And -- but when you think about pricing, it's a challenging market when it comes to rod lift. So is there still enough capacity out there? And given the continued capital discipline focus, we are not looking at rod lift as a -- any meaningful price improvement. But I will also tell you, it is not any worse than before. So it's just that the environment doesn't offer you a lot of opportunity for price improvement. So we're very focused on these product lines on productivity, productivity, productivity and then driving productivity to offset inflation and so on and so forth.

You asked about ESP pricing environment. ESP pricing environment, it stays somewhat constructive. And that is largely driven, I would say, by availability. Because ESP is a fast-response business. So selectively, you get pricing opportunities if you have the right type of service and right type of availability.

[Chase Mulvehill, analyst]

Okay. Appreciate the color. Follow-up question. You're expanding capacity for bearings. I think in the press release, you talked about a 40,000-square-foot expansion. What -- where does your capacity stand today? So maybe we can kind of frame how much capacity expansion that is. And then what parts of the bearing market are you targeting with this capacity expansion?

[Soma Somasundaram, executive]

Yes. So as we have said before, our initial focus is on the downhole -- 3 applications on the downhole. As we talked about rotary steerable, mud motors and the downhole power generation tools.

And this capacity expansion is needed incrementally to meet the demand as the adoption continues. As we have said before in the beginning of -- towards the end of last year, we said we are roughly in the 35% adoption and -- every quarter as we see improved shipments. So we're going to need this incremental capacity.

But this 40,000 square feet is not just limited to the downhole tools alone. I think it's also planned for as we are working on the next set of applications. It will be there to support those next set of applications. This is, in addition, to already the capacity we have in-house.

[Operator]

The next question comes from Marc Bianchi with Cowen.

[Marc Bianchi, analyst]

I guess just on the Drilling Technologies business and the seasonal-down tick that's anticipated in second quarter. Is there any way that you could put some revenue and EBITDA around that? Are we talking a sub $5 million of headwind on the revenue side, and maybe something in the order of 30-or-so percent margins? Is -- if that's in the ballpark, it'd be helpful to clarify.

[Soma Somasundaram, executive]

Yes. I mean, look, Marc, it's -- we're not going to give specific numbers for various reasons. But what I would tell you is, this year, we are expecting it to be a little bit more pronounced because of how deep the rig counts have come down, right?

If you look at Canada, Q1 last year to this year, it's down about 32%. And if you look at the rig count today, in Canada, it's down another 64% to where the first part of the -- or the average recount in Q1 is. So I think that's what gives us a little bit more what I mentioned, too, is that the variation of $72 million to $76 million. We're very comfortable with that range, the $72 million to $76 million. We have done some sensitivity around it, and we are very comfortable with that range.

With respect to the decremental. You may see a little bit more decremental on that Q1 to Q2 in Drilling Technologies. It's primarily driven by the combination of either continuing to invest in our R&D efforts and the capital discipline by our customers. Then, in this case, the oilfield services customers also present some challenges for us to pass on any inflationary cost we are seeing, particularly on the material side like carbides and also some of our labor inflation, until our productivity efforts take effort to offset those. So hopefully, that helps.

[Marc Bianchi, analyst]

Okay. Yes. I mean really the focus of the question is trying to get a sense of how much of a decline is baked in second quarter because you would presumably get that back as we roll into third.

I guess maybe for Jay, the pressure vessel divestiture here, 2% of Production Automation revenue. It sounded like that's going to occur over the next couple of quarters. Is it fair to think that is not -- it's excluded from your guidance; it's treated as discontinued operations in the guidance here for second quarter?

[Jay Nutt, executive]

It's built into our forecast that we will complete that divestiture, hopefully, by the end of second quarter, because this business is immaterial to Production & Automation Technologies.

That 2% of revenue, it's got a margin that's dilutive to the segment. And to Apergy's, it's just not of core product line, given it's a fabrication business, and it doesn't have any real technology similar to the rest of the Apergy portfolio. And it will be better served in the hands of a supplier that can take that product to market.

So it's built into our guidance, but we would expect to continue to have that business through the end of Q2.

[Operator]

The next question in the queue comes from Scott Gruber with Citigroup.

[Scott Gruber, analyst]

I want to start on the P&A business. There was a bit of a decline in orders in 1Q, down about 6%. But the top line's expected to be up. So how much is the top line expected to be up? And how's the growth been achieved in light of the booking slippage?

And if you could remind us the kind of average time lag between the bookings and the revenue recognition in the segment? Some color there would be great.

[Soma Somasundaram, executive]

Yes, Scott. In -- a big part of our business in -- particularly, in the U.S. side for our PAT, tends to be very short cycle. If you look at our ESP business, if you look at our rod lift business, our plunger lift, most of the artificial lift businesses tend to be very short-cycle businesses. So there's a lot of book- and ship-type activity.

The international and parts of our digital business tend to be the ones with -- who operate on backlog. And that's why you will see this -- the book to bill is not really completely representative because it's so much activity-driven in the quarter.

[Scott Gruber, analyst]

Got it. So the growth that you're expecting in 2Q is then based upon what you're seeing in terms of a monthly improvement in bookings. Is that fair? And so the bookings you'd expect to show -- have a little bit better book to bill in 2Q?

[Soma Somasundaram, executive]

Correct. Yes. So what you're seeing is -- the momentum we're seeing in the activity pick up as we are exiting March. Because as we mentioned in our prepared remarks, it's not just -- ESP is very pronounced. We saw a very strong exit rate on our installs.

And -- but we saw the improvement in activity rate across the artificial lift of product lines. So that's what gives us that confidence that Q2, the exit rate, it should provide us a nice sequential growth for our PAT segment.

[Scott Gruber, analyst]

Understood. And then overall, one of the concerns we always hear ever since this frac holiday in 4Q is the potential impact on Apergy. Do you think you've kind of absorbed it in terms of the order rates you're seeing today? Is there still risk to come? And how do you think about the share gains that you're achieving, offsetting that risk?

[Soma Somasundaram, executive]

Yes. I think we have done some work around this, Scott, to understand how the -- what is the relationship between completions and our own artificial lift, particularly around the ESP. And what we find is, we're clearly the slow -- if there is a slow in terms of completion, at some point, it impacts our ESP installs.

But what offsets that is our share gain growth and run backs we talk about as we have said before. The ESPs, what used to be 1 ESP run, nowadays, it's more like 2 and 3 ESP runs on the same well.

So what we're seeing is that correlation is slowly breaking down. So when ran the numbers, if you go back and look at in '16, '17, '18 and '19, that correlation starts coming down. So in -- so now we feel -- while there will be an impact, but I think the run backs and our own share-gain efforts, we feel comfortable that we will still see a strong double-digit growth this year.

[Scott Gruber, analyst]

And so is the way to frame it, you still have some work to do on the share side to offset the forthcoming risk? Or do you think any forthcoming kind of -- or any hangover from the frac holidays is already being, kind of, reflected in the run rate on orders that you're seeing. And really the work you've done has offset it?

[Soma Somasundaram, executive]

Yes. I think it's the second. Where -- what we have done already should offset that. So we -- that's why I feel -- we feel comfortable where we are and still achieve that double-digit growth.

[Operator]

And the final question in the queue comes from Blake Gendron with Wolfe Research.

[Blake Gendron, analyst]

So first on Drilling Tech. Trying to frame the cutter growth irrespective of the rig-count movements. So wondering if you can give us an update on both of your penetration and the PDC bit fabrication market? And maybe the PDC penetration of the drill bid market, broadly, particular in international?

Then secondarily, we've heard of 1 or 2 private synthetic-diamond competitors perhaps entering a foray into oil and gas. Noticed, you continue to run a robust IP program, but maybe some color on the PDC versus bearing split of those patents?

And then any comment on the competitive landscape as it relates to PDC share and margin moving forward.

[Soma Somasundaram, executive]

Okay. Let me take that one at a time, Blake. So the first on the PDC penetration. As we have said before, we feel in the U.S. market, it's well into the high '90s now from a PDC penetration, especially when you think about the high-spec rigs where PDC cutters are very widely used.

Now international, we still feel it's probably in the 70%- to 75%-PDC-cutter penetration. So we feel there's an opportunity where there is continued use. We think it can move up a little bit higher from where we are today.

In terms of the new synthetic cutter manufacturers, look, we haven't -- we know the players who are today participating in the market. We haven't seen any incremental new player in addition who have -- with anybody was really taken much of business or share or anything of that nature. The ones which we talk about, our major competitors, plus some of the Asian suppliers, so we continue to monitor that competitive situation.

With respect to the PDC market environment, our customers, wherein this case, tends to be the bit manufacturers. They continue to value the technology we bring to the table. But as I mentioned before, as they are continuing to exercise capital discipline where they are focused on improving their profitability, it poses in the near term for us a challenging fighting environment where our ability to pass on inflation, pass on other cost issues, it tends to be a -- it's much harder. So what we focus on, and these are long-term customers for us, and we have successfully worked with them, so we continue to work with them. So we feel we can collaboratively work with them for mutual success.

And so what we do is we focus on productivity to offset some of this inflation. So in the near term, I would say pricing environment remains continue to be challenging in that. But we -- as our productivity efforts continue to take hold, I think we -- you should see our conversions on these businesses continue to be returning to normal.

[Blake Gendron, analyst]

Okay. Great. That's helpful. And then finally a quick one on lift. Wondering if you can give us an idea the automation opportunity split between earlier-phase lift types like ESPs and later cycle such as rod, the adoption per progress on both. I suspect a low-hanging fruit is on the rod lift side, but just curious, your thoughts there.

[Soma Somasundaram, executive]

So let me make sure I understood the question right. Is the question around the rod lift conversion? Because as we've mentioned, the ESP tends to be the first part of the installation. And then, as the wells decline, it tends to be the rod lift conversion. Is the question more around the timeline of when the conversion happens?

[Blake Gendron, analyst]

No, right. No. Around the automation opportunities. So as you grow the automation side of the business, just a split between the early-phase lift types and the later-phase lift types.

[Soma Somasundaram, executive]

Okay. Got it, got it. So Ian, as we have mentioned before, the ESP installations, they -- all of our ESP installations goes with automation. So 100% of them completely goes with automation packages.

Now in the conversion from an ESP to rod lift, generally there is automation 100% of the time. Because these wells are already functioning on automation. So when the customer converts to rod lift, they will usually go with the automation on the rod lift.

And the services they choose could vary, but usually, there'll be some type of automation on it. The bigger pool of wells or the existing producing wells, which have been out there for a long period of time, there, the adoption is dependent on our customers digital roadmap, plus the cost of automation themselves. So those are -- that's how I would describe it.

[Operator]

Thank you. That was the final question in the queue. So I'll turn the call back over to Apergy for closing remarks.

[Soma Somasundaram, executive]

Yes. Thanks again for joining us for the first quarter earnings call, and we look forward to talking to you again in our next quarter earnings call.

[Operator]

Thank you, ladies and gentlemen. This concludes today's teleconference. Thank you for participating. You may now disconnect.