Oceaneering International Inc

NYSE:OII

Earnings Call Transcript 2022-Q3

[Operator]

Good morning. My name is Joanna, and I will be your conference operator. Welcome, everyone, to Oceaneering's 2022 Third Quarter Earnings Conference Call. [Operator Instructions].

With that, I will now turn the call over to Mark Peterson, Oceaneering's Vice President of Corporate Development and Investor Relations.

[Mark Peterson, VP, Corporate Development & IR]

Thanks, Joanna. Good morning, and welcome to Oceaneering's Third Quarter 2022 Results Conference Call. Today's call is being webcast, and a replay will be available on Oceaneering's website.

Joining us on the call today are Rod Larson, President and Chief Executive Officer, who will be providing our prepared comments; and Alan Curtis, Senior Vice President and Chief Financial Officer.

Before we begin, I would just like to remind participants that statements we make during the course of this call regarding our future financial performance, business strategy, plans for future operations and industry conditions are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.

Our comments today also include non-GAAP financial measures. Additional details and reconciliations to the most directly comparable GAAP financial measures can be found in our third quarter press release. We welcome your questions after the prepared statements.

I will now turn the call over to Rod.

[Roderick Larson, President, CEO & Director]

Thanks, Mark. Good morning, everyone, and thanks for joining the call today. As is our custom at this time of the year, we're happy to be providing you with our initial thoughts on Oceaneering's 2023 outlook. As announced yesterday, we are initiating 2023 EBITDA guidance in the range of $260 million to $310 million. At the midpoint, this would represent a 25% increase over $227.5 million, which is the midpoint of our revised adjusted EBITDA guidance for 2022.

We're confident in our ability to deliver this solid improvement in 2023 based on supportive commodity prices and supply and demand fundamentals in our traditional energy businesses despite current global economic headwinds; increasing demand for our services and products in offshore renewable markets; expectations for modest growth in our Aerospace and Defense Technologies segment; emerging opportunities for our mobile robotics businesses; and increasing backlog as evidenced by our third quarter order intake of slightly more than $700 million. These fundamentals also underpin our expectation to generate $100 million of free cash flow in 2023.

Now I'll focus my comments on our performance for the third quarter of 2022, our current market outlook, Oceaneering's consolidated and business segment outlook for the fourth quarter and the full year of 2022 and our initial consolidated 2023 outlook, including the previously mentioned EBITDA guidance range and free cash flow expectations. After these comments, I will then make some closing remarks before opening the call to your questions.

Now to our third quarter summary results. Our third quarter results were driven by improved offshore activity and pricing, particularly in the Gulf of Mexico, which ticked up further during the quarter. Although the Gulf of Mexico stood out, our energy segments also saw broad-based activity increases in a number of international markets, including Asia, Africa and Australia. We produced $66.6 million of free cash flow and $77.6 million of adjusted consolidated EBITDA, which exceeded our guidance and consensus estimates for the third quarter.

Offshore activity drove significant operating improvements in our energy businesses, which were led by our Subsea Robotics, or SSR, and Offshore Projects Group, OPG, segments. In addition, increased manufacturing throughput led to improved operating margins in our Manufactured Products segment. We also saw an improvement in our government-focused businesses after experiencing the effect of negative timing during the second quarter of 2022.

For the full year of 2022, we expect our adjusted EBITDA to be within the narrowed range of $215 million to $240 million and continue to expect positive free cash flow in the range of $25 million to $75 million.

And I'd like to go off script for a moment and talk about our revised EBITDA guidance range. I think it's important to emphasize that the midpoint of our guidance range does not include us achieving the anticipated product sale in our entertainment business. Achieving this product sale, along with further improvements in pricing utilization, will drive our results to the top end of the 2022 range. So the revised range does consider the Q3 beat, but we're being cautious around the timing of the product sale.

So the offshore recovery is clearly underway. And with increasing emphasis on both energy security and development of the cleanest, safest and most reliable energy sources, I expect positive market fundamentals to support our energy-focused businesses for years to come.

In addition, with increasing competition for, and scarcity of, available labor, our mobile and Subsea Robotics businesses are experiencing heightened levels of interest as automation lowers on-site personnel requirements and enables remote supervisory control.

So now let's look at our business operations by segment for the third quarter of 2022. Subsea Robotics, or SSR, revenue and operating income both increased as expected when compared to the second quarter with higher activity levels for ROV, survey and tooling services. SSR EBITDA margins of 31% improved over the second quarter of 2022 as new contract pricing and utilization efficiencies are increasingly being reflected in our results. As disclosed in our recent press release, we received strong SSR order intake of $300 million during the third quarter of 2022.

The SSR revenue split was 77% from our ROE business and 23% from our combined tooling and survey businesses, the same as in the immediate prior quarter. Sequential ROV days on hire increased modestly with good levels of offshore activity. With an increase in drill support days and essentially flat vessel-based services, days on hire were 15,408 as compared to 14,631 during the second quarter, a 5% increase. Our fleet use was 60% in drill support and 40% in vessel-based services versus 57% and 43%, respectively, in the second quarter.

We maintained our fleet count at 250 ROV systems, and our third quarter fleet utilization was 67%, an increase from 64% in the second quarter. Average ROV revenue per day on hire of $8,468 was 2% higher than average ROV revenue per day on hire of $8,278 achieved during the second quarter. At the end of September, we had a 59% drill support market share with ROV contracts on 82 of the 140 floating rigs under contract, a slight improvement over the 58% recorded for the quarter ended June 30, 2022, when we had ROV contracts on 80 of the 137 floating rigs under contract.

Turning to Manufactured Products. Sequentially, our third quarter 2022 operating results improved despite an 11% decrease in revenue. Operating income and related margin percentage of $4.3 million and 5%, respectively, improved measurably from the second quarter of 2022, due primarily to increased manufacturing throughput in our subsea hardware businesses. Activity levels have improved in our nonenergy mobility solutions businesses, and we are increasingly optimistic about the fundamentals of these businesses headed into 2023.

Order intake during the quarter was solid with Manufactured Products backlog increasing to $365 million on September 30, 2022, from $335 million on June 30, 2022. Our book-to-bill ratio was 1.17 for the 9 months ended September 30, 2022, and was 1.08 for the trailing 12 months.

Offshore Projects Group, or OPG, third quarter 2022 operating income increased as compared to the second quarter of 2022 on a 31% increase in revenue. Strong seasonal activity in intervention and installation work, primarily in the Gulf of Mexico, drove the improved results. Operating income margins remained in the mid-teens at 13%, but declined slightly from the 15% margin achieved in the second quarter due to slight changes in service mix. The Gulf of Mexico continued to see high levels of demand and pricing for vessel-based services during the third quarter of 2022.

Integrity Management & Digital Solutions, or IMDS, third quarter 2022 operating income declined slightly from the preceding quarter on 2% less revenue. Revenue declined as customers, particularly in Europe, delayed inspection programs and kept facilities running to support energy security priorities. Operating income margin of 5% declined from the 6% recorded in the second quarter of 2022, due primarily to the continuing impacts of employee wage inflation.

Aerospace and Defense Technologies, or ADTech, third quarter 2022 operating income increased significantly from the second quarter on essentially flat revenue. Operating income margin of 15% improved significantly from the second quarter of 2022, reflecting recovery of prior quarter pre-contract costs and favorable project mix. Unallocated expenses of $30.9 million were less than expected and slightly lower than the second quarter of 2022.

Now I'll address our outlook for the fourth quarter of 2022. On a consolidated basis, we believe that our fourth quarter 2022 EBITDA will decline on a relatively flat revenue as compared to our third quarter results. In the fourth quarter of 2022, while we anticipate a seasonal slowdown, we still expect relatively good activity in our offshore markets. Broadly, for the fourth quarter of 2022, as compared to the third quarter, we expect slightly lower activity in our energy segments, lower operating profitability in our ADTech segment and increased unallocated expenses.

For our fourth quarter 2022 operations by segment, as compared to the third quarter of 2022, for SSR, we are projecting slightly lower revenue and operating profitability. ROV days on hire are forecast to decline slightly as compared with the third quarter, with slightly higher drill support days being more than offset by a seasonal decline in vessel-based days. We expect good survey activity to continue during the fourth quarter.

Our forecast assumes overall ROV fleet utilization to be in the mid-60% range. SSR adjusted EBITDA margin is anticipated to remain in the low 30% range for the fourth quarter of 2022. As of September 30, 2022, there were approximately 16 Oceaneering ROVs onboard 12 of the 14 floating rigs with contract terms expiring by year-end. During the same period, we expect to have 39 ROVs on 35 of the 53 floating rigs starting new contracts.

For Manufactured Products, we anticipate an increase in revenue and operating profitability as compared to the third quarter with operating income margin in the mid-single-digit range. This guidance does not include the anticipated product sale within our entertainment business, although we remain confident that this transaction will ultimately close. Award activity continues to look promising in our energy products businesses, and we are seeing a definite increase in interest in our mobility solutions businesses. We continue to forecast a book-to-bill ratio of between 1.1 and 1.3 for the full year of 2022.

For OPG, we expect significantly lower revenue and operating profitability in the fourth quarter of 2022 due to typical lower seasonal activity. That said, fourth quarter activity levels are still expected to be much stronger than during the same quarter over the last several years with revenue expected to be similar to the second quarter of 2022. Fourth quarter 2022 operating income margin is expected to be slightly lower than what we achieved in the third quarter.

For IMDS, we expect slightly lower revenue and operating results as compared with the third quarter of 2022. For ADTech, we forecast modestly higher revenue and lower operating income as compared to the third quarter. We expect operating income margin to decline during the fourth quarter as a result of the absence of pre-contract cost recovery that occurred in the third quarter and higher indirect expenses.

For the fourth quarter, we expect operating income margins to be in the high single to low double-digit range. Unallocated expenses are expected to be in the mid-$30 million range.

For the full year of 2022, we expect to generate adjusted EBITDA within the narrowed range of $215 million to $240 million. Our guidance for organic capital expenditures remains in the range of $70 million to $80 million and our guidance for cash income tax payments remains in the range of $40 million to $45 million. We continue to expect to generate positive free cash flow between $25 million and $75 million for the full year of 2022.

And now turning to our free cash flow and debt position. Our cash flow from operations for the third quarter of 2022 was $85.9 million and was the primary driver in the increase in our cash and cash equivalents to $428 million as of September 30, 2022. At the end of the third quarter, our net debt position stood at $274 million. With our strong cash position and additional liquidity from our undrawn revolving credit facility, we remain well positioned to address the maturity of our 2024 senior notes.

Now looking forward to 2023. Supportive commodity prices and the increasing importance of energy security underpin our expectations for a strong 5-year outlook in our offshore energy businesses. With energy transition expected to require an all of the above solution across energy sources, we are well positioned to support our customers in enabling the production of cleaner, safer and more reliable energy from traditional sources.

At the same time, we are also currently supporting our customers in the evolving offshore renewables market where we see strong growth in the medium term. National security priorities support our expectation for continued modest growth in our government-focused businesses. In aggregate, we see solid fundamentals supporting each of our current businesses over the next 5 years, while we also continue to grow the company by leveraging our core robotics expertise into new energy and mobile robotics markets.

Accordingly, looking into 2023 year-over-year, we are anticipating increased activity and improved operating performance across all of our operating segments, led by gains from SSR and OPG. At this time, we forecast EBITDA in the range of $260 million to $310 million in 2023, driving healthy levels of cash flow from operations.

In 2023, we expect capital expenditures to be higher than 2022 as we continue to focus on opportunities generating the highest returns both in our traditional businesses and new high-growth markets. But to be clear, we remain very focused on capital discipline and expect to generate positive free cash flow in excess of $100 million. We will provide more specific guidance on our expectations for 2023 during the year-end reporting process.

So in summary, based on our year-to-date financial performance and expectations for the fourth quarter of 2022, we are narrowing our adjusted EBITDA guidance to a range of $215 million to $240 million for the full year. We continue to see incremental growth in all of our segments in 2023 despite the challenges facing the current global economy that may suppress energy demand.

We believe that energy security priorities, combined with the lack of investment in traditional energy sources over the past many years, will continue to prompt operator spending across all energy sources even in a challenging near-term environment. And we expect heightened focus on national security issues to foster modest growth in our government-focused businesses. These factors, combined with the emerging opportunities to apply a robotics expertise into new markets, both in energy and non-energy, further underpin our general expectation for increased activity levels over the foreseeable future.

Our focus continues to be on maintaining a strong, safety culture and safety performance, maintaining our financial and capital discipline, generating significant positive free cash flow, managing our 2024 debt maturity, attracting and retaining top talent and increasing our pricing and margins to generate a fair return for our world-class services and products.

Optimizing each of these priorities positions us for success during the energy transition while providing increasing opportunities to provide returns for our shareholders. We appreciate everyone's continued interest in Oceaneering, and we'll now be happy to take any questions you may have.

[Operator]

[Operator Instructions]. First question comes from James Schumm at Cowen.

[James Schumm, Cowen and Company]

Congrats on a great quarter. Just wanted to talk about the entertainment sale and manufactured products. I mean how confident are you that the sale occurs over the next 6 months? Like how likely is it?

[Roderick Larson, President, CEO & Director]

I think we're very confident that we will be able to achieve it over the next 6 months. And as I mentioned in my break, it's just a matter of whether we can get that in by the end of the year. So that kind of is what we believe the traditional businesses have put us solidly at that midpoint, especially given the Q3 beat. But that sale would represent pushing us to the upside of our range.

[James Schumm, Cowen and Company]

Understood. Okay. And then the ADTech business seems to have been a victim of timing on some government projects this year. Do you think this will be an ongoing issue or do you think it's resolved?

[Roderick Larson, President, CEO & Director]

So I don't think it's resolved for the government, let me be clear. But we were in a position where a lot of the work that we were either looking to tender or re-tender, refund some of our current projects. We had a lot kind of riding on the first part of this year, and we don't have the same situation next year. So we don't expect the same impact in the coming couple of quarters.

[James Schumm, Cowen and Company]

And is there any way that you can protect yourself in some of these contracts with the government to sort of prevent...

[Roderick Larson, President, CEO & Director]

I think the best thing we do is we have sort of a ladder of contracts, right? If you think about it that way, that we've got a number of contracts so that even though each contract in and of itself is lumpy, having a portfolio of them and having a number of different product -- of projects that we're working on sort of offsets any big swings in any given quarter or half.

[Operator]

[Operator Instructions]. Next question comes from Samantha Hoh at Evercore ISI.

[Kay Hoh, Evercore ISI]

I just wanted to echo the congrats on a nice quarter. I was wondering on the SSR quarter that you announced and that $300 million of intake, can you split that for us between drill support and vessel-based services?

[Alan Curtis, SVP & CFO]

I don't have that at the top of hand, Samantha. I think most of it is going to be drill support though. I mean the preponderance of it is probably 80%, just a rough estimate, looking at it at this point because some of these contracts are going out up to 5 years, I think, in duration. So we're not seeing any of that on a vessel at this point in time.

[Roderick Larson, President, CEO & Director]

And I think that's representative of the number of rigs that are coming on, as I mentioned earlier. So those 35 new rigs coming on, some of that is related to those new contracts.

[Alan Curtis, SVP & CFO]

Yes. And the other part of it, Samantha, it sometimes doesn't get as much attention as -- some of this is coming from our survey business, which rolls up into the SSR segment as well. So sometimes it doesn't get as much fanfare, but we have seen an uptick in that activity as well.

[Kay Hoh, Evercore ISI]

Okay. And just for the longer duration type contracts, what sort of language is there to adjust -- like pricing or cost inflation adjustment and things like that?

[Alan Curtis, SVP & CFO]

It's going to be contract dependent. I mean, many times, what we're trying to achieve is the ability to re-price or build in inflationary mechanisms so that if we see increases, those would be passed on to the contract as well.

[Roderick Larson, President, CEO & Director]

I think in the longer term, one of the things that we count on, too, Samantha, is new technology, is the ability to upsell within these contracts and continue to roll over to new products, new technology and new opportunities. So if the contract runs long, we still have those things going on behind the scenes.

[Kay Hoh, Evercore ISI]

For your growth, you highlighted that you're targeting expanding robotics into some of the new energies. Would that all be rolled up into this segment down the line? If so, will we also see like the CapEx spend as well?

[Roderick Larson, President, CEO & Director]

That's a great question. So let me break it out a little bit for you. When we talk about some of that automations, robotics inside of SSR, there is some. So in both the survey business and the ROV business, we have this opportunity to do more remote piloting. We have the opportunity to do more freedom work, liberty work, where we've got a remotely operated vehicle or an autonomous vehicle. So that's largely what we talk about in the ROV side.

And then when we get over to our mobile robotics business, which is inside of Manufactured Products, that's also exciting. That's what we're talking about plant floor automation, we're talking about enhanced entertainment opportunities with ride systems, we're talking about people movers, inside that automated forklifts, things like that.

So you've got 2 different pieces that sit in 2 different businesses. One of them focused on -- and I'm not going to just say energy, but focused on offshore and one of them focused on more terrestrial applications.

[Kay Hoh, Evercore ISI]

Okay. Maybe just also the free cash flow guide, I think, was kind of in line with what we were expecting. Do you have a view -- or what are your expectations in terms of like free cash flow conversion on EBITDA longer term? Is that like 40-ish percent range, what you think of as achievable through cycle or -- how does that compare to what -- how you think about it compared to the last cycle?

[Roderick Larson, President, CEO & Director]

I'm going to throw out an easy one first while Alan is kind of looking at its numbers a little bit. But I think one of the things it's going to be dependent on is really how much investment we want to make. Because some of these robotics, things that we just talked about, are going to have some capital requirements. And so as we see sort of some opportunities come up there, we may have some things -- those best opportunities that we want to invest in. But if we just look at the base of business, I'll turn it over to Alan.

[Alan Curtis, SVP & CFO]

Yes. And Samantha, I think you're directionally correct. When you look at next year's midpoint guidance range of $285 million of EBITDA, we kind of set the -- we expect to be better than $100 million thereabouts on free cash flow. So that would imply a 35% or better using the midpoint and low end of the anticipated free cash flow.

[Operator]

Next question comes from Eddie Kim at Barclays.

[Sungeun Kim, Barclays Bank]

So you've had really good momentum here in OPG the past 2 quarters, especially on the margin front. Looking back historically during the 2011 to 2014 time frame, margins were kind of at the high teens level in this segment, and we're actually not that far away. So just given the higher activity you're seeing, could we potentially see margins return to that high teens level in OPG maybe even next year? And what would need to take place for that to happen?

[Roderick Larson, President, CEO & Director]

So Eddie, I think a couple of things we want to watch, and they're both mix. One of them is the mix of the kinds of work we're doing, intervention work versus installations. So as we start to see more and more of that intervention work, I think you see margins push up.

And then the other thing is mix of international to Gulf of Mexico. When we have the higher margins, it did imply a higher mix of things outside the Gulf, more international work and we are pursuing more of that work. So I think as we start to see that mix shift to more international, yes, we'll start to be exposed to those kind of margins again.

[Sungeun Kim, Barclays Bank]

Understood. And just all your vessels currently are in the Gulf of Mexico, if I'm not mistaken. Just wondering if that's correct?

[Alan Curtis, SVP & CFO]

No, Eddie. Actually, we have some vessels that we charter in and operate over in West Africa. So we've been -- long time, we've utilized the Ocean Intervention III as a charter vessel into the market there as well as we've had the Island Frontier working quite a bit this year as well.

So -- and we charter in other ones on an as-needed basis as well. So typically 2, 3 vessels operating outside. We have a charter vessel that we've done some work, call it, abandonment work as well or decom work in the North Sea. So we charter in on more of a project-specific basis on an international scheme.

[Roderick Larson, President, CEO & Director]

And to Alan's point, that could be IMR, the installation or it could be survey.

[Sungeun Kim, Barclays Bank]

Got it. Got it. Understood. And then just -- quickly, just shifting to the ROV business. I mean day rates are now kind of at $8,500. I mean we haven't seen that level for several years. I mean just given the momentum you're seeing here, with all the contracts we've been seeing lately on offshore rigs, plus the $300 million award you recently announced, do you feel you have visibility into day rates potentially eclipsing $9,000 at some point next year? Or do you think that would be a bit of a stretch at this point?

[Alan Curtis, SVP & CFO]

Eddie, I think it might be within reach over time. And I think it really gets down to the number of ROVs that -- we're going back in and trying to re-price on all contracts at this point. But as we look at those contracts that are really maturing in the next 12 months that are ripe for, I'll say, re-pricing. And then we have other ones in '24.

So can we get to $9,000? I think it's going to depend if we can get as many of them into '23 as we can and how early in the year we get them there. We might have an exit rate closer to $9,000 by the back end of the year would be my expectation for an exit rate, not for an average for the year.

[Roderick Larson, President, CEO & Director]

Yes, as I mentioned earlier, when I was talking to Samantha, I think upselling is part of that to get the day rates up. Right now, we're facing some FX headwinds. So in the mix, depending on how that goes, that can give us a little bit of help, too, if there's some balance there.

So we've got a few different things. And again, just like I said before, the geographical mix matters on ROVs as well. So -- but to Alan's point, line of sight, yes, but we probably get a couple of things to line up for us.

[Operator]

There are no further questions. You may proceed.

[Roderick Larson, President, CEO & Director]

All right. Well, since there are no more questions, I'd like to wrap up by thanking everybody for joining the call. And this concludes our third quarter 2022 conference call. Thank you.

[Operator]

Ladies and gentlemen, this concludes your call for today. We thank you for participating, and we ask that you please disconnect your lines.