Cactus Inc

NYSE:WHD

Earnings Call Analysis

Cactus Q3 2024: Resilience Amid Market Challenges

In the third quarter of 2024, Cactus reported a revenue of $293 million, a slight sequential increase of 1%, while adjusted EBITDA fell 3% to $100 million. The Pressure Control segment saw revenues decrease by 1.1%, highlighting market pressure, while Spoolable Technologies revenue rose 4.3%. For Q4, guidance suggests a mid-single-digit revenue drop in Pressure Control, with adjusted EBITDA margins expected between 33% and 35%. The Spoolable segment anticipates a mid- to high-single-digit revenue decline, with margins forecasted between 36% and 38%. The company maintains a strong cash balance of $303 million and declared a dividend of $0.13 per share.

Resilience Amidst Market Challenges

In the third quarter, despite ongoing declines in U.S. land rig activity, the company reported strong revenue figures of $293 million, marking a 1% increase sequentially. The growth was driven by their Spoolable Technologies segment, which achieved record revenue growth despite the broader market's subdued conditions.

Segment Performance Insights

The Pressure Control segment saw revenues of $185 million, a slight decline of 1.1% sequentially. This drop was attributed to unexpected shipments of production equipment in the second quarter that did not recur. The Spoolable Technologies segment outperformed with a sequential revenue improvement of 4.3%, largely due to resilient customer activity in the domestic market.

Profitability Metrics

Adjusted EBITDA for the quarter totaled $100 million, reflecting a 3% decrease from the previous quarter. The adjusted EBITDA margin stood at 34.2%, down from 35.7%, largely influenced by charges related to customer bankruptcies and legal claims. Operating income in Pressure Control fell by $3.1 million, or 5.6%, due to further market challenges.

Outlook for Future Quarters

Looking ahead, the fourth quarter is expected to see a mid-single-digit dip in Pressure Control revenue due to lower average U.S. land drilling activity and seasonal factors. Adjusted EBITDA margins for this segment are projected to range between 33% to 35%. The Spoolable Technologies segment might experience a revenue decline in the mid- to high-single digits quarter-over-quarter, with EBITDA margins anticipated at around 36% to 38%.

Cost Management and Financial Health

The company is taking a disciplined approach to cost management, expecting costs to trend lower due to efficiency improvements and supply chain diversification. This is expected to bolster margins in the coming years. Cash and cash equivalents rose to $303 million, an increase of $57 million, and the company plans to maintain its quarterly dividend of $0.13 per share.

International Expansion and Future Prospects

Cactus is focusing on establishing a business in the Middle East while also observing success in international markets, where revenues from Spoolable Technologies already doubled 2023's full-year performance. The management believes international business could potentially represent 40% of Spoolable's revenue in the coming years.

Addressing Strategic Opportunities

The executives expressed a commitment to examining appropriate acquisition opportunities, maintaining a robust cash position for potential strategic moves while also addressing shareholder value through potential cash returns if acquisition opportunities do not materialize.

Earnings Call Transcript 2024-Q3

[Operator]

Good day, and thank you for standing by. Welcome to the Cactus Q3 2024 Earnings Call. [Operator Instructions] Please be advised that today's conference is being recorded.

I would now like to hand the conference over to your first speaker today, John Fitzgerald. Please go ahead.

[John Fitzgerald, executive]

Thank you, and good morning. We appreciate you joining us on today's call. Our speakers will be Scott Bender, our Chairman and Chief Executive Officer; and Jay Nutt, our Chief Financial Officer. Also joining us today are Joel Bender, President; Steven Bender, Chief Operating Officer; Steve Tadlock, CEO of FlexSteel; and Will Marsh, our General Counsel.

Please note that any comments we make on today's call regarding projections or expectations for future events are forward-looking statements covered by the Private Securities Litigation Reform Act. Forward-looking statements are subject to a number of risks and uncertainties, many of which are beyond our control. These risks and uncertainties can cause actual results to differ materially from our current expectations. We advise listeners to review our earnings release and the risk factors discussed in our filings with the SEC. Any forward-looking statements we make today are only as of today's date, and we undertake no obligation to publicly update or review any forward-looking statements.

In addition, during today's call, we will reference certain non-GAAP financial measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are included in our earnings release. With that, I will turn the call over to Scott.

[Scott Bender, executive]

Thanks, John, and good morning to everyone. I'm pleased to report our third quarter results, which highlighted the unique resilience of both of our business segments. Despite the continued decline in U.S. land rig activity, total company revenue improved sequentially during the third quarter. Our Spoolable Technologie segment reported record quarterly revenue. As I noted on last quarter's call, we expected that most of the domestic activity decline was behind us. While that has largely played out as anticipated, softer activity continued throughout the third quarter. Given the subdued market conditions, I continue to be very proud of our associates' ongoing commitment to customer execution that's led to this consistent record of outperformance.

Some third quarter total company highlights include revenue of $293 million, adjusted EBITDA of $100 million, adjusted EBITDA margin of 34.2%, and we increased our cash balance to $303 million. I'll now turn the call over to Jay Nutt, our CFO, who will review our financial results in more detail. Following his remarks, I'll provide some thoughts on our outlook for the balance of the year before opening the lines for Q&A.

[Jay Nutt, executive]

Good morning. As Scott mentioned, we had another solid quarter, resulting in total Q3 revenues of $293 million, which were up 1% sequentially. Total adjusted EBITDA of $100 million was down 3% sequentially. For our Pressure Control segment, revenues of $185 million were down 1.1% sequentially, as unforecasted shipments of production equipment that benefited the second quarter didn't repeat to the same extent during this period.

Operating income decreased $3.1 million, or 5.6% sequentially, with operating margins decreasing 130 basis points. The decline in operating margin was driven by miscellaneous charges incurred in the quarter, including reserves taken in connection with customer bankruptcies and other litigation claims. Adjusted segment EBITDA decreased $3.3 million, or 5.1% sequentially, with margins decreasing by 140 basis points for the reasons just noted. Excluding the aforementioned charges, segment adjusted EBITDA margins were essentially flat versus the second quarter.

In our Spoolable Technologies segment, revenues were up 4.3% sequentially due largely to resilient domestic customer activity. Operating income increased $2.9 million sequentially, primarily due to lower expense booked as a result of the remeasurement of the earn-out liability associated with the FlexSteel acquisition, offset by some higher input costs. Note that the earn-out liability was paid in full and closed out during the quarter. Adjusted segment EBITDA at $42.5 million was flat sequentially, while margins decreased by 160 basis points, resulting from the increased input cost.

Corporate and other expenses were $8.7 million in Q3, up $2.8 million sequentially, resulting from professional fees associated with pursuit of an inorganic growth opportunity that we're no longer pursuing. Adjusted EBITDA was flat sequentially. On a total company basis, third quarter adjusted EBITDA was $100 million. Adjusted EBITDA margin for the third quarter was 34.2% compared to 35.7% for the second quarter. Adjustments to total company adjusted EBITDA during the third quarter include noncash charges of $5.6 million in stock-based compensation, $100,000 charge related to the final remeasurement of the FlexSteel earn-out liability upon settlement, and the $2.8 million for professional fees associated with the evaluation of an inorganic growth opportunity. Depreciation and amortization expense for the third quarter was $15 million, which includes $4 million of amortization expense related to intangible assets resulting from the FlexSteel acquisition. During the quarter, the public or Class A ownership of the company averaged and ended the period at 84%.

GAAP net income was $62 million in the third quarter versus $63 million during the second quarter. The slight decline was primarily driven by the professional fees incurred at corporate, mostly offset by small quarterly changes in the remeasurement of the FlexSteel earn-out liability. Book income tax expense during the third quarter was $16 million, reflecting an effective tax rate of 21%. Adjusted net income and earnings per share were $63 million and $0.79 per share, respectively, compared to $65 million and $0.81 per share in the second quarter. Adjusted net income for the third quarter was net of a 26% tax rate applied to our adjusted pretax income.

During the quarter, we paid a dividend of $0.13 per share, resulting in a cash outflow of approximately $11 million, including related distributions to members. Additionally, we paid $37.1 million to close the FlexSteel earn-out liability. The final payment associated with the 2023 TRA liability was deferred to the fourth quarter. This residual payment is approximately $5.5 million, excluding accrued interest and associated distributions.

Due to our continued strong operating earnings and disciplined working capital management, we increased our cash and cash equivalents balance by $57 million, notwithstanding the aforementioned payments, and we closed the quarter with a cash balance of $303 million. Capital spending was $10 million during the third quarter.

In a moment, Scott will give you our fourth quarter operational outlook. Some additional financial considerations when looking ahead to the fourth quarter, including effective tax rate similar to the third quarter rate of 22% and an estimated tax rate for adjusted EPS of approximately 26%. Total depreciation and amortization expense during the fourth quarter is expected to be $15 million, with $6.5 million associated with our Pressure Control segment and $8.5 million in Spoolable Technologies.

Our full year 2024 CapEx outlook has been reduced to be in the range of $32 million to $37 million due to the timing of equipment receipts and our international expansion efforts. Finally, the Board has approved a quarterly dividend of $0.13 per share, which will be paid in December.

That covers the financial review and outlook, and I will now turn the call back over to Scott.

[Scott Bender, executive]

Thanks, Jay. I'll now touch on our operational expectations for the fourth quarter by reporting segment. Based upon preliminary revenue for October, we expect Pressure Control revenue to reflect a mid-single-digit dip versus the third quarter due to the combination of lower average U.S. land drilling activity and seasonal factors, including potential customer budget exhaustion. These factors are resulting in less visibility into production equipment shipments around year-end. Although we are closely monitoring the potential impacts of operator consolidations, preliminary discussions with our current customers indicate activity increases in the early part of next year.

Adjusted EBITDA margins in our Pressure Control segment are expected to be 33% to 35% for the fourth quarter as cost management and ongoing cost efficiencies are expected to offset the impact of the anticipated revenue decline. The adjusted EBITDA guidance excludes approximately $3 million of stock-based comp expense within the segment. We believe product costs will trend lower during the second half of 2025 due to ongoing efficiency improvements as well as our supply chain diversification efforts.

Regarding our Spoolable Technologies segment, we expect fourth quarter revenue to be down in the mid- to high-single digits quarter-over-quarter. As a reminder, seasonal declines approaching 10% in this business during the fourth quarter are not uncommon. We expect adjusted EBITDA margins in this segment to be approximately 36% to 38% in Q4, which excludes $1 million of stock-based comp in the segment. Lower operating leverage in Q4, combined with some ongoing higher material costs, are the primary drivers of the expected Q4 margin progression. The higher material costs that impacted results during the third quarter are expected to persist through year-end before easing. These higher material cost increases have been partially the result of spot purchases to address increased demand relative to prior expectations. Additionally, we look forward to expanding the benefits of using the Pressure Control supply chain to source certain components of our FlexSteel products in 2025. This initiative, in combination with supply chain improvements, could improve margins by over 100 basis points in this segment by the end of next year. Adjusted corporate EBITDA is expected to be a charge of approximately $4 million in Q4, which excludes approximately $1.7 million of stock-based comp.

Regarding our international expansion plans, we remain focused on establishing a Mideast business, and we'll continue to take a disciplined approach to evaluating strategic opportunities. We continue to dedicate significant resources in both segments. As an example of our success to date, international revenue in Spoolable Technologies for 2024 has already doubled 2023's full-year performance.

While the U.S. market continues to be challenging, I remain optimistic and very pleased with the market positioning of Cactus, our portfolio of high-margin, high-return products and services, and the commitment of our organization to exceed customer expectations. I'm eager to responsibly roll out our latest generation wellhead system to our customers to enable them to achieve reduced drilling times while enhancing safety and reliability. In addition, we will complete prototype testing of our new frac valve design, which will significantly reduce maintenance costs.

In summary, our primary objectives for the next year remain unchanged and include meaningful contributions from our new non-Section 301 manufacturing facility to enhance the cost and risk profile of our supply chain, increased availability of our next-generation wellhead system, continued customer additions, and increases within our customer base for both segments, supported by the introduction of new products and services and international expansion in both segments.

And with that, I'll turn it back over to the operator, so we may begin Q&A. Operator?

[Operator]

[Operator Instructions] Our first question comes from the line of Arun Jayaram of J.P. Morgan Securities LLC.

[Arun Jayaram, analyst]

I'm going to ask for maybe a little grace this morning. Yes, quickly, I'd love to hear your thoughts on, obviously, you pursued an inorganic growth opportunity. I'd love to hear about just thoughts on your overall portfolio and strategically at a high level, how are you thinking about augmenting the portfolio? Obviously, you've had a really, really interesting acquisition with spoolables, which has been really, really successful. But I wanted to get your thoughts on just the portfolio.

[Scott Bender, executive]

Okay. That's your only question?

[Arun Jayaram, analyst]

I have a follow-up.

[Scott Bender, executive]

How do you know you have a follow-up when I haven't answered this question? Okay. I've changed my medication. I guess I'm a little snarkier than normal. Okay. So, I think that consistent with what I've always said before, our primary objective would be international. However, should another FlexSteel looking opportunity presents itself, we would take advantage of that. We have the balance sheet. You know that. We have the capacity in terms of our line of credit. And when I think about FlexSteel that even after the earn-out payment -- we paid what, John, $630 million, $640 million [indiscernible], they've already given us back $190 million. So I'd be foolish in terms of value for our shareholders and not looking at that. But primarily, it would be an international opportunity that I would focus on.

[Arun Jayaram, analyst]

Understood. And just maybe a separate question. We're just days away from the election, and I'm not going to ask you to comment who you think is going to win. But one of the candidates has talked a lot about tariffs. And I just wanted to get your general thoughts on that. It does appear that you're mitigating that risk through your expansion to a third manufacturing base. But just talk about that general risk and how you're thinking about that for Cactus, just given your current production base between the U.S. and China.

[Scott Bender, executive]

Yes. I would say that of all of our competitors, we're in the best position because we have Bossier City that takes care of about half of what we produce. That's the first point. The second point is every one of our competitors imports goods, and most of them obviously import goods from China where Section 301 applies. The big question is, will tariffs increases be applied disproportionately to China? Will they be -- we've heard President Trump say he's going to apply tariffs everywhere. I've heard numbers as high as 200%, I've heard 60%. I really don't know. I think that he's going to get tremendous pushback. And we've even heard Kamala say that she wanted to increase tariffs. Of all of our competitors, I think that this move that we're making right now, and will be complete by the end of next year, that coupled with Bossier City, gives us a significant competitive advantage. And keep in mind that FlexSteel is 100% U.S.

[Arun Jayaram, analyst]

Yes. You make that in Baytown, right? That product?

[Scott Bender, executive]

Yes.

[Arun Jayaram, analyst]

Okay.

[Scott Bender, executive]

But anyway, short answer is, I think we're in the best position of anybody I know in this business.

[Operator]

Our next question comes from the line of Scott Gruber of Citigroup.

[Scott Gruber, analyst]

I wanted to ask a follow-up to Arun's question. You mentioned continued interest in pursuing acquisitions, but I can't help but notice that your cash balance keeps rising after another strong free cash quarter. So should the expectation be that you'll continue to grow the cash balance as you pursue acquisitions? Or is there a level of cash at which you'd consider returning some of it to shareholders? Just your latest thoughts on cash balance and deployment.

[Scott Bender, executive]

That's a good question, Scott. We have too much cash. So if we weren't interested in actively pursuing some expansion, I would have returned this cash already. So there is a -- like I told you before, when you were all very patient about our growing cash balance, I asked you to be patient because we were looking at some things. There'll be a point in time, if nothing actually occurs and I would suggest that by the end of the year, by the end of the coming year, when we would increase the amount of cash that we return to our shareholders. We do not have, frankly, an optimal capital structure right now. But you also know, Scott, I have this tremendous aversion to debt.

[Scott Gruber, analyst]

Right. And that's by the end of '25, just to be clear. You can let it build for a few more quarters.

[Scott Bender, executive]

Yes.

[Scott Gruber, analyst]

Okay.

[Scott Bender, executive]

Yes.

[Scott Gruber, analyst]

And then just a follow-up on getting your wellhead system qualified in the Middle East. Can you just provide an update on that process and timing of building a facility there? Seems to be push to the right a bit, but some color there would be great as well.

[Scott Bender, executive]

Okay. I think that we're continuing our testing. And I don't think, frankly, that testing is the limiting factor. It's the decision about the direction that we're going to go. And so, I wouldn't worry about the former. We have several alternatives. And this has taken us way longer than I had expected, but we are, by nature, very cautious people. But, Scott, it's full speed ahead. We're going to get this done. It's just, we're going to get it done in a very responsible way. I'm incredibly proud that we have survived all of this without ever having to take an impairment charge, and I don't intend to ever take an impairment charge. So just bear with us, Scott. I'm going to tell you, trust me, because I've never lied to you. I'm not going to lie to you now.

[Operator]

Our next question comes from the line of Stephen Gengaro with Stifel.

[Stephen Gengaro, analyst]

I think the first one, when we think about what we see in the U.S. from a consolidation perspective and feels like the dynamics of the business have changed. Have you seen much change from your perspective in your conversation with customers versus prior cycles and how they either utilize or view your high-performance products versus peers and pricing? I know you don't love to talk about pricing, but just in general, has the world changed much versus prior soft periods?

[Scott Bender, executive]

Yes, because -- I've spoken about this before. We're going to see -- I used to laugh. I remember -- do you remember when Scott Sheffield made this comment about he expected there to be only 5 or so operators left in the Permian?

[Stephen Gengaro, analyst]

Yes.

[Scott Bender, executive]

And I thought, gee whiz, is that possible? Well, I still don't believe it's possible. But I do believe now that we might see a large percentage of the market controlled by just a handful of majors. This is the first time I've ever seen that. And I think that with that comes a serious high-grading of their supply chain and high grading of their supply chain is a net positive for us. I think that some of our smaller competitors are going to have a very difficult time because we're moving much more this time from relationship buying to technical buying. And that means that the host of small independent wellhead providers are going to struggle. So I think that while you've heard me say before, when company A with 20 rigs buys company B with 20, it doesn't end up at 40. I think that's still true. But I do think that in terms of market share, this would bode well for us.

[Stephen Gengaro, analyst]

And my follow-up, I'm not sure you want to go here quite yet. But when we think about '25 and you think about what you laid out for this fourth quarter softness, and I think you said some customers maybe have some indication of maybe small increases early next year. But do you think in a flattish -- if the rig count is kind of flattish from current levels, that Cactus can deliver modest growth in EBITDA next year?

[Scott Bender, executive]

Yes.

[Stephen Gengaro, analyst]

Okay, good. That's how we model. So I'm glad you said that.

[Operator]

Our next question comes from the line of David Anderson with Barclays.

[John Anderson, analyst]

So a question on the level of sales per rig in the second quarter in Pressure Control. You highlighted how they were much higher and they're going to revise a bit lower in fourth quarter. Can you just expand a little bit more about how that moves up and down? I would think the wellhead demand relative to rigs would stay pretty consistent. So is it really just a function of utilization of the rest of the [ kiln ] on your site? And there's a shift in 4Q. Is that just a function of just, as you said, customers just a little bit more overly cautious on the rest of your business?

[Scott Bender, executive]

Yes, David, it really is. It's primarily impacted by the production tree call-offs. And they are so difficult to predict. So we see customers take a large number of production trees, then they go quiet, then they take a large quantity of production trees, and that's really the primary driver for the change in revenue per rig.

[John Anderson, analyst]

So I was looking at the model going back over time and getting back to this hypothetical tariff question. That happened in '18. So in '19 and '20, your revenue per rig went up substantially. And I'm just thinking back, and I don't remember -- maybe you can refresh my memory a little bit here. I don't remember you necessarily expanding your manufacturing in the U.S. or did you? And I guess my question is, is this just a natural function, hey, you're making this in the U.S. versus out, so you can provide a lower cost to your customer, therefore, share increases and the like. Do you think the same thing can happen again this time? Would you do anything different? Do you ramp up manufacturing capacity like faster?

[Scott Bender, executive]

Are you asking me if we would ramp it up faster in the U.S.?

[John Anderson, analyst]

Well, yes, right. And would you have done anything different the last time? Or is it just a natural function of how this transitions. So I'm just looking at the numbers back in '19 and '20, they went up substantially on a revenue per rig basis. I'm just wondering how much of that contributed to it with the tariffs and people going to your product versus others.

[Scott Bender, executive]

Yes, I don't think really that tariffs had much impact because even with the tariffs, our costs are lower importing than they are producing domestically. So I really don't think that's an issue. I think that what really was an issue was that we did have a period of a tariff exclusion, which helped. I don't know if you remember that. There was a brief period. What was it, Joel, a couple 2, 3 months?

[Joel Bender, executive]

Little bit longer than that.

[Scott Bender, executive]

How long was it?

[Joel Bender, executive]

I think it was -- I want to say, I think it might have been 12 to 18 months. We had a decent run for a while on it.

[Scott Bender, executive]

I didn't think it was that long.

[Joel Bender, executive]

Yes.

[Scott Bender, executive]

So the tariff exclusion had a big impact there.

[John Anderson, analyst]

Okay.

[Scott Bender, executive]

But what would I have done differently? I can't think -- I still believe strongly in a low-cost manufacturing source. I just believe right now very strongly that the geopolitical risk coming out of China have got to be addressed. And I think we are very far along in getting that addressed.

[Operator]

Our next question comes from the line of Jeff LeBlanc with TPH.

[Jeffrey LeBlanc, analyst]

I guess the question I wanted to ask is if you could quantify the magnitude of the international Spoolable Technologies revenue? And then also, should we think about this as a baseload moving forward on which future growth would be just a steady revenue in international moving forward?

[Scott Bender, executive]

Steve?

[Stephen Tadlock, executive]

Yes. We're in the high-single digits as a percent of spoolable that's coming from international. And like Scott mentioned, that's double over where it was last year. And yes, we view this as like an active growth area for us, dedicating resources, both additional hires, repurposing some people in the organization to focus on international as well as expanding service capacity to support that.

[Scott Bender, executive]

I think further to that, if I could just interject, we're even doing very preliminary work on some capacity expansion because we think that this international business for FlexSteel in the next couple of years could be 40% of our business. That's a lot.

[Jeffrey LeBlanc, analyst]

Is that 40% of Spoolables or 40% of overall?

[Scott Bender, executive]

I'm talking about Spoolables.

[Operator]

This concludes the question-and-answer session. I would now like to turn it back to John Fitzgerald for closing remarks.

[John Fitzgerald, executive]

We appreciate your interest in Cactus. Thank you for joining us, and we look forward to speaking with you on next quarter's call.

[Operator]

Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.