TGS ASA

OSE:TGS

Earnings Call Transcript 2021-Q2

[Kristian Kuvaas Johansen, Chief Executive Officer]

Good morning, and welcome to TGS Q2 2021 earnings release. My name is Kristian Johansen. I'm the CEO of TGS. And with me today, I have Fredrik Amundsen, our CFO, who's going to present the financial section of the earnings release. Before we get started, I would like to draw your attention to our forward-looking statements, as you can read yourself. And then I'll go into the financial highlights for Q2. In Q2 2021, we had net revenues of $53.6 million. These are segment numbers, as you may be aware of. We had late sales of $35.9 million, and we have prefunding of about $14 million. And while we were not particularly pleased about the net revenues for the quarter, we were pleased about having a strong cost discipline and a lower CapEx, which resulted in another quarter with a positive free cash flow. In Q2, we had a free cash flow of $18.4 million. And then we had 2 M&A transactions carried out in Q2, and that was paid by cash as well, which means that the cash balance was $223 million at the end of the quarter. And that comes in addition to an undrawn credit facility of about $100 million. So still very strong liquidity in TGS, which again, is supporting the dividend payment of about $0.14 per share and a continuation of our buyback program. The weak market conditions that we have seen throughout Q1 and Q2 this year are expected to continue for 2021 despite the positive oil price momentum. We continue to see clients are prioritizing dividend and deleveraging of their balance sheets rather than exploration. So we continue to believe that some of these clients will definitely return back to exploration to make sure that they renew and build up their assets for the future. We also expect a higher activity level for TGS in the second half of the year. We have new acquisition programs in the U.S. Gulf of Mexico and Canada with solid industry funding. And our New Energy Solutions business is continuing to pursue growth and diversification. So we are looking out for more activity in that business as well. In terms of the operational highlights, let me start with the oil and gas data and insight business. So we had offshore 3D seismic surveys that were commenced on the East Coast of Canada. That's the Cape Anguille 3D and the Lewis Hills 3D. And of course, for sea, where we have the Santos 3D Phase 4. In addition to that, we have onshore 3D surveys commenced in British Columbia, in Canada. This is obviously an onshore survey. It's called Hipp Creek 3D. And also in the Powder River Basin in Wyoming in the U.S., where we had a survey called Voyager in Q2. And then last but not least, we had an offshore 2D survey offshore Brazil. This is called Pelotas 2D and is a Phase III of that program. In addition to that, we had a busy quarter in our New Energy Solutions business. We are collaborating with Canadian Discovery to develop a regional CO2 Storage Atlas for the U.S. Gulf of Mexico. In addition to that, we have released a numerical weather prediction model, a WP model, to enhance wind energy knowledge and operations offshore Scotland. This is in a collaboration with a company called Vaisala, and it's in connection with [ Scott ] wind licensing round coming up pretty soon. Finally, we have a memorandum of understanding, MOU, with carbon storage experts, Horisont Energi, to jointly develop a carbon capture and storage technologies, and this is mainly in Norway and Europe. Then we had a quite busy quarter in terms of M&A as well. So Q2, we acquired a company called 4C Offshore. This is a leading data provider to the offshore wind industry, located in the U.K. And in addition to that, we also purchased 3 seismic surveys in Australia from Polarcus. We are progressing on our new energy solutions strategy that we announced in February. So the acquisition of 4C Offshore that I just talked about was completed in May 2021. That establishes TGS as a leading provider of high-quality market intelligence data for the offshore wind industry. It's a great example of our new diversification strategy, where we take advantage of data opportunities outside the core oil and gas and really taking advantage of the growth that we see now in the renewables businesses. We are looking at further M&A opportunities, too, and this will mainly be within wind and solar. While we are progressing well on our organic initiatives within carbon capture and storage, offshore and onshore minerals and geothermals as well. We're also working with a company called Cognizant to develop an integrated data platform solution with all these data that we're now collecting from renewable industries. And last but not least, we also continue to build the organization with people from other types of industries. Slide 6 does a great job in explaining how TGS benefits from a flexible business model and actually performing quite well on certain key value drivers despite the very challenging market. Let me start with the first one, which is return on capital employed. We're clearly not satisfied with the negative return on capital. And although we see a positive trend from 2020 to year-to-date 2021, as you all know, our ambitions are way higher than that. We still believe that TGS can come back to the historical figures that you see from 2011 to 2014, which was obviously a very different market to what we're experiencing today. The next one shows the free cash flow conversion rate. This shows the amount of revenues that have turned into free cash flow. In year-to-date 2021, you see a very high number. You see that throughout the period from 2011, TGS has done really well, really well regardless of what industries or what companies you compare us with. But the fact that we have a free cash flow conversion rate of nearly 80% in the first half of 2021 gives you a really good understanding of how unique our business model is and the fact that we are able to generate strong cash flow even in very challenging markets. The third one is the sales to investment ratio, and you see that sales to investment has averaged around 2x for the past 10 years. You see it's been in 2018 and '19, it was as high as somewhere between 2.2 and 2.4x. And then you see it's still below 1.5 a couple of years here. As you see year-to-date, 2021, we're pretty much at 1.7 or 1.75, which is not too far off from our target, which is about 2x. So thanks to lean and adjustable cost base, an asset-light business model with few capital commitments, we are able to perform quite well on key value drivers, even in a very challenging market. And that robust cash flow allows continued dividends and share buybacks, as Fredrik will talk about in the financials.

[Fredrik Amundsen, Chief Financial Officer]

Thank you, Kristian. Each quarter, we point out that the implementation of IFRS 15 and the change revenue recognition principles has led TGS to focus on segment reporting in its presentation. Segment porting is what TGS has used for its internal management reporting, and we will continue to focus on segment reporting in this presentation. But that being said, we will gradually shift our focus towards IFRS going forward, as we announced in Q1. We expect to report only [ through ] IFRS figures from the start of 2022. Today, we present Q2 revenues of $54 million. This is in line with the preliminary earnings update provided July 8. Prefunding revenues came in at $14 million, supporting 43% of our operational investments of $33 million. Late sales came in at $36 million and highlights the continued challenging market we're in. We are pleased to see that the decrease in late sales quarter-on-quarter is a result of reduced investment activity and note that the underlying late sales signed within the quarter is slightly up from $24 million to $25 million. The disappointing spending in Brazil ahead of the 17th round is the main explanation for the shortfall in sales. Proprietary revenue ended up at $3.6 million, up from last year's corresponding quarter. The top left graph shows our development of operational cost. Our operational cost came in at $21 million for Q2, which is in line with our expectations after including 4C Offshore in our accounts from May 12. Amortization is coming down to $51 million with a lower investment activity and thereby lower sales amortization on work-in-progress. Consequently, the earnings before interest and taxes coming in at negative $25 million despite EBITDA margin of 60% or $32.2 million. The operational investments for the quarter were $33 million with prefunding levels in relation to total investments of 43%. This does not include the purchase of the remaining Polarcus library, the Polarcus library purchase related to 3 surveys in Australia, covering 12,000 square kilometers and is reported as inorganic investments alongside 4C Offshore in our cash flow statement. The organic investment in the current quarter were made up of tail end work on multiple projects. Main surveys include Malvinas in Argentina, Pelotas in Brazil and the [ Cambria ] and Cape Anguille in Canada, the latter 2 in partnership with PGS. The income statement summarize the presented highlights. Revenues of $53.6 million, EBITDA is coming in at $32.2 million, while amortization of the library provides a result before taxes of negative $25 million. The tax rate for the second quarter is coming in at 34%. Moving on to the balance sheet. We are ending the quarter with a strong cash position of $223.4 million after spending approximately $24 million on M&A and returning $20 million to shareholders during the quarter. The multi-client library is coming down to $580 million in Q2, with amortization exceeding the current quarter's investments. As mentioned, we concluded the 4C Offshore acquisition during the quarter and completed the preliminary purchase price allocation. The fair value of goodwill and other intangible assets are USD 19 million and represented in the change in goodwill in the balance sheet. The transaction was paid for in cash during the quarter. The company holds no debt and maintains a $100 million undrawn revolving credit facility, and the ending Q2 equity ratio was 79%. The cash flow statement for Q2 shows relatively strong collection, resulting in an operating cash flow of $43 million. This is lower than the last year, but Q2 last year included significant collection in relation to investments being finalized. And free cash flow after organic investments in the library was a positive $18 million for the second quarter this year versus a negative $10 million for Q2 2020. In addition to the organic investments in the current quarter, we paid approximately $24 million in relation to the M&A during the quarter. We also returned $20 million to shareholders through dividend and share buybacks, all in all, reducing the cash balance $29 million to end up at $223 million. Cash flow statement for Q2 shows relatively strong cash collections, resulting in an operating cash flow of $43 million. This is lower than last year, but Q2 last year included significant collection in relation to investments being finalized. Free cash flow after organic investments in the library was a positive $18 million for the second quarter this year. This compares to a negative $10 million in Q2 2020. In addition to the organic investment, we paid approximately $24 million in relation to M&A during the quarter. We also returned approximately $20 million to shareholders through dividend and share buyback, all in all, reducing our cash balance to $29 million to end up at $223 million. Despite a very challenging market, we are pleased that the company's strong balance sheet and cash flow generation provides the opportunity for both organic and inorganic investments while continuing in a stable dividend of $0.14 to be paid August 12. In addition to this, we will continue the buyback of shares under the authority granted by the Board as we did during Q2. With those remarks, I thank you for your attention and hand it back over to Kristian, our CEO.

[Kristian Kuvaas Johansen, Chief Executive Officer]

Thank you, Fredrik. So let's have a look at the market outlook. The first slide here is showing that the oil markets, according to EIA, is recovering to pre-COVID condition. If you look on the upper left-hand corner and you look at the graph there, you see that the consumption or the demand for oil and gas will sometime in Q3 or Q4 of this year, it will reach 100 million barrels again, which is kind of a pre-COVID level of consumption and production. What you also see from the graph is that the lines are well correlated and meaning that the market will be somewhat balanced into 2022. So a strong oil price-driven by demand recovery and the demand expected to approach the pre-COVID level sometime late this year, as I said, and then continue to increase in 2022, is a very healthy outlook according to EIA. Production is expected to catch up over the coming quarters and this is driven by increases or expected increases from the OPEC+ countries. And then an expectation of onshore North America increasing their production slightly compared to baseline. That, again, means a more balanced market expected going into 2022. You see that very clearly on the right-hand side, where you look at the stock build and draw where you see after a very volatile 2020 and 2021, the market will stabilize again and be quite stable from starting late this fall and then going into 2022 and through the end of this forecast, which is Q4 of 2022. So we like stability, and obviously, that's a good sign for our business. However, we expect a continued weak seismic market despite the strong oil price. And the reason for that is, number one, a very strong budget discipline among E&P companies. They continue to use incremental cash flow, which is quite significant right now for dividends, share buybacks and deleveraging their balance sheet. Secondly, an unusual large part of E&P budgets are committed to legacy projects and previous or old work programs. And that means that there are less funds from discretionary spending, and that's obviously something that we are not [indiscernible]. Exploration is almost to the entirely focused on new infrastructure. And we also see, as a result, a change in customer mix, where large IOCs and supermajors are transforming from oil and gas companies into broad energy companies. We've seen quite a few of these transitions taking place in this market, particularly Europe. And then as a result, some NOCs and smaller oil companies are more active in exploration than IOCs, and this is a shift that we've seen, a trend for a few quarters now, and we expect that to continue. We also see attractive growth outlook for the New Energy Solutions business. It's actually expected for all energy transition-related investments. We see increasing competition for attractive acreage and that makes data and insight that can improve the quality of critical decisions increasingly important. This is what we have experienced in the oil and gas business for many years, and we see a lot of the same, particularly in wind now, where you see the licensing round expected to come up in Scotland, for example, with a number of players being active and number of consortiums being established. And that, again, is a good starting point for a multi-client business or a multi-client data business, and this is really core to our strategy within wind, is to capitalize on some of these licensing rounds, where you see a number of companies participating and competition being quite intense. We have an ambition of establishing a leading or the leading platform for high-quality data and insights for energy transition-related industries. And we have current initiatives, not only in wind, but also in solar and geothermal, offshore minerals and last but not least, carbon capture and storage. So this is something that is getting increasingly exciting as these distances are growing quite rapidly, as we see on the right-hand side where we see the renewables share of [ buy more energy ]. So our strategic priorities in the States where the market is right now is number one. And I cannot say that enough or repeat it enough is that cash is king. That means that we are targeting industry-leading shareholder distribution. And in that sense, it's great to see that Q2 was another positive free cash flow quarter. Q1, as you remember, was very strong in terms of free cash flow, which means that we've actually generated close to $100 million of cash before dividend and share buybacks and M&A this year or year-to-date, which is quite strong given the very weak market that we have. We're also increasingly focused on risk mitigation, which means that we need to stay very close to our clients and understand their strategies. And we're also very open to do risk sharing, of course, with our suppliers and share the risk among multiple players who invest in these projects. We have -- we're pursuing extensive use of partnerships. You see that most of our projects these dates are together with partners. Whether it's in U.S. Gulf of Mexico or Malaysia or Canada, you see that TGS, we don't go alone, we don't go by ourselves. We actually go together with partners. We think that's another way to mitigate risk in our projects. And then as we have said many times before, we continue to believe in consolidation within our industry. We are actively pursuing consolidation opportunities. We've been quite open about this for quite some time. And we think that the current market definitely justifies more consolidation even in various multi-client [ seismic hits ]. And then last but not least, we pursue new growth opportunities and want to capitalize on the growth that we see in the energy transition-related data and insight businesses and the acquisition of 4C in that regard was quite important in terms of ticking off that box in terms of our strategy. And you should probably expect TGS to do more, both in terms of inorganic and organic growth initiatives in our New Energy Solutions business. So that summarized our strategic priorities for the near or medium term and takes me to the backlog. And as you see, the backlog is still relatively weak. It's been quite consistent now for about five quarters. But you will see that we will invest more in Q3. Some of this is already accounted for in the backlog, and there may be some growth in the backlog actually during the quarter that we will actually start to benefit from or eat from in Q3. We expect our investments to be higher in Q3 than they were in Q1 and Q2, perhaps as high as twice the amount that we invested. We're in the low 30s for Q1 and Q2. We're probably going to be close to double the size of our investments in Q3 because of relatively good prefunding of some new projects that we are pursuing. And that again, will obviously lead to some revenue growth in Q3. So in summary, we continue to generate positive free cash flow despite the very challenging market. So $91 million positive free cash flow in the first half of this year. That means that we can continue our dividend payment of $0.14 per share and a continuation of the buyback program as well. The weak market conditions are expected to continue for 2021 despite positive oil price momentum. The New Energy Solutions business continues to see more activity, both organically and inorganically. And again, as I alluded to, we will see a higher activity level for TGS in the second half of the year. You will see that our investments will come up slightly. And I think that's an early sign of a market that is in slowly recovering from a very, very, very challenging start of 2021. So with that, I want to thank you very much for your attention. I want to thank you for following the presentation. And we're going to have Q&A sessions in connection with our earnings call later this afternoon. Thank you very much.