Trican Well Service Ltd

TSX:TCW

Earnings Call Transcript 2022-Q3

[Operator]

Welcome to the Trican Well Service's Third Quarter 2022 Earnings Results Conference Call and Webcast. [Operator Instructions] The conference call is being recorded. [Operator Instructions]

I would now like to turn the conference over to Mr. Brad Fedora, President and Chief Executive Officer of Trican Well Services. Please go ahead, Mr. Fedora.

[Bradley P. Fedora, executive]

Thank you very much, and good morning, everyone. I'd like to thank you for attending the Trican Well Service conference call for the third quarter of 2022. A brief outline on how we intend to conduct the call is, first, Scott Matson, our Chief Financial Officer, will give an overview of the quarterly results, I will then provide some comments with respect to the quarter, current operating conditions and our outlook for the future, and then we'll open the call for questions. Several members of our senior executive team are in the room today and are available to answer any questions that anybody may have.

And I'd now like to turn the call over to Scott.

[Scott Matson, executive]

Thanks, Brad. So before we begin, I'd just like to remind everyone that this conference call may contain forward-looking statements and other information based on current expectations or results for the company. Certain material factors or assumptions that were applied in drawing conclusions or making projections are reflected in the forward-looking information section of our third quarter 2022 MD&A. A number of business risks and uncertainties could cause actual results to differ materially from these forward-looking statements and our financial outlook. Please refer to our 2021 Annual Information Form and the Business Risks section of our MD&A for the year ended December 31, 2021, for a more complete description of business risks and uncertainties facing Trican. These documents are available on our website and on SEDAR.

During this call, we will refer to several common industry terms and use certain non-GAAP measures, which are more fully described in our 2021 annual MD&A and in our third quarter 2022 MD&A. Our quarterly results were released after the close of market last night and are available both on SEDAR and on our website. So with that, let's move on to our results for the quarter. Most of my comments will draw comparisons to the third quarter of last year, and I'll also provide some commentary about our expectations going forward.

Revenue for the quarter, $258 million, a substantial increase from last year, a 57% increase compared to Q3 of 2021. Our activity levels in the quarter were generally higher across the board than the prior year comparative period as industry activity in the Western Canadian Sedimentary Basin increased fairly significantly driven primarily by strong commodity prices. This led to significant improvements in demand for all of our pressure pumping services, which then resulted in better utilization across our service lines in Q3 compared to last year and a much more constructive pricing environment.

Adjusted EBITDA came in at $70.9 million, again, a significant improvement from the $32.1 million we generated in Q3 of 2021. And I would also note that our adjusted EBITDA figure includes expenditures related to fluid end replacements, which totaled $3.8 million in the quarter and were expensed in the period. Adjusted EBITDAS for the quarter came in at $72.1 million, again, a significant improvement compared to the $33.2 million we printed last year. To arrive at EBITDAS, we add back the effects of cash settled stock-based compensation recognized in the quarter to more clearly show the results of our actual operations without some of the financial noise. We recognized about $1.2 million in expense related to cash settled stock-based comp in the quarter.

We continue to make progress in monetizing stranded assets with a number of transactions closing in the quarter, bringing in about $3.4 million in cash proceeds and generating about $0.5 million net gain on disposal. So that brings us down on a consolidated basis, we generated positive earnings of $38.2 million in the quarter or about $0.16 per share. We generated free cash flow of $64.9 million during the quarter as compared to $29.9 million in the same period of last year. Our definition of free cash flow is essentially EBITDAS less nondiscretionary cash expenditures. Those would include our maintenance capital program, interest, cash taxes and cash settled stock-based comp. Capital expenditures for the quarter totaled $24.6 million split between our maintenance capital program about $5.5 million and our upgrade capital of $19.1 million, primarily dedicated to our ongoing Tier 4 capital spending refurbishment program.

The balance sheet remains in excellent shape. We exited the quarter with positive working capital of approximately $125 million, which includes cash of about $10 million and no long-term bank debt. Finally, with respect to our ongoing NCIB program, we were pretty active throughout the year and repurchased and canceled approximately 11.3 million shares at an average price of $3.41 per share, about 5% of the company's issued an outstanding share base. We continue to view share repurchases as a solid investment opportunity and an effective way to return capital to our shareholders.

So with that, I'll turn things back over to Brad, who will provide some comments on our operating conditions and our outlook going forward.

[Bradley P. Fedora, executive]

Thanks, Scott. So overall, Q3 was a very busy quarter even though we had a wet start in late June and early July, and we really didn't get started until almost mid-month. We still were very happy with the overall activity in the quarter and importantly, we chased inflation for the first half of the year from a pricing perspective. And finally, in Q3, we were able to catch up and actually get net pricing gains. And as everybody knows in this industry, we have significant operating leverage, both in the upturns and the downturns. And so finally, that kicked in and worked to our advantage. And so you see expanded operating margins in the quarter. And we still see cost inflation in Q3 in all facets of the business, whether its products, chemicals, third-party trucking, et cetera.

But definitely, the rate has slowed compared to the first half of the year where the rate of change has slowed compared -- we don't expect this to go away, but I don't think we're going to see the sort of week after week price increases that we saw in the first half of 2022. In particular, we're still seeing fuel surcharges from the rail companies. They base their fuel surcharges on U.S. diesel prices. And so that has a big impact on our sand prices and chemistry prices for -- once it gets landed in Northwest Alberta and Northeast BC. And our customers were generally, I would say, very cooperative on accepting the price increases. It's easy to show them where they're coming from and to justify them. And so they worked with us throughout the quarter. And as a result, we were able to get better margins.

Overall, I would say the frac market is very balanced at these activity levels. There are approximately 30 staff frac crews operating in Canada and at a drilling activity of 200 to 220 drilling rigs. Those 30 frac crews are basically operating at capacity. Any activity above sort of 220 drilling rigs would tip the frac industry into an undersupplied situation, and we'll talk about next year, but I think that's where we're heading.

Currently, we're operating at about 7 frac crews. We expect to be operating with 8 frac crews early in Q1 of next year. We certainly have the demand on the board for it today. So this means we're still only operating about 60% of our crude capacity comparison to our competitors that are basically operating full out. And so, when you look at the upside of this basin, we still own over half of the spare capacity that exists in Canada today. And as the basin demand grows, we're in a great position to provide this industry with incremental frac crews.

We're very happy with our cementing division, the spending business in Canada is running at absolute full out capacity for all of the crude equipment that exists today. At Trican, we have about 17 to 19 crews, which means we have about 30% to 40% market share in their overall Deep Basin, but we're in the overall Western Canadian basin, but likely this is much closer to 50% when you look at our market share in Montney and the Deep Basin. And our market share gains are limited only by staff.

We certainly have more demand than we're able to supply in cementing. And unfortunately, it's been a frustrating experience, keeping people working in the field. There's a significant pullback into towns and cities. And so hopefully, we will expand our market share as drilling activity picks up next year. The coil market, we're very happy with the coil business as well. It's a little more lumpy than fracking and cementing, but overall pricing and demand for our coil division has been really good. And that too, we're basically limited by our ability to staff it. And today, we're operating at about -- with about 7 coil crews.

The outlook for Q4 and next year, naturally, we expect Q4 to be sequentially lower than Q3 as is typical. October and November are good months, but the quarter does experience the typical weather delays as we transition out of fall and into winter. And once December arise, lots of customers have exhausted budgets and then we basically lose half the month to Christmas. So it's natural to see a little bit of a dip down in Q4, but it will still be a good quarter.

Q1 2023 looks very busy. Our Board is booking up well into the spring, very active. We're scrambling to try to add people in advance of what looks like a very busy quarter. We expect full year 2023 to be modestly busier than 2022, and it really depends on the customer. But I mean, generally, everybody is telling us they're going up sort of between 3% and 10% in activity levels compared to 2022.

And their well economics are still very attractive, especially natural gas wells in the Montney, they're paying out in a matter of months, and that's obviously a good thing for the industry. And the frac market, in particular, is balanced today and so any incremental activity over 2022 levels would lead to higher activity, pricing and margins. So we're excited about next year.

Thankfully, our customers remain very disciplined with respect to the capital budgets. Even though activity is going up, they're still spending less than 50% of their free cash flow on drilling and completions. And so this market feels very sustainable for the next few years. It has an odd orderly predictable feel, which is unusual for the oil patch in Western Canada. So we're very positive about the next few years. It allows us to plan well in advance. We're expecting lots of good things coming.

LNG drilling activity has started. LNG Canada is adding production. They've got rigs in the field drilling. And this project has a 50-year life. So this is a great base level of activity for Canada in the future. People will definitely be the bottleneck for growth, particularly in things like cementing.

But we're working hard to attract people back to our industry. We're paying more. We have had some success recruiting across Canada. We are fortunate that our staff take great pride in the work they do and we're proud of the work that they have done so far this year under very busy conditions. We're very fortunate that people that not just in the field but in the office as well, are very committed to the success of the company.

We've got a great safety record, which our customers have been noticing, and it's more and more important as the world transitions to a more of an ESG focus. You know, companies like LNG Canada are focusing on safety records as well as the local operators as well. And I think our people have embraced an advanced safety culture in the field this year.

Employee retention is obviously our top priority at this stage, not just attracting new people to the industry but keeping them. And if we can keep our people and add some people, next year will be very busy and prosperous for us.

Supply chain, there are concerns on supply chain. Supply chain does operate at or near capacity, particularly sand coming out of the U.S. So our procurement group has done a great job, not just managing this on a day-to-day basis, but making sure that they get ahead of what we predict will be shortages months into the future.

The market for third-party trucking is very tight. There's less drivers today than there used to be. Sand tonnage per well has grown. And so it takes a lot of time and planning to ensure that we maximize logistics efficiency, and we minimize the delays for our customers, especially when we get to quarters like Q1, which we expect will be stressing the system.

It's important to note that as an industry in the last few years, we've become extremely efficient with our operations. And we're starting to capture some of the financial gains of those efficiencies. Over the past 7 years, the customer has been benefiting generally as we -- as our pump times have changed from 15 to 22, 23-hour record -- or pump times. We continue to set records for the amount of sand placed in a 24-hour period. Well laterals are getting longer and stage count is increasing.

And so in order to maintain this efficiency, we have to make sure that our logistics apartment, our planning department, our dispatch are all working in sync to ensure that we provide a very efficient service to our customers. We've made great strides with technology and innovation.

We have a guiding principle of clean air, clean water. And so we've made capital investments into areas like our Tier 4 engine upgrades and into our chemistries that allow us to use less fresh water, more produce water and cement blends that have -- make sure that they protect fresh water sources. So we're going to continue to focus along those lines.

Just from a Tier 4 upgrade and a corporate strategy perspective, we're very bullish on the industry in Canada. We believe that Canada will play an important role on the global stage and providing the world with clean, reliable energy, particularly natural gas. We view Western Canada is a great basin in which to grow our business. Montney is a world-class resource, and it's in the early stages of development.

And so we -- when we think about our corporate strategy over the next, what, 3, 5, 10 years, we're very focused on Western Canada and certainly the Montney. The Deep Basin is a focal point of where we plan on deploying our people and our equipment. LNG Canada's development of the LNG facility on the West Coast is almost done, and they're already talking about expansion.

So we look at that as a great base of activity for natural gas drilling in Western Canada over the next 10, 20, 30, 40, 50 years. And all of that drilling -- all of those well developments are very fracturing intensive. And as everybody knows, very little natural gas or oil come out of the ground without a frac. So all of our divisions, starting with cementing, fracturing, and coil will be absolutely essential to developing the natural resources in Western Canada over in the future.

We're very focused on growth, free cash flow and return on invested capital. Certainly, free cash flow and return on invested capital are really all that matter at the end of the day, and they underpin every decision we make. And we are investing our cash flow for growth based on predictable long-term returns. We're not overly concerned with market share, but we are very concerned with things like free cash flow and return on invested capital.

We're fortunate enough to have had the balance sheet to invest starting 18 months ago. And our strategy is basically differentiation and modernization while maintaining a conservative balance sheet. So we focused on adding state-of-the-art equipment, getting our systems and processes up to a modern standard, deploying ESG strategy and our department to make sure that we're ahead of that and working with indigenous partnerships. And all of this is to ensure that our growth is sustainable throughout the cycles and with what's changing with the public with respect to emissions, et cetera, we want to make sure that we're on the forefront of providing equipment and services to our customers. And one of the ways, of course, that we differentiate is with our new equipment.

And we rolled out our first Tier 4 spread back in early this year and we've been extremely happy with the results. We put out our second Tier 4 spread in the summer, and we just activated our third Tier 4 spread into the field. And our fourth Tier 4 spread is planned for late in Q1 2023. So clearly, we can all see the trend in where this is going. We're going to continue to invest in this technology. We now have the newest, most modern efficient fleet in the basin. We're very impressed with the performance in the operating results so far. I think we have over 33,000 hours on our Tier 4 pumps. They provide lower emissions from the state-of-the-art engines. The high-performance pumps, they provide high-pressure continuous duty performance that allows us to operate very efficiency -- very efficiently on location.

And what that means is we have less people and less equipment. 22 to 23 hours per day of pumping is the norm now regardless of pressure in rates. And if we use natural gas on site to provide fuel to these pumps, that takes diesel trucks off the road. The natural gas burns clean makes for a very efficient operation. And all of this leads to higher profitability for our business when you compare operating Tier 4 equipment to the conventional equipment.

We're able to charge a premium, but at the same time, our customers are benefiting from a significant fuel cost savings. And so it's been a win-win for both us and our customers. And we expect this technology to be the standard in the Montney and the Deep Basin in the future. We're very fortunate that we were able to move on this early. And as a result, now we're sitting here in Q3 with almost half our fleet with Tier 4 technology, by far the most state-of-the-art up-to-date efficient fleet in Canada. And our strategy is to continue converting our equipment over the coming years. We'll have an entirely new fleet of fracturing equipment within the next 4 years.

And these fleets will either be incremental as the industry demand grows or they'll go to replace our existing equipment. And whether it's diesel or diesel Tier 2 dual fuel will depend on the time at the time. But either way, they're more efficient, more profitable. They provide the customer with better service, lower emissions. Both the public is happy to have them and the customers are happy to use them, and we're certainly happy to provide them. So we look forward to developing this as time goes on.

On a return on capital basis, we generate significant free cash flow, and we can only spend a portion of it intelligently on growth opportunities. And so we subscribe to a diversified return of capital strategy. And to date, the best way of doing that, providing that has been to buy our shares in the market. We've been using our buyback now for a few years, and we think it's been the most effective way to return our capital, especially at sort of historical share prices. I think we bought up to 5% of our outstanding shares in Q3 alone.

And now when you look back a few years, we've purchased almost 35% of the company back in the last few years. So we continue -- we plan to continue this. We renewed our NCIB in October for the late 2022 and 2023 year, and we remain committed to this program for the foreseeable future. And we both have a consistent monthly allocation and sort of a reserve fund for when the market disconnects and our views of the future are positive. So we'll use that when we can. But we stay committed to returning capital to our shareholders.

I think I'll stop there, and we'll go to questions. So we'll go back to the operator.

[Operator]

[Operator Instructions] Our first question is from Aaron MacNeil with TD Securities.

[Aaron MacNeil, analyst]

Brad, you sort of touched on this in your prepared remarks, but one of your competitors suggested in their Q3 disclosures that Q4 utilization will have some gaps due to fears around supply adds. And I know you're going from 7 to 8, albeit in Q1, not Q4, and you have a bit of a different view on supply and demand, but I thought it might be a good opportunity to kind of talk about what your approach will be going forward. And specifically, how you're treating these new additions through upgrades as it relates to the dynamic gas blending engine. So maybe I'll turn it over to you.

[Bradley P. Fedora, executive]

Yes, there's always gaps in the schedule in late Q4, it seems like these last few years. Our views of returns, pricing, price levels at which we let the equipment leave the yard, they do not change just because we have a bit of white space. We're fortunate we run a very conservative balance sheet, and a very profitable company, and we don't panic just because there's a bit of white space on the board. So our pricing views, they don't change. And from a supply and demand perspective, whether it's December or next July, the price -- the marginal price of supply is determined by the supplier, not the customer. And so we don't let equipment go to work unless we can get a reasonable return on it because the wear and tear on that equipment is real. And so the market is priced based on where the service companies set the price, not the reverse.

So whether there's a little bit too much equipment from 1 month to the next or -- this is a long-term game, we make our decisions on long-term returns and know that this equipment only has a finite life to it, and we need to get the most out of it that we can. And at the end of the day, our customers just want efficient, predictable services using state-of-the-art equipment and the best people. And we will give that to them, but we need to make sure that we are paid appropriately. So we don't let the month-to-month variations in supply and demand determine our pricing behavior.

[Aaron MacNeil, analyst]

Makes total sense. From a labor perspective, I'm not really thinking about how much you pay people, but more about how you pay them. And I guess, specifically, you guys used to pay guarantees over the second quarter to retain talent and I know your tight labor today. So I guess I'm wondering like what's the model? Is it fixed through the kind of weaker periods of the year or is it still variable?

[Bradley P. Fedora, executive]

Sure. It's variable, but everybody is so busy. It's very predictable. And at certain times, we have to make minimum commitments on the number of day rates that they receive per shift. We're happy to do that because it, frankly, doesn't cost us anything. And it's weird now, like Q2 is not what it used to be. If anything, December is the new breakup because our Q2 is busy, right. It's between getting equipment ready for Q3 because Q3 is the busiest quarter of the year now. Between getting equipment ready and the amount of work that we expect that we'll have to do and, you know, people start taking holidays as things warm up and kids come out of school, et cetera. So it's not what it used to be.

Q2 is actually easier to manage. And a little bit of a slowdown in December, that's not a bad thing either, right, because the guys have been working hard since the spring. And so if people can start to take a bit of a break for the second half of December before everybody gets back to work again in January, I think it would be welcomed by all. So thankfully, the level loading that's occurred in the last few years has really helped us manage that component of the business. And we have to keep up and we've -- obviously, we've given raises over the last few years numerous times. And we got to make sure that our people make a good living because we obviously rely on them. But the level loading is making our job a little bit easier now. Like I say, it's weird, it's almost like December is the new breakup, and that's actually sort of a welcome change.

[Operator]

[Operator Instructions] Our next question is from Cole Pereira with Stifel.

[Cole Pereira, analyst]

So obviously, return of capital has been focused on share buybacks thus far. How are you thinking about a dividend? I mean I think we can all agree share buybacks have been a success. But why does it need to be just one or the other as opposed to both?

[Bradley P. Fedora, executive]

Yes, you're right. It's just been such an easy decision up until now, right. And I think we've telegraphed to the market pretty well that the -- when we think about spending our excess free cash flow, it's pretty simple. We look at additional growth opportunities, M&A, share buybacks and dividends, and we -- there just aren't additional growth opportunities that we think we can get a decent return on or if there isn't the supply chain to provide the equipment to pursue them anyway. So we can only spend so much money on our operations. And I think we're going as fast as we can, just given the supply chain constraints.

And on the M&A side, there's still a bit of a disconnect between what public companies are trading at and what private companies are expecting. And that gap is never easy to close. So we haven't had any opportunities there. And so that leaves us with the buybacks and the dividends. And the buybacks, frankly, are just so -- they've just been so attractive at the share prices we've had since the spring. So it was kind of a no-brainer. And if we break -- if we sort of hover at current levels and break into the fours, yes, it's getting tougher to justify purely the buyback. And we wouldn't be afraid to pay a dividend at all. We're very optimistic about the future, and we think our cash balance is going to continue to grow. So we'll just play it by ear. It's basically a mathematical decision and we're not biased to either one, frankly.

[Cole Pereira, analyst]

Got it. That makes sense. And can you just remind us how many crews could you theoretically activate? And can you just comment in Q3, what kind of utilization you would have realized on the active crews you did have?

[Bradley P. Fedora, executive]

Well, the utilization is -- it's pretty full. But I mean it's -- we don't change customers every month and make sure our Board is perfect, right. I mean we have long-term loyal customers, and we got to roll with the punches a little bit. So we do have downtimes throughout any quarter, whether it's Q3, Q1, Q4, whatever. But Q3 is the busiest quarter of the year now. So it was pretty busy. But sure, we had downtime, so I don't know what the utilization was, but...

[Scott Matson, executive]

It was about 85%, Cole, on the frac side of the business.

[Bradley P. Fedora, executive]

We're right on that edge here at this number of drilling rigs, we're right on that edge where we're not really in an over or undersupplied situation. And like I said, we're fortunate to have sort of long-term customers. And so it will be interesting to see what happens next year when I think we're going to be above the 220 drilling rigs and things could be a little tighter.

[Cole Pereira, analyst]

Got it. And then so for the incremental fleet in Q1, you'll obviously be getting improved pricing for that fleet. But I mean, are you fairly confident you'll see higher pricing across the board as well. And I mean that additional fleet, should we be thinking that, that's going to work with a series of long-term customers or do you have a little bit of spot exposure? How do you think about that?

[Bradley P. Fedora, executive]

No. I mean the answer is always ideally both. We're not going to have much spot exposure just because the schedule is getting so full. So the Tier 4 equipment will go to our -- we don't have a huge customer list, so we consider them all to be good loyal long-term customers but it will probably go to our existing customers.

[Operator]

This concludes the question-and-answer session. I'd like to turn the conference back over to Mr. Fedora for any closing remarks.

[Bradley P. Fedora, executive]

Okay. Thanks, everyone, for joining the call. We appreciate the time you took. We'll sign off now, but the management team here at Trican will be available today and tomorrow for any follow-up questions. Thank you.

[Operator]

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.