Q4 2023 Cactus Inc Earnings Call

Participants

Alan Boyd; Corporate Development & IR; Cactus, Inc.

Scott Bender; CEO; Cactus, Inc.

Alan Keifer; CFO; Cactus, Inc.

Steve Tadlock; CEO, Spoolable Pipe Segment; Cactus, Inc.

Luke Lemoine; Analyst; Piper Sandler

Arun Jayaram; Analyst; JP Morgan

Kurt Hallead; Analyst; Benchmark

Stephen Gengaro; Analyst; Stifel

Scott Gruber; Analyst; Citigroup

Presentation

Operator

Thank you for standing by, and welcome to Cactus Inc's fourth quarter 2023 earnings conference call. (Operator Instructions) Once again. As a reminder, today's program is being recorded. And now I'd like to introduce your host for today's program, Alan Boyce, Director of Corporate Development and Investor Relations. Please go ahead, sir.

Alan Boyd

Thank you. Good morning. We appreciate you joining us on today's call. Our speakers will be Scott Bender, our Chairman and Chief Executive Officer, and Keefer, our Interim Chief Financial Officer. Also joining us today are Joel vendor, President, Steven Bender, Chief Operating Officer, Steve Ted Love, CEO of Flexsteel, and we'll march 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 financial 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'll turn the call over to Scott.

Scott Bender

Thanks, Alan, and good morning to everyone. We closed out the final quarter of 2023 with strong margin performance in both segments. Free cash flow was substantial and with the debt raised to finance the Flexia acquisition repaid in Q3, we increased our cash balance by over $70 million in Q4 for the full year 2023, both businesses set records for revenue and adjusted EBITDA. Despite the decline in U.S. land activity over the course of the year. Our Company remains well-positioned in the market as a provider of highly-engineered differentiated products to premium customers and our strong financial performance reflects this some fourth quarter total company highlights include revenue of $275 million, adjusted EBITDA of $100 million, adjusted EBITDA margin of 36.4%. We paid a quarterly dividend of $0.12 per share, and we increased our cash balance to $134 million.
I'll now turn the call over to our key for our CFO, who will review our financial results. Following his remarks, I'll provide some thoughts on our outlook for the year to the near term rather before opening the lines for Q&A, so I'll thank you.

Alan Keifer

Before I begin, I would like to highlight the changes to our reporting structure beginning in Q4. We are now presenting our corporate and other expenses separately from our two operating segments, the cost within Corporate and Other consist of personnel whose activities support both operating segments as well as other public reporting and administrative overhead costs. All of these costs were previously reported within the Pressure Control segment Prior periods have been recast in the earnings release to conform to this new presentation to assist analysts and investors. With understanding this reporting change, we have provided a historical reconciliation for 2021 through 2023 on the Investor Relations section of our website.
I'll now begin the results review. As Scott mentioned earlier, total Q4 revenues were $275 million for our Pressure Control segment revenues of $180 million were down 1.1% sequentially, driven primarily by decreased customer activity. Operating income increased $1.2 million or 2.2% sequentially, with operating margins increasing 100 basis points. Adjusted segment EBITDA increased 1.5 million or 2.3% sequentially, with margins increasing by 120 basis points. The margin improvement was due to lower rental equipment repair costs, partially associated with the recent modification of our frac about design and efforts to limit our branch expenses in response to reduced activity levels for our spoonable Technologies segment revenues of 94 million were down 10.4% sequentially due to lower customer activity levels. Operating income decreased $11.6 million sequentially due largely to the quarter-over-quarter change in the expense resulting from the remeasurement of Flexsteel earnout liability.
Adjusted segment EBITDA decreased 4.5 million or two 10.2% sequentially, while margins increased by 10 basis points as reductions in operating leverage were offset by reduced input costs. Corporate and other expenses were $5.7 million in Q4, down $1.3 million sequentially due to lower transaction related expenses and stock-based compensation. Adjusted corporate EBITDA was approximately flat in Q4 at 3.8 million of expense on a total company basis. Fourth quarter. Adjusted EBITDA was $100 million, down 2.9% from 103 million during the third quarter. Adjusted EBITDA margin for the fourth quarter was 36.4% compared to 35.8% for the third quarter. Adjustments to total company EBITDA during the fourth quarter of 2023 include non-cash charges of $4.6 million in stock-based compensation and a 1.9 million expense related to the Flexsteel earn-out liability remeasurement. Depreciation and amortization expense for the fourth quarter was $15 million, which includes $4 million of amortization expense related to intangible assets booked as part of purchase accounting.
Total depreciation and amortization expense during the first quarter of 2024 is expected to be approximately $15 million, of which $7 million is associated with our Pressure Control segment and 8 million it's associated with Global Technologies income tax expense during the fourth quarter was approximately 17 million. During the fourth quarter, the public or Class A. ownership of the company was 82%, following further changes in our public ownership percentage, we expect an effective tax rate of approximately 22% for Q1 2024.
Gaap net income was $62 million in the fourth quarter versus 68 million during the third quarter. The decrease was largely driven by the change in remeasurement of the earn-out liability. Adjusted net income and earnings per share were $65 and $0.81 per share, respectively during the fourth quarter compared to $64 million and $0.8 per share in the third, adjusted net income for both the fourth quarter and full year 2023 were net of a 23% tax rate applied to our adjusted pretax income generated during the respective periods. This rate was lower than anticipated due to the onetime release in 2023 of valuation allowances associated with the Flexsteel acquisition. We estimate that the tax rate for adjusted net income and EPS will be 26% during the first quarter of 2024. During the fourth quarter, we paid a quarterly dividend of dividend of $0.12 per share, resulting in a cash outflow of approximately $10 million, including related distributions to members. The Board has also often approved a quarterly dividend of $0.12 per share to be paid in March 2024. We ended the quarter with a cash balance of 134 million, a sequential increase of approximately 70 million. Net CapEx was approximately 9.5 million during the fourth quarter of 2023 and $38.6 million for the full year 2023. For the full year 2024, we expect net CapEx in the range of 45 to 55 million. The increase from 2023 is due to increased spending on efficiency improvements at Flex steel's Baytown manufacturing facility and approximately $20 million budgeted for international growth and supply chain diversification in 2024.
That covers the financial review, and I'll now turn the call back over to Scott.

Scott Bender

Thank you. And well, I guess I'll now touch on our expectations for the first quarter of 2024 of our reporting segments. Importantly, during the fourth quarter, we expect pressure control revenue to be down mid single digits versus the $180 million reported in the fourth quarter of 2023. As strong production equipment sales in Q4 led to stronger revenues than the level of industry activity would imply. We expect the U.S. lagged US land rig count to be approximately flat from today's levels in the remainder of the first quarter. Our recent weakness in natural gas prices suggest a cautionary outlook beyond this period. Anecdotally, the number of inbound inquiries for frac rental equipment have increased in the past 45 days, suggesting potential for the second quarter of 2024. Adjusted EBITDA margins in our Pressure Control segment are expected to be 33% to 35% for the first quarter, exclusive of corporate and other expenses, which are now reported separately. This adjusted EBITDA guidance also excludes approximately $2 million of stock-based compensation expense. Within the segment, margins are expected to be down sequentially as reduced product sales impact our operating leverage, partially offset by the supply chain initiatives previously announced. We expect our low-cost manufacturing diversification to enhance product margins by the middle of 2025. As mentioned last quarter, new wellhead and valve product improvements are in the process of being introduced, and we expect the rollout of these to more significantly impact operating results late this year as we responsibly replace our current inventory.
Our Middle East expansion plans are underway. Testing continues and are still targeting customer acceptance. First, orders by late 2024. We continue to evaluate opportunities. And while we don't have any further news at this time, we're pleased with the outlook and look forward to sharing a meaningful update on our efforts within the next 90 days.
Switching to global technology skills, technology segment, we expect first quarter revenue to be up low single digits relative to the fourth quarter, which would represent a record-setting Q1 for Flexsteel, largely on stronger demand from the majors. We're also seeing increased interest from international and midstream customers who recognize the value proposition of the Flexsteel products. We expected adjusted EBITDA margins in this segment to be approximately 37% to 39% for Q1, moderating from Q4 levels on increased input costs that will begin to work through our inventory late in the first quarter, though this margin guidance excludes approximately $1 million of stock-based compensation segments adjustment. Adjusted corporate EBITDA is expected to be approximately $4 million loss in Q1, flat from the fourth quarter, which excludes approximately $1 million of corporate stock-based compensation. Consolidation of our customers continues in the sector, improving our industry's efficiency at this time, we cannot predict the near term impact on our business other than to reiterate that our business model favors larger operators. That said, we expect a reduction in the U.S. land rig count by year end following consolidations as the combined entity entities, high-grade drilling prospects and increased drilling efficiencies. Further risk to the rig count remains as operators respond to low natural gas prices, our Company's focus on safety, execution and servicing our customers allowed us to close up a Milestone 2023 for Cactus, although 2020 for US drilling and completion activity expectations expectations are modest at this time, Cactus remains well positioned with two segments that generate high margins and attractive returns. While operating differentiates that differentiated differentiated Army valued at cost we expect to generate substantial free cash flow in 2024 that will provide us with optionality to increase shareholder returns over time for pursue organic and inorganic growth opportunities in the disciplined manner that our shareholders expect.
With that, I'll turn it back over to the operator and we can begin Q&A. Operator?

Question and Answer Session

Operator

Luke Lemoine, Piper Sandler.

Luke Lemoine

How are you?

Scott Bender

Doing well and yourself?

Luke Lemoine

Thank you. Scott, you talked about schools being up some in 1Q due to the majors or have you been adding some program accounts here? Or is this just kind of general increase in activity from the majors?

Scott Bender

I'm going to skip catalog to now run kind at that segment responded?

Steve Tadlock

Yes, we've just been seeing increased activity from the majors in particular. And then as we alluded to earlier in the script, also some international orders from Latin America, Middle East and one other positive is on the midstream side, seeing significant interest from a large midstream company with which we hadn't done much business in inquiries from other midstream. So overall, we're feeling very good about the outlook for the next year.

Luke Lemoine

Okay. Got it. And then, Nelson, the second question, Steve, on just kind of on the product mix. I mean, you mentioned the midstream customer. So it sounds like there's some uptake on kind of the gathering and distribution side. If you could just speak to that, maybe a little more kind of what you're seeing this year?

Steve Tadlock

I think is done with midstream. You have more regulatory hurdles or a different mindset to get through and the team's been working on that for years, and I think they're starting to see the fruits of that effort. So I think that's really the driver of a.

Luke Lemoine

Okay, perfect. Thanks a bunch.

Scott Bender

Thank you.

Operator

Arun Jayaram, JPMorgan.

Arun Jayaram

Yes, good morning, I was wondering if you could maybe provide more details on some of the new product introductions. Sounds like the new frac valve was it was a tailwind to margins in the quarter, but give us a sense of the rollout of that new frac valve as well as your new wellhead offering?

Scott Bender

How to set up the frac valve is what is being rolled out right now. And it's I think it's important to recognize if this is a modification of our existing frac valve, which doesn't lead to any obsolescence. However, this modification pretty significantly reduces the amount of repairs required. As you may know, from previous conversations, unlike a lot of our peers, we tear down valves completely after every job, which gives rise to a large repair cost in terms of replacement parts. And we've seen a pretty significant reduction in the damage to our internals, which is to frac valve design. So as soon as we can cycle these valves through their normal paired will be replacing the internals with this new design, the wellhead design, how we're looking to roll that out. And two, three in Q4, which I think is one of the more exciting iterations that are how many iterations to run now through 10. Now that's a lot of different changes.
Yes, this one offers the advantage of increased features, which for the sake of my competitors, I'm not going to detail, but also pretty significant value engineering went into this particular project. So think about third and fourth quarter.

Arun Jayaram

Great. And just my follow-up. Obviously, Saudi Aramco has been in the news over the last several weeks been a focal point for investors. So wondering if you could give us your perspective on what you see going on from a CapEx perspective? And how does this influence your thoughts of potentially committing capital to a new facility there?

Scott Bender

Yes. I don't. I don't think it changes my of my thought on the potential business in society, although to be honest, you know, we talked about this before the fact that or at the Saudis, you're thinking about selling 1% of Ramco zone. It was a little concerning on the one hand, I know that they need the money for 2030 on the other hand, it's what could what could interpret this as taking some chips off the table. But in terms of the messaging that Ramco is sending out now, this doesn't change my opinion at all.

Arun Jayaram

Great. Excellent. Thank you.

Operator

Kurt Hallead, Benchmark.

Kurt Hallead

Good morning, everybody.

Scott Bender

How are you?

Kurt Hallead

Yes, those guys got some new product growth coming out now. And as you said, a very exciting stuff circular wellhead front. You guys have always done a very good job, as you know, growing faster than the market and your product is proven its value by gaining share. So kudos on all those fronts. And I guess where I'm going with this is your message seems to be that you're setting up really, really well for some accelerating revenue growth in the second half. I know you tend to be conservative and you want to outperform expectations, but just wanted to see if you'd give us some additional color on that ramp and do you view that in the second half or do you think it will be much more of a 2025 as probably more of a?

Scott Bender

I think you'll start to see it in the latter part of this year but beyond. And I'm probably less optimistic about the US rig count in 2024 because I'm not sure that people fully understand on the overall reduction in rig count that's going to occur once these consolidations are completed as customers high-grade their prospects now this may not impact. It certainly won't impact well accounts to the same degree, and we're very well well count driven these natural gas prices cause me some concern. So our focus here, right, our focus this year is upgrading our supply chain and by upgrading wholly meaning one thing and that is lowering our costs. So what we are doing by this diversification from our existing Suzhou facility is both derisking us politically and also meaningfully. We expect decreasing our costs. I'm not going to tell you where we're locating the facility, but it's not going to be in a Section three or one country. Don't ask me the figures

Kurt Hallead

That's fair share, so a double or follow up then on the international front, wages have been away a strategic play in the making for some time now. And you know, what the cost looks like of making some meaningful market penetration on I don't know. Can you give us some general sense, you know, with disposable business right now, I guess give us an update on what percentage of revenue was coming from outside North America right now? And what kind of where do you think that might go over the next couple of years.

Scott Bender

Steve?

Steve Tadlock

And yes, yes, I would say it's ranged from 5% to 10%, but there's no reason it shouldn't be materially higher than that over time. There's a lot of interest like I said on that both in Latin America and the Middle East for our products.

Scott Bender

Allow me to be fair and forgive me for interrupting you the previous management at Flexsteel sort of hub retracted from their push internationally because they were so busy domestically, not unlike the way we work, but we've noticed a refocus. And by the way, we've combined our sales efforts between Pressure Control and disposables. There's an incredible amount of interest internationally for these Flexsteel.

Kurt Hallead

That's great. Appreciate that color. Thank you.

Operator

Stephen Gengaro, Stifel.

Stephen Gengaro

Good morning, everybody.

Scott Bender

Good morning.

Stephen Gengaro

Thanks. Just two from me. The first and obviously there's a lot of moving pieces with activity and consolidation. But when we think about the legacy catalyst business and the wellhead side, do you think in the environment you see right now in the US that that business can grow in 24?

Scott Bender

You're talking about from a market share standpoint or from an absolute standpoint?

Stephen Gengaro

Well, you won't tell me the market share anymore, but I imagine is pretty high, I think from a mid maybe address both, but I'm I assume. Yes, on the market share side, but on the absolute side, it has enough or do you think it's how should we think about that into the back half of the year is going to have an impact?

Scott Bender

Yes, B&I, as I mentioned earlier, I'm not probably more pessimistic about the overall rig count than some of the some of you are and maybe some of my peers having been through this so many times you know, gas prices at this level, consolidation's one customer has 22 rigs, one has 20, we never end up with 42 rigs and we won't end up at 42 rigs. So I'm optimistic market share. And by the way, the fact that we have stopped disclosing market share should give you any concern and our market shares. He's very, very healthy great placed on. I'm not quite sure that it can overcome a rig count that drops down into the five 55, 70 range.
Five, 75.

Stephen Gengaro

Okay. No, I'm actually not going to? I'm actually I would I would actually think that on the market share side of macrotrends, that all reductions, because if the opposite is so no, that's good color. And then went when we you mentioned this a little bit. But when we think about the international markets for the wellhead, particularly for the wellhead, I know there's there's some areas that you've been you've been looking into you've had you've had, I think, some early success. What are the two or three key markets and kind of where do you think that how you get evolves in 24 and 25?

Scott Bender

Believe it or not there's parts of Europe where I think that we're going to penetrate on the east and possibly some Latin American.

Stephen Gengaro

Okay. Great. No, thank you. Thank you for the color.

Operator

Scott Gruber, Citigroup.

Scott Gruber

It's gone. It's the morning blending strategy previously discussed getting pressure control margins back into the mid 30s. I'm looking at the cost reallocation that looks to boost margins by a couple hundred basis points or up to 100. So just to calibrate the upside potential now that's something on the order of 37%, maybe 38 as well.

Scott Bender

And that will protect us as far as merchant restore Exide 2020 forecast. But have you know, I think that I just would hate to cite that, although I can tell you that our investments this year will be to bolster our low cost manufacturing. So we are in a cost reduction mode right now. And I think that tons both in terms of product redesign and in terms of manufacturing. But yes, we are quantifying that internally, but I'm not prepared to talk about that right now.

Scott Gruber

Okay. And just one other thing, let me just say that said about so I guess the drivers were again why you have lost some low-cost inventory come through now, which should help in the near term and then you're going to get in the years to go. Thirdly, I know you're okay.

Scott Bender

Yes, because we have one of the things that we pride ourselves on or Joel does is that as we introduce innovations to our product, we do it in a very, very responsible measured fashion, so as not to obsolete anything we have in stock. So on as we replace our current inventories. The stuff is already on order and being manufactured what it reflects when it becomes reflective of in our results end of the year. But certainly next year and beyond. The new low-cost manufacturing facility will be partially operational by the end of this year, fully operational in 2025.

Scott Gruber

Great. I was looking for that color Thank you. Appreciate it.

Operator

(Operator Instructions) And this does conclude the question-and-answer session of today's program. I'd like to hand the program back to Scott Bender for any further remarks.

Scott Bender

Hi, friends. I just want to thank you all for attending the call hanging in there. We'll have some information for you on the international front. I hope in the next 90 days have a good week. Thank you.

Operator

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect and good day.