FLOC - NYSE

Good morning. Welcome to Flowco Holdings, Inc.'s Third Quarter 2025 Earnings Call. Today's call is being recorded, and we have allocated 1 hour for prepared remarks and Q&A. At this time, I would like to turn the conference over to Andrew Leonpacher, Vice President, Finance, Corporate Development and Investor Relations at Flowco. Thank you. You may begin.

Good morning, everyone, and thanks for joining us to discuss Flowco's third quarter results. Before we begin, we would like to remind you that this conference call may include forward-looking statements. These statements, which are subject to various risks, uncertainties and assumptions, could cause our actual results to differ materially from these statements. These risks, uncertainties and assumptions are detailed in this morning's press release as well as our filings with the SEC, which can be found on our website at ir.flowco-inc.com. We undertake no obligation to revise or update any forward-looking statements or information, except as required by law. During our call today, we will also reference certain non-GAAP financial information. We use non-GAAP measures as we believe they more accurately represent the true operational performance and underlying results of our business. The presentation of this non-GAAP financial information is not intended to be considered in isolation or as a substitute for the financial information prepared and presented in accordance with GAAP. Reconciliations of GAAP to non-GAAP measures can be found in this morning's press release and in our SEC filings. Joining me on the call today is our President and Chief Executive Officer, Joe Bob Edwards; and our Chief Financial Officer, Jon Byers. Following our prepared remarks, we'll open the call for your questions. With that, I'll turn the call over to Joe Bob.

Thank you, Andrew, and good morning, everybody, and thank you for joining us today. I'll start today by reviewing our third quarter results and operational performance, along with an update on the integration of the assets we acquired in August. Jon will then provide additional detail on our financial and segment results, our balance sheet and thoughts on capital allocation. I'll wrap up with our perspective on the current market environment and our outlook for the remainder of the year before we open up the line for your questions. In the third quarter, Flowco delivered another period of strong operational and financial execution. We generated adjusted EBITDA of $76.8 million, exceeding expectations, and we saw a 382 basis point expansion in our adjusted EBITDA margin quarter-over-quarter. Excluding the capital associated with our recent asset acquisition, we generated approximately $43 million in free cash flow, underscoring the durability of our cash flow generation and our disciplined execution across the business. Our performance reflects a shift toward our high-margin rental portfolio, which is growing through targeted investment and incremental customer demand for high-pressure gas lift and vapor recovery systems. On HPGL, our solutions are delivering measurable improvements in production efficiency, uptime and reliability, helping operators enhance recovery and returns. Customers continue to value the consistency and economic uplift these systems provide, particularly in an environment that rewards capital efficiency and sustained performance. On VRU, we are seeing continued momentum as operators recognize the financial and operational benefits of capturing and monetizing natural gas that would otherwise be vented or flared. Together, our HPGL and VRU fleets provide contracted recurring cash flows that offer visibility and consistency across cycles. These technologies are strengthening Flowco's leadership in production optimization, and we believe there remains substantial runway ahead as customers broaden deployment across their assets and recognize the long-term value of these solutions. Our high-margin rental portfolio was further bolstered by the acquisition of 155 high-pressure gas lift and vapor recovery systems, which we completed in August and discussed on our second quarter call. The integration of these assets has gone extremely well and is now complete, with the units performing in line with expectations and contributing to our enhanced margin profile. The acquired systems all deployed in the Permian have also enabled us to establish new relationships with several blue-chip customers while strengthening service to existing accounts. We will continue to evaluate inorganic opportunities within production optimization that complement our portfolio and align with our disciplined capital allocation framework. Spending a moment on sales and consistent with what we discussed in our second quarter call, revenues declined sequentially in both our Production Solutions and Natural Gas Technologies segments. Jon will expand on this in his remarks, but much of this impact was driven by our Natural Gas Systems business unit, which is our lowest margin business but remains a critical part of our internal supply chain, and it also provides us operational flexibility. Within Production Solutions, product sales were also impacted, but performance remained resilient considering the environment, and they exceeded our expectations for gross margin performance. This result underscores the sustained demand for our differentiated high-quality products and highlights the emphasis operators continue to place on reliability and performance in the current environment. Overall, I am pleased with our operational and financial performance in the third quarter. We continue to execute well across the organization, expanding margins, generating strong free cash flow and strengthening our high-margin rental portfolio through both organic growth and the integration of our acquired assets. These results highlight the resiliency of our business model and consistency of our execution in a dynamic market environment. With that, I'll turn it over to Jon to provide more detail on the third quarter. Jon?

Thanks, Joe Bob. Before reviewing some of the key financial metrics and results for the third quarter, I'd like to provide a reminder on our historical financial information given the combination of Flowco, Flogistix, and Estis in June of 2024. For clarity, note that any financial information presented prior to June 20, 2024, business combination, such as the third quarter 2024 financials reflects only the historical performance for Estis. Financial information for the second and third quarters of 2025 reflects the financials for the consolidated entities. Turning to our financials. Third quarter performance exceeded expectations, reflecting continued growth in our rental fleet and stronger-than-anticipated profitability within our sales business units. We reported adjusted net income of $37.3 million on revenue of $176.9 million. Total revenue declined 8% sequentially, driven by lower product sales activity in both our Production Solutions and Natural Gas Technologies segment. Despite lower revenue, adjusted EBITDA increased sequentially supported by the continued growth of our rental portfolio and its higher margin profile. As a side note, rental revenue, most of which is recurring, increased to $107 million versus $102 million last quarter. Adjusted EBITDA margin expanded by 382 basis points quarter-over-quarter, reflecting the benefit of our portfolio mix shift and the operating leverage we continue to capture across the business. In our Production Solutions segment, third quarter revenue decreased 2.1% to $126 million, while adjusted segment EBITDA increased 3.6% from the second quarter to $55 million. Adjusted segment EBITDA margin expanded 240 basis points quarter-over-quarter. The decline in revenue was primarily driven by lower downhole components product sales and partially offset by higher rental revenue from both our existing fleet and the recently acquired assets. The increase in adjusted EBITDA margin was largely attributable to improved operating leverage within our surface equipment rental business and an improvement in gross margin performance in downhole components. In our Natural Gas Technologies segment, third quarter revenue decreased 21% to $51 million compared with the second quarter, while adjusted EBITDA decreased 7.6% to $25 million over the same period, which were attributable to a decrease in natural gas systems and vapor recovery system sales in the quarter. Adjusted segment EBITDA margin increased by 714 basis points due to a favorable revenue mix shift towards vapor recovery from natural gas systems. Turning briefly to corporate costs. Third quarter corporate expenses were $3.8 million, down from $4.3 million in the second quarter, primarily reflecting lower third-party professional service costs during the period and a reduction in G&A. Overall, consolidated third quarter adjusted EBITDA was $76.8 million. Since becoming a public company, we've delivered consistent EBITDA growth while expanding margins and sustaining top quartile profitability even against a more challenging macro backdrop than when we entered the public markets. In the third quarter, we deployed $39.7 million of organic capital with the majority of capital allocated to expanding our surface equipment and vapor recovery rental fleet to support sustained customer demand at attractive returns. As we look to the remainder of the year, we expect only modest adjustments to organic capital spending and anticipate fourth quarter CapEx to decline relative to the third quarter. As noted last quarter, we accelerated a portion of our 2026 capital plan into 2025 in connection with the asset transaction, and we are assessing market conditions and customer activity levels to determine the appropriate pace of capital deployment for next year. We will continue to prioritize opportunities that enhance growth while meeting our return thresholds in alignment with our broader capital allocation strategy. Our typical investment lead time is approximately 6 months, which, combined with our vertically integrated manufacturing provides flexibility to adapt spending as we gauge customer demand and market conditions. On return on capital employed, our annualized adjusted ROCE for the quarter was approximately 16%. The sequential decrease reflects lower product sales in the period and the incremental capital deployed for the asset acquisition. As an update on our assessment of the One Big Beautiful Bill Act, in the third quarter, we benefited from the reinstatement of 100% bonus depreciation for certain fixed assets applicable to both our current year capital expenditures and the acquired assets. As a result, we've had a reversal of income tax expense in the quarter and anticipate minimal federal income tax burden for the remainder of the year. Turning to our balance sheet, liquidity and capital allocation. We ended the quarter in a strong financial position. As of October 31, 2025, we had $205.2 million of borrowings outstanding on our credit facility. With a borrowing base of $723.5 million, we had $518.3 million of availability under the facility. On October 31, Flowco declared a quarterly dividend of $0.08 per share payable on November 26. In addition, during the quarter, we returned $15 million of capital to shareholders through share repurchases. Our ability to pursue both organic and inorganic growth while returning capital to shareholders and maintaining low leverage highlights the durability of our business model and the strong cash flow generation across our business units. In summary, we delivered a solid third quarter, outperforming our expectations with adjusted EBITDA above our guidance range. We executed well despite a softer upstream backdrop that weighed on product sales. And based on current visibility, we expect sales to improve in the fourth quarter. Joe Bob will speak shortly to the market environment and our outlook as we close out the year. Looking ahead, we expect our rental fleet to continue delivering consistent, predictable performance, supported by strong demand and contracted cash flows. We also anticipate continued resilience and strong free cash flow generation across our sales business units. Our disciplined capital deployment and differentiated business model give us confidence in our ability to continue delivering strong results. Back to you, Joe Bob.

Thanks, Jon. Turning now to the market outlook. As we noted last quarter, the North American upstream landscape remains dynamic. with operators continuing to balance production growth with capital discipline in a lower commodity price environment. While macro uncertainty and commodity price volatility persists, activity levels have generally stabilized and customers are increasingly focused on maximizing returns from their existing production base. We continue to see a shift toward prioritizing operating expenditures over capital expenditures to sustain or grow production, an approach that aligns directly with Flowco's core strengths in production optimization. Considering this market backdrop, our growth expectations for the remainder of the year are unchanged, and this is reflected in our fourth quarter guidance. In the fourth quarter, we expect adjusted EBITDA of $76 million to $80 million. This outlook reflects continued momentum and growth in our surface equipment and vapor recovery rental fleets, inclusive of a full quarter contribution from the assets acquired in August. Within Production Solutions, we anticipate a small incremental seasonal slowdown in product sales that will lead to an overall decrease in revenue in the Production Solutions segment. For the Natural Gas Technologies segment, based on current visibility, we anticipate a rebound in sales across both natural gas systems and vapor recovery systems, resulting in segment revenues slightly above second quarter levels. Finally, we expect SG&A to remain broadly consistent with the third quarter. I am pleased with the solid performance of our business this quarter, and I want to thank all of our employees across Flowco for their continued dedication and disciplined execution. While we are encouraged by our positioning, we remain focused on strengthening the business for the long term. We are committed to continuously improving our operations and advancing our strategic priorities. Within Natural Gas Technologies, we are seeing positive early returns from the use of machine learning to improve efficiency, reduce maintenance expenditures and enhance margins through an internally developed proprietary system. Across our manufacturing and operational footprint, we are evaluating opportunities to further streamline processes and increase profitability. As we strengthen collaboration across the organization, we are identifying ways to more fully service customers through our complete suite of products and solutions. And we continue to assess both organic and inorganic opportunities to enhance our technology and service offerings, positioning Flowco to further support our customers in maximizing their production and profitability. 2025 has reinforced the value of our strategic focus on production optimization, where advancing artificial lift technologies within Production Solutions and improving vapor recovery performance across Natural Gas Technologies is creating meaningful value for our customers and for Flowco. We believe the next phase of value creation will be driven by technology-enabled efficiency, continued innovation across our offerings and deeper collaboration with our customers to unlock value over the life of the well. Flowco is well positioned to continue advancing our strategy and to deliver meaningful long-term value for our customers and shareholders. And with that, I'll turn it back over to the operator for Q&A.

[Operator Instructions] Our first question is from Derek Podhaizer with Piper Sandler.

Just wanted to start with Natural Gas Technologies, more specifically, the progression of optimizing natural gas systems. It seems like that drove some of the top line decrease, but we've also saw 700 bps margin expansion there. I know, this was a point of emphasis last quarter. So maybe just update us on your progression optimizing that business unit because it seems like you made a lot of progress in the quarter and how we should think about it moving forward as you continue to optimize NGS?

Yes. Certainly, Derek. Thanks for the question. Good to hear from you. So, remember, the natural gas systems business unit is our supply chain, right? Its primary function is to build vapor recovery systems as well as the conventional and high-pressure gas lift systems for our rental fleets. In addition to that, from time to time, we will sell systems to customers that would prefer to own versus rent. Again, we do not sell high-pressure gas lift systems, but we will sell conventional gas lift packages as well as vapor recovery systems when the stars align and the price is right, okay? So, with that said, we did take in the earlier part of this year, the step to optimize that part of our supply chain by consolidating one of our facilities into our center of excellence in El Reno. I think you've been there. It's a world-class manufacturing facility, very proud of that facility. We took the painful step to close down one of our sister facilities in Pampa, Texas and reallocate the capacity to El Reno, Oklahoma. One particular point that we're particularly proud of is the fact that with all of the redundancy that took place in Pampa through various job placement exercises and career fairs that we hosted, we placed almost 100% of those employees in neighboring facilities in the Pampa region. So even though it was a painful step, it was a necessary step for our shareholders, but we did right by the community that we operate in every day and taking care of those employees. There might be more to go there. We have additional capacity elsewhere in the system. We continue to evaluate it as we look at the demand profile going into 2026. But yes, we're happy to get that behind us this year and move forward in a leaner way.

Got it. Okay. That's helpful color. And then I guess just on the rentals, right, like we're up to 60% of revenue now. We were 50% in first quarter. Is this where you expect the run rate to kind of be going forward as we move into 2026? Or are you continuing to target rentals of HPGL and VRUs that we could see something north of 60% as we move into next year?

It will largely depend on the capital deployment pace, Derek. The shift from 50% to 60% this year is really due to the capital we've deployed as well as the softer product sales, okay? So, it's a mix shift coupled with growth CapEx kind of phenomenon. Heading into next year, we see -- and we'll talk on this. I think Jon will probably address this in a minute. We see capital deployment roughly in line with what we're deploying -- what we have deployed in 2025. There will be some mix shift within the capital deployment, of course, depending on the demand profile we see. But we fully expect product sales to be largely consistent with where they are in 2025, absent some sort of industry activity boost. Remember, the product sales are a function of both what happens downhole as well as the surface equipment, and we've seen particular weakness in the surface equipment sales business in 2025. So yes, look, hard to tell if 60% is going to be the new norm or if it's going to go down. My guess is it's probably going to go down a bit as sales recover heading into the end of the year and then going into '26. Anything to add to that?

No, I agree. I think, I mean, 60% is almost a flip from a couple of years ago because of all the investment we've made in our rental fleet, but Q3 was particularly low in terms of product sales. We expect that to recover a little bit in the next quarter. So I think you'll see that kind of bump back down a little bit. And overall, that will have an impact on margins as well as we sell more than we ramp.

Our next question is from Philip Jungwirth with BMO Capital Markets.

You've operated the Archrock assets for the last couple of months, can you give a bit more detail on the customer response and feedback to date as they work with the Flowco team? And is there any cross-selling potential or increased HPGL penetration that can be done across the new blue-chip customers?

Certainly. To answer the second question first, yes, we inherited a couple of accounts that we, for a variety of reasons, had trouble penetrating, specifically with HPGL, Phil. And we think that the -- and it's early, but we think that those accounts are going to be open to the broader commercial discussions that our teams can have as they progress through the Wells progression from HPGL to another form of lift, most likely traditional gas lift. So those conversations are happening. We're starting to see some good early returns there, and that's just a daily part of the battle on our commercial efforts. In terms of the first part of your question having to do with really the integration of the systems into our fleet, it was seamless, okay? The reception that we got from customers of us really the leader in the space and what we do is focus on production at the wellhead, customers were very pleased that we were the buyer of these assets and are now the custodian of their early production efforts. So I'd say all around, it was very positive. I certainly hope all future M&A is as seamless as this. This is a particularly unique one, though, I think. But no, it's gone really well.

Great. Great to hear. And then can you talk about recent trends in VRU adoption across maybe both upstream and midstream? And just given that captured methane is put back into the sales pipeline, I mean one of the big themes we've seen is just the amount of Permian pipelines and construction FID-ed in the last couple of months and what the strip is implying from Waha post 2026. Does this at all make you any more optimistic on increased VRU adoption after you see higher in-basin gas prices?

No question. We are as optimistic, if not more, based on the fundamentals of the natural gas build-out. You mentioned pipeline capacity. It seems like any time you have a new pipeline announcement, it just inevitably gets filled with all of the associated gas that's coming out of the Permian. And then the massive amount of data center power build-out that's taking place, a very large portion of that will be fueled by natural gas. So, I think the demand profile for natural gas, the fundamentals for natural gas coming out of the Permian in particular, just continue to strengthen. And vapor recovery is becoming ubiquitous with pad design and with the undeniable economics that it provides to an operator to deploy our systems, we remain confident in additional system deployment. We really track a couple of key KPIs on a month-by-month basis. And one of the most critical ones is the number of units that we set every month net of those that come back to us in terms of returns. And I'm pleased to say that, we just continue to see positive months as we build more systems, as customer demand improves, that net set number continues to trend in the right direction. So we see no reason to back away from the capital deployment that we plan for 2026 in VRU, and look forward to hopefully providing more positive data points in the quarters to come.

Our next question is from Sean Mitchell with Daniel Energy Partners.

Joe Bob, you kind of mentioned technology in the opening comments. But just are you guys building out kind of proprietary software tools in-house? Are you partnering with kind of digital specialists to accelerate kind of AI and automation capabilities?

Good question, Sean. We actually have built out over the last 10 years, if you can believe it. In-house proprietary software systems that have helped manage and operate our vapor recovery systems more efficiently, more profitably than our competitors, okay? So, this is a legacy of previous investments we've made as a private entity pre-IPO. We're in the very early stages of leveraging that internal capability of software development, specifically software development to help optimize surface equipment more efficiently. We're in the early phases of deploying that capability across the rest of our businesses. And then obviously, from there, integrating data that we can collect downhole, either with our own equipment or with third-party equipment into more efficient operation of a system that marries downhole lift techniques with surface drive that will enable the lift technique to take place. So, this is largely an in-house effort. We alluded to it in some of our prepared remarks, but we are starting to see some very positive early returns from years' worth of investment and hopefully more to come there. I think the ultimate end goal is to work with customers who have more data than we do, right, to integrate what they see in their production information with what we can provide with our lift and VRU techniques to help optimize their production on a field-wide basis, not just well by well. But that's the end goal. We're on the journey and look forward to hopefully sharing more good news over time.

Congrats on the quarter.

[Operator Instructions] Our next question is from Jeff LeBlanc with TPH & Company.

I wanted to see if you could help frame the tailwind for your HPGL and VRU businesses as operators start to target gassier benches. I know you just talked about the tailwind for natural gas demand, but it actually seems like at least you're starting to see the shift on phase windows in the Anadarko and Eagle Ford and then probably over time, you can also see it in the Permian. So, I would just appreciate any color there.

For HPGL, what you're really -- what we're really looking at is oil production, right? So, as we look at big picture production data for the country, oil production continues to hang in there. And we haven't seen the meaningful decline in production that I think folks feared earlier this year might take place as commodity prices corrected and activity levels started to be curtailed. So, I think high-pressure gas lift certainly plays a part of that, and we're going to continue to invest in that effort. We've really seen no change from customers' demand for our systems, in particular, in the Permian, which is our largest concentration of units in the U.S. So, we expect to continue to generate positive growth out of that specific product line over the next few quarters and really have not seen any kind of demand profile shift. So hopefully, that answers your question. I know, there's not a ton of detail in there, but that's how we see it.

Our next call is a follow-up from Derek Podhaizer with Piper Sandler.

I wanted to ask about the buyback. Nice to see $15 million for this quarter. Maybe just updated thoughts on how you're thinking about that as far as your capital allocation strategy. Obviously, we have the dividend for a couple of quarters. Now we have the buyback. I know you have an authorization out there. You're balancing your capital deployment. Will this just be opportunistic? Will this be more formulaic, returning over 50% of free cash flow, which is really nice to see. Just maybe some more thoughts around the buyback, just given that you just kicked it off.

Yes, certainly, Derek. Listen, we've been very, very careful to not be prescriptive in telegraphing to the market how our capital allocation framework will be period full stop. We've been much more opportunistic in looking at ways to deploy the free cash flow that we generate every day. As we look during the quarter at our internal opportunities as well as every day how we're valued, it just became increasingly more clear that we're undervalued. And so, we leaned into share repurchases during the quarter, and we will continue to as long as we feel like we are not valued where we feel like we should be, certainly, that in relative terms against the opportunity set that we have to deploy capital in our existing business and, of course, in M&A. So, look, we'll remain opportunistic. We were happy to start the process during the quarter. to buy back stock opportunistically, and we'll just continue to evaluate it as it hits the screen every day.

Got it. No, that makes sense. And then maybe just looking out to 2026, I appreciate that it's early. But how do you start to think about that kind of where you're comfortable, where estimates are today for next year? And just thinking about the progression of obviously kind of these weaker product sales. We have some seasonal dip in 4Q, but we should have some recovery next year. So maybe just some early thoughts as you look out to 2026 and kind of where numbers are shaking out right now.

Listen, we're a brand-new public company. We've started to and have been consistent in guiding quarter-by-quarter. I think we're going to continue that cadence, Derek. We provided you some guidance for Q4. We obviously have a view on '26, but we're going to see how the planning process goes between now and the end of the year. What I can tell you is that the opportunity set that we are investing in today, and remember, we're kind of a 6-month lead time kind of organic CapEx organization. The opportunity set looks strong. And we are making capital decisions out through June. And I'd say, they're largely consistent with the opportunity set that we've seen this year. So I don't see any reason why we're going to curtail capital spending certainly through midyear next year. The form of the capital may be different, moving from electric to natural gas drive or conventional from HPGL. It will move around within the systems that we operate. But I'd say as we see it today, it's pretty steady. The product sales, as you point out, are shorter cycle. And you tell me what the price deck is for next year, and we can pontificate on what the year could be? But we're just not comfortable enough to give you any kind of full year guidance just yet. But as we look into Q4, things look good, and we're optimistic that we're going to deliver another good quarter with some growth and positive free cash flow and returning capital to shareholders, just as you pointed out.

This will conclude our question-and-answer session. I would like to turn the conference back over to management for closing remarks.

Thank you, everybody. Look forward to talking to you again in 90 days. I hope everybody has a great Thanksgiving and good rest of the year. Thank you.