Dave Barta – Chief Financial Officer Andrew Way – President and Chief Executive Officer.

Joe Gibney – Capital One James Spicer – Wells Fargo.

Greetings, and welcome to the Exterran’s First Quarter 2018 Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Dave Barta, CFO of Exterran.

Thank you, you may begin..

Good morning, and welcome to Exterran Corporation’s first quarter 2018 conference call. With me today is Exterran’s President and CEO, Andrew Way. Before we begin, I wanted to share with you that after two years, Greg Rosenstein, our VP of IR, has left us to take a position as a CFO of a company in New Orleans.

I want to recognize Greg and thank you for his contributions. During this conference call, we may make statements regarding future expectations about the company’s business, management’s plan for future operations or similar matters. These statements are considered forward-looking statements within the meaning of the U.S.

securities laws and speak only as of the date of this call. The company’s actual results could differ materially due to several important factors, including the risk factors and other trends and uncertainties described in the company’s filings with the Securities and Exchange Commission.

Management may refer to non-GAAP financial measures during this call. In accordance with Regulation G, the company provides a reconciliation of these measures in its earnings press release issued yesterday and available on the company’s website. With that, I will now turn the call over to Andrew..

Thanks, Dave. Good morning, everyone. Exterran had another solid quarter on many fronts, with EBITDA as adjusted of $51 million on revenue of $350 million, higher product bookings and ECO wins and continued margin rate expansion in our product sales segment.

We noted on our last call that we felt the fourth quarter bookings number was trendatory, as customer orders paused following a strong order flow during the first nine months of 2017. Our Q1 bookings were $193 million, a 71% increase from the fourth quarter, in line with our expectations for the start of the year.

We continued to experience robust demand for midstream infrastructure in North America, which benefits our product sales business, and ultimately, our service business as we expand into the region.

During the quarter, we received our first process and treating AMS part sales in North America as we focus on developing our capabilities to enter this market. The Permian basin, Marcellus and Utica, and SCOOP/STACK continues to remain very strong markets for both compression and processing and treating demand.

The DJ basin also remains active with continued discussions of new projects, both Greenfield and expansions of existing assets. In recent weeks, we’ve also seen inquiries increase in the Eagle Ford, Bakken and Nebraska.

The dynamics and drivers in each of these basins are different and we’re tailoring our solutions to our customers in each location on a specific basis. In the Marcellus, growth is clearly driven by incremental gas and NGLs. Customers are adding capacity and need new cryo trains to process these incremental flow.

With our product philosophy of modular and scalable plants, we’re well positioned to satisfy the demand of our customers by delivering additional trains as they see this incremental growth unfold.

In addition, we see the petrochemical capacity being added, leading to the need for additional processing equipment that we’re able to design and deliver to the scale required to support their needs. In the Permian, the story continues to be all about liquids.

However, there’s a large amount of associated gas that customers have coming off their wells. This allows us to position additional processing trains and compression to produce and transport this gas.

The announcement of new pipeline capacity is enabling customers to continue drilling and generate additional supply, which thereby affords us an opportunity to provide more equipment to enable them to monetize their output. In the Middle East and Africa region, customers continue to drive investment in both oil and gas projects.

We are seeing a resurgence of demand for oil processing capacity, and that is typically coupled with associated gas volumes and the need for produced water treatment solutions. Countries such as Kuwait, Oman, Iraq and others have announced additional discoveries and the need for new projects that are well suited to our capabilities.

We are well-positioned, our customers are moving forward with projects to rapidly monetize new gas discoveries, while renewing their activities in oil with smaller and faster-to-market concepts.

Our ability to offer customers a complete design build, own, operate and maintain solution with an in-region execution from our newly purposed Hamriyah facility is a competitive differentiator. Latin America feels like we’re at the beginning of a midstream up cycle.

We’ve talked extensively in the past about Argentina, Bolivia and Brazil as the centers of new gas initiatives driven not by economics but by fundamental demand for the benefits that natural gas brings to growing nations.

The inbound inquiries continued to be strong globally and we are anticipating a very strong second quarter for contract operations and product orders.

In our contract operations segment, we recently signed another contract in our Middle East and Africa region, this one for over $60 million of revenue to build, own and operate and maintain a cryo plant that will go into service within two years.

Inclusive of the project awards we announced on our last earnings calls, we have now signed over $100 million in contract operation projects over the past six months. We continue to win businesses at a steady pace and anticipate more project wins from our long-term project pipeline as the year progresses.

Last quarter, I talked about three fronts of execution we continue to focus the entire organization around; first, delivering the projects that we have in backlog; second, positioning to win with efficiency, cost and speed; and then third, scaling our operations and our capabilities in the Middle East.

I’m pleased with the progress we continue to make in all three areas. We’re making good progress from the previously announced projects across our engineering, manufacturing and on-site construction teams. We recently achieved a milestone of over 1 million safe man hours on the site on one of these projects in a very harsh environment.

Our regional operating teams, along with our global supply organization, continues to make excellent progress, positioning the company to take on more complex projects locally, delivering sharp productivity and faster cycle times. Our continued margin expansion efforts in our product segment will continue through 2018 and beyond.

At the same time, in our newly purposed Middle East facility, we’ve logged over 300,000 manufacturing hours in our Hamriyah shop during the first quarter and delivered product directly to our customer sites within the region, improving cycle time, while saving significant transportation costs by not shipping product out of the U.S.

Our Middle East facility has quickly become a key competitive advantage for Exterran, for both compression and P&T product lines, providing the full service offering from application and configuration to detailed design, manufacturing and service support.

All of these are signals of our efforts on operational effectiveness paying off, and I’m looking forward to seeing continued improvements in all of these areas. In our aftermarket service segment, our results were in line with our expectations but lower sequentially due to anticipated seasonal factors in Latin America.

It does not detract from the progress we’re making in winning new projects and expanding into new markets. We are seeing continued commercial success and are further developing capabilities to deliver expertise to our customers with a high degree of responsiveness.

After Dave discusses our first quarter financial results, I’ll provide some additional commentary on our outlook. I’ll now turn the call back over to Dave..

Thanks, Andrew. As I discussed our segment results, I will again make comparisons to sequential quarterly performance. So starting with the contract operations segment, revenue increased 1% to $96 million, while gross margin was flat at $61 million, resulting in gross margin percentage of 63%.

In the aftermarket services segment, revenue was 14% lower at $26 million, while gross margin of $7 million decreased 7% from the prior quarter. This resulted in a gross margin percentage of 28%, up 200 basis points.

As Andrew mentioned, we traditionally see a slight reduction in Q1 in South America due to summer holidays, resulting in decline in repair, maintenance and overhaul projects as well as in transactional part sales. Compared to the same period in 2017, however, AMS revenue was up 17% and gross margin was up 26%.

Revenue in the product sales segment was $228 million or 7% higher, while gross margin improved 11% to $27 million, resulting in a gross margin percentage of 12%, up 40 basis points from Q4 and up 330 basis points from a year ago. It was a strong quarter for compression.

In fact, net revenue from compression orders was at its highest in terms of dollars since the second quarter of 2015. Revenue for processing and treating orders were also higher sequentially, once again reflecting solid conversion and execution of our backlog. The product revenue split was 93% from North America and 7% from international markets.

Andrew noted the improvement in product sales bookings to $193 million. Our product sales backlog was $427 million at the end of Q1 as compared to $461 million at the end of 2017. SG&A expenses were flat at $44 million, as we continued to manage costs while investing in revenue-producing initiatives such as new product development.

We also implemented a new revenue recognition accounting standard, ASC 606, in Q1. The impact was not material to revenue or gross margin.

However, you will see some changes on the balance sheet, and most notably the capitalization of contract obtainment and fulfillment costs, including demobilization and sales commission cost and the recording other related liabilities associated with contracts within our contract operations segment.

Also as part of the adoption of 606, you will find enhanced disclosures in our filings regarding backlog. For the first time, you will find reported backlog for our contract operations segment. The backlog we are reporting is $1.2 billion. It’s important to understand the definition of backlog.

Our backlog is an estimate of the amount of revenues expected to be realized in future periods based on executed contracts and does not include any assumption for renewals, no matter how likely that is to occur.

Additionally, month-to-month contracts or similar constructs, if any, would be included in the backlog at one months’ worth of value and the backlog will also exclude certain other variable consideration elements.

Further details surrounding the adoption of this revenue standard will be included in the Form 10-Q, which will be filed today after the market close. Shifting gears a bit.

On April 17, 2018, the company entered into a definitive agreement for the sale of our North America production equipment manufacturing facility and associated inventory to Titan Production Equipment Acquisition, LLC, an affiliate of Castle Harlan, Inc.

The sale will not have a material financial impact to the company and allows us to accelerate our growth strategy by focusing as a systems and process company for oil, gas, water and power. The company will continue to manufacture production equipment outside of North America.

We will continue to offer our customers complete solutions and gas gathering, processing, treating and compression as well as we will continue offering production equipment in North America through Titan.

As you may recall, we mentioned several times last year on our quarterly call that we were undertaking a strategic review of the company’s product and service offerings.

The PEQ transaction concludes the product line rationalization efforts, as we’ve now completed multiple transactions, including the sale of the Belleli CPE business and the PEQ services business and the exit of the Belleli EPC business, which has all occurred over the past 2.5 years.

We feel that we’re now positioned – well-positioned to offer the products and services to maximize the value we can provide to our customers across oil, gas, water and power applications while providing our investors solid returns. Turning to capital expenditures.

In the first quarter, total CapEx was $49 million, driven primarily by investing in growth products in our contract operations segment. Looking at the balance sheet, total debt at the end of the first quarter was $387 million, with undrawn and available credit of $561 million.

Our leverage ratio, which is debt-to-adjusted EBITDA as defined in our credit agreement, was 1.8x at the end of Q1 as compared to 1.7x at the end of 2017. Our long-term debt less cash or net debt stood at $369 million, up from $319 million at the end of 2017 and the increase was a result of the investment in growth CapEx.

We’re well-positioned with adequate capital to take advantage of the pipeline of opportunities we’ve been discussing. And we continue to make progress with respect to working capital. In fact, working capital as a percent of sales improved again and is 1,000 basis points improvement versus a year ago Q1. I’ll turn now to the outlook we have for Q2.

In contract operations, Q2 revenue should be in the low $90 million range, with a gross margin percentage flat to slightly lower than Q1. Lower compression capacity requirements in Latin America in Q2 will temporarily decrease revenue for the quarter.

However, we expect to return to a run rate in line with our slightly-higher-than-Q1 levels as we enter the second half of the year. For our aftermarket services business, revenue will improve in Q2, going into the mid to high 20s, as Latin America activity will improve, and the gross margin will be slightly lower than Q1.

In our product sales segment, revenue should be flat to Q1 levels, with continued gross margin expansion due to our focus on productivity and cost-out initiatives. SG&A should be between $45 million and $47 million, slightly higher sequentially due to the incremental investments and new product initiatives.

Depreciation in the second quarter should be in the low 30s and interest expense should be approximately $9 million. I will add, we are maintaining our full year forecast for CapEx and cash taxes as provided in our Q4 call. I’ll turn the call back over to Andrew..

Thanks, Dave. So as we noted on our last call, 2018 will be a year of investment for Exterran as we execute our growth plan. Investment will come in the form of capital expenditures and new product development initiatives.

We will continue to be good stewards of capital as we maintain our focus on working capital and invest it in high-return projects and product lines. The sale of the production equipment assets is a great example of this focus.

The global markets continue to feel cooperative and receptive of our approach and maintain an appetite for midstream equipment and new ideas to efficiently process the increasing amounts of gas production.

During our last earnings call, I talked about Exterran’s strategic growth plan and positioning our company more towards a systems and process company.

As part of these efforts to provide differentiated value propositions to our customers, we have created a team dedicated to product development and R&D, looking at both organic and inorganic ways to grow the company.

We believe this will be additive to our regional growth strategy as well as deliver optimized and efficient plants to our contract operations. The concept of integrating various products to offer a comprehensive and optimized solution is being seen favorable with our customers. We are currently working on a few pilots that is demonstrating this value.

Additionally, we have invested R&D resources to enhance our water processing business. We are seeing a lot of interest from customers, both in the Middle East and in North America, where produced water disposal is becoming a major problem.

We have seeded several of our patented de-oiling technology with various companies in both continents, and have had very positive results. We will update you on progress in the next earnings call.

Over the last few months, I’ve traveled extensively to all four of our regions and have come away excited and optimistic with the feedback from our customers. As we look at their investment plans, worked early with them on pre-feed and feed studies, we believe we are well-positioned to support them in meeting their objectives.

Our global footprint is a strong enabler in driving those relationships. With that, I’ll now turn the call back over to the operator for questions. Thanks..

Thank you. The floor is now open for questions. [Operator Instructions] Our first question is coming from Joe Gibney of Capital One. Please go ahead..

Thanks, good morning. Just a question on contract ops outlook, Andrew. The – curious if the project pipeline is unchanged relative to your expectations from last year. You talked about a $2 million project pipeline out there. You’re securing some work, it look like. Just curious how that’s shaping up.

And then also on the contract side, with some of these recent inbounds, just curious on the startup of revenue from them. I think the $40 million or so that you referenced last quarter was more of a late 2018 kind of benefit to revenue.

Would it be sort of early 2019 that we should be thinking about that for this incremental booking that you referenced today?.

Yes. So first of all, we continue to see very strong demand in contract operations. The pipeline is – continues to be robust. I did highlight in the script and also in the earnings release that we have already seen in the second quarter a very strong demand that’s resulted in some orders for us, both on product and on ECO.

And so we feel very good how that’s starting to convert into real orders that we can work on. The countries that was continuing to see strength, we’ve talked about them before, we’re seeing, in the Middle East, continued strength in Oman, in Kuwait and recently in Iraq.

We’ve seen in Latin America, the countries that we’re already operating in along with Bolivia and some real green shoots in Brazil, again. And so the pipeline is strong. Some of these projects, by definition, take a little longer to close. I think we’re well-positioned.

We’ve read publicly, recently, a number of projects that have been talked about in the press from our customers. And so we hope to see continued wins here in the second and third and fourth quarter. The projects that we referred to, yet – second half of 2018, we’ll see startup of those projects more towards the fourth quarter.

The ones that we booked prior to, they’re on-track. And as I mentioned, we’re successfully building out those facilities, as we speak, at our customer location. And then, the recent wins that we’ve just announced this quarter are towards the back-end of 2019, and probably fourth quarter, early first quarter of 2020.

So depending on the application and product specs, some of these facilities get up and running earlier, others take a little longer. But that’s the current framework of what we see right now..

Okay, helpful. And then, on product sales, just curious. Your perspective on – I know processing and treating certainly has been the main driver. But could you speak a little bit to what you’re seeing in compression demand, particularly here in the U.S. Maybe some trends or some particular growth in certain markets.

I’d be curious on your perspective there. And then, maybe on a produced water disposal side, it just sounds like this is in nascent stages. But what you’re trying to bring to the table there, product-wise, I’d be interested in hearing a little bit more about that, appreciate it..

Yes, sure. So on the compression side, things have really started off the year very strong. Our demand, right now, that we’re seeing on inbound inquiries reflected what we saw in the first quarter and the fourth quarter with regards to inbounds across most of the basins.

I mentioned in my pre-remarks that we have continued to see strength in the Permian and the Marcellus. We’re starting to see a few new regions coming through.

And I think one of the correlations that we’re seeing clearly is, a lot of the installed processing capacity that we’ve put in or we’re putting in today, each one of those facilities have quite a large demand of horsepower and compression that’s required to feed the gas. And so we’ve seen – we’re just kind of working on this, this morning.

I think about 650,000-horsepower inquiries inbound in the first quarter between North America and the rest of the world, which is quite high compared to some of the run rates we’ve seen previously. So there’s still a very strong demand in the heavier horsepower.

We’re clearly positioned to benefit from that activity, with the work that we’ve done, really focusing on manufacturing facilities, ready to take that volume. And so now it’s just a question of, clearly the customers making that choice between rental and owning that asset. And hopefully, that will play into Exterran’s hands.

And so very confident about the market and, certainly for the foreseeable future, we continue to see a significant demand on compression. On the water treatment side, it’s a business that Exterran’s owned for a while and had relative success in large-scale order projects.

We took a little bit of a different approach a little while ago and started to produce some technology through some patented de-oiling technology to help our customers really to enhance the work that we’re seeing that’s taking place today in the shale play.

We’ve integrated some of the mechanical and the chemical treatments into this core technology that we have, to really tackle the challenges that we’re seeing everyday from our customers, which is this produced water problem that we’re seeing across the board. And so this technology, it’s portable.

We’ve built a number of these units, all of these units are currently in the market being used. They’re capable of handling up to 30,000 barrels a day, processing water in some pretty spectacular time frame.

And we’ve started conversations with several customers on the technology solution and how we can integrate that into some of the major players in North America and also overseas.

And so, it’s an area we’ve invested in quite a bit, and I think it’s in the early innings of hopefully a great segment that we can talk about in the future as being a real key component of Exterran’s success.

And I think it has both the opportunity on a product sale and also on a contract operations, and so we’re testing this concept as we speak and hope to give you more updates later in the year..

Okay. Thanks, that’s helpful. I appreciate it, Andrew..

Okay. This is Dave, I’ll step up for the operator, as they have a fire alarm going off in their building. [Operator Instructions] All right, I think James Spicer from Wells. We will take your question..

Yes, hi, good morning. Just on the sale of the North American production equipment assets, I know you mentioned the financial impact was negligible. Just trying to understand what you gained from that sale and whether it’s reflective at all of your view of the opportunity in North America versus the international market..

So James, a couple things. First of all, it really wasn’t a material value. We issue our Q this evening. You’ll see a little bit of a disclosure in there in terms of the value. It really was one of our smallest product lines in terms of revenue.

We’ve seen a continued demand in a product that really doesn’t fit what we intend to do with Exterran, which is really to build a processing system. It really generates service revenue from the product development that we’re building.

And so we saw that it as an opportunity to take a great business and allow someone else to run with it that can fit their needs. And so it allows us to focus the organization in a better way. We sold a facility that’s more than capable of meeting the aspirations of what the buyer wants to do.

But it really didn’t fit the place in which we want – where we want to take the company. And so, there was no surprises, generally. We’ve been looking on a deck for while in terms of the portfolio, and as Dave mentioned, we sold the CPE business. We took care of the PEQ service business last year. We’ve ran down EPC.

And so really what we’re left is a portfolio that can generate revenue, not just the time you ship the product, but also through the life cycle. And so that’s ultimately where we’re heading. And so it was really nothing more than that..

And maybe, I’ll add, James, just to frame the financial side of it. As Andrew mentioned in our Q, because of the enhanced disclosures around – from 606, you’ll see the sales in the first quarter run under $9 million for the business. And again, it doesn’t mean, because we sold the business we lose those sales.

Again, we sold Titan, the manufacturing facility, some equipment and inventory. They’re still going to be a partner to us and serving our customers in North America that need PEQ products. We’re still able to manufacture and sell those products internationally. So it may have very little impact on the P&L.

Again, the assets in their hand, we felt was something they wanted to focus on, some better use of those assets. And it also doesn’t change anything regarding compression and processing and treating.

I know some of the merger-type magazine articles seem to carry a little bit further, but it’s really only a PEQ discussion, selling them the facility and inventory..

Purely strategic, and a great team from Exterran moved in to Titan, so they’ll do great..

Okay, great. I just – that makes sense. I just wanted to make sure I wasn’t missing anything there. And then, just a quick housekeeping one if I could.

Do you have your revolver balance at the end of the quarter?.

Revolver balance was – it’s around $660 million, $670 million, off hand..

In terms of outstandings?.

Outstandings? Yes, total long-term debt was $387 million in total, so minus the $375 million of note, so $13 million..

Okay, perfect. Thank you..

[Operator Instructions] I’ll hand it back over to Andrew..

Okay. Well, that concludes the remarks of today, and thanks, everyone, for dialing in. And I appreciate the interest and look forward to updating you at the end of the quarter. Thank you..