Mark S. Traylor - Forum Energy Technologies, Inc. C. Christopher Gaut - Forum Energy Technologies, Inc. Prady Iyyanki - Forum Energy Technologies, Inc. James W. Harris - Forum Energy Technologies, Inc..

George O’Leary - Tudor, Pickering, Holt & Co. Securities, Inc. Martin W. Malloy - Johnson Rice & Co. LLC Scott A. Gruber - Citigroup Global Markets, Inc. Rob J. MacKenzie - IBERIA Capital Partners LLC Marc Bianchi - Cowen & Co. LLC Sean C. Meakim - JPMorgan Securities LLC John Watson - Simmons & Company International.

Good morning, ladies and gentlemen, and welcome to the Forum Energy Technologies Earnings Release Conference Call for the Second Quarter 2017. My name is Michelle, and I will be your coordinator for today's call. At this time, all participants are in a listen-only mode, and all the lines have been placed on mute to prevent any background noise.

We will be facilitating a question-and-answer session after the speakers' remarks. As a reminder, this conference call is being recorded for replay purposes. After the speakers' remarks today, I will instruct you on the procedure for asking questions. I will now turn the conference over to Mark Traylor, Vice President of Investor Relations.

Please proceed, sir..

Thank you, Michelle. Good morning, and welcome to the Forum Energy Technologies second quarter 2017 earnings conference call. With us today to present formal remarks are Cris Gaut, Forum's Chairman; as well as Prady Iyyanki, Chief Executive Officer; and Jim Harris, our Chief Financial Officer.

We issued our earnings release last night and it is available on our website. The statements made during this call, including the answers to your questions, may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act.

Forward-looking statements involve risk and uncertainties that may cause actual results or events to differ materially from those expressed or implied in such statements. Those risks include, among other things, matters that we have described in our earnings release and in our filings with the Securities and Exchange Commission.

We do not undertake any ongoing obligation, other than that imposed by law, to publicly update or revise any forward-looking statements to reflect future events, information or circumstances that arise after this call.

In addition, this conference call contains time-sensitive information that reflects management's best judgment only as the date of the live call. Management's statements may include non-GAAP financial measures. For a reconciliation of these measures, refer to our earnings release. This call is being recorded.

A replay of the call will be available on our website for two weeks following the call. I'm now pleased to turn the call over to Cris Gaut, our Executive Chairman.

Cris?.

Thanks, Mark. Good morning. Forum continues to show good growth in orders and revenue, led by our strong position in completion- and production-oriented products. Relative to the other U.S. public oilfield equipment companies, Forum has a leading exposure to the continued growth in land-based North America completion and production spending.

With a growing backlog of wells yet to be fracked, completed and brought on production, we see an attractive runway and strong demand for our products. We're also pleased with the progress of our acquisition effort.

Following the acquisition of the assets of Cooper Valves in the first quarter of the year, we completed this month the acquisition of Multilift. Although not a large deal, Multilift will add to the growing stable of artificial lift products within our Completions segment.

We believe the market for acquisition opportunities is continuing to improve for us. So without further ado, let me hand the call to Forum's new CEO, Prady Iyyanki.

Prady?.

Thanks, Cris. Good morning, everyone. I'm going to provide an overview for the quarter, discuss our strategy and focus areas, and some operational highlights. Then I will turn the call over to Jim Harris to provide further details on our financial performance. Our team performed well in the second quarter.

Our second quarter revenue was $201 million, an 18% increase sequentially, and we had positive adjusted EBITDA for the company in every segment during the quarter.

We continue to execute our strategic plan of ensuring strong financial discipline, having a balanced business portfolio, emphasizing consumable and activity-based products and growing through organic initiatives and acquisitions. This allows us to respond to market conditions in any part of the cycle.

Currently, our focus is on the robust North America completions activity and infrastructure build-out as evident from our two recent acquisitions, Multilift and the assets of Cooper Valves. The U.S. land drilling and completions activity remains strong and our U.S.

revenue in the second quarter increased 23% sequentially, in line with growth in the U.S. rig count and completions activity. And every segment experienced revenue growth in the U.S. during the quarter. For four quarters in a row, we saw an increase in our inbound orders, which is a good indicator of our near-term business prospects.

Forum's total inbound orders during the second quarter were $214 million, a 10% increase from the level in the first quarter. The second quarter book-to-bill ratio was 106% for the company as a whole, led by 123% for the Completions segment.

Orders in our Completions segment increased 31% and over 45% for stimulation and intervention products, as customer spending improved on almost all product offerings across the segment.

The strong fundamentals for the pressure pumping services are driving demand for our pressure pumping products, including orders for approximately 480,000 horsepower of our power ends year-to-date. In addition, our new products are gaining traction.

We received orders for eight of our new innovative manifold trailer, the ICBM, and several good orders for our new Race Track suction manifold and several other new products. We are starting to see price improvement on recent pressure pumping orders now in backlog, which will be reflected in our second half results.

We're pleased with the acquisition of Multilift in early July. The SandGuard and Cyclone completion tools extend the useful life of an electrical submersible pump by protecting it against sand and other solids. The acquisition fits with our strategy of expanding a product offering in the artificial lift value chain.

Forum is well positioned for the growth in artificial lift with the Cannon Protectors and Multilift completion tools for downhole pumps, and our Global Tubing coiled line pipe for gas lift. In our Production & Infrastructure segment, orders improved 24% and our book-to-bill ratio was 112% as demand continues to be strong for U.S.

land drill separation equipment. I want to recognize our valves team for achieving a record level of orders during the quarter. This was accomplished without any contribution from Forum Arabia, our new manufacturing facility being built in Saudi Arabia, which is on schedule to be fully operational in 2018.

Our first quarter acquisition of Cooper Valves is progressing on target. The integration is complete and our sales team are beginning to leverage our existing midstream and downstream customer base and distribution network to expand Cooper sales.

Orders in our Drilling & Subsea segment were down 21% resulting in a book-to-bill ratio of 84% during the quarter. The decline in drilling orders was due to fewer rig upgrades as the land drilling fleet moves into a maintenance mode for the balance of the year. The offshore recovery continues to lag.

As a result, we now expect orders for our Subsea product line to be at a low level for an extended period and weighted to non-oil and gas activity. Our operating margins continue to improve as we see the benefit of better manufacturing cost absorption and operational efficiencies and lower procurement cost.

Our operating margins will further expand as the pricing improves in second half. We continue to build our pipeline of M&A targets with a primary focus on expanding our completions offering, followed by midstream and downstream opportunities.

As we look ahead to the third quarter of 2017, we expect demand for Completions and Production & Infrastructure segments to increase as activity continues in the U.S. land market. Our incrementals in second half in Completions will be stronger than first half as pricing materializes and better absorption of ramp-up cost.

We expect our revenue to improve by around 8% to 12% and we expect a diluted loss per share to be in the range of $0.07 to $0.04. Let me ask Jim to take you through our results and financial position.

Jim?.

Thank you, Prady, and good morning, everyone. Our second quarter revenue was $201 million, an 18% increase sequentially. This is the third increase in our quarterly revenue in a row and consolidated revenue is up 45% from the trough in the third quarter last year.

Our adjusted EBITDA increased $9 million and our adjusted net loss per share was $0.10, excluding special items, an improvement from the first quarter as the U.S. land recovery continued. I will summarize our results on a sequential basis for the quarter and provide additional details on the second quarter results.

Our Drilling & Subsea segment revenue of $64 million was up 4%, primarily due to the improvement in sales of drilling equipment and products. The Completions segment revenue of $55 million increased 29% sequentially as customer spending improved on higher well construction and completions activity in North America.

Our Production & Infrastructure segment revenue of $83 million was up 23% due to improved sales of both our U.S. land well site production equipment and our valve products. For the quarter, we had adjusted EBITDA of $5.9 million. Importantly, this was our first positive EBITDA quarter since 2015.

Our incremental operating margins were 33% on an adjusted basis, with little to no pricing improvement. Including the additional Subsea goodwill impairment charge, the net loss for the second quarter was $78 million or $0.81 per share.

The quarter included special items on a pre-tax basis of $68 million for the goodwill impairment, $3 million of foreign exchange losses, and $3 million of restructuring and other expenses. The adjusted net loss, excluding these items and the associated income taxes, was $0.10.

During the quarter, we evaluated the carrying value of the goodwill in our Subsea product line, which currently represents less than 10% of our revenues.

The review was triggered by the softening of oil prices and the developing consensus view that production from lower-cost oil basins would be sufficient to meet anticipated demand for a longer period. This has delayed the need for production from higher cost basins, like offshore.

As a result, we determine that the carrying value of the remaining goodwill and our Subsea product line was impaired. Our free cash flow after net capital expenditures in the second quarter was $12 million, which included an IRS tax refund of about $31 million.

With the accelerated receipt of this anticipated tax refund in the second quarter and our continued build in working capital due to increased revenue expectations in the second half of the year, we now expect to be free cash flow positive no later than the first quarter of 2018 as earnings continue to improve.

Our net capital expenditures in the second quarter were $8 million. Our budget for 2017 capital expenditures is approximately $30 million, which includes the investment in our new production facility in Saudi Arabia expected to come online later this year. Our balance sheet and financial position remained strong.

We ended the quarter with $221 million of cash on hand and with no bank debt outstanding. We closed the Multilift acquisition in early July for approximately $40 million using available cash. We remained well positioned and ready to execute our acquisition strategy.

Our weighted average diluted share count for the second quarter was 96.2 million shares. When we turn profitable on a net income basis, the diluted share count will increase to approximately 99 million shares at the current share price to, once again, include the impact of options.

Net debt at the end of the second quarter was $179 million, down $15 million, bringing our net debt to total capitalization ratio to 13.2%. Interest expense was $6 million in the second quarter. Corporate expenses were $8 million and we now expect corporate expenses to be around $9 million in the third quarter.

Depreciation and amortization expense was $15 million for the quarter and should be similar in the third quarter. Our effective tax rate on the second quarter adjusted operating loss was 39%. We estimate our effective tax rate on normal operations for the remainder of the year will be approximately 37%.

For more information about our financial results, please review the earnings release on our website. And with that, let me turn the call back over to Prady..

Thanks, Jim. Forum's team is capitalizing on opportunities the market is presenting currently in North America and expanding our operating margins even without any meaningful pricing improvement. I'm pleased with the new market-leading products the team has developed.

You will see us continue to invest in organic growth initiatives and execute our M&A strategy, especially in Completions and Production & Infrastructure segments. Thank you for your interest. At this point, we'll open the line for questions. Operator, please take the first question..

Our first question comes from the line of George O'Leary with TPH & Company. Your line is open. Please go ahead..

Good morning, guys. I thought the results on the Production & Infrastructure segment were particularly interesting just given the magnitude and move quarter-on-quarter. I realized Cooper is in there now, so that had something to do with it.

I wonder if you could just parse out maybe, going forward, how we should think about the Production side versus the Infrastructure side. Are we starting to see some kind of underlying demand growth on the Valves side of the business, or is the growth, going forward, still really more production-oriented, i.e. kind of U.S.

onshore well count-oriented? How would you guys kind of break that out?.

Yeah. Thanks, George. I would say the P&I had a very strong bookings in revenue in second quarter. I mean, let me talk about Valves for a second. Even without the Cooper Valves contribution in the second quarter, they still had a record level of bookings. And it's primarily the upstream in North America is up and the midstream in the U.S.

is either flattish or a little bit up, but we're gaining market share as there's an infrastructure build out in basins for transportation, gas terminals, the liquid pipelines.

And on the international front, both the midstream and downstream is pretty active and we're trying to gain market share and that's one of the reasons, George, why we are building this operation in Saudi Arabia focused on Middle East and downstream.

And we're also increasing our presence in the Southeast Asia to penetrate the midstream and downstream part of the market. On the utility side, either pipeline's being refurbished or the new pipeline is being built and we are maximizing on that.

So, this is primarily a market share gain opportunity for us, which we're capitalizing on with the exception of riding the wave on the upstream side. And on the production equipment side, I think the demand is strong and we continue to ramp up on the production equipment side..

Great. That's very helpful color. And then you guys have been a little bit more acquisitive and you talked about generally where you're looking to deploy incremental capital as bid-ask spreads have compressed.

I guess, when I think about the completion side, going forward, are acquisitions going to be more focused you think on the downhole tool side of that business or more kind of Flow Equipment adding on to the pressure pump offering you guys have?.

Yeah. Good question, George. I would say on the acquisition side, I think our strategy remains intact. Our number one area of focus is completions, which includes the surface and also the downhole products.

And obviously, the Multilift acquisition we did is consistent with the strategy, right, on the artificial lift, which plays a roll, both on the completion side and also on the production side.

And then the second priority is any opportunities we can get on the midstream/downstream side would be the second priority, which is also the Cooper acquisition which we did in earlier part of the year. So, I think our M&A strategy is intact.

I'd also say the M&A environment is probably friendly in the second half, just because the value gap has come down, which is primarily the IPO season is coming to an end. And the expectations on pricing is getting more reasonable. However, it is very competitive, but I think deals will get done in the second half..

Great. And then maybe if I could just sneak one more in, Prady. The Multilift acquisition is one that seems pretty intriguing to us, as there does seem to be a growing trend of ESPs and ESPs being in wells over longer durations than they historically were, especially U.S. onshore, these kind of high pressure, longer-lateral horizontal wells.

Given kind of the unique nature of that business, to some degree, it seems to me that that might be accretive to Forum's margins. I realize the transaction wasn't super large.

But would you call that kind of product line within the Forum complex, accretive to you all's margins?.

So, we're really excited about Multilift, George. I would say it's accretive to the business. Probably, the deal got done at a historic ranges, which you have seen us do in the past. It'll be meaningful for the downhole product line in 2018. It's going to move the needle for those guys.

And again, it's an IP protected product, the SandGuard, which is a self-cleaning device without any flow disruptions, and also the Cyclone product. And I think our differentiation in the Cyclone product is they've a lot of different configurations out there and, in our case, one size fits all.

And in the case of SandGuard, which is an IP-protected product, the competitive landscape is very favorable to us and the customer saves significant amount of cost when the pump has a failure because of the sand intrusion into the ESP. So, we're really excited about the Multilift acquisition.

And consistent with our acquisition strategy, are focused on completions..

Great. Thanks very much for the color, guys..

Thanks, George..

Thank you. And our next question comes from the line of Martin Malloy with Johnson Rice. Your line is open. Please go ahead..

Good morning..

Hi, Martin..

Hey, Martin..

Had a question on the Drilling & Subsea segment, and maybe if you could talk a little bit more about what's going on there. The revenues are relatively flat, it looks like, quarter-over-quarter and the inbounds were down quite a bit.

And if you could maybe talk about that, what you're seeing with the drilling rig, land drilling rig upgrade cycle, and particularly the mud pumps and how much longer that might last..

Yeah. Good question, Marty. I would say, on the – let me talk about the consumables and then also about the capital equipment. Then I'll also talk about the Subsea piece.

On the consumable front, our expectation is, with the rig count stabilizing or maybe a little bit of decline, some of the active rigs will go into the maintenance mode, but they will still need the OpEx part of the consumables. But what we expect to see is less mud pump upgrades in second half compared to the first half.

However, completion-weighted products, like the centrifugal pumps, the Little Trippers and bearings, we expect still good activity on that front. But overall, we expect the drilling product line to have a decline in the third quarter from a revenue standpoint.

Now, fourth quarter, there are a few variables there, mostly on the capital equipment side, is there are several discussions with customers on upgrading the lower spec rigs to the higher spec rigs where the content for us could be anywhere from $0.5 million to $2 million.

And primarily, where we come into play is rather than just doing the recertification, we are upgrading our catwalks, extending the reach and the height and the 7,500 psi upgrades. And also, in some cases, the handling tools and the condition-based monitoring could play a role. There's a little bit of uncertainty there when that's going to materialize.

But the pipeline on that in U.S. pretty good. And there's a little bit more uncertainty on the international front. But the pipeline on the international front is a little stronger than what it was about four months ago, primarily in Middle East and in India, and also in North America, but more in Middle East and in India.

So, on the capital equipment side, there is a level of uncertainty. But if some of that materializes, our fourth quarter could be stronger than third quarter, but we don't know at this point. On the Subsea front, Marty, I would say that we have a great franchise. We got a great team. It's a bad market on the oil and gas front.

But in our case, it's less than 10% of the portfolio. And our target, again for this year, is EBITDA flat at the product line level, so it doesn't drag the mother ship down.

But we are exploring opportunities outside oil and gas, and I'll be disappointed if we don't announce any orders in the second half of 2018, because there is a pipeline for us outside oil and gas. But the oil and gas is pretty weak and the pipeline is pretty much nonexistent on the oil and gas side.

So, we continue to streamline our operations on the Subsea and make very selective investments to protect the franchise. But again, it's less than 10% of the portfolio..

Okay.

And then a second question, could you talk about in the specific product lines where you're seeing the lead times stretch out the most and where you think you have the opportunity to start to have pricing discussions with your customers about increasing pricing?.

Yeah. Well, great question, Marty. I would say, S&I, stimulation and intervention, the pressure pumping part of the portfolio across the board, I think I would say demand is very strong as evident from our bookings and also revenue the last two, three quarters. We are still ramping up fast, and it's still hand to mouth.

The lead times are extending, and it is providing opportunities for us from a pricing standpoint. And I would say, later part of second half, the tail end of second quarter, the pricing started materializing, not meaningful in second quarter, but we'll start seeing that in the results in the third quarter and fourth quarter.

And that's one of the reasons why we said is our second half incrementals on completions will be stronger than what you've seen in the first half. But the lead times are getting extended, and we are getting pricing opportunities.

Now, the other point on the S&I side is, with the significant amount of growth we're seeing on the top line and bookings, we're adding significant amount of people. Our workforce has increased significantly.

And there's a little bit of productivity which will catch up in the second half of 2017, right? I mean, the folks who come new are not productive right from day one. It takes a couple of months for them to be productive. So we're not seeing the operational productivity yet in S&I, but we do expect to see that in second half.

And on top of it, the pricing which is materializing, which is already in the backlog, will start materializing in the second half. And then the other product line is production equipment. It is pretty much hand to mouth, and the lead times are extending. We got a very strong backlog going into third quarter and fourth quarter.

However, the pricing on the production equipment is fourth quarter, first quarter price, right, because as you remember, we got the chunky orders in fourth quarter and first quarter, which are still flowing through the shop. But I would say late fourth quarter, we'll start seeing that pricing materialize through the operations, too.

Jim?.

Yeah. Marty, I would also just highlight that similar to production equipment, we always talk about our stimulation and intervention business being a book-and-ship business. But given the strength of the demand that we've had in orders, we've actually built a backlog there.

So likewise, we've taken orders in the first half of this year, and some of those early in the years, especially for the power ends that was at pricing that was very aggressive.

And while we've seen pricing increase, until we deliver on the backlog that we now have at these lower prices, once that's done, we'll start seeing the benefit of these pricing increases that Prady was describing. But that's a little bit of a subtle change from what we've said in the past about S&I just given the level of backlog we have today..

Great. Thank you..

Thanks, Marty..

Thank you. And our next question comes from the line of Scott Gruber with Citigroup. Your line is open. Please, go ahead..

Yes, good morning..

Good morning, Scott..

Prady, the pickup in Middle East demand you highlighted earlier, can you provide some color just across the product spectrum when you look at upstream, midstream, downstream, is it primarily midstream and downstream at this point or is some of the upstream orders trying to pick up as well?.

Yeah. I think our initial focus – the manufacturing facility we're building in Saudi Arabia will be focused on the midstream and downstream part of the portfolio, more particularly, in valves.

And our customers are showing pretty good interest there, and also the local content – we meet the local content requirements which also gives us a pricing premium. And I think the operation will be active in the fourth quarter of 2017, but fully operational in 2018.

But as we go through that process, we're going to put other products too in the manufacturing location later part of 2018 and 2019, which would be focused on the completion side and also some of the other products lines on the – like for example, some of the sub-product lines in drilling. So, I think the focus is across the spectrum.

But initially, the focus of the manufacturing shop will be on the midstream and downstream, more particularly, on valves..

Got it..

But I'd also say we are gaining momentum. We do have commercial presence now than what we had in the past, and that commercial team is gaining traction on the completion side. And some orders and revenue are already trickling down, but the manufacturing location is still here in U.S..

And then, how do you think about expanding your capabilities on the rig equipment side? Do you wait to tie it to the big tenders in the Middle East coming into the market, or do you try to move ahead? Any color you can provide on those bigger tenders and what you're seeing there?.

Sure. I would say, listen, the pipeline in Middle East – in fact, I would say, that's the region which has a strongest pipeline on the capital equipment side, whether it's Kuwait, or whether it's Abu Dhabi, or whether it's Saudi Aramco, or whether it's even Qatar. I mean, the whole Middle East is – the pipeline is pretty strong, Scott.

However, things are moving to the right. There's one Middle Eastern customer we just recently heard that maybe some tenders could happen in the fourth quarter. And our view is, probably, they're expecting – they're waiting for the oil price to go past $50, and some of those tenders will come into fruition.

And we have pretty good installed fleet in Middle East from a Forum standpoint. In fact, we have the biggest catwalk installed fleet in Middle East and a pretty good service team in Middle East. So, I think that part of the business will continue to be strong in Middle East.

We're trying build up the Completions and the Production, Infrastructure part of the portfolio in Middle East as part of the manufacturing location..

Got it. And if we just take a longer-term view, you highlighted the expansion in Southeast Asia focusing on midstream and downstream again, what do you envision – where do you envision potentially going over the next five years? Thinking about the expansion and shale activity in Argentina.

And some of your competitors, NOV and Schlumberger are forecasting a rig upgrade cycle in Russia.

Could you just provide some color on where else you're thinking about expanding internationally to take advantage of opportunities as shale goes global and opportunities to upgrade the land rig fleet internationally?.

Yeah. So, I think on the pressure pumping side, Scott, our main focus is North America. And as we mentioned, right now, we're hand-to-mouth and the demand is strong and we need to ramp up fast. So, right now, I think all our resources and everything is focused in North America, and then we're going to start penetrating Canada too.

But right now – our focus right now is in the U.S. In Argentina and China and some of the other countries, I mentioned, they're still at an early phase. I think if we just look from an opportunity standpoint, it's still small. And we are not fully penetrated yet in North America and Canada.

And one of the things we do like is our products are gaining traction in North America, some of the new products we've commercialized. So, a lot of market share opportunity for us in U.S. and Canada. Then also on international front, some of our existing customers will take us there.

Right? I mean, as they go on international front, some of those pressure pumpers, they will take us and the products will be – we've got to put some service locations there. But right now, our focus more is in U.S. and North America.

Now, the Southeast Asia right now – listen, when the offshore boom was good, we had a pretty good install fleet on onshore and offshore. But right now, the biggest opportunity we see in Far East is on the infrastructure build-out side, which is primarily the valves part of the business.

There's a market where we don't participate and our supply chain – most of our supply chain is in that part of the world. So, I think it's a low-hanging fruit, which we want to take advantage of.

And as the revenue starts coming and as the profitability starts coming from the Southeast Asia, we'll start building the infrastructure for the rest of the segments, too..

Got it. Appreciate the color..

Thanks, Scott..

Thank you. And our next question comes from the line of Rob MacKenzie with IBERIA Capital. Your line is open. Please go ahead..

Good morning, guys. I wanted to come back to the Subsea product line for a minute.

In the wake of the Technip/FMC merger and their decision to standardize going forward on the Schilling product line, are there any specific legacy Schilling customers that you think are right to pick off and convert to Perry in the next upcycle?.

Absolutely. I think there is an opportunity there, Rob. And I think the closer that tie becomes between the Schilling and Technip, some of our customers will see them as competitors, and that does give us the opportunity to penetrate the market on the oil and gas front.

But I'd also say is one of the things we are pleased about our Subsea team is we are diversifying outside oil and gas, whether it's the telecom, or whether it's the defense, or whether it's the marine research, or whether it's the wind farm, and we think for the next couple of years, when the market is down, we can still pay the bills and protect the franchise.

And then once the oil and gas business comes, that's on top of, right, the business which we're going to have outside the oil and gas. But absolutely, to your point, I think that will give us the opportunity to penetrate some of the other customers.

And the new customers who are also coming on board, that will also give us the opportunity to penetrate those customers..

Great. Thanks. And then on the completions side, I guess – I understand why pricing takes a while to occur there. But I'm a bit surprised given the strong growth in revenues sequentially that incremental margins and absolute margins, therefore, weren't higher than they were.

Is there some other moving parts there that you could help us to understand that?.

It's a great question. Well, I would say, if you look at our growth in second quarter from a revenue standpoint, I mean, two segments drove that growth, right.

One is the Completions segment and the second one is the P&I segment, and I want to talk about two specific product lines there, which will add more color here is the S&I the production equipment were strong as part of the revenue growth contribution.

And S&I, I think Jim added some color, is on one front we are ramping up significantly, just not for the second quarter, we're also ramping up for the third quarter and fourth quarter, based on the backlog we're building, and a significant amount of orders we are seeing which is providing – which is causing some productivity issues in the shop, because of all the new people coming on board.

And also, on the pricing front, the service customer started getting pricing earlier than us. And now we are seeing less resistance from the service customers on the pricing discussions.

As a result, we started seeing the price materialize in the tail end of second quarter, which will start materializing into the results in third quarter and fourth quarter. right? And that's why think our incrementals on the completions side will be much stronger in second half than first half.

The second point, from color standpoint, is production equipment. And as you know, historically, it has been a low margin business and we took chunky orders in the fourth quarter and first quarter of the last year, and the pricing was fourth quarter and first quarter. pretty much at the bottom, or a little bit higher in the first quarter.

And that is still flowing through the shop, because we've got a very strong backlog in the third quarter.

Pretty much every – we've got everything in the backlog for the third quarter, right, with little opportunity, that we could take on a little bit more work, but in the fourth quarter, tail end of fourth quarter is when we'll start realizing the prices, which we started quoting in second and, more importantly, in third quarter, too.

So factor of those two; production equipment and S&I pricing materializing in the tail end of second quarter and of the absorption productivity issues we have because of all the new people..

And just to highlight, Rob, when the Completions business is at a run rate that's almost doubling every six months, with an extremely high growth like that and strong demand that we see and the runway in front of us, we've got to build for the future demand. We see that the market's there. So, we have been adding costs.

We've been adding people, adding equipment. So, there's some ramp-up costs that we're seeing here in the second quarter in anticipation of the strong market and the strong orders that we're building. And so, those costs did affect our margins in Q2.

But I think you'll see the benefit of not only the continued high rate of growth there, but better margins later in the year. But we're just trying to accommodate such a fast-growing market. That's a challenge..

And probably another data point, Rob, we can talk about, because a lot of things we do feel about is the margin expansion which is happening is, if you take our P&I equipment out, from an incremental standpoint, our incrementals are 40%. And without production and equipment, our incrementals are 44%. Right. So, we are seeing incrementals.

And as we start getting the price and the cost absorption, which Cris talked about, I think incrementals will be stronger in second half..

Great. That's very helpful. And then one final question, if I can, on the Completions segment.

Is there any way for you guys to pull out of that of your numbers, in the growth in revenue, how much of that is coming from the new OEM equipment versus repairing or replacing worn out parts on active equipment in the field already?.

Yeah. No, I think it's a great question. I would like to use power end as a data point, being a capital equipment, I would say, probably 55% new-builds and 45% refurbished or replacements. That's what we're seeing on the power ends.

And then as you go down the chain, then the refurbishment becomes a bigger percentage and the capital equipment becomes a little smaller percentage..

Okay. That's helpful. Thank you..

Thanks, Rob..

Thank you. And our next question comes from the line of Marc Bianchi with Cowen. Your line is now open. Please go ahead..

Thank you. So, talked a lot about the different segments and in terms of what the near-term outlook is. And I was hoping we could just sort of review and make sure I've got it all down. And I'm just going to run through this and maybe you can tell me where maybe if there is anything you'd update or change.

It sounds like, drilling, possibly down a little bit in the third quarter; Subsea, flattish; Completions, growing at a pretty healthy pace; and P&I, about flat.

Would you agree with that or how would you change that?.

D&S, I think you're right on in third quarter. Completions, yes, strong growth. P&I, strong growth..

Yeah. Good fundamentals there, Marc. And as you can tell from the high book-to-bill rate there for book-and-ship business..

Sure..

But the D&S decline, and then the Completions and Production & Infrastructure, significant growth..

Okay. Great. And then, in terms of the margin leverage there, Completions at the top.

And then, how about between D&S and P&I?.

I think in the case of D&S, since the revenue is going down, right, I think we'll manage the cost and streamlining of the operations. But I think what's going to move the incrementals for us is the Completions. And on the Production, Infrastructure side, as we talked about is the production equipment has always been a low-margin business.

So, even though they will have margin expansion, they cannot move the needle for us..

Okay. And nice to hear that you're getting some pricing traction in Completions. How much have you seen so far? How much is kind of baked into the outlook for the third quarter? Curious if you could provide some more color..

Yeah. Then, for competitive reasons, obviously, Marc, we don't want to share that. However, I can add some color to it, is I would say, by no means, it's a broad-based price recovery across all the segments.

Where we are seeing price opportunities is in S&I, the pressure pumping part of the portfolio, and a little bit on the production equipment side, right. But we're not seeing pricing opportunities on the downhole products. However, we are commercializing some new products.

For example, on the Global Tubing joint venture, we have commercialized our new quencher product which is the DURACOIL, and obviously that's much more reliable and durable, and we do expect the pricing to be better than the old coils. But the new products are driving the pricing in the downhole front.

Bottom line is I think it's S&I and it's the production equipment, which is, again, a low-margin business..

Sure. Well, thanks for that, Prady. I'll turn it back..

Thanks, Marc..

Thank you. And our next question comes from the line of Sean Meakim with JPMorgan. Your line is open. Please go ahead..

Thank you..

Hey, Sean..

Morning..

Good morning, Sean..

I was hoping just to drill into the valves a little bit. You highlighted a good bit about the downstream opportunity, particularly as the Middle East and Asia Pac seems like there's tons of runway there. But how about in the U.S.? We've seen so many of these petrochemical projects start to move forward.

It seems like there's a lot of opportunity here as well. Maybe you could size the two a little bit for us and maybe give us a little more of a sense of what the mix looks like for your U.S. valves franchise..

Yeah. Some of that, Marc (sic) [Sean], is already reflected in our valves bookings, and that's one of the reasons why we had a record quarter, not including Cooper. And I would say, the infrastructure build-out continues to happen, whether it's for the basins, for transportation or gas terminals or liquid pipelines. The downstream in the U.S. is down.

The refineries in the petrochemical part of the product line – part of the segment is down in North America, but not internationally. Internationally, the downstream is pretty buoyant and so is the midstream part of the portfolio. So again, it's a big market and we have a small market share.

So, I would say, the prospects for our valves business is – it's back on growth track and we are excited about our growth opportunities in valves. And whether it's midstream or downstream on the international front, which is all upside for us, or the market share opportunities in U.S., and we're also riding the upstream being up in North America..

And that's positive in the valves business from a mix standpoint, that greater contribution from the upstream and some from the midstream relative to downstream is positive for margins from a mix standpoint..

And probably, the other point which is worth mentioning is, the Cooper acquisition was a strategic acquisition, and Cooper is pretty much on the midstream and the downstream part of the portfolio. And that exposes the power market and also the chemical – the petrochemical market which we're talking about.

And a lot of opportunity there in the Cooper side, too..

Okay. Time for one more question..

Our last question comes from the line of John Watson with Simmons & Company. Your line is open. Please go ahead..

Good morning, guys. Thanks for squeezing me in..

Good morning..

Hey, John..

To follow-up on an earlier question, Prady, in drilling, could you provide us any idea surrounding the number of 7,500 psi and third mud pump upgrades Forum completed in the first half and maybe the potential number of rig upgrades moving forward?.

Yeah. There are some moving elements still, John, but I think probably the guidance we can give is the second half, for sure, starting third quarter, we do see – from a run rate standpoint, we do see a decline in the mud pump upgrades and more in the fourth quarter, because we do have some in the backlog.

I think our opportunity would be on some of those capital equipment discussions we're having with the customers where they may also need 7,500 upgrades, pretty much where you're already hearing the marketplaces, customers are trying to take 1,000 horsepower rig and upgrade that to the latest greatest spec from a rig standpoint, which gives us the opportunity to, not only recertify our catwalk, but also upgrade it to the latest spec.

And then it can opportunities in the handling tools and condition-based monitoring, and that could be a content anywhere from $0.5 million to $2 million. So how much of that will offset the mud pump decline, we don't know at this point of time.

But as we've said, if some of those things start materializing, I think the fourth quarter could be a little stronger than Q3, but we don't know at this point of time..

Right. Okay. And then on the power end front, as of the Q1 call, I think annualized orders were around 750,000. Today, it's closer to 825,000.

How much might that pace accelerate in the back half of the year? Could we be around 1 million horsepower for the full year?.

I think the run rate is obviously – if you look at the run rate, it feels like that, but it also depends on how much more frac fleets will come into the marketplace between now and end of the year, John.

I would say, listen, we had 250 million horsepower by the, I think, last – when we had the last call, and right now, we have about 480,000 horsepower of power ends. But the run rate is – it feels like 1 million, but it also depends how much more frac fleet they're going to put in the marketplace.

Our expectation is probably will land somewhere between 15 million to 16 million horsepower, if we read, right, the same things which you guys read. But certainly, we have a shot towards that..

And John, it's probably fair to say at this point that the easy stuff to be put to work went to work a while ago, and anything that's put out to work there now, whether refurbished or obviously new, will require a new power end. So, any additions from this point do require new power ends, iron..

It's a great point, right? Once we go past the 14 million, 15 million horsepower, they will – refurbishing more with new versus trying to repair them..

Well, I think you all will get to 1 million, for whatever that's worth. And then, one last unrelated follow-up, Jim, on the free cash flow guidance, seems like there's been a bit of a change from positive in the back half to positive in early 2018.

Can you provide any additional color surrounding that change and maybe color around commodity price or rig count that's incorporated into that guidance?.

Sure. So, John, one of the big changes is, when we gave the guidance on the second half, we were expecting that large tax refund to come in the second half, and just through the hard work of our tax department and other folks, we were able to get it in June. So that was a $30 million move.

And that's why we were cash flow positive in the second quarter even though we had given guidance that we expected negative. But as we look at the second half, Cris described, as we're growing, the start-up costs that we're putting in place with labor and others as we're ramping up. The same is true for our inventories.

So, we are continuing to purchase and invest in materials so that we can ramp up production to meet what we expect to be the demand, and we're still obviously at a low base of earnings. And so, the confluence of still low EBITDA, while investing in rapid growth is what's driving us into the negative cash flow.

And once we work through that, even if growth continues, we'll be able to do, as we have historically, grow positively with positive free cash flow and still cover those investments. It's just there's a bridge here in the second half that we're hedging a little bit..

Right. Okay. Thanks. I'll turn it back..

Thanks, Jim. Thanks for your interest. Two segments, the Completions segment and the Production & Infrastructure segments are two strong tailwinds for us during the second half. And if you look at our bookings, about 70% of the bookings came from those two segments. And we're excited about that and we'll talk more at the next investor call.

Thanks for your interest..

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day..