John Chisholm - Chairman, President, Chief Executives Officer Rich Walton - Chief Financial Officer Josh Snively - EVP, Head of Operations Matt Marietta - SVP of Corporate Development, IR.

Georg Venturatos - Johnson Rice.

Presentation:.

Good morning and welcome to the Flotek Industries Inc., Fourth Quarter 2017 Earnings Conference Call. All participants will be in a listen-only mode. There will be an opportunity for you to ask questions at the end of the company's prepared remarks. An operator will provide instructions on how to ask your question at that time. [Operator Instructions].

This conference is being recorded. At this time, I would like to turn the conference over to Matt Marietta, Flotek's Senior Vice President of Corporate Development and Investor Relations. Mr. Marietta, you may begin..

Thank you and good morning on behalf of the Flotek team. Joining me this morning are John Chisholm, Flotek's Chairman, President and CEO; Rich Walton, our Chief Financial Officer and Josh Snively, Executive Vice President and our Head of Operations as well as other members of our leadership team.

Our earnings press release was distributed yesterday afternoon and is available on the Flotek website. In addition, today's call is being webcast, and a replay will be available on our website.

Before we begin our formal remarks, I would like to remind participants that during this call some of the comments made may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 and other applicable statutes reflecting Flotek's views, comments or expectations about future events and their potential on performance.

Words such as expects, anticipates, plans, believes, estimates and similar expressions or variations of such words are intended to identify forward-looking statements, but are not exclusive means of identifying those forward-looking statements.

These matters involve risks and uncertainties that could cause our actual results to differ from such forward-looking statements. These risks are discussed in Flotek's filings, including our Form 10-K with the U.S. Securities and Exchange Commission.

Also, please refer to our reconciliations provided in our earnings press release and filed in an 8-K this morning as management may discuss non-GAAP metrics. With that, I’ll turn the call over to John Chisholm..

Hey, thank you Matt and thank you all for joining today’s call, posted from our Global Research and Innovation Center Headquarters here in Houston. I'll begin with some introductory remarks followed by Rich who will review our financial highlights, followed by Josh who will provide an operational overview.

Finally, I will end with closing remarks and outlook before taking your questions. Before we begin, I would like to thank our hardworking employees at Flotek for their efforts in the transformation of Flotek that occurred in 2017. The accomplishments they have made in the short amount of time is inspiring.

I’m honored to lead the organization as we head into our first full year as a pure play custom Chemistry Technology Company. To outline the accomplishments in 2017, first our leadership team was transformed during the year and now reflects our go-forward vision for the company.

We thank prior leadership for their service, but I believe the team we have put together is built to last and further more thrive for our shareholders. Second, and while it may seem like a long time ago to some, it was only back in May that we successfully divested our Drilling Technologies and Production Technologies segments.

These segments were cornerstones of the Flotek legacy and while it’s difficult to move away from the businesses, it was the right decision for our shareholders. Third, we paid off our term loan and reduced the balance on a credit facility. The financial stability of Flotek has never been as strong as it is today.

Fourth, we put into place an aggressive SG&A reduction initiative, which has allowed us to manage the organization to positive operating income and improve profitability in the fourth quarter despite sequentially lower revenues. While the bulk of the heavy lifting has been done, we will continue to make progress on this front.

Finally and through all these initiatives, we’ve been steadfast in our dedication to research and innovation, which has contributed to our growth and opportunity through the new product development and data analytics initiatives.

At our core Flotek is an organization centered around innovation, and we are much more agile today than ever before due to our asset like business model. To first comment on our energy end markets with the 2017 recovery behind us, the industry remains in a state of flux. The historic declines we saw in ’15 and ’16 are once in a lifetime or a career.

Regardless of the volatility and fluctuating capital demands, Flotek remains well positioned and financially sound to weather any environment going forward. After the sizable U.S. land activity ramp, there is somewhat of a hangover effect that has carried into 2018.

Many of our peers, clients and business partners have commented on a variety of issues we have also experienced, which includes deepfreezes, lack of labor, infrastructure and takeaway challenges and logistic bottlenecks to name the most pressing.

While we see the promise of momentum, this recovery is not linear nor smooth and remains in a state of change. In 2018 growth is likely to be more tepid than last year, but also more inclusive of international geographies and with broader opportunities. The industry has achieved incredible milestones over the past four years.

The industry has pushed cost down, drillers can drill faster than ever, service company equipment now lasts longer, operators have tested the limits of well spacing and frac stages and have applied more intensive fracs using more proppant.

Having achieved these remarkable feats, there is no question, chemistry is the new frontier to push our limits even further and there is much more to achieve through customization of treatment to the reservoir.

Given the vast diversification of geology and reservoir types, the demand for prescriptive chemistry is critical for greater completion, optimization and performance and is poised to gain a greater portion of the industry’s attention going forward. As we look back into 2013, we acquired Florida Chemical in order to protect our supply chain.

We recognized one of the biggest threats to Flotek was the inability to source and manage key raw materials that went into our patented Complex nano-Fluid technologies. Since that time the synergies have been tremendous for both organizations.

We would not have been able to navigate the energy downturn while citrus prices more than doubled if not for strategic merger and acquisition. Now Florida Chemical, our Consumer and Industrial or CICT segment continues to navigate the challenges in the citrus industry at an exceptional level.

As such, we are allocating capital appropriately as we spent roughly 40% of our 2017 CapEx towards projects in CICT and CICT will earn a similar portion of our 2018 plan expenditures. We are far on our journey of fully integrating the businesses and sharing best practices due to the transformation we put in place in mid to late 2017.

Against this backdrop, Flotek remains focused on controlling what we can control, and we will protect our accomplishments by maintaining a strong balance sheet and allocating capital where we believe the highest return opportunities exist for our shareholders.

I’ll now turn it over to our CFO, Rich Walton to provide a review of our key financial information. Rich..

Thank you, John. I will address key financial information as of and for the fourth quarter and the year ended December 31, 2017. Flotek expects to file its Form 10-K for 2017 with the U.S. Securities and Exchange Commission before the end of the first week of March. We have continued to strengthen our balance sheet during the fourth quarter.

In addition, we return to generating operating income during the fourth quarter as we successfully addressed and reduced our Corporate General & Administrative costs and segment Selling & Administrative costs.

For the fourth quarter we reported total revenue of $72.5 million, compared with $70.6 million in the prior year period, an increase of $1.9 million or 2.7%. On a sequential basis, quarterly revenue was down $6.9 million or 8.7%. For the full year 2017 revenue was $317.1 million compared with $262.8 million in 2016, an increase of 20.6%.

Energy chemistry quarterly revenue increased compared to the prior year period, but declined 9.6% on a sequential basis to $55.3 million.

Our consumer and industrial chemistry segment quarterly revenue increased 11.3% compared to the prior year period, but declined 5.9% on a sequential basis to $17.2 million, primarily resulting from the seasonal impact of sales to the beverage industry. For the fourth quarter we had income from operations of $2.1 million.

This follows three quarters of losses from operations. For the full year 2017 the consolidated loss from operations totaled $2.9 million. For the fourth quarter the consolidated operating margin was a positive 2.9%. For the full year 2017, the consolidated operating margin was a negative 0.9%.

Segment operating margins were 13.8% in the energy chemistry segment and 10.1% in the consumer and industrial chemistry segment. Corporate, general and administrative expense for the fourth quarter was $7.7 million, a decrease of $2.6 million from the third quarter of 2017.

Early in the fourth quarter the company took significant measures to reduce contract labor and consulting expenses and the benefits of these measures are now being seen. Our corporate G&A during 2017 as a percentage of revenue decreased to 13.1% from 16.6% in 2016 as we progress our cost reduction initiatives.

During 2017 the company incurred non-recurring charges of $2 million related to executive retirement and severance and $0.4 million related to the shareholder lawsuit and SEC inquiry. Non-cash compensation was $1.5 million in the fourth quarter.

Segment selling and administrative expense for fourth quarter was $8.3 million a decrease of $1 million from the third quarter of 2017. Segment selling and administrative expense during 2017 as a percentage of revenue decreased to 11.7% from 13.9% in 2016.

For the quarter, research and innovation expense was $3.7 million compared to $3 million for the same period of 2016. This increase of $0.7 million is attributable to meeting client demands and to costs for new product development and new chemistries which are expected to expand the company's intellectual property portfolio.

For the fourth quarter, Flotek reported a net loss from continuing operations of $7.8 million, representing a loss of $0.14 per share on a fully diluted basis.

The fourth quarter of 2017 includes income tax charges of $7.3 million relating to the new Tax Cuts & Jobs Act signed into law in December 2017, and an income tax charge of $1.1 million resulting from a reduction in a tax benefit related to stock based compensation.

This compares to net income from continuing operations of $3.9 million for the fourth quarter of 2016 representing income of $0.07 per share on a fully diluted basis. For the full year 2017, Flotek reported a net loss from continuing operations of $13.1 million, representing a loss of $0.23 per share on a fully diluted basis.

This compares to net income from continuing operations of $1.9 million for 2016, representing income of $0.03 per share on a fully diluted basis. Moving to the balance sheet metrics; at December 31, 2017 the company had accounts receivable of $46 million compared to $47.2 million at December 31, 2016.

At December 31, 2017 days revenue and accounts receivable was approximately 58.5 days compared to 62.5 days at December 31, 2016. At December 31, the allowance for doubtful accounts is $0.7 million or 1.6% of the receivable balance.

At December 31, 2017 inventories totaled $75.8 million compared to $58.3 million at December 31, 2016, an increase of 30%. This increase primarily resulted from the higher cost for citrus oil and an increase in the volume of citrus oil held.

Our inventory historically builds during the first half the year and is dependent upon the timing of citrus oil deliveries. At December 31, 2017 borrowing under our revolving credit facility was $28 million and there was undrawn availability of $43.9 million. Debt was reduced by $20.4 million during 2017.

As previously mentioned, our credit agreement was amended in September 2017. It increased the maximum revolving advance amount by $10 million to $75 million and extended the maturity for two years until May 2022. During 2017 capital expenditures were $9 million compared to $14 million in 2016.

Expected capital expenditures for 2018 are estimated to range between $12 million and $16 million. During the fourth quarter the company repurchased 225,000 shares of its common stock for $1 million or an average price of $4.57 per share. As of December 31, 2017, the company may make additional share repurchases of up to $9.7 million.

The Form 10-K which will be filed shorted will provide full disclosures of our 2017 results and a full discussion and management’s discussion and analysis. We continue to be focused on growing our core businesses, lowering SG&A costs, monitoring capital expenditures and protecting our liquidity.

And now I’ll turn the call over Josh to provide an operational performance update for the company. Josh..

Thank you, Rich. First in our ECT segment, the business model is evolving, shifting from purely FOB manufacturing to downhole delivery, which means delivering inventory and the chemistry experience to the client, whether that client is an operator or service company.

The industry is hungry for proven technology and reliable service which Flotek can and will continue to deliver. This shift creates an increasing need for partnerships with our operator clients, as well as alignment with our service company clients.

Working together we can deliver the highest value chemistries through the operators while reducing redundant logistics and distribution costs, all with the ultimate goal of improving the reservoir and well performance.

Interest in our prescriptive chemistry management or PCM platform remains very high and is likely to become more of a growth engine for Flotek. While this trend is not a quarter-to-quarter story, momentum will continue to build throughout 2018 and into future years.

We are in the process of building out our facilities to fill our clients’ needs, covering logistics requirements and identifying the right partnerships. Our footprint needs to be enhanced and we are spending capital dollars to insure that we are optimized for delivery on that need.

We are looking into opportunities to decentralize certain aspects of our manufacturing activities to lower our costs. Additionally we are perusing inventory strategies that will allow us to improve our delivery capabilities and respond faster to our clients.

We will use these benefits to help accelerate the energy market penetration for our chemistry offerings during 2018. Overall, energy companies remain cost conscious, but understand the need for value added technology.

We believe there will continue to be optimization efforts by our clients and while sometimes costs can overshadow performance or returns, we believe this is a temporary position. We remain confident in our technology and ability to develop and apply our chemistry faster and better than our competitors.

Our Complex nano-Fluid’s, prescriptive chemistry management and pressure reducing fluid platforms provide recognizable product portfolios that have the reputation for the industry leading technology and performance in the field and we will continue to expand our footprint accordingly.

Likewise, we will continue to partner with service companies to develop and deliver differentiating technologies that bring value to our client’s assets. Moving to our CICT segment, demand for natural citrus flavors remains high.

Operationally we remain focused on breaking into higher margin flavor opportunities and leveraging in our world class manufacturing facilities and personnel in Winter Haven, Florida. Applications of our chemistry knowledge was expanded in 2017 and we have begun to invest more into this segment of our organization.

This includes our expansion into Japan with the opening of our first East Asian Sales Office for this side of our organization, as well as bringing in online our new distillation unit in Winter Haven, which is enabling us to enhance and expand our citrus oil processing efficiency and capacity.

CICT is well positioned on inventory and our supply chain department has done a fantastic job staying in front of the challenges the citrus industry has faced for a number of years, which had a significant pinch point after hurricane Irma made landfall in Florida’s citrus growing region.

Looking out, we see the need to continue our expansion into other citrus varietals, specifically for grape fruit flavors, as well as lemon and other cultivar options for our clients. We are being pulled to do more and we will respond to meet the demands and market opportunities we have.

We are focused on efficiencies across our company as we further integrate our ECT and CICT segments. In doing so, we have integrated our supply chain, shared best practices and manufacturing and are finding synergies in our logistics activities and improving systems and internal reporting capabilities.

These efforts should reflect in smaller, smarter organization – in a smarter organization and allow our operations to make decisions faster and with more information. We are managing our business at the EBITDA level, which is apparent in our results.

Our fourth quarter adjusted EBITDA margins expanded to 10.7% up from 4.1% in the third quarter, a testament to the execution of our team. A role that research and innovation plays in our sales cycle and channels continues to expand.

Our global research and innovation center is where it all starts for Flotek and we have accelerated our time to respond to clients request in both segments. We have new product introductions coming to market now and are expecting more throughout 2018.

Due to our R&I capabilities, we can quickly identify and respond to a wind range of opportunities, enhancing oil and gas production around the world to delivering flavor and fragrance technologies to our clients. The feedback loop we have created in ECT and CICT is very strong and has allowed us to see more chemistry applications than ever before.

This in turn allows us to develop better, more cost effective solutions faster than our competition, while also enhancing our intellectual property. We are listening to our clients and we will deliver at a cadence that our competition cannot keep pace with.

In all, we have made progress operationally, but have more to go to further execute on our plan. With that, I will turn it back to John to offer concluding remarks..

Thanks Josh and really well down. Before we take questions I’d like to offer an outlook and add some concluding thoughts. We put in substantial effort to rapidly transform Flotek during 2017 and entering 2018 we continue to push to make a difference.

In the second half of 2017 we managed our performance to enhance profitability and executed on our strategy to reduce SG&A. In doing so we exceeded expectation of what we could accomplish in such a short amount of time.

We continue to asset our product and business portfolio and have exited certain offerings we determine to be unacceptable to our goal of maximizing our returns. Moving forward our focus is on three key buckets; cost discipline, managing the expansion of our PCM platform and new product development.

On this last point, Flotek remains committed to custom chemistry solutions that meet the performance and the price point of our clients in both of our segments.

Further more in energy markets, even as the decoupling trend expands throughout the industry, service companies remain critical partners of ours in delivering maximum value ad to the reservoir and the operator.

Our unwavering commitment to research and innovation sets us apart from just chemical providers, as we chose to invest more during the energy downturn, to create the complete chemistry experience as Josh referenced earlier. Evidence to this success, in 2017 approximately 40% of our ECT revenue came from formulations that we created in 2015 or later.

This accomplishment is why we believe our R&I investment will be a key milestone in the journey ahead for our company. We recently expanded an initiative to improve our case study and marketing publications. It is important for the industry to better understand our chemistry and the technologies we offer.

Service companies and operators of all sizes can depend on our chemistry expertise and many have begun discussing ways to obtain our technology offerings earlier and engage in technical relationships to keep them on the cutting edge of science.

In addition, we are able to improve the economics of our chemistry through our unique pricing opportunities that we are now able to offer.

Moving to our outlook, there are number of things which are always out of our control, like logistical bottlenecks for other consumables, labor shortcomings, equipment issues and overall and widespread inflationary pressures. However, we will continue to manage what we can control and communicate transparently to our shareholders.

We want to reiterate our trajectory and path has not been, nor will it be linier. Clients continue to manage cost inflation by testing the market, forcing greater competition and will always seek to optimize and pressure suppliers.

Giving these dynamics, we believe what sets Flotek apart is our commitment to research and innovational and data analytics and the empirical field data that proves our ability to maximize the economics of our clients reservoirs.

2018 will mark the first year is our company’s history that we will focus 100% of our attention on Customer Chemistry Technology, as it is the first year without the drilling and production technology segments for this company. Despite the challenges, we have faced the momentum running with both of our segments feels strong.

Our strategy is focused on improving returns, maximizing our shareholder value and adding value to our clients of all types and all sizes. We will invest our shareholders capital wisely.

We intend to update our shareholders with better visibility into the first quarter, soon as weather issues in January which has been well publicized this earning season have now receded and activity ramps through the remainder of this quarter.

Finally, I would like to thank our shareholders, employees, clients and stakeholders for their support to allow Flotek to be in the remarkable position we are in today. With that operator, we will now open the call to questions..

Thank you. [Operator Instructions]. And we do have a question from the phone line that is from the line of Georg Venturatos with Johnson Rice. Please go ahead your line is now open..

Georg Venturatos:.

John Chisholm:.

Georg Venturatos:.

Rich Walton:.

Georg Venturatos:.

John Chisholm:.

[Operator Instructions]. One moment please. And I’m showing no further questions at this time. [Operator Instructions]. And we do have a follow-up question from the like of Georg Venturatos with Johnson Rice. Please go ahead..

Georg Venturatos:.

John Chisholm:.

Georg Venturatos:.

John Chisholm:.

Georg Venturatos:.

John Chisholm:.

Josh Snively:.

John Chisholm:.

Georg Venturatos:.

John Chisholm:.

Georg Venturatos:.

John Chisholm:.

And I’m showing no further questions at this time..

Okay. Thank you operator and thanks for everyone’s interest. As we mentioned, we’ll be transparent as the quarter moves on and look forward to chatting with you again further on in the year. Thanks for everyone’s interest. Bye for now..

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines..