Good day and welcome to the USA Compression Partners Second Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen only mode. Later, there will be an opportunity to ask questions. Instructions will be given at that time. Today’s call is being recorded, today August 4, 2017.

At this time, I would like to turn the call over to Chris Porter, Vice President, General Counsel and Secretary. Please go ahead..

Thank you. Good morning everyone and thank you for joining us. This morning, we released our financial results for the quarter ended June 30, 2017. You can find our earnings release, as well as recording of this conference, in the Investor Relations section of our website at usacompression.com. The recording will be available through August 15, 2017.

During this call, our management will discuss certain non-GAAP measures. You will find definitions and reconciliations of these non-GAAP measures to the most comparable GAAP measures in the earnings release. As a reminder, our conference call will include forward-looking statements.

These statements include projections and expectations of our performance, and represent our current beliefs. Actual results may differ materially. Please review the statements of risk included in this morning’s release and in our SEC filings.

Please note that information provided on this call speaks only to management’s views as of today, August 4th, and may no longer be accurate at the time of a replay. I’ll now turn the call over to Eric Long, President and CEO of USA Compression..

Thank you, Chris. Good morning, everyone and thanks for joining our call. Also with me today is Matt Liuzzi, our CFO. This morning, USA Compression released its second quarter 2017 financial and operational results. Looking back on the quarter, we experienced increased activity on the part of our midstream and large E&P customers.

This increase in demand has led to tightening in availability of certain types and classes of equipment, leading to increased fleet utilization, both for USA Compression as well as select sector peers. USA’s larger horsepower fleet utilization is now back to levels virtually the same as before the industry decline, in the mid-90% area.

We also improved visibility regarding demand for our services and corresponding contracting activities, well into 2018. Given this tightness, we have increased the monthly service fees we charge on many types of equipment we use to provide our services.

On our call last quarter, I mentioned that we believe our business had bottomed and turned the corner. Now, at the halfway point of the year, I’m pleased to report, the things have continued to improve, and our outlook for the compression services sector, especially with large horsepower infrastructure-oriented equipment is quite positive.

The basic drivers of our business have not changed over that years, increasing demand for natural gas, midstream infrastructure development, and increasing requirements for large horsepower installations, and all of these trends have continued to play out.

While different regions are in different stages of development, our compression services are required across the board. As we look ahead, we believe we’re well-positioned to take advantage of the demand, further strengthening our position in the market. First, a huge shout out to our operations team.

Our employees have now worked over two years, over 2 million work hours without a lost time injury. We’ve driven over 6 million miles already during 2017 with only a single at hold [ph] incident.

At USA Compression, our dedicated team of men and women in the field, don’t talk the talk, we walk the walk, and deliver with industry-leading safety performance. Now, let’s jump into why I’m excited about what the future holds in store for USA Compression.

There is a fundamental shift occurring in the oil and gas industry as certain shale plays move from the exploration/exploitation mode into the development mode, driven in many cases by our larger upstream customers.

This moment toward massive mining type, manufacturing oriented project results and initial production volumes in many cases approaching those of large offshore production platforms.

As our domestic industry continues to drive innovation and technology to reduce cost, increase production rates, optimize ultimate recoveries, and maximize economics, producers in the Permian and Delaware basins will be brining on many zones for many wellbores at one time.

This is an important concept going forward, one which we see will drive a significant increase in the demand for larger horsepower equipment. The technical capabilities and financial requirements to meet the future needs of our core customers, some of the largest and most sophisticated E&P, midstream and pipeline companies will be substantial.

USA Compression is well-positioned amongst our peers to continue to capture more than our fair share of this expanding market due to our differentiated, large horsepower focused business model and expertise. While commodity price have been volatile and soft for the past two or three years, oil and natural gas prices have shown signs of stabilizing.

Producers have examined our operating strategies, and through the adoption of innovative technologies have evolved to be able to operate profitably in the current environment.

Certainly, the current commodity prices environment has made some regions more attractive for investment than others, but my point is, the demand for and the production of crude oil and natural gas did not come to a screeching halt in the lower price environment we’ve lived for the past few years.

Instead, our domestic producers found ways to apply technology to drive improved productivity and enhanced economics. That is good for the producers but is also good for service providers like USA Compression. Our business is driven by natural gas demand and production.

As the industry has evolved into these larger projects, our large horsepower fleet sits right in the middle of it all. We continue to see significant activity by our customers, especially in the Permian and Delaware basins, and it is all focused on the very largest compression units in our fleet.

While the first half of the year generally saw many of the familiar trends, increasing rig counts, drilling and completion efficiencies, longer laterals, denser profit levels, and frac fluid applications, higher initial production rates and greater ultimate recoveries per well, more recently, there have been some signs of the trajectory of the expansion of drilling activities will moderate in the back half of 2017, which we believe should bode well for commodity prices and our business prospects.

And remember that as our producer customers spend capital throughout this year, we are now witnessing the lag effect in our business take hold.

We’ve seen our utilization already increase meaningfully and our customers are gearing up for busy second half of the year as drilled and uncompleted wells are completed, as the required gathering and processing infrastructure is constructed which we project will translate into a busy next several quarters in increasing demand for compression services.

Turning to what our customers specifically are doing. The level of customer activity, demand signals and contracting activity continue to be positive. While the Permian and Delaware basins continue to get the majority of the headlines, we are also seeing increasing activity in the SCOOP/STACK plays of Central Oklahoma as well as the Northeast U.S.

We have continued to be selective in partnering with our customers. We have always thought to do business with the leading upstream and midstream companies. And for almost 20 years, we have built tremendous relationships based on USA Compression’s commitment to excellence in customer service, safety and by going extra mile for our customers.

We continue to focus our capital and human resources on these core customers who are also operating in key supply basins. This allows us to take advantage of operational density, yet with the benefit of geographical diversity.

These core customers have been the driver behind the increase in revenue generating horsepower during the second quarter, which was up over 50,000 horsepower or about 3.5% by the end of the second quarter versus Q1. Horsepower utilization by the end of the second quarter had increased to 92.6%, up about 3% from the quarter before.

And the fact that we did it without spending much capital, we only spent about $15 million in expansion capital during the second quarter, demonstrates our continued focus on deploying idle equipment. During the second quarter, we also saw strong contracting activity, signing new contracts for upwards of a 160,000 horsepower.

As you can see, our sales team has been extremely busy.

When you combine the increased active fleet horsepower, robust new contracting activity, and monthly unit stops at levels below our historical average, you see a demand picture that speaks to both the current tightness in the marketplace as well as increasingly positive prospects for future activity with our large horsepower infrastructure-focused business model.

As of the end of the second quarter, we expect to take delivery of approximately 70,000 new-build horsepower in the second half of 2017, part of approximately a 125,000 total horsepower that is already contracted and expected to start in the back half of the year, further increasing utilization as well as revenues and cash flow.

For 2018, we’ve already contracted to build and take delivery of approximately a 150,000 horsepower throughout the year with the majority already spoken for by our core customers. As we mentioned before, substantially all of our growth spending is for very large horsepower machines, which is exactly what our customers need.

Before we launch into our performance for the quarter, I’d like to draw attention to the magnitude of the capital that USA Compression has returned to you, our unit-holders. Since our IPO a little more than four years ago in January of 2013, we’ve declared distributions for our unit-holders of over $400 million.

During that time, we also substantially grew our business and performed well during one of the worst downturns the energy industry has experienced, a period of approximately two years that saw about a 170 energy-related bankruptcies in North America.

Through that period, USA Compression has powered through, survived, and we believe is well-positioned for the future. For the second quarter of 2017, we increased our core compression service revenues by about 5% over the first quarter and achieved a gross margin of over 67%, which was also up from the first quarter.

Due in part to our focus on and expertise with large horsepower compression units, we believe these gross margins are the best in the industry. Similar to previous quarters, if we exclude the retail impact in Q2, our core compression services business gross margins were in line with recent quarters and demonstrate continued strong execution.

Our business continues to perform as expected as these margins are indicative of the attractive margins related to large horsepower compression services. For the second quarter, we reported adjusted EBITDA of $36.7 million and an adjusted EBITDA margin approaching 56%, also up from the first quarter.

Distributable cash flow, or DCF was $27.1 million and reflected some acceleration in maintenance activities during the quarter, as demand for certain idle units in our fleet increased more than expected. We achieved a blended fleet revenue for horsepower of $14.95 in the second quarter, essentially flat from Q1.

While this demonstrates the relative stability of our fleet of over 1.7 million horsepower, this metric also reflects the ongoing shift in our fleet to increasingly larger horsepower units, which as you know, generally earn a lower dollar per horsepower per month, yet generate the highest gross margins of all types of horsepower in our fleet.

Forward pricing continues to be at attractive levels, and we would expect a continued tightness in the market to further positively impact pricing as we move through the balance of the year and into 2018. The supply chain constraints we’ve discussed in the past, have continued.

Engine deliveries from Caterpillar take well over a year for the largest engines we use. The Cat 3600 series, and there has been a trickledown effect to the smaller engine class, the 3500 series, which remains around 20 weeks or so.

As we saw this situation developing over the past few quarters and as our customers grew more confident regarding their capital projects and the need for significant amounts of compression well into next year, as I mentioned before, we made commitments to take delivery of approximately 70,000 horsepower of additional large horsepower units over the remainder of 2017 and 150,000 horsepower throughout the entire year in 2018.

We continue to believe that there is a general underestimation of availability and lead times, and that as 2017 progresses and we get into early 2018, this equipment will be at a premium, as will be critical for our core customers to get their projects on line. So, to sum it all up, at the end of the day, our business is a demand-driven business.

As the demand for clean burning natural gas continues to increase as well as the demand for natural gas as a feed stock for growing petrochemical needs, our customers continue to meet those demands with increased supply.

Increased supply means increased demand for compression services, which is absolutely critical to move natural gas to the marketplace. Just like the human heart, without compression, no gas moves into our through the natural gas infrastructure.

The factors driving natural gas demand and the associated need for increased domestic natural gas infrastructure, remain firmly in place, exports to Mexico, LNG exports, industrial demand, and gas-fired electric generation.

We are seeing a lot of positive signs in the natural gas business, both on the supply side as well as the demand side, which drive the continued and expanding demand for our compression services.

We’re hearing it from our customers every day and we’re working hard to make sure, we’re in a position to take advantage of the attractive opportunities that are out there currently as well as those to come in the not distant in future.

Our strategy to focus our people and capital on the infrastructure side of the compression services business continues to play out positively, and we expect to continue to experience high utilization in our assets and further tightening in our business.

I will now turn the call over to Matt to walk through some of the financial highlights for the quarter.

Matt?.

Thanks, Eric, and good morning, everyone. Today, USA Compression reported a solid second quarter with revenue of $66 million, adjusted EBITDA of $36.7 million, and DCF of $27.1 million. In July, we announced a cash distribution to our unit-holders of $0.525 per LP unit, consistent with the previous quarter.

Our total fleet horsepower as of the end of Q2 was 1.7 million horsepower, essentially unchanged from Q1. However, our revenue generating horsepower at the period-end was up about 50,000 horsepower or 3.5% to almost 1.5 million horsepower. The quarter was relatively quiet in terms of capital spending.

We invested expansion capital of roughly $15 million. Our average horsepower utilization for the second quarter was 91.2%, up nicely from 88.2% in Q1, continuing the upward movement of recent quarters. Pricing, as measured by average revenue per revenue generating horsepower per month, was essentially flat from Q1 at $14.95.

Remember, our larger units on a lower revenue per horsepower per month and the continuing shifts in our fleet to larger and larger horsepower will continue to impact that metric. Turning to the income statement. Total revenue for the second quarter was $66 million, flat as compared to the first quarter.

While total revenues were flat, we saw an increase in our core contract operations revenues of almost $3 million or about 5%, reflecting the increase in active horsepower. Gross operating margin as a percentage of revenue was 67.3% in Q2, up from 65.9% in the first quarter.

During the second quarter, our level of retail activities was lower than in Q1. Again, if you were to remove the margin impact of the retail activities, gross margin for the quarter would have been consistent with prior quarters. We continue to be pleased with the consistently strong margin performance for the contract compression business.

To briefly address some of the specific line items. Adjusted EBITDA increased slightly to $36.7 million in the second quarter as compared to $36 million in the prior quarter, and down slightly from $37.1 million in the year-ago period.

DCF in the second quarter was $27.1 million as compared to $27.2 million quarter-over-quarter and $30.5 million year-over-year. Net income in the quarter was $0.6 million as compared to $1.6 million for the first quarter and $3.3 million in the second quarter of 2016.

Net cash provided by operating activities of $34 million in the quarter compared to $18.3 million last quarter and $36.5 million a year ago. Operating income was $6.7 million as compared to $7.4 million for the first quarter and $8.5 million year-over-year. Maintenance capital totaled $3.7 million in the quarter versus $3.2 million in Q1.

Some of the increase was related to the opportunity to redeploy more idle equipment than we had expected, and you saw this reflected in the pickup in utilization.

With a good amount of that activity behind us and the focus in the back half of the year on the equipment deliveries, we expect overall maintenance CapEx to remain in line with our guidance. Cash interest expense net was $5.5 million for the quarter.

Outstanding borrowings under our revolving credit facility as of quarter-end were $725 million, resulting in a leverage ratio of 4.94 times, consistent with the first quarter and well within our covenant level of 5.5 times.

Our outlook for the back half of the year reflects the positive impact of the higher utilization we’ve been experiencing as well as the deployment of new equipment that is already under contract.

As we’ve mentioned before, if that takes place, we expect increasing cash flows which in turn will help the partnership delever and build coverage to more attractive levels.

Halfway through the year, we continue to perform as we expected and so are affirming our previously released adjusted EBITDA and DCF guidance for 2017 while updating the net income guidance to reflect certain non-cash impacts during the second quarter.

We continue to expect full year adjusted EBITDA of between $145 million and $160 million and DCF between $108 million and $123 million while we expect full year net income of between $6 million and $21 million. Consistent with past practice, we will consider any revisions to guidance as necessary throughout the year.

Finally, we expect to file our Form 10-Q with the SEC as early as this afternoon. With that we’ll open the call to questions..

Thank you. [Operator Instructions] We’ll go first to Andrew Burd with J.P. Morgan..

Hi. Good morning. Eric, I think you indicated that obviously pricing is getting higher.

Have you raised rates for compressors already in service or existing in service or are the higher prices just on new demand?.

We have been raising over the course of the year, Andy. Depending on the category of equipment, we’ve seen single digit increases; and in certain categories of equipment, we’ve seen as much as a 15% to a 20% increase in rates..

Great. And I know that small units, clearly in the industry are still weak. But, has utilization for USA started to improve at all….

Yes..

And outside of higher commodity prices, is there anything on the horizon that would drive -- accelerate the recovery in those smaller units..

So, again, I’m going to categorize kind of the haves and the have-nots.

USA Compression’s small horsepower tends to be -- or even for gas lift, which require three-stage machines that operate at fairly high discharge pressures, so our utilization of our smaller horsepower is somewhat higher than some of our peers who have legacy equipment that might be single-stage, two-stage or even lower discharge pressure three-stage equipment orientated for either small wellhead casing gas – casing head gas or dry gas wells, used in primary production.

So, we saw that the utilization of our smaller horsepower fleet hit the kind of a bottom about six months or so ago, and we’ve seen a slow and steady methodical increase going forward. I think longer term, the shift towards the big pad side drilling with lots of wells drilling lots of benches is changing the way that people utilize compression.

There are large volume -- large horsepower units required to move initial flush production.

And then, as you have a large concentration of 10, 20, 30, 40 units on a simple pad site for the gas lift side instead of using 10, 20, 30, 40 individual wellhead compressors, people are consolidating to use two or three very large horsepower units to gas lift plumbed into a manifold system.

So, I think we’re seeing a fundamental shift in the way that producers view compression how they design their production facilities. And as I mentioned, it looks much more like an integrated offshore platform focused on much bigger horsepower, bigger central production facilities.

And clearly, there will always be a need for some individual smaller wellhead, gas lift or even some smaller wellhead oriented casing head gas or dry gas compression over time there will be less and less of that and more and more of the big step..

And last question is on growth CapEx. Is it fair to say that for 2017, at this point, that growth CapEx is probably locked in, because even if you wanted to order more units, you probably couldn’t because of Caterpillar lead times? Is that fair to....

Yes. The lead times are such, Andy, that what we’ve committed to buy is what it is. What we’re seeing, and I think when you look at the CapEx that we expended in Q2, relatively light CapEx spend, a fair amount of that was made for Make Ready work to take our existing idle fleet, spend some dollars to get it deployed back into active service.

So, I think because we have such forward visibility into 2017 and on into 2018, we have -- with the increased that we’re seeing, the increased utilization that we’re seeing, I think it mitigates the need for any additional equity requirements during 2017.

And I think we’ve got a pretty good visibility into what the next multiple quarters look like, very good visibility into 2017 and frankly very good visibility into 2018.

Matt, any commentary?.

No. And I think you kind of hit on the head. But, it is all locked in. And again, I think we’ve kind of made some comments that a lot of the reconfigure, the Make Ready work that we did in the second quarter, when we look forward, there is not a whole lot of idle equipment that is of the configuration sorts that people are demanding.

And so, I think, as we look out, the new unit stuff is all locked in, and then the Make Ready, reconfiguration type stuff is going I think kind of peter off through the remainder of the year..

And then, one follow-up on the growth CapEx into 2018. Of the 150,000 horsepower roughly that you have on order, what’s the visibility on placing those units. I know that, Eric, I think your words were that maturity were spoken for.

But, what does spoken-for mean exactly? Is it based on just customer production forecast, or there something more contractually binding to this order backlog? Thank you..

This is not just a speculative buy and build and they will come. We have a significant component covered already under firm executed contracts..

We will go next to Praveen Narra with Raymond James..

Just on the -- following up on the Caterpillar engine question, what are the lead times looking lie right now, in terms of -- if you were to order some of these large horsepower Cat engines? When would you get it, if you order them today?.

So, if I were a new guy calling my fabricator, you are roughly 60 weeks out to order the large 3600 series. So, you are talking five quarters from now at the earliest..

Okay. That’s very helpful. And then, I guess in terms of the EBITDA guidance, it seems like we are at the point in which we are at the turn where EBITDA is turning higher.

So, one, is that correct? And then, two, how do we think about leverage under that context? Is this something that we could be comfortable with and that you are growing utilization, EBITDA is [indiscernible] EBITDA growth lap and we can just grow into the leverage ratio or do we need to actually take a step to bring it down? How do we think about that?.

On the leverage, I mean you -- the first part of what you said was correct, which is as we see, again, the CapEx for the rest of the year is locked in, it’s all this large horsepower stuff.

And as we see those units being delivered, being deployed and the cash flow that increases that that’s driving, as we look at the leverage forecast, we are absolutely comfortable kind of into the future.

So, obviously, we spent some money kind of in the early part of the year and made some deposits and what not to take delivery of that big stuff, knowing that it was going to be coming on second half of the year into 2018, but also knowing that it was absolutely contracted at some pretty attractive prices.

So, as we sit here and look at it, I think Eric made the comment, no, we are not looking at any need for equity and we think that the business kind of naturally delevers over the course of the next two, four plus quarters..

[Operator Instructions] We’ll take a question from Jeff Rednor [ph] with UBS..

I have a question about the dividend going forward. Paying $0.525 a quarter which annualizes at the $2.10 a share, represents a very attractive return, based on the current stock price.

Seeing that you have increased visibility going through 2017 and into 2018, could you care to comment on the dividend going forward, not necessarily to be raised but certainly should maintained at this level throughout the next four to six quarters?.

In terms of the distribution, obviously that’s a quarterly decision that’s made by the Board. And so, we can’t say one way or the other what the Board will decide with respect to the distribution. I’ll tell you, as we kind of powered through the last couple of years, we thought the business model was appropriate to keep the distribution where it was.

And certainly, as we look forward into the back half of the year, and we commented the last couple of quarters, but lower coverage than we would like, but being able to see increasing cash flows and increasing activity over the next -- the rest of this year and well into 2018.

We think we kind of grow back into a coverage level that’s a little more attractive than where we are now. So, other than that, I can’t really comment on what the Board may or may not decide, but it is a quarterly decision on their behalf..

And with no further questions in the queue, I would like to turn the call back over to Eric Long for any additional or closing remarks..

Thank you, Leanne, and thank you all for joining us on the call today. I’ve always talked about the stability and growth of the compression service business. Our metrics and the overall tone would indicate we are excited about where we stand halfway through the year.

For the back half of 2017 and on into 2018 and beyond, you will see similar and consistent themes from USA Compression, large horsepower focus, operational density in our areas of activity and growth, and our long-established commitment to providing safe and exemplary levels of customer service as the industry is showing signs of stabilizing and growth has picked up, pricing and margins remain attractive and we expect to see the favorable supply-demand picture to translate into increasing cash flows.

We look forward to updating you on the next quarterly call. Thank you for your continued interest in and support of USA Compression. Be safe..

And this does conclude today’s conference. We thank you for your participation. You may now disconnect..