Source Energy Services Reports Q1 2020 Results

Source Company Press Release
Company Source Energy Services Ltd.
Tags Corporate: Corporate Results, Guidance, Overview/Strategy, Country: Canada, Financial - Costs & Metrics: Capital Expenditures, Midstream: Pipeline
Date June 29, 2020

Source Energy Services Ltd. ("Source" or, the "Company") is pleased to announce its 2020 first quarter financial results.

HIGHLIGHTS

Source achieved the following results for the three months ended March 31, 2020:

    • - grew market share in the Western Canadian Sedimentary Basin ("WCSB") with a 9% growth in sand volumes;

      - distributed total volumes through Source's WCSB terminal network of 785,574 metric tonnes ("MT");

      - executed a contract extension with a major Duvernay customer;

      - continued to diversify the business by increasing non-sand terminal revenue by $0.4 million compared to the same period last year;

      - reduced operating and general and administrative costs by 31% due to previously implemented cost reduction initiatives and other significant cost control measures taken in the quarter;

      - realized Adjusted EBITDA(1) of $14.6 million; and

      - realized gross margin of $6.4 million and Adjusted Gross Margin(1) of $19.8 million.

In the latter part of the first quarter of 2020, the oil and gas industry was significantly impacted by a reduction to global demand caused by the coronavirus ("COVID-19") pandemic, and uncertainty surrounding production level decisions amongst the Organization of the Petroleum Exporting Countries ("OPEC") and other oil exporting nations. Governments worldwide, including Canada and the United States ("US") in which the Company operates, have enacted emergency measures to combat the spread of the virus. These measures have caused a material disruption to businesses globally, resulting in an economic slowdown and decreased demand for oil (refer to "COVID-19" below). The impacts of COVID-19 on the industry outlook lead to Source recognizing a net loss of $185.3 million or $(3.08) per share, including non-cash pre-tax charges for impairment and deferred tax asset write-down of $180.0 million.

Note:

(1) Adjusted EBITDA and Adjusted Gross Margin (including on a per MT basis) are not defined under IFRS, see "Non-IFRS Measures" below.

RESULTS OVERVIEW

  Three months ended March 31, 
($000's, except MT and per unit amounts)  2020  2019(5) 
Sand volumes (MT)(1)  762,322    698,347   
     
Sand revenue  83,019    91,149   
Wellsite solutions  12,113    15,480   
Terminal services  1,331    1,504   
Sales  96,463    108,133   
Cost of sales  76,656    83,794   
Cost of sales - depreciation and depletion  13,430    13,984   
Cost of sales  90,086    97,778   
Gross margin  6,377    10,355   
Operating expenses  4,297    5,803   
General & administrative expenses  2,557    4,143   
Depreciation  4,257    4,306   
Loss from operations  (4,734)    (3,897)   
Total other expense(2)(4)  149,263    6,607   
Loss before income taxes  (153,997)    (10,504)   
Current income tax recovery  --    --   
Deferred income tax expense (recovery)  31,350    (3,182)   
Net loss  (185,347)    (7,322)   
Net loss per share ($/share)  (3.08)    (0.12)   
Diluted net loss per share ($/share)  (3.08)    (0.12)   
Adjusted EBITDA(3)  14,609    14,813   
Sand revenue sales/MT  108.90    130.52   
Gross margin/MT  8.37    14.83   
Adjusted Gross Margin(3)  19,807    24,339   
Adjusted Gross Margin/MT(3)  25.98    34.85   
Percentage of sand volumes sold in the WCSB  100  100 

Notes:

(1) One MT is approximately equal to 1.102 short tons.

(2) The average Canadian to US dollar exchange rate for the three months ended March 31, 2020 was $0.7435 (2019 - $0.7522).

(3) Adjusted EBITDA and Adjusted Gross Margin (including on a per MT basis) are not defined under IFRS. See "Non-IFRS Measures" below.

(4) Other expense includes a pre-tax impairment charge. See "COVID-19" below.

(5) Prior year operating expenses and general and administrative expenses have been reclassified to conform to current year presentation.

Q1 2020 RESULTS

Sand sales volumes increased by 9% for the three months ended March 31, 2020 compared to the first quarter of 2019, despite the slowdown in activity levels in the oil and gas industry with the onset of the pandemic. While Source achieved higher volumes for the quarter, sand revenue and total sales revenue were lower by 9% and 11%, respectively, compared to the three months ended March 31, 2019, due to lower realized sand prices.

Wellsite solutions revenue decreased by $3.4 million, or 22%, for the three months ended March 31, 2020 compared to the first quarter of 2019, primarily due to reduced trucking revenue as a result of varying distance to wellsites, customer mix and lower trucking rates. Sahara revenue also decreased, as the available fleet of eight units were 56% utilized for the three months ended March 31, 2020 compared to the 89% utilization rate of a seven-unit Sahara fleet for the same period last year. Utilization was impacted in March due to COVID-19 related cancellations.

Cost of sales, excluding depreciation and depletion, decreased in aggregate by 9% in the quarter primarily due to lower production costs, which decreased on a per tonne basis by approximately 16%. The reduction in cost of sales was further impacted by increased efficiencies and ongoing optimization efforts related to logistics costs.

Gross margin and Adjusted Gross Margin decreased by $4.0 million and $4.5 million, respectively, compared to the first quarter of 2019, due to a $21.62 per MT decrease in sand sales prices impacted by terminal and customer mix. Activity levels in the WCSB remain limited by egress issues which kept pricing pressure high in a pre-COVID-19 environment.

On a quarter-over-quarter basis, operating and general and administrative expenses for the three months ended March 31, 2020 were lower by $3.1 million, or 31%. Workforce optimization efforts implemented in 2019 as well as cost control measures undertaken in response to COVID-19 drove further reductions in people costs.

For the three months ended March 31, 2020, Adjusted EBITDA was $14.6 million which was $0.2 million, or 1%, lower than the $14.8 million of Adjusted EBITDA generated in the three months ended March 31, 2019. Lower realized prices, as noted above, contributed to the decrease.

COVID-19

On March 11, 2020, the COVID-19 outbreak was declared a global pandemic by the World Health Organization. Measures enacted to prevent the spread of the virus have resulted in global business disruption with significant economic repercussions. The current economic climate has caused uncertainty and extraordinary volatility in the oil and gas industry, particularly in the WCSB. The demand for oil has significantly deteriorated and has been further impacted by certain actions taken by OPEC. The convergence of these events has created an unprecedented simultaneous impact of a decline in global oil demand and a risk of a substantial increase in oil supply.

Notwithstanding Source's first quarter performance, these events have negatively impacted and are expected to continue to negatively impact Source's business. Although countries have begun the slow process of restarting economies, the demand for the Company's products and services has declined as customers revise capital budgets and adjust operations in response to the volatility in oil prices. In order to mitigate the impact of the current operating environment, Source has implemented operational cost reductions and other measures which include the following:

    • - implemented a COVID-19 Program to protect the health and well-being of employees;

      - reduced operating staff levels and hours of operations;

      - reduced board, executive and salaried employee compensation and benefits;

      - eliminated all discretionary expenditures;

      - executed deferrals for certain lease obligation payment commitments;

      - received proceeds from the US Small Business Administration's Paycheck Protection Program; and

      - received proceeds from the Canadian Emergency Wage Subsidy program.

Source continues to evaluate and apply for relevant government economic relief programs as they become available.

The extent to which COVID-19 will impact the Company's financial position remains highly uncertain and cannot be predicted, but continued adverse impacts may result in further decreased revenues, increased counterparty credit risk and uncertainties with respect to debt covenant compliance and liquidity.

During the period ended March 31, 2020, as a result of the weakening economic climate due to the pandemic and the decrease in global demand for crude oil, the Company carried out an assessment of the recoverable value of its operations. A discounted cash flow analysis was completed using an updated weighted average cost of capital ("WACC") and included projections based on revised cash flow forecasts. Ongoing uncertainty in the current climate has created increased credit spreads and risk adjustments resulting in an increased WACC used in the assessment. As a result, an impairment loss was recognized in the quarter, of which $143.7 million related to property, plant and equipment and the remainder was attributed to future income tax assets and foreign exchange differences.

Future Operations

As at March 31, 2020, the Company was in compliance with its financial covenants on its credit facility. However, management forecasts indicate a potential breach of its fixed charge ratio covenant is possible within the next fiscal quarter. In the event of an occurrence of a covenant violation the Company would be in default, allowing lenders to demand immediate repayment of all outstanding amounts. Consequently, Source obtained covenant relief from its banking syndicate for a specified period subsequent to March 31, 2020. Source has also entered into a Support and Interest Deferral Agreement with noteholders. Under the agreement, the supporting noteholders have agreed to defer the payment of the June 15, 2020 interest payment on the Notes for a period of 60 days. The Company is currently involved in ongoing discussions with its lenders and noteholders to seek further relief, but no agreement has been finalized as of the date of this MD&A. There can be no assurance that such an agreement will be reached, and therefore there is material uncertainty that may cast significant doubt on the Company's ability to continue as a going concern.

Liquidity and Capital Resources

The Company has a banking operating facility, comprised of an asset backed loan facility ("ABL") and a standby letter of credit facility (collectively, with the ABL, the "Credit Facility"). As of March 31, 2020, Source had $34.5 million drawn under its ABL. The Credit Facility was also being used to support $17.1 million of letters of credit leaving $7.8 million of available liquidity. Source is subject to externally imposed capital requirements for the Credit Facility, requiring Source Energy Services Canada LP to maintain a springing fixed charge ratio of 1.25:1 to be measured when Source's excess availability is less than 20% of the lesser of the borrowing base and the operating facility. In February 2020 an amendment to the ABL was completed, effective January 1, 2020, which included a reduction of the springing fixed charge ratio from 1.25:1 to 1.10:1 for all periods ending on or before December 31, 2020. As of March 31, 2020, the excess availability was 13% and the fixed charge coverage ratio was 1.27:1. Subsequent to March 31, 2020, the Company's ABL facility was amended to temporarily waive the application of the fixed charge coverage ratio covenant from May 31, 2020 to August 13, 2020. As of August 13, 2020, the covenant requirement will revert back to 1.10:1 for the remainder of 2020.

Capital expenditures  Three months ended March 31, 
($000's, except MT and per unit amounts)  2020  2019 
Terminal expansion    7,067   
Wellsite solutions  205    4,017   
Production expansion  484    2,849   
Overburden removal  828    1,837   
Other  100    --   
Capital expenditures  1,621    15,770   

In the first quarter of 2020, capital expenditures were $1.6 million, $14.1 million lower than the same period last year. Source previously announced that capital spending for 2020 was expected to be limited to $5.6 million. Previous investment in processing assets and logistics infrastructure will allow for modest capital expenditures through 2020 and beyond even as industry activity returns to more normalized levels.

BUSINESS OUTLOOK

While Source's financial results for the first quarter of 2020 were not materially impacted by the events described above, the Company expects a decline in revenue and profitability for the remainder of 2020. As governments across Canada and the US begin the slow process of relaxing restrictions previously implemented to combat the spread of COVID-19, Source's activity levels have begun to increase as customers revisit spending in a dynamic environment. However, Source cannot predict the extent of the impact COVID-19 may have on energy demand nor how OPEC will react to those changes in demand and how those events could impact the Company's operations. Given the fluid nature of these events, Source cannot reasonably estimate the period of time that adverse business conditions will persist, the impact they will have on the Company's business, liquidity, consolidated results of operations and consolidated financial condition, or the pace of any subsequent recovery.

Beyond 2020, we continue to remain optimistic about the longer-term industry prospects, including increased demand for LNG on WCSB activity levels. Analysis of pipeline egress capacity, coal to natural gas power generation conversions and the potential for additional hydrocarbon shipments by rail continue to support the Company's expectation that activity levels should substantially increase in the coming years.

Source has seen exploration and production ("E&P") companies drive additional efficiencies in their completion programs by completing fracs over much shorter periods of time, requiring larger volumes of frac sand. Source's terminal network and logistics capabilities have become a key component in the success of these accelerated frac programs, further enhanced by the delivery capability of the Sahara units. Source is ideally positioned to serve the increase in demand for frac sand and logistics services as activity levels rebound.

Source continues to focus on improving logistics for other items needed at the wellsite, in response to customer requests to expand its service offerings, and continues to develop opportunities to further utilize its existing Western Canadian terminals to provide additional diversification of its business. Over the longer-term, Source anticipates that these new terminal services will be a meaningful part of its business.

FIRST QUARTER CONFERENCE CALL

Due to the uncertain operating environment as a result of COVID-19, as well as ongoing negotiations with the Company's noteholders, Source will not be holding a conference call this quarter.

Source: EvaluateEnergy® ©2024 EvaluateEnergy Ltd