NATURAL GAS SERVICES GROUP, INC. The discussion and analysis of our financial condition and results of operations are based on, and should be read in conjunction with, our condensed consolidated financial statements and the related notes included elsewhere in this report and in our Annual Report on Form 10-K for the year endedDecember 31, 2020 filed with theSEC . This report and our Annual Report on Form 10-K contain certain 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, as amended, and information pertaining to us, our industry and the oil and natural gas industry that is based on the beliefs of our management, as well as assumptions made by and information currently available to our management. All statements, other than statements of historical facts contained in this report as well as our Annual Report on Form 10-K, including statements regarding our future financial position, growth strategy, budgets, projected costs, plans and objectives of management for future operations, are forward-looking statements. We use the words "may," "will," "expect," "anticipate," "estimate," "believe," "continue," "intend," "plan," "budget" and other similar words to identify forward-looking statements. You should read statements that contain these words carefully and should not place undue reliance on these statements because they discuss future expectations, contain projections of results of operations or of our financial condition and/or state other "forward-looking" information. We do not undertake any obligation to update or revise publicly any forward-looking statements. Although we believe our expectations reflected in these forward-looking statements are based on reasonable assumptions, no assurance can be given that these expectations or assumptions will prove to have been correct. Please read Item 1A, Risk Factors, in our Annual Report on Form 10-K for the year endedDecember 31, 2020 , as it contains important factors that could cause actual results to differ materially from the expectations reflected in the forward-looking statements.
Overview
We fabricate, manufacture, rent, and sell natural gas compressors and related equipment. Our primary focus is on the rental of natural gas compressors. Our rental contracts typically provide for initial terms of six to 24 months, with our larger horsepower units having contract terms of up to 60 months. After the initial term of our rental contracts, many of our customers have continued to rent our compressors on a month-to-month basis. Rental amounts are billed monthly in advance and include maintenance of our rented compressors. As ofSeptember 30, 2021 , we had 1,221 natural gas compressors totaling 288,706 horsepower rented to 78 customers compared to 1,278 natural gas compressors totaling 286,488 horsepower rented to 82 customers atSeptember 30, 2020 . We also fabricate natural gas compressors for sale to our customers, designing compressors to meet unique specifications dictated by well pressures, production characteristics, and particular applications for which compression is sought. Fabrication of compressors involves our purchase of engines, compressors, coolers, and other components, and our assembling of these components on skids for delivery to customer locations. The major components of our compressor packages are acquired through periodic purchase orders placed with third-party suppliers on an "as needed" basis, which presently require lead times between two to three months with delivery dates scheduled to coincide with our estimated production schedules. Although we do not have formal continuing supply contracts with any major supplier, we believe we have adequate alternative sources available. In the past, we have not experienced any sudden and dramatic increases in the prices of the major components for our compressors; however, the occurrence of such an event could have a material adverse effect on the results of our operations and financial condition, particularly if we were unable to increase our rental rates and sales prices proportionate to any such component price increases. We also manufacture a proprietary line of compressor frames, cylinders and parts, known as our CiP (Cylinder-in-Plane) product line. We use finished CiP component products in the fabrication of compressor units for sale or rental by us or sell the finished component products to other compressor fabricators. We also design, fabricate, sell, install, and service flare stacks and related ignition and control devices for onshore and offshore incineration of gas compounds such as hydrogen sulfide, carbon dioxide, natural gas and liquefied petroleum gases. To provide customer support for our compressor and flare sales businesses, we stock varying levels of replacement parts at ourMidland, Texas facility and at field service locations. We also provide an exchange and rebuild program for screw compressors and maintain an inventory of new and used compressors to facilitate this business.
We provide service and maintenance to our customers under written maintenance contracts or on an as-required basis in the absence of a service contract. Maintenance agreements typically have terms of six months to one year and require payment of a monthly fee.
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The oil and natural gas equipment rental and services industry is cyclical in
nature. The most critical factor in assessing the outlook for the industry is
the worldwide supply and demand for oil and natural gas and the corresponding
changes in commodity prices. As demand and prices increase, oil and natural gas
producers typically increase their capital expenditures for drilling,
development and production activities, although recent equity capital
constraints and demands from institutional investors to keep spending within
operating cash flow have meaningfully restrained capital expenditure budgets of
domestic exploration and production companies. Generally, increased capital
expenditures ultimately result in greater revenues and profits for service and
equipment companies.
In general, we expect our overall business activity and revenues to track the
level of activity in the oil and natural gas industry, with changes in crude oil
and condensate production and consumption levels and prices affecting our
business more than changes in domestic natural gas production and consumption
levels and prices. In recent years we have increased our rentals and sales in
unconventional oil shale plays, which are more dependent on crude oil prices.
With this shift towards oil production, the demand for overall compression
services and products is driven by two general factors: an increased focus by
producers on artificial lift applications, e.g., production enhancement with
compression assisted gas lift; and declining reservoir pressure in maturing
natural gas producing fields, especially unconventional production. These types
of applications have historically been serviced by wellhead size compressors,
and continue to be, but there has also been an economic move by our customers
towards centralized drilling and production facilities, which have increased the
market need for larger horsepower compressor packages. We recognized this need
in recent years and have been shifting our cash and fabrication resources
towards designing, fabricating and renting gas compressor packages that range
from 400 horsepower up to 1,380 horsepower. While this is a response to market
conditions and trends, it also provides us with the opportunity to compete as a
full-line compression provider.
Industry Update
We typically experience a decline in demand during periods of low crude oil and natural gas prices. During the first quarter of 2020, we saw a substantial decline in the prices for oil and natural gas. While commodity prices have stabilized during late 2020 and through the first nine months of 2021, activity levels of exploration and production companies have been and will be dependent not only on commodity prices, but also on their ability to generate sufficient operational cash flow to fund their activities. Generally, though, we feel that production activities (in which we are involved) will fare better than drilling activity. This is reflected in both the stability of our rental revenues, which is driven by production activities, and the volatility of our compressor sales, which tends to fluctuate with drilling activity. OnJanuary 30, 2020 , theWorld Health Organization ("WHO") announced a global health emergency because of a new strain of coronavirus known as COVID-19 due to the risks it imposes on the international community as the virus spreads globally. InMarch 2020 , theWHO classified the COVID-19 outbreak as a pandemic, based on the rapid increase in exposure globally. The effects of the COVID-19 outbreak, including actions taken by businesses and governments to contain the spread of the virus, resulted in a significant, rapid decline in global andU.S. economic conditions. This significant drop in economic activity caused global demand for crude oil to drastically decline.
While oil and natural gas prices have recovered from these historic lows, we still expect compressor sales to be low for the remainder of 2021, as exploration and production companies have elected to rent compression units rather than allocating capital dollars to purchase new compression.
Finally, in keeping with current commercial precautions and practices in our industry, we have implemented guidelines to mitigate health risks to our employees and customers during this outbreak. To date, our field operations have continued largely uninterrupted as theU.S. Department of Homeland Security designated our industry as part of our country's critical infrastructure. Remote work and work process adjustments related to COVID-19 have not impacted our ability to maintain our service operations or caused us to incur significant additional costs. In addition, we have not experienced any supply chain issues in connection with the COVID-19 outbreak. 16 --------------------------------------------------------------------------------
Results of Operations
Three months ended
The table below shows our revenues and percentage of total revenues of each of
our product lines for the three months ended
Three months ended September 30,
2021 2020
(in thousands)
Rental $ 16,195 88.8 % $ 14,861 94.3 %
Sales 1,472 8.1 % 536 3.4 %
Service and Maintenance 578 3.1 % 368 2.3 %
Total $ 18,245 $ 15,765 Total revenue increased 15.7% to
Rental revenue increased to$16.2 million for the three months endedSeptember 30, 2021 compared to$14.9 million for the same period in 2020. This increase during the third quarter of 2021 was attributable to higher horsepower compression rentals as these units carry a higher revenue rate than our lower horsepower units. As ofSeptember 30, 2021 , we had 2,275 compressor packages in our fleet, down from 2,339 units atSeptember 30, 2020 due to the retirement of 122 units during the fourth quarter of 2020. The Company's total unit horsepower increased to 452,283 horsepower atSeptember 30, 2021 compared to 449,133 horsepower atSeptember 30, 2020 , due to the addition to the Company's fleet of 21 high horsepower compressors with 8,400 horsepower over the past 12 months. As ofSeptember 30, 2021 , we had 1,221 natural gas compressors with a total of 288,706 horsepower rented to 78 customers, compared to 1,278 natural gas compressors with a total of 286,488 horsepower rented to 82 customers as ofSeptember 30, 2020 . As a result, our total rented horsepower as ofSeptember 30, 2021 increased by 0.8% over the last twelve months. Our rental fleet had unit utilization as ofSeptember 30, 2021 , and 2020, respectively, of 53.7% and 54.6%, and our horsepower utilization for the same period ends remained steady at 63.8%. While our total rented units declined during the period, our total rented horsepower increased by 0.8% contrasted against a 4.5% decline in total rented units. This illustrates the growing demand for our high horsepower units while the demand for our smaller and medium horsepower units has not recovered in line with recent commodity price increases. Sales revenue increased to$1.5 million for the three months endedSeptember 30, 2021 compared to$536,000 for the three months endedSeptember 30, 2020 . This increase is mostly attributable to increased parts sales during the third quarter of 2021 compared to the same period in 2020. Sales are subject to fluctuations in timing of industry activity related to our customers' capital projects and, as such, can vary substantially between periods. Cost of rentals increased to$8.8 million during the three months endedSeptember 30, 2021 compared to$6.8 million during the three months endedSeptember 30, 2020 . While rental revenues increased 9.0%, this 30.6% increase in costs of rentals is primarily due to labor and parts expenses related to a significant increase in repair and maintenance work on our rental fleet as well as increased costs related to newly set units which experience higher upfront costs than typical run rates. While repair and maintenance expenses are customary in our business, the timing of such expenses can fluctuate between periods resulting in periods with larger than normal expenses.
Cost of sales increased 56.8% to
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Selling, general, and administrative ("SG&A") expenses increased 8.5% to $2.7
million for the three months ended September 30, 2021 compared $2.5 million
during the same period in 2020. This increase in SG&A expenses was primarily
attributable to an increase in estimated executive bonus compensation expense
and increased health insurance costs partially offset by decreased stock
compensation expenses.
Depreciation and amortization expense increased marginally to $6.4 million for
the three months ended September 30, 2021 compared to $6.3 million for the three
months ended September 30, 2020 . This was the result of larger horsepower units
being added to the fleet partially offset by unit retirements in the fourth
quarter of 2020.
We recorded an income tax benefit of approximately $212,000 for the three months
ended September 30, 2021 compared to an income tax benefit of $167,000 for the
three months ended September 30, 2020 . For interim periods, our income tax
benefit (expense) is computed based upon our estimated annual effective tax rate
and any discrete items that impact the interim periods. Our estimated annual
effective tax rate differs from the U.S. federal statutory rate of 21%.
Nine months ended
The table below shows our revenues and percentage of total revenues of each of
our product lines for the nine months ended
Nine months ended September 30,
2021 2020
(in thousands)
Rental $ 47,149 86.7 % $ 46,092 90.3 %
Sales 5,756 10.6 % 3,994 7.8 %
Service and Maintenance 1,486 2.7 % 974 1.9 %
Total $ 54,391 $ 51,060
Total revenue increased 6.5% to $54.4 million for the nine months ended
September 30, 2021 compared to $51.1 million during the nine months ended
September 30, 2020 . This increase was primarily a result of higher sales revenue
(44.1% increase) during the first nine months of 2021 mainly due to higher parts
sales as well as higher rental revenue (2.3% increase).
Rental revenue increased to $47.1 million for the nine months ended September
30, 2021 compared to $46.1 million during the nine months ended September 30,
2020 . This increase during the first nine months of 2021 was attributable to
well shut-ins and unit returns due to a significant drop in oil prices resulting
from the COVID-19 pandemic and crude oil demand destruction that negatively
impacted the nine months ended September 30, 2020 . In addition, rental revenues
were positively impacted by increases in higher horsepower rentals.
Sales revenue increased to $5.8 million for the nine months ended September 30,
2021 compared to $4.0 million for the same period in 2020. This increase is
mostly attributable to an increase in parts sales partially offset by a decrease
in compressor sales. The reduction in compressor sales reflects a shift in
capital concentration from our customers as more customers have elected to rent
compression units rather than allocating capital dollars towards buying new
compressors. Sales are subject to fluctuations in timing of industry activity
related to capital projects and, as such, can vary substantially between
periods.
Cost of rentals increased 17.8% to $25.1 million during the nine months ended
September 30, 2021 compared to $21.3 million during the nine months ended
September 30, 2020 . This increase was primarily due to labor and parts expenses
related to a significant increase in repair and maintenance work on our rental
fleet as well as increased costs related to newly set units which experience
higher upfront costs than typical run rates. While repair and maintenance
expenses are customary in our business, the timing of such expenses can
fluctuate between periods resulting in periods with larger than normal expenses.
Cost of sales increased 29.6% to $6.0 million during the nine months ended
September 30, 2021 compared to $4.6 million during the nine months ended
September 30, 2020 . This increase during the first nine months of 2021 was
primarily due to an increase in parts sales. This increase during the first nine
months of 2021 also reflects lower labor efficiency due to much lower activity
levels at our fabrication facilities that was partially offset by lower payroll
and benefits expenses.
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Selling, general, and administrative expenses increased 8.8% to $8.0 million for
the nine months ended September 30, 2021 compared to $7.3 million for the same
period in 2020. SG&A expenses during the first nine months of 2021 were impacted
by an increase in expected executive bonus compensation expense and officer and
director cash long-term incentive expenses. These increases were partially
offset by a reduction in professional fees and restricted stock expense.
Depreciation and amortization expense increased 0.8% to $19.0 million for the
nine months ended September 30, 2021 compared to $18.9 million for the nine
months ended September 30, 2020 . This increase was the result of larger
horsepower units being added to the fleet. We added 51 units (approximately
14,060 horsepower) to our fleet over the past 12 months. Twenty-one of those
units were 400 horsepower or larger, representing 60% of the horsepower added.
We recorded an income tax benefit of $425,000 for the nine months ended
September 30, 2021 compared to an income tax benefit of $4.7 million for the
nine months ended September 30, 2020 . For interim periods, our income tax
benefit (expense) is computed based upon our estimated annual effective tax rate
and any discrete items that impact the interim periods with the period ended
September 30, 2020 being significantly impacted by prior year amended returns
related to the CARES Act.
Non-GAAP Financial Measures
Our definition and use of Adjusted EBITDA
"Adjusted EBITDA" is a non-GAAP financial measure that we define as earnings
(net (loss) income) before interest, taxes, depreciation and amortization, as
well as non-cash stock compensation, impairment of goodwill, an increase in
inventory allowance and inventory write-offs, and retirement of rental
equipment. This term, as used and defined by us, may not be comparable to
similarly titled measures employed by other companies and is not a measure of
performance calculated in accordance with GAAP. Adjusted EBITDA should not be
considered in isolation or as a substitute for operating income, net income or
loss, cash flows provided by operating, investing and financing activities, or
other income or cash flow statement data prepared in accordance with
GAAP. However, management believes Adjusted EBITDA is useful to an investor in
evaluating our operating performance because:
•it is widely used by investors in the energy industry to measure a company's
operating performance without regard to items excluded from the calculation of
Adjusted EBITDA, which can vary substantially from company to company depending
upon accounting methods and book value of assets, capital structure and the
method by which assets were acquired, among other factors;
•it helps investors to more meaningfully evaluate and compare the results of our
operations from period to period by removing the impact of our capital structure
and asset base from our operating structure; and
•it is used by our management for various purposes, including as a measure of
operating performance, in presentations to our Board of Directors, and as a
basis for strategic planning and forecasting.
Adjusted EBITDA has limitations as an analytical tool, and you should not
consider it in isolation, or as a substitute for analysis of our results as
reported under generally accepted accounting principles. Some of these
limitations are:
•Adjusted EBITDA does not reflect our cash expenditures, future requirements for
capital expenditures, or contractual commitments;
•Adjusted EBITDA does not reflect changes in, or cash requirements for, our
working capital needs;
•Adjusted EBITDA does not reflect the cash requirements necessary to service
interest or principal payments on our debts; and
•although depreciation and amortization are non-cash charges, the assets being
depreciated and amortized will often have to be replaced in the future, and
Adjusted EBITDA does not reflect any capital expenditures for such replacements.
There are other material limitations to using Adjusted EBITDA as a measure of
performance, including the inability to analyze the impact of certain recurring
items that materially affect our net income or loss, and the lack of
comparability of results of operations of different companies. Please read the
table below under "Reconciliation" to see how Adjusted EBITDA reconciles to our
net (loss) income, the most directly comparable GAAP financial measure.
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--------------------------------------------------------------------------------Reconciliation
The following table reconciles our net (loss) income, the most directly comparable GAAP financial measure, to Adjusted EBITDA:
Three months ended September 30, Nine months ended September 30,
2021 2020 2021 2020
(in thousands)
Net income (loss) $ (1,257) $ (562) $ (3,569) $ 3,685
Interest expense 25 2 40 13
Income tax expense (benefit) (212) (167) (425) (4,653)
Depreciation and amortization 6,387 6,318 19,010 18,859
Non-cash stock compensation expense 420 563 1,316 1,629
Adjusted EBITDA $ 5,363 $ 6,154 $ 16,372 $ 19,533
For the three months ended September 30, 2021 , Adjusted EBITDA decreased $0.8
million (12.9%) due primarily to a $2.1 million increase in costs of rentals
compared to the three months ended September 30, 2020 . This decrease was
partially offset by increased revenues. For the nine months ended September 30,
2021 , Adjusted EBITDA decreased $3.2 million (16.2%) due primarily to a $3.8
million increase in costs of rentals when compared to the nine months ended
September 30, 2020 .
Liquidity and Capital Resources
Our working capital positions as ofSeptember 30, 2021 andDecember 31, 2020 are set forth below: September 30, December 31, 2021 2020 (in thousands) Current Assets: Cash and cash equivalents$ 24,424 $
28,925
Trade accounts receivable, net 11,594 11,884
Inventory 21,392 19,926
Federal income tax receivable 11,538 11,538
Prepaid income taxes 33 66
Prepaid expenses and other 668 379
Total current assets 69,649 72,718
Current Liabilities:
Accounts payable 1,120 2,373
Accrued liabilities 13,621 6,770
Line of credit - 417
Current operating leases 94 198
Deferred income 693 1,103
Total current liabilities 15,528 10,861
Total working capital $ 54,121 $ 61,857
For the nine months endedSeptember 30, 2021 , we invested$19.1 million in rental and property and other equipment. During the nine months endedSeptember 30, 2021 , we added$17.9 million in new equipment to our rental fleet and$1.2 million mostly in vehicles as well as various other machinery and equipment. Our investment in rental equipment, property and other equipment also includes any changes to work-in-process related to our rental fleet jobs at the beginning of the period 20 --------------------------------------------------------------------------------
compared to the end of the period. Our rental work-in-process increased by
Cash flows
AtSeptember 30, 2021 , we had cash and cash equivalents of$24.4 million compared to$28.9 million atDecember 31, 2020 . Our cash flows from operating activities of$20.0 million were partially offset by capital expenditures of$19.1 million during the nine months endedSeptember 30, 2021 . We had working capital of$54.1 million atSeptember 30, 2021 compared to$61.9 million atDecember 31, 2020 . OnDecember 31, 2020 , we had outstanding debt of$417,000 , which was all related to our line of credit. We generated cash flows from operating activities of$20.0 million during the first nine months of 2021 compared to cash flows provided by operating activities of$27.9 million for the first nine months of 2020. The decline in cash flows from operating activities was primarily driven by higher costs of rentals during the first nine months of 2021 as well as higher SG&A expenses. These increases were partially offset by slightly higher sales margins.
Strategy
For the remainder of 2021, our overall plan is to continue monitoring and
holding expenses in line with the anticipated level of activity, fabricate
rental fleet equipment only in direct response to market requirements, emphasize
marketing of our idle gas compressor units and limit bank borrowing in line with
market conditions. For the remainder of 2021, our forecasted capital
expenditures are not anticipated to exceed our internally generated cash flows
and our cash on hand. Any required capital will be for contracted,
premium-priced additions to our compressor rental fleet and/or required service
vehicles. We believe that cash flows from operations and our current cash
position will be sufficient to satisfy our capital and liquidity requirements
for the foreseeable future.
Bank Borrowings
We have a senior secured revolving credit agreement the ("Credit Agreement")
with Texas Capital Bank, National Association (the "Lender") with an initial
commitment of $20 million , and an accordion feature that would increase the
maximum commitment to $30 million , subject to collateral availability. We also
have a right to request from the Lender, on an uncommitted basis, an increase of
up to $30 million on the aggregate commitment; provided however, the aggregate
commitment amount is not permitted to exceed $50 million . The maturity date of
the Credit Agreement is May 11, 2026 . As of September 30, 2021 , we did not have
any borrowings outstanding under the Credit Agreement.
Critical Accounting Policies and Practices
There have been no changes in the critical accounting policies disclosed in the
Company's Form 10-K for the year ended
Recently Issued Accounting Pronouncements
Please read Note 2, Summary of Significant Accounting Policies, Recently Issued Accounting Pronouncements in our condensed consolidated financial statements in this report.
Off-Balance Sheet Arrangements
From time-to-time, we enter into off-balance sheet arrangements and transactions that can give rise to off-balance sheet obligations. As ofSeptember 30, 2021 , the off-balance sheet arrangements and transactions that we have entered into include purchase agreements. We do not believe that these arrangements are reasonably likely to materially affect our liquidity or availability of capital resources.
Special Note Regarding Forward-Looking Statements
Except for historical information contained herein, the statements in this
report are forward-looking and made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. Forward-looking statements
involve known and unknown risks and uncertainties, which may cause our actual
results in future periods to differ materially from forecasted results. Those
risks include, among other things, the loss of market share through competition
or otherwise; the introduction of competing technologies by other companies; a
prolonged, substantial reduction in oil and natural gas prices,
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which could cause a decline in the demand for our products and services; and new governmental safety, health and environmental regulations, which could require us to make significant capital expenditures. The forward-looking statements included in this Form 10-Q are only made as of the date of this report, and we undertake no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances. A discussion of these and other risk factors is included in our Annual Report on Form 10-K for the year endedDecember 31, 2020 filed with theSEC .
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