Archrock, Inc.

During today's call, Exterran Holdings may be referred to as Exterran or EXH, and Exterran Partners as either Exterran Partners or EXLP. Because EXLP's financial results and position are consolidated into Exterran, the discussion of Exterran will include Exterran Partners unless otherwise noted.

Also, the term international will be used to refer to Exterran's operations outside the U.S. and Canada, and the combination of U.S.

and Canada will be referred to as North America.

I want to remind listeners that the news release issued this morning by Exterran Holdings and Exterran Partners, the company's prepared remarks on this conference call and the related question-and-answer session include forward-looking statements. These forward-looking statements include projections and expectations of the company's performance and represent the company's current beliefs.

Various factors could cause results to differ materially from those projected in the forward-looking statements.

Information concerning the risk factors, challenges and uncertainties that could cause actual results to differ materially from those in the forward-looking statements can be found in the company's press release, as well as in the Exterran Holdings' annual report on Form 10-K for the year ended December 31, 2011, Exterran Partners' annual report on Form 10-K for the year ended December 31, 2011, and those set forth from time to time in Exterran Holdings' and Exterran Partners' filings with the Securities and Exchange Commission, which are currently available at exterran.com.

Except as required by law, the companies expressly disclaim any intention or obligation to revise or update any forward-looking statements.

Your host for this morning's call is Brad Childers, President and CEO. I would now like to turn the call over to him.

Mr. Childers, you may begin your conference.

Thank you. Good morning, everyone.

With me today is Bill Austin, CFO of Exterran Holdings; and David Miller, CFO of the Exterran Partners level.

Overall, it was a good quarter for us, both operationally and financially. We generated better-than-expected operating results.

We increased our backlog of new business significantly and we reduced our debt levels. We generated these results by focusing on the 3 major items that I mentioned in our previous earnings call would be our areas of focus.

First, enhancing our cash flow and profitability by taking costs out of our operations, by continuing to reduce and rightsize our SG&A, by increasing pricing what make sense. Second, consolidating and simplifying our businesses to make us faster and more efficient.

Finally, by expanding in our active growth markets.

Although we're just getting started, I believe the actions we're taking are positively impacting our performance as demonstrated by our results for the quarter.

I want to spend a few minutes highlighting some of the initiatives that have contributed to this positive impact.

Starting with our operating cost reduction initiatives, we focused on improving our contract operations and aftermarket services costs. We did this by more actively managing the utilization of our employees in these operations, which led to improved labor efficiency and lower costs.

Additionally, we enhanced the controls over our lube oil usage, which resulted in a reduction in the amount of lube oil we used and helped to offset the impact of high lube oil prices.

To further improve our cost structure, we continued to examine the infrastructure we used to manage our business to find areas where we can further reduce costs. In the first quarter, we made an additional consolidation of regional management teams in North America and closed the 3 international locations we discussed last quarter.

While these actions generate savings for us, we've reinvested those savings into our sales, Business Development, project management and supply chain functions, and we're starting to see returns from those investments.

One other operational aspect we focused on during the quarter was our pricing. As we discussed last quarter, we implemented a price increase effective in February in our North America contract operations business, and we're seeing the benefits of this increase currently.

We implemented stronger centralized management over pricing in our AMS business earlier this year, which helped to improve the margins we're realizing in that business, both in North America and internationally. We also instituted more disciplined centralized pricing in our fabrication business, which has resulted in higher margins associated with the large amount of bookings we achieved during the quarter.

As we work through our backlog, we expect to realize these benefits by way of improved fabrication gross margin percentage in the second half of the year.

We've also taken some first steps toward consolidating and simplifying our business. We halted plans to build a fabrication facility in Brazil for FPSO-related topside equipment and we sold a contract operations facility in West Africa, which has allowed us to significantly reduce our infrastructure in the area.

We will continue to look for opportunities in all of these areas to improve our operations and deliver value to our customers and our stockholders.

With respect to actions we're taking to expand in our growth markets, we've invested in our sales and business development teams, which are doing an outstanding job of capturing new business. Driven by robust bookings in liquids-rich and shale plays in the U.S., our fabrication backlog increased by $217 million or 33% from year-end levels.

As I mentioned before, this backlog has been improved while increasing pricing, a testament to the job of our sales teams.

In addition to these operational achievements, we completed 2 major transactions in the first quarter. First, we completed a $183 million drop-down transaction with Exterran Partners.

We remain committed to sell the remainder of our U.S. contract operations business to Exterran Partners over time.

Second, we sold our Venezuelan joint venture assets that were nationalized in 2009 to PDVSA for approximately $112 million, approximately $38 million of which was received in the first quarter, and the remaining amount of approximately $75 million is due to be received over the coming 16 quarters.

Our subsidiary, Universal Compression International Holdings, has filed a separate arbitration proceeding against Venezuela related to its business assets and investments that were also nationalized in 2009. The sale of the joint venture assets has no effect on that separate arbitration claim, which is scheduled to go to arbitration in July of 2012.

Last year, we said -- last quarter, we said that we were focused on reducing the debt leverage ratio at Exterran Holdings, and as a result of these actions, we were able to reduce Exterran Holdings' covenant total debt to adjusted EBITDA from 4.3x at the end of 2011 to 3.6x at the end of the first quarter.

compression; processing and treating; and Production Equipment, have all been robust. Given the activity in these plays and the demand we expect to see for these products, we believe we will continue to see robust activity for these product lines over the near term.

Current low natural gas prices will, however, pose a challenge to activity levels for our contract operations business in the near term, in particular, in primarily dry gas producing areas. This may largely offset horsepower gains we expect to see in the liquids-rich areas given our large presence in these dry gas areas.

In the intermediate and long term, we remain optimistic about growth opportunities in all of our product and service lines, as a result of the role of natural gas as a readily available and cost effective source of energy.

In international markets, although bookings have not increased substantially to date, we believe that the recent pickup in exploration and development activity and spending in the international markets will lead to more spending on the production side in the near term. As we continue to work on rebuilding our backlog, we are seeing more opportunities and believe our increasing opportunity set will turn into increased bookings.

Now I'd like to turn the call over to Bill for a review of our financial results.

Thanks, Brad. To summarize, we are encouraged with the progress we've made in the first quarter of 2012.

We had better-than-expected operating results and an increased backlog of new business. Importantly, our financial position improved significantly as a result of positive developments during the quarter.

While we did have certain onetime benefits and offsets in the first quarter, we are set up for relatively similar operating results in the second quarter to be followed by an improving overall trend in the second half of the year, driven by the execution of our backlog of new business as well as cost improvements.

Overall, I believe that we are somewhat ahead of our plans, although there will be some lumpiness in our results moving forward based on the nature of our business.

Now I will provide a summary of these results.

We generated EBITDA as adjusted of some $96 million for the first quarter as compared to $119 million in the fourth quarter of 2011. EBITDA, as adjusted for the quarter, excluded the $37.6 million in cash proceeds from the sale of our joint venture assets in Venezuela.

Our North American contract operations revenues was $154 million in the first quarter, somewhat above our guidance range, and gross margin was 51% for the fourth quarter, that's up from 49% both in the fourth quarter of last year and the full year 2011.

As Brad mentioned earlier, our performance benefited from our February price increase, profit improvement initiatives, including for what he described and what we described as workforce utilization in Lubol management [ph].

North American operating horsepower declined by some 6,000 horsepower during the first quarter, as growth in the liquids-rich and oil plays was somewhat offset by the declines in the conventional, more dry gas areas. North American operating and horsepower was approximately 2.9 million horsepower at March 31.

Looking ahead at the second quarter, we expect North American contract operation revenues and margins to be modestly up as compared to the first quarter levels.

Maintenance capital was $16 million in North America during the first quarter as compared to $18 million in the fourth quarter of 2011. Maintenance capital spending in the second quarter is expected to be somewhat higher than the first quarter levels, again, similar to the trend we saw last year.

In the first quarter, our international contract operations revenue was $113 million and gross margin was 61%, both somewhat above our guidance. Our performance benefited from the accelerated revenue as a result of the sale of a facility in West Africa as mentioned earlier by Brad.

We also had inflation recovery billings in Argentina and contributions from our profit improvement initiatives.

Looking at the second quarter, we expect the international contract operations revenues will be slightly lower to the first quarter levels and margins in the mid-50% range somewhat down from the first quarter levels.

We expect increased revenues in the second half of the year, driven primarily by the contribution of new projects, including a large compression project in the Middle East and a processing facility in Mexico.

Our current backlog for international contract operations work is in excess of $60 million of annualized revenue. Backlog in this area was up approximately $20 million over year-end results as a result of the bookings of new business in Brazil, Mexico and Indonesia.

Moving to fabrication results in the first quarter, revenue came in at $262 million above our guidance range as we were able to accelerate some second quarter initiatives into the first quarter. Gross margin increased from 7% in the fourth quarter to some 10% in the first quarter.

Our fabrication backlog, as Brad indicated, increased significantly from $666 million at the end of 2011 to some $883 million at the end of the first quarter. Robust demand in liquids-rich plays in North America has been a primary driver, although we are optimistic about a rebound in our international activity based on the increasing number of opportunities.

By the way, as an example of this increased demand in backlog, we are quoting delivery times in our process and treating equipment into the mid-2013 levels.

Fabrication revenue during the first quarter was comprised of about 35% compression, 50% production and processing, 15% Belleli. For both revenues and backlog, about 70% were from North America, and about 30% internationally.

For the second quarter, we expect fabrication revenue to gain in that $240 million to $260 million with margins in that 10% range. With our higher backlog levels, we expect to see increased fabrication revenue in second half of the year and see the benefit of improved pricing, which is embedded in our backlog, a lot of which is recently priced.

In our aftermarket services business, in the first quarter, revenue came in at $97 million and gross margin was 18%. Both better than expected and a significant improvement over the first quarter of 2011 levels.

In North America, we benefited from increased field activities due to relatively warm weather. Our profitability also benefited from profit improvement initiatives, including more-disciplined and centralized pricing and better utilization of the field workforce.

Looking at the second quarter, we expect aftermarket services revenues in the $90 million to $100 million range and margins to be in those high teens.

Moving on to the SG&A expenses, it came in at $96 million in the first quarter somewhat higher than expected driven by a $4.2 million increase in reserves for our sales and used tax receivables. This was based on our view as to their collectibility.

We expect SG&A expenses to be down in the low $90 million range in the second quarter.

Net capital expenditures were $96 million in the first quarter. Growth capital spending was about $66 million, including the $34 million in North America primarily for our previous announced fleet build.

Proceeds from the first quarter of PPE sales were $10 million. Maintenance capital for the quarter was some $22 million including $16 million in North America.

On the balance sheet, total consolidated debt decreased by $64 million during the quarter from $1.77 billion at December 31 to $1.71 billion at March 31. Exterran Holdings' debt was $1.04 billion and Exterran Partners came in at $636 million.

In the first quarter of 2012, Exterran Holdings debt, this is exclusive of the MLP, declined by $154 million. We are committing to generate cash flow and further reducing borrowings at that current level.

Available but undrawn debt capacity at March 31 was approximately $665 million, including $265 million at Partners.

As of March 31, Exterran Holdings had a total leverage ratio, that is a covenant total debt to adjusted EBITDA of 3.6, a significant improvement as compared to the 4.3 at December 31, 2011. The Partnership, EXLP, had total debt ratio of 3.6 as close to 3.7 at the end of the fourth quarter.

We have no significant debt maturities until January 2014 at Exterran and November 2015 at EXLP.

Now let's take a quick look at Exterran Partners. To summarize, Exterran Partners had another good quarter of performance including solid operating results.

The completion of an acquisition from Exterran, an increase in its borrowing capacity to help fund future growth and an increase in its quarterly distribution. As Brad noted earlier, the MLP completed a purchase of compression and processing assets from Exterran in March, the partnership now has a total of about 2.1 million-horsepower or about 59% of the combined U.S.

contract operations business of Exterran Holdings and Exterran Partners.

In March 2012, we amended a partnership senior secured credit facility to increase its size by an additional $200 million up to $900 million. This additional debt capacity will enable us to finance the organic growth of EXLP's compression service business and position the partnership for future acquisitions.

Late last month, the partnership announced a quarterly distribution increase for the first quarter of 2012 and its distribution now equals $1.99 on an annualized basis. This distribution is $0.05 higher than the fourth quarter of 2011 distribution and $0.02 higher than the first quarter of 2011.

The partnership generated EBITDA as further adjusted of $40 million and distributable cash flow of $26.9 million in the first quarter. Distributable cash flow covered the first quarter distribution by some 1.2x.

Exterran Partners benefited from a partial quarter benefit from the assets purchased from Exterran in March.

Taking into account for the acquisition completed in March, we expect Partners maintenance capital will be in the $40 million to $45 million range in 2012.

Now finally, we are working on completing our 10-Qs and we are specifically working on a couple of items related to the Exterran Holdings 10-Q.

The first item is a misclassification in our consolidated statements of cash flow that will cause us to reclassify 2 financing activities, cash flows from the sale of Exterran Partners equity, previously classified as an investing activity in 2011 and 2010. The second item we are working on is a classification issue in our guarantor information footnote schedules.

These items had no impact on our consolidated balance sheets, consolidated statements of operations or our cash flows from operating activities in our consolidated statements of cash flows.

In addition, there is no impact to the consolidated financial statements or footnotes of Exterran Partners. We are working through the impact of these items on our evaluation of internal controls over financial reporting.

The outcome of this review will range from correcting this error prospectively in future filings to amending or restating the above-described items through the filings of a 2011 Form 10-K/A. If we determined that an amendment or restatement of our 2011 10-K is required, we would reflect the proceeds from sales of Exterran Partners' equity in financing activities and we would reflect the necessary reclassification in the schedules contained within the guarantor information footnote.

We plan to file the EXLP 10-Q in the next few days and we plan to file Exterran Holdings' 10-Q shortly after completing the work on the items just discussed.

Now I'll turn it back to Brad for some concluding remarks. Brad?

Thanks, Bill. My summary for this call, we had a good quarter.

We addressed some of the challenging issues during the quarter and we begun to see contributions from our various performance improvement initiatives. Throughout the year, we're going to continue to focus on improving our margins across all our product lines, growing our operating horsepower North America contract operations, although we are concerned about the impact of the natural gas prices in the near term, building our international backlog, reducing our debt to EBITDA ratio at the Exterran Holdings level and simplifying our company in terms of our business processes, product and service lines, and support infrastructure.

We're really encouraged by the initial progress we've made in the implementation of our initiatives and we will continue our efforts to improve our overall performance. We look forward to providing further updates on our upcoming earnings calls.

Operator, at this point, we'd like to open the call up for questions.

A quick kind of housekeeping item on the 10-Q filing and some of the items you went through. Just to understand, I mean, is this just a categorization issue?

Is there any impact on cash flow, covenants, any -- I mean, anything that I'm missing here?

Mike, good question, maybe we could put this to bed. It's fairly narrow, I tried to get into the fact that one is a misclassification from investing to financing and that moves some numbers down, it doesn't change any of the cash flows none of the consolidated.

Nothing that's on the big picture what EXH or EXLP looks at. The other is in the guarantor note.

And the reason you have to put a guarantor note, because we have debt instruments that are out there that have guarantees from various of our subsidiaries. You have to have a statement in the note of cash flows and balance sheets and some other financials in some of those subsidiaries, both at the parent and some of the operating subsidiaries.

As we looked at that in our review, we looked at it and we realized that some of those things have to change, and we are looking at the controls and we're looking at making those changes. But all in all, the numbers on a consolidated basis don't change.

So basically the number should've been in one line and it was another and it nets to 0, more or less?

Yes.

Okay. And, okay, shifting over to the business, it certainly makes sense to note some caution with respect to gas prices and where they are, and the potential impact.

Is that something more perspective? In other words, given the low gas prices, we should expect to see some impact or is it something that you've already seen in the way of shut-ins or reduced activity in some of the dry gas basins and that's been -- we saw some impact of that in Q1?

Sure. We actually haven't seen much impact of shut-in activity in Q1.

The point is, and as you said, Mike, we just have to raise the caution that there's uncertainty right now looking out as to how long this low gas price is going to last and what the reaction will be by our customers in the back half of the year, especially. But with that caution flag raised, we are not withstanding working to deliver horsepower growth.

And my expectation is that we are flat to growing in 2012 based on the activity levels that we're seeing currently.

Okay. Even if you do see some level of shut-ins or reduced dry gas activity?

Yes. But the extent is to be determined and that's the point about the uncertainty in the market.

Okay. And on the cost and margin front in North America, I see only a partial quarter of the price increase.

At this point, as we're in the second quarter here now, do you have or could you give us a sense of how much of the book is rolled to the higher pricing and how much of an impact did that have in the first quarter?

Sure. So the price increase is fully in.

It was very effectively implemented, we got very -- no real resistance or push back, so the price increase has stuck. And on an annualized basis, it's going to increase our revenue on a full horsepower basis by about 2%.

And we saw a little more than half of that in the first quarter.

Okay, very helpful. And then it was great to see some recovery on the Venezuela JVS.

What was -- I guess, apples-to-apples, what was the book value those assets net to Exterran? I'm just trying to get a sense for what you got relative to the book value of the assets on an apples-to-apples basis.

We wrote off -- yes, I think what we got is we wrote off about $91 million in 2009 when those assets were nationalized, Mike.

Okay. And the wholly-owned assets, what does the book value of those or what did you write off on those when nationalized?

Yes. We wrote off about $380 million when those assets were nationalized at a total dollar level.

But we also had a $50 million recovery for an insurance policy that we had in a place applicable to expropriation. So the net hit to us was $330 million.

Just a couple of quick ones for me. Just, Bill, on the G&A side, you referenced moving down to the low $90 million range in 2Q in line with previous expectations, does it head lower in the back half of the year?

I'm just trying to calibrate a little bit on your expectations for tightening up cost on the G&A side.

I like the caption, we expect progress throughout the year, how's that?

All right, fair enough. And, Brad, just one for you.

Just a broader perspective on the FPSO space and how Exterran fits in, how you want to compete. You referenced your holding plans to build in Brazil understandable?

I'm just trying to understand your perspective on where Exterran fits into the FPSO side of the equation from a fabrication standpoint.

Sure. So on that particular decision, we just determined with what we have going on in our portfolio, potentially not a bad investment but not the right investment for us right now.

So that was the decision on that particular investment. But in the FPSO market overall, we continue to service that market out of our Singapore facility.

And because of local content requirements in Brazil, we'll be targeting other markets where we still see growth in that market, including West Africa. So the decision is limited to pulling back on the investment that we were -- that we had put in place to make in Brazil.

Okay, fair enough. And just on the North America contracts side, just one follow-up question.

You referenced despite some dry gas sort of cautionary flags, you still expect flat growth in horsepower. If you could, just what is your horsepower mix on a sort of dry gas versus liquids basis, percentage of the fleet just sort -- further kind of understand your mix currently.

Sure. This is an estimate, but we think we are about 70% dry gas and 30% more liquids based on applications currently.

Just a couple of housekeeping questions for EXLP. In terms of growth CapEx, what is the budget for 2012 for the Partnership?

With the drop down, it's around $40 million to $45 million.

Is that just maintenance or is that...

Growth CapEx?

Yes.

Well, that was maintenance CapEx.

Let's see, Sharon, can I get back to you with that number?

Sure, no problem. Do you have the debt balance for the Partnership?

I think, we recorded at the end of -- it was $635.5 million.

Okay. And I guess in terms of your exposure to specific producers, would you be able to quantify, I guess, how much does Chesapeake account for your contract compression business given that they are planning to significantly reduce, I guess, rig count activity?

Yes. We do not have a significant amount of business with Chesapeake.

And Sharon, our growth CapEx is in the $75 million to $80 million range for 2012.

And that's for the Partnership?

Yes.

Okay. And do you know what was the expenditures during the first quarter?

Just above $25 million, about $26 million.

A quick one before I forget about it. Bill, I think you referenced a couple of items in the international contract result in Q1, any sense of the magnitude of those?

We have a sale, it was in West Africa to a good customer that had a right to buy it. And that sale from a cash basis will come in, in the low tens of millions of dollars.

From a benefit from us from an EBITDA standpoint, it was probably in the $4 million to $5 million range.

And to be clear, I'll see those 2 figures in the revenue and gross margin at the segment level international contract?

You will.

The sale of the property, Daniel, will not be in the segment.

Great. That's right, that's in the PP&E, I'm sorry.

You'll see the EBITDA though in the gross margin.

Yes, the net gain or loss in the sale will be included in other income.

Okay, all right. And then on the international contract backlog side, in terms of timing of having that -- those dollars hit the P&L, what's the horizon?

I mean, by Q1 of '13 should that $60 million figure be fully rolled in or is the horizon stretching out a little bit farther?

No. Almost all of that $60 million is going to be implemented this year.

So we should have the full run rate of that in the, certainly, by the fourth quarter.

Okay, great. And then last one for me, actually it refers right back to, I think, the last question, so it's been covered a bit here.

But given the context that the expectation in NACO is to maintain or see a slight gain in operating horsepower. So maybe just a hair softer than last quarter's expectations, any change to your build plans internally for this year?

Not yet. And the basic reason is where we're building are for parts of the fleet that are primarily going into the growth areas, which are driven by the rich plays and liquids infrastructure buildout that we're really seeing.

And in those categories for that equipment, we remain very highly utilized. So it hasn't yet impacted our build program.

Just talking about fabrication first, I mean, such taking over in terms of prominence at least with that sort of backlog build. What type of embedded pricing improvement do you have or pricing push have you put into North American-based operations on the processing and treatment side thus far?

Well, we're not going to talk about pricing specifically. But given the tightness in the market and the capacity in the market, we found room and we are pushing pricing up, and I think that you should continue to look as we get that recently-contracted projects working through our backlog throughout the year, you're going to see steadily improving margins in that segment as well...

Okay, okay. So that was going to be my -- really, my next question is despite the fact that we've shifted, the backlog has shifted more towards North America.

Whatever pricing you put through, you feel like you take most, if not all, of that home, so maybe we have a couple 100 basis points of opportunity to push even though that North America margins have been, up until this point, inferior to international margins.

Sure. The point's valid.

In the mix of the backlog, the North American portion in compression, in particular, has certainly increased compared to international. But for North America compression, as well as the processing treatment correction equipment, we've continued to see ability to move margin forward and that's despite some of that headwind that we get in the mix coming off of international.

And we're not missing anything on the cost side that would hurt that possibility here in North America?

No.

Okay. And then, Bill, I guess with regard to the international compression margin guidance, understanding there was some onetimers in Q1, is a retreat to the mid-50s kind of more symptomatic of a lower revenue run rate?

And then the international revenue that you had over the second half of the year is accretive to kind of that mid-50s margin guidance and we keep -- maybe considered something a little higher than natural margin of that business going forward?

Boy, that's a big question, Blake. We did try to take out the effect of the sale in the first quarter.

In giving that guidance, I wanted to get into that mid-50s, but we have lots of initiatives to work that one hard, let's put it that way. In the backlog that we're getting is good, high-quality backlog in the international contract side.

Mostly housekeeping items. What is your depreciation DNA guidance for the year?

Mike, you may get me to relook at some papers. I don't think we gave any depreciation guidance, but let me -- I may have to get -- typically, we have some increases based on the CapEx number, but I'll have to give you a little more -- it's a little bit above where we were.

Yes, we're showing increasing a little bit over last year. Sorry, I'll try to get a little more specific on that in the next day or 2.

Okay. And the only other thing I had was, you talked about how much of the price increase you saw in the quarter.

The other part of the margin equation, I guess, is some of the cost and efficiency initiatives you talked about, better employee utilization, cost management and things that you've implemented in terms of lube oil and other costs. Did you get a full benefit from that in the first quarter or is there still a little bit more benefit to come from those initiatives as well?

We did get some benefit from that in the quarter. We saw some nice moves on, in reductions in our labor materials cost.

But yes, we do believe we have more to come from some of those improvements, initiatives that we have in place. So we got some, we're actually really encouraged by seeing that some of the work we're doing is coming through the numbers.

And yes, we have more to go.

Thank you, everyone, for participating in our first quarter earnings call, and we look forward to talking to you again next quarter. Thanks very much.