Marcel Kessler - President & CEO Jon Faber - CFO

Greg Coleman - The National Bank Financial John Morrison - CIBC World Markets

Thank you. Good morning everyone and welcome to Pason's third quarter 2016 conference call.

With me here in Houston is Jon Faber, our Chief Financial Officer. I will start with a high level overview of third quarter performance and our outlook.

Jon will then dive into details of our financial and operational performance. And we will then take any questions.

As you know, the environment for oil field services remained very challenging worldwide during the third quarter. U.S.

drilling activity as measured in industry days dropped 39% from the previous year period and declined 53% from the first nine months of 2016. Canadian drilling activity experienced a similar 38% year-over-year reduction for the quarter and a 45% reduction for the first nine months of the year.

Most international markets continue to be similarly negatively affected. Based on third quarter results, directly reflecting declines in drilling activity.

Revenues for the quarter was $39 million, a 44% decline from the previous year. Adjusted EBITDA was $8.5 million compared to $25 million in the previous year period, and free cash flow was positive at $3.4 million.

The company incurred a net loss for the quarter of $7 million or $0.08 per share. Significant previously implemented cost reductions and lower depreciation expenses partially offset the revenue decline.

U.S. and Canadian EDR market share was largely unchanged from the previous quarter.

Revenue per EDR day in the United States was up 4% for the third quarter compared to the previous year driven by higher adoption of certain products. In Canada, revenue per EDR day was down 8% year-over-year resulting from price concessions and lower adoption of certain peripheral product.

At the end of September, our cash positions led $155 million and working capital at $192 million. There is no depth on our balance sheet and we are maintaining our quarterly dividend at $0.17 per share.

In the United States joint activity has called a rebound in oil prices from February's low of $26 a barrel to about $45 today. The number of active rig in the U.S.

declined above 550 for the first time since February, up from the low of about 400 in May. However, the number of active rigs is still down by more than 200 over the same period in 2015 and of course a lot more than that in 2014.

Almost half of the active rigs are operating in Texas, and most of the recent growth came in the Permian Basin. It is very likely that the second quarter of 2016 was the low point for North American drilling, both seasonally and cyclically and that we are now in an environment of gradually improving drilling activities.

However, oil prices continue to be volatile and the outlook remains uncertain. We do not expect significant increase in oil company capital spending plans in the near-term.

We also don't expect any improvements in pricing for some time. We believe that many producers will be reluctant to significantly dial up spending levels even as crude market show tentative signs of recovery.

For the remainder of 2016, we aim to strike the optimal balance between cost control and investment in future growth. Our objective continues to be to generate cash flow for the year.

In Canada, we're experiencing increased competitive and pricing pressures. We are fully committed to holding on to our position as the service provider of choice for our key operators and drilling contracted customers.

We are continuing to invest in future growth including investing in new product development, in our service capability, in our infrastructure, and in our international footprint. We plan to continue to allocate significant resources for R&D and IT and the incentive spend upto $20 million in CapEx in 2016.

We are focusing our product development efforts on our on-bottom and off-bottom product group match. We are building on our strong market position and reputation and seek opportunities where we can take advantage of Pason's significant strength.

We believe that Pason continues to be very well positioned to maximize returns in the industry. I'm now turning the call over to Jon Faber for a more detailed look at the financials.

Thank you, Marcel. Consolidated third quarter of $38.6 million was down 44% year-over-year from $68.5 million in the third quarter of 2015, and up 42% sequentially from the second quarter of 2016.

Significant declines in drilling activity in each of our major operating regions was the primary driver of the year-over-year revenue decrease while the sequential increase was attributable to both, normal seasonality effect and a gradual recovery in industry conditions through the quarter. Adjusted EBITDA of $8.5 million for the quarter was down $16.3 million from adjusted EBITDA of $24.7 million in the third quarter of 2015, and up $10 million sequentially from negative $1.5 million in the second quarter of the year.

Depreciation and amortization expense in the third quarter of $14.9 million compared to $19.3 million in the third quarter of 2015 and $13.6 million in the second quarter of 2016. The company recorded a net loss of $7.1 million for the third quarter of 2016 compared to a net loss of $18.6 million in the third quarter of 2015.

As a reminder, third quarter of 2015 results were significantly impacted by a $26.6 million impairment charge related to excess quantities of rental assets. On a per share basis, the net loss equated to $0.08 per share compared to a net loss of $0.22 per share in the third quarter of 2015 and a net loss of $0.13 per share in the second quarter of 2016.

For the first nine months of 2016, consolidated revenue totaled $111.6 million, a 50% year-over-year reduction from $225.3 million in the first nine months of 2015. Significant reductions in drilling activity in each of our major operating regions was the primary driver of the revenue declines.

Adjusted EBITDA of $15.8 million for the nine month period was down $60.6 million from $76.3 million in 2015. Depreciation and amortization expense for the nine month period of $44.9 million was down 27% from $61.6 million in the first nine months of 2015, due to reduced carrying values of rental assets as a result of impairment charges taken in the fourth quarter of 2014 and the third quarter of 2015, as well as a significant reduction in capital expenditures in both 2015 and 2016 as compared to 2014.

As a reminder the 2014 capital program of $121 million represented a significant investment in the company's EDR evolution program building a completely new hosting platform of computing power and communications infrastructure at the rig site. With this updated platform now in place on the majority of the rigs we serve, we expect capital expenditures will continue to be materially lower than 2014 levels going forward, even as industry activity recovers in the future.

The company recorded a net loss of $29.3 million for the first nine months of 2016 or $0.35 per share, compared to a net loss of $13.8 million or $0.16 per share in the first nine months of 2015. Turning to segmented results and starting with the U.S.

business unit. The U.S.

business unit posted third quarter revenue of $22.3 million, a 44% reduction from $40.2 million in the third quarter of 2015. Sequentially, revenue was $5.9 million higher than the second quarter.

The year-over-year revenue decline was driven by a 39% decrease in industry activity and lower US market share resulting from changes in the mix of active customers and basins. Operating income of $4.4 million was down $10.6 million from operating income of $15 million in the third quarter of 2015 and increased $4.2 million sequentially from the second quarter of 2016.

Year-to-date, U.S. revenue of $62.3 million is down $73.8 million from $136.1 million in 2015.

Operating income for the first nine months of the year was up $6.2 million, it was $42.5 million lower than operating income of $48.7 million in 2015. Canadian business unit revenue of $10.8 million in the third quarter compared to $18.8 million in the same period of 2015, as industry activity was 38% lower year-over-year.

Sequentially, Canadian revenue increased $5.8 million from $5 million in the second quarter as rigs returned to work following winter breakup in the second quarter. An operating profit of $735,000 was a $1.8 million decrease from an operating profit of $2.6 million in the third quarter of 2015, and up sequentially $6.1 million from an operating loss of $5.3 million in the second quarter of 2016.

The Canadian business unit posted a $1.7 million operating loss in the first nine months of 2016, on revenue of $31.6 million. This compares to a $5.3 million operating profit and $57.4 million of revenue in the first nine months of 2015.

Our third segment is the international business unit. In the third quarter, our international business unit posted revenue of $5.6 million, a 41% year-over-year decline from $9.5 million in the same quarter of 2015.

Sequentially, revenue declined 4% from $5.8 million in the second quarter of 2016. The majority of our international markets have seen similarly challenging operating environments as those experienced in North America.

The significant year-over-year decline was also impacted by a significant devaluation of the Argentinian peso in the fourth quarter of 2015. An operating loss of $2.3 million in the third quarter was a $2.6 million decrease from an operating profit of $311,000 in the third quarter of 2015 and included a $1.4 million charge taken in the quarter to recognize obsolete inventory.

For the nine months ended September 30, 2016, revenue for the international business unit totaled $17.7 million, down 44% from $31.7 million in the first nine months of 2015. The nine month comparison is similarly impacted by the devaluation of the Argentinian peso in December of 2015.

An operating loss of $3.7 million in the nine month period compared to operating income of $1.3 million in the first nine months of 2015. Finally, I'll briefly review capital expenditures and the balance sheet.

Capital expenditures in the first nine months of 2016 totaled $12.9 million, including $1.4 million in the third quarter. This represents an 87% decrease year-over-year for the third quarter and a 71% decrease for the nine month period.

We expect to spend up upto $20 million on capital expenditures including capitalized R&D and IT investments in 2016. At September 30, we had positive working capital of $191.8 million.

Our cash balance at September 30 stood at $154.6 million, down from $162 million at June 30. There is no debt on the balance sheet and we are maintaining our quarterly dividend at $0.17 per share.

At this point, we'll be happy to take any questions.

Thanks very much. I'd like to start by talking a little bit about the competitive nature of the Canadian marketplace.

Can you talk about what your Canadian market share was over the duration of the quarter from a trend perspective as opposed to just the average? Did you trend down into the end or did you maintain sort of that 90% to 92% range pretty steadily over the duration of the quarter?

The market share were going relatively consistent through the entire quarter, Greg.

Okay. And on that same note, would you be willing to provide us what your current as in sort of today or close to today is market share would be in Canada?

Would not have changed much today relative to what it would have been in the third quarter as well.

Okay, thanks for the color too. Moving into the U.S.

but staying on market share, we expected a little bit more pressure on your U.S. market share given the rebound in the Permian -- the focus being in the Permian; and my perception at least of your relative market share strength there -- is the resilience that we saw due more to the recently signed sort of first call agreement with the major U.S.

driller or is there some other factor of play?

Well, as you know Greg, the WS at Texas has always been a weak spot for our market share and that continues to be the case outside of the Permian. I think our U.S.

team has focused a lot of effort both in terms of yields and in terms of sales and account managed, specifically on the Permian region; and our market share in the Permian today is in fact about 60%. Now the recent win there of the large contractor relationship that you're referring to has helped a bit it's didn't move the needle back much yet in the Permian specifically, it has given us some uptick but it's only been blocking and tackling here on the ground in the Permian region of Texas.

That's great intel actually, thank you. Is there anything else you're doing beyond sort of what you're doing today that that could take that Permian market share higher or is that 60% -- I mean I don't want to cap in and say that's all you're going to do but are there any other initiatives that you're taking that we could see that rise materially or do you think you're kind of hitting your good batting average there?

So we think there are some -- there are two reasons to be optimistic about that -- that could grow; one, it continues to be the ongoing conversion of that contract relationship Rick fleet that is finally complete and will continue throughout 2017. So we expect an uptick there.

And then I think it really depend on the success of new products and services. Now to what extent they will gain significant traction and translate into market share group, it depends very much on the overall news of the industry and whether that's early in 2017 or late, I'm sure I couldn't tell you but I believe in the medium-term -- there is a potential there for uplift in U.S.

market share driven through product innovation.

Okay. On that product -- thank you for that.

On the product innovation, can you give us a bit of an update and can we discuss the summer technology development joint venture? How is that progressing and any new updates as to so that agreement there and it's rollout into commerciality?

So maybe I'll take a step back and talk -- because I used that in term, the on-bottom and off-bottom roadmap for the first time on this call. And maybe explained a bit more what's in there and what we mean by that.

And then I will get to the question around this membership, partnerships specifically. We have really two main product roadmaps right now, the new developments for -- in the on-bottom roadmap includes essentially all products that the fast drilling when the drill rig actually touches the rock and digs deeper.

So all the products we try to provide there would lead to fast drilling, less wear and tear on the down whole tools and hopefully a better, more consistent quality now at work. So auto-drillers, whether they be legacy or the new AC auto-drillers, the drilling advisory system as well as the able directional advisor that you asked about would fall into roadmap.

The off-quarter roadmap is essentially everything else when you're not drilling, so you're tripping, you're making connections; we have had the PVT or the EPVT as the core product. We have recently introduced you are introducing add-on soft -- to that product including arm, digital currency to give you a couple of examples; it's a really smart machine learning algorithms in here that -- on the one hand includes non-productive time during that off-bottom phase off the drilling process and obviously more importantly, significantly increased the safety of the drilling process.

First time we're thinking about the product is not at the high level, it's not going into too much detail. So your specific question on able directional advisors so that partnership with [indiscernible] continues to progress and albeit not that fast as we would have old swingers, I think the downturn is really along the wrenching here in terms of product option and to building of customers to -- not just we're able for any new product -- to try new things, to pay for new things but it's progressing well fundamentally given that context, there are significant number of wells have now been drilled with that advisor, either in shadow or in primary mode, especially in the U.S.

The success has been very promising and I think the product pipeline here for the winter building season for the next three to four months doesn't look quite promising.

Thank you, Marcel for that. I appreciate the color.

Just stepping back a minute for your contract with -- saw your first call agreement with the new driller; can you just remind us a little bit -- the first call agreement there, I believe you were on a better quarter there -- fleet, prior to signing it. Could you give us an indication as to what percentage of that fleet you're on now if it's indeed growing as we had hoped?

It will be in a 40 -- as of today, certainly there is a few rigs being converted every week. So I can't tell you the exact number today but it's certainly about 40% today.

So from the starting point -- summer would have been 25%, as a second system that this contractors was not paid for; so the first step was essentially convert -- that second system become the first system, first 25% things -- the things that I would have moved 25% to over 40%.

Okay, great. I'll leave it there; I don't want to hog the time.

Thanks a lot.

Good morning. With respect to the cost savings initiatives that were put in place earlier this year, I mean are you able provide -- I guess how far you are in realizing those cost savings in totality, like are you 60% or you're 100% or you would find a bit of a gauge there just to give us a bit of an understanding.

Yes, I would say at this point we realized a 100% of the cost savings initiatives we would have implemented earlier in the year. And now as the activity comes back at 60s, some of those are variable costs, not a lot of them but some of them would start to come back with some of the activity increase now.

And so with that point in mind, in the U.S. the incremental margins looked to be close to 70%.

I mean how can you continue to enjoy that level of incremental margin until the rig count reach to 1,800 -- I mean do have a marker we can think about until you have to start Ag costs or maybe those incremental start to get a bit smaller?

Good question. It's going to be a more complicated answer.

It will depend on the regional nature of the recovery. There are a number of regions where we do have significant capacity -- feel as support resources; and there are other regions where we are actually quite high.

So it would very much depend on the regional nature of the recovery.

Okay, that's fair enough. If I were to kind of think about that 70% incremental we saw in the U.S.

in Q3, and we are to move over to Canada. I mean it's a bit noisier going from Q2 to Q3 but as we go from Q3 to Q4; maybe in the winter drilling season, do you think can Canada is in better shape for an incremental standpoint or worse shape?

From the perspective of the people cost in terms of the basin and capacity question; I think Canada is probably in okay shape there, we don't see a lot of additional costs there. One of the costs that we sort of look at is -- as you start to have it critical back to work, sort of have repairable, sign her up again -- you don't necessarily want to all of a sudden ramp that too quickly versus the level load your partners open waivers that you stream and so what you'll start to see and then you may actually see a little bit of compression as you start to get to a level base of well some of these operational expenses again rather than sort of hold back two on one and then sort of introduce a level of activity that I'm prepared for.

Okay. No that's, that's helpful.

And I wanted to, from the product standpoint I wanted to switch back to Abel and I'm just curious as to whether it may be where it may be most attractive to customers or for specific areas where you think it's going to fit in well relative to maybe areas that it won't.

I think I don't think that Abel really has a specific geographic footprint or focus. Any directional well that’s being drilled can used the Abel algorithm to achieve both hopefully better quality, more complacent well bore as well as some cost savings.

So I don't think the region nature of the recovery will play into the option of Abel.

Okay. And last one for me there was one of your competitors recently signed JV agreement with Saudi Aramco and while it may just be for equipment I'm wondering if it's perhaps changed your views or if you have any commentary around it.

How you think it may affect the case on Spark precision in Saudi?

Yes. So a good question.

I think it doesn't change our market position today. Our market share in that you can only be about 10%.

I believe it’s not just equipment, it’s also service delivery and it’s one of those competitors as you may recall that largely knocks out off though, so it probably limits our ultimate potential in Saudi Arabia. But given that we are only a 10% I believe there is significant room for growth for us within the next few years and I don't see any short to medium term implications there.

Okay thank you very much Marcel. That’s very helpful.

I'll turn the call back over at this point.

In terms of the market's share slip actually you can add to Q3. Just as a point of clarification.

Do you believe that your percentage today carries forward in the coming quarters or do you believe that is the absolute recount rises you believe your percentage of active EBRs will be higher? Like if the recount doubles I would assume that you would view your percentage as probably rising, is that a fair statement.

It has most certainly has been the case, historically if you look at any downturn over the last ten years or thirty years based on the market share in the week, actually recedes environment and I don’t think that will be the case here as well. I don’t know if we have a lot more insight beyond that.

Okay, given some of the market slippage you saw in Q3 in Canada, Do you believe that the stickiness of your product offering has segregated at all in the last three or six months versus what it was over the last decade?

John let me speak. We did not see slippage in market share in Canada from Q2 to Q3.

That is just not the case. There would not have been any significant change based on what we know.

So you don't believe you lost any customers at the end of the day of the last three months versus six or twelve months ago.

Well in any market conditions we were always winning or losing customers that Canadian market share has always sort of had some amount of churn of customers in and out there that dynamic hasn't changed in any way shape or form. But in terms of the overall market share, picture has not changed.

Can you talk about the competitive pressures in the U.S. and whether you believe you might have to contemplate similar pricing moves in the lower forty eight as he did in Canada to try to maintain market share go forward?

Like I recognize that your U.S. market share was fantastic in the quarter especially considering that the Permian perhaps wasn't traditionally your strongest foothold.

But I'm just wondering what are you seeing out of your largest competitor and does that impact how you think about pricing on a go forward basis?

A good question John. A situation in the US has always been, we have got a lot more fierce competition here which is all that will obviously reflecting the fact that you have a lower market share in the US than in Canada.

As a result our pricing in the U.S. has always been a lot more competitive and I think the alteration actually being that the over the course of 2016, pricing pressure in the US has yield and I don't think our team here would have gotten a lot of asks or calls for more pricing confession and that's quite different in Canada.

I think pricing pressure in Canada has been mounted in 2016. So based on what we see today I think that we don't expect to have to make more pricing contention in the US going forward.

So just a follow up on Ian's [ph] question, do you expect your market share in the Middle East to continue to expand over the next 6 to 12 months including Saudi Arabia and other markets as well just based on your current conversations to date.

Yes we certainly do. So I think there are two very different businesses, John, and that we operate in that in the kingdom of Saudi Arabia for 50-50 JD [ph] I mentioned earlier that our market share for the all the ridiculing for the Saudi Arabia, is about 10%.

We believe that will go up over time. Now the broader region there, we recently at the beginning of the year in fact, the business development obviously in Dubai, I think that frankly, some new work in the region basically in Oman and Kuwait and in the broader region, but we do expect a market share up there going forward.

Our market share numbers are harder to come by in some of those markets, I don't know if we are going to be able to give you more reliable numbers there, I think even in the U.S. and Canada markets share, it is sometimes tricky problem.

But clearly in terms of -- we expect to expect to gain more rate, there's no question.

This is always been a challenging two years for everyone in the global energy sector, as you look at your supply chain do you get concern at all about the health of any of your vendors. In terms of hardware or other components being a major challenged source go forward, and I guess some really wondering is what you have to look at internalize manufacturing or anything along those lines.

Do you believe the capital-intensive business remains fairly stable and go forward bases.

This is actually a question, John. And that's something we've been trying to highlight for people through the last couple of years in terms of the CapEx remaining at the level it remain part of that is to maintain the viability of the key contract manufacturing partners we have, and then the business we do with those partners is both new builds and the repair of equipment as it comes back from the field and gets refreshed for further their deployment.

And so we're always managing that but throughput activity combining all the build products and we're paratroop activity, and so we feel quite comfortable that our supply chain remains viable and we have good visibility to probably levels of throughput so for them to manage their businesses through that. But we've clearly been working very closely with contract manufacturing partners, right from actually late 2014 as we saw the downturn starting to come and pushing some of the what we had committed CapEx even back in 2014, that really pushed through a 2015, 2016 to allow them to level with their businesses for a long term downturn.

And really to add to that John, though we talked about this year -- that they had significant amount of their business with these long or with your view in general, John, we earlier talk about our investment in 2012, 2013, 2014 in what we call the EDR evolution where they made significant investments in servers rising capabilities and displays. The main hardware components there are in fact not manufactured CMs but by OEMs who have very limited exposure to oil field.

So they are completely resilient where they might have [Technical Difficulty] all down into the business but there is no question about survival of those suppliers.

Perfect. Jon, when you think about cash deployment over the coming period, has your expectation – I apologize for harping on this point again, but I'd always say that I thought Pason has a remarkable track record for operating with strong financial discipline and I call it an overwhelming pragmatism about how you operate in pretty much everything you do, and yet you over-distributed cash flow by more than $6 million in the quarter.

You have a fairly cautious outlook on a go-forward basis and you're largely funding the dividend off the balance sheet go-forward. How do I reckon basically a very pragmatic past with paying more than you're making right now?

[Technical Difficulty] Appreciate the color. Good quarter to you and the team.

I'll turn it back.

Thanks, Jon.

Sorry, just one follow-up and I also wanted to build on Jon's questions there. When you talk about working capital requirement in other areas of energy services we have had issuers quantify the draw on working capital which is going to be required for every incremental dollar that bounces in revenue.

Can you give us an idea as to what kind of cash is going to be needed to fund $100 million, $200 million, whatever you want to call it, $50 million, $5 million of revenue increases so we can get an idea as to the burden that's going to place on the balance sheet?

I can't give you that exact number right now because the alternate on the cash it require really depends on the speed at which the recovery happens in various areas. So if it's a very quick recovery of working capital, cash recovery is much higher than if it's a slow recovery.

But it could be in the lower tenants of millions of dollars for working capital build in what we sort of see as of 2017's potential environment, but to give you a specific number, presuming what exactly the profile of a recovery looks like in addition to the quantum.

Okay. To rephrase it and probably put it back in the corner here, none of us know what 2017 is going to look like, but based on stripped, based on announced capital budgets, based on the direction of the rig program, it's not unreasonable for revenue growth of anywhere from 20% to 50% to occur and if we were to see something in that range over the course of 2017, your common of lower 10s call that maybe $20 million or $30 million of working capital requirements.

Would that be reasonable?

That's very reasonable, I think. Yes.

Okay, great. That was it for me.

Thanks a lot.

Okay. Thanks, Greg.

In that case we'll conclude the call. Thank you very much, everybody and have a good day.