Solaris Energy Infrastructure, Inc.: Form 10-Q for the period ended Mar 31, 2024

References to “we,” “us,” “our,” “Solaris Inc.” or the “Company” refer to Solaris Oilfield Infrastructure, Inc. (either individually or together with its subsidiaries, as the context requires). The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying financial statements and related notes. The following discussion contains “forward-looking statements” that reflect our plans, estimates, beliefs and expected performance. Our actual results may differ materially from those anticipated as discussed in these forward-looking statements as a result of a variety of risks and uncertainties, including those described above in “Cautionary Statement Regarding Forward-Looking Statements” included elsewhere in this Quarterly Report and “Risk Factors” included in this Quarterly Report and in our Annual Report on Form 10-K for the year ended December 31, 2023, as updated by our subsequent filings with the SEC, all of which are difficult to predict. In light of these risks, uncertainties and assumptions, the forward-looking events discussed may not occur. We assume no obligation to update any of these forward-looking statements except as otherwise required by law.

Overview

We design and manufacture specialized equipment, which combined with field technician support, last mile and mobilization logistics services and our software solutions, enables us to provide a service offering that helps oil and natural gas operators and their suppliers drive efficiencies that reduce operational footprint and costs during the completion phase of well development. We service most active oil and natural gas basins in the United States.

Recent Trends and Outlook

Demand for our services is predominantly influenced by the level of oil and natural gas well drilling and completion activity in the U.S. Through mid-April 2024, U.S. drilling and completion activity, as measured by the Baker Hughes U.S. Land Rig Count, was down 1% year to date, which reflects the net impact of a slight increase in the number of oil-directed rigs and a 9% decrease in gas-directed rigs. Average WTI oil prices increased over 15% from the low-$70s per barrel range at year-end 2023 to the low-$80s per barrel range in April 2024. Average Henry Hub natural gas prices declined over 30% from the start of the year to below $2 per MMBtu, which was the primary driver of the decrease in gas-directed drilling activity.

For the first quarter ended March 31, 2024, our fully utilized total system count averaged 102 systems, which was roughly flat from 103 systems for the fourth quarter ended December 31, 2023 and was relatively in line with the Baker Hughes rig count trend. A small increase in pricing at the start of 2024 and incremental earnings from our new services allowed us to grow earnings despite the softness in drilling and completion activity. As a result, our operating profit grew over 8% sequentially despite the industry activity decline.

Today oil-directed drilling activity comprises over 80% of the total Baker Hughes U.S. Land rig count. Oil prices currently remain in the low-$80s per barrel range, which we believe should support a sustained level of oil-directed U.S. drilling and completion activity. For the remainder of 2024, we expect the Company’s revenue and profitability to track the overall direction of U.S. drilling and completion activity, which we expect will be negatively impacted by low natural gas prices and industry efficiency gains, partially offset by stable oil-directed activity.

Our capital expenditures of approximately $3 million in first quarter 2024 were down over 50% compared to the fourth quarter of 2023. The Company continues to expect full year 2024 capital expenditures to be below $15 million, which reflects an over 75% decrease from total capital expenditures in 2023 following the completion of our prior growth capital program in 2023. This reduction in capital expenditures should allow us to generate significantly increased cash flow in 2024.

The sustainability of favorable supply-demand dynamics and a strong commodity environment will depend on multiple factors, including any supply chain disruptions, potential regulatory changes, uncertainty around a potential economic slowdown and potential impacts from geopolitical disruptions, including the war in Ukraine and continued conflicts in the Middle East. Additionally, consolidation can drive procurement strategy changes, which has historically resulted in both market share gains and losses for the Company. We expect both consolidation and financial discipline will likely continue to be important themes for the energy industry going forward.

Results of Operations

Three Months Ended March 31, 2024 Compared to Three Months Ended March 31, 2023

(in thousands)

Revenue

Revenue decreased $14.8 million, or 18%, to $67.9 million for the three months ended March 31, 2024 compared to $82.7 million for the three months ended March 31, 2023. The decrease in revenue is primarily related to a decrease in last mile tonnage for the three months ended March 31, 2024 compared to the three months ended March 31, 2023. The decrease in revenue was also due to a decrease in total fully utilized systems to 102 from 118 systems for the three months ended March 31, 2024 and March 31, 2023, respectively.

Cost of Services

Cost of services, excluding depreciation and amortization expense, decreased $13.3 million, or 25%, to $39.9 million for the three months ended March 31, 2024, compared to $53.2 million for the three months ended March 31, 2023. The decrease is primarily related to a decrease in last mile tonnage and lower system count for the three months ended March 31, 2024 compared to the three months ended March 31, 2023. Cost of services, excluding depreciation and amortization, as a percentage of revenue was 59% and 64% for the three months ended March 31, 2024 and 2023, respectively.

Depreciation and Amortization

Depreciation and amortization increased $1.5 million, or 18%, to $9.9 million for the three months ended March 31, 2024, compared to $8.4 million for the three months ended March 31, 2023. Depreciation increased primarily due to investment in capital spending to develop and upgrade the systems fleet, resulting in the addition of depreciable assets from March 31, 2023 to March 31, 2024.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased $1.5 million, or 23%, to $8.0 million for the three months ended March 31, 2024 compared to $6.5 million for the three months ended March 31, 2023, primarily due to increase in salaries, benefits and wages by $0.9 million, of which $0.4 million is from stock-based compensation due to new grants of restricted stock awards.

Provision for Income Taxes

During the three months ended March 31, 2024, we recognized a combined United States federal and state expense for income taxes of $1.9 million, a decrease of $0.6 million as compared to the $2.5 million income tax expense we recognized during the three months ended March 31, 2023. This change was attributable to changes in operating gains. The effective combined United States federal and state income tax rates were 20.3% and 17.2% for the three months ended March 31, 2024 and 2023, respectively. The effective tax rate differed from the statutory rate primarily due to Solaris LLC’s treatment as a partnership for United States federal income tax purposes.

Comparison of Non-GAAP Financial Measures

EBITDA and Adjusted EBITDA

We view EBITDA and Adjusted EBITDA as important indicators of performance. We use them to assess our results of operations because it allows us, our investors and our lenders to compare our operating performance on a consistent basis across periods by removing the effects of varying levels of interest expense due to our capital structure, depreciation and amortization due to our asset base and other items that impact the comparability of financial results from period to period. We present EBITDA and Adjusted EBITDA because we believe they provide useful information regarding trends and other factors affecting our business in addition to measures calculated under generally accepted accounting principles in the United States (“GAAP”).

We define EBITDA as net income, plus (i) depreciation and amortization expense, (ii) interest expense and (iii) income tax expense, including franchise taxes. We define Adjusted EBITDA as EBITDA plus (i) stock-based compensation expense and (ii) certain non-cash items and any extraordinary, unusual or non-recurring gains, losses or expenses.

EBITDA and Adjusted EBITDA should not be considered in isolation or as substitutes for an analysis of our results of operation and financial condition as reported in accordance with GAAP. Net income is the GAAP measure most directly comparable to EBITDA and Adjusted EBITDA. EBITDA and Adjusted EBITDA should not be considered alternatives to net income presented in accordance with GAAP. Because EBITDA and Adjusted EBITDA may be defined differently by other companies in our industry, our definitions of EBITDA and Adjusted EBITDA may not be comparable to similarly titled measures of other companies, thereby diminishing their utility.

The following table presents a reconciliation of Net income to EBITDA and Adjusted EBITDA for each of the periods indicated.

(in thousands)

(1) United States federal and state income taxes.

(2) Represents stock-based compensation expense related to restricted stock awards and performance-based restricted stock units.

(3) Other includes the net effect of inventory write-offs, transaction costs and other settlements.

Three Months Ended March 31, 2024 Compared to Three Months Ended March 31, 2023: EBITDA and Adjusted EBITDA

EBITDA decreased $3.4 million to $19.9 million for the three months ended March 31, 2024 compared to $23.3 million for the three months ended March 31, 2023. Adjusted EBITDA decreased $2.4 million to $22.7 million for the three months ended March 31, 2024 compared to $25.1 million for the three months ended March 31, 2023. The changes in EBITDA and Adjusted EBITDA were primarily due to the changes in revenues and expenses, discussed above.

Liquidity and Capital Resources

Overview

Our primary sources of liquidity to date have been cash flows from operations, borrowings under our credit agreement and proceeds from equity offerings. Our primary uses of capital have been to fund ongoing operations, capital expenditures to support organic growth, including our fleet development and related maintenance and fleet upgrades, repurchase shares of Class A common stock in the open market, and pay dividends. Although no assurance can be given, depending upon market conditions and other factors, we may also have the ability to issue additional equity and debt if needed.

As of March 31, 2024, cash and cash equivalents totaled $3.4 million. We have $30.0 million in borrowings outstanding under that certain Amended and Restated Credit Agreement, dated as of April 28, 2023, as amended (the “Credit Agreement”). As of March 31, 2024, the Company has the ability to draw up to an additional $37.5 million under the amended Credit Agreement. We believe that our cash on hand, operating cash flow and available borrowings under our Credit Agreement will provide sufficient liquidity to address our future cash needs, including capital expenditures, working capital investments, and dividends for the next 12 months and beyond.

Share Repurchase Program

The Company’s Board of Directors authorized a share repurchase program on March 1, 2023, with an approved limit of $50.0 million and no set term limits. During the three months ended March 31, 2024, we purchased and retired 1,108,349 shares of Class A common stock at an aggregate cost of $8.1 million, or $7.30 per share, under the share repurchase program. As of March 31, 2024, we have purchased and retired 4,272,127 shares of Class A common stock for $34.6 million, or $8.09 per share, resulting in $15.4 million remaining under the authorized share repurchase program.

All purchases made pursuant to the authorized share repurchase plan were made in accordance with applicable securities laws from time to time in the open-market or through private transactions, depending on market conditions. Going forward, future purchases may be made pursuant to a trading plan meeting the requirements of Rule 10b-18 or Rule 10b-5 under the Exchange Act, and may be discontinued at any time.

Cash Flows

The following table summarizes our cash flows for the periods indicated:

(in thousands)

Significant Sources and Uses of Cash Flows

Operating Activities. Net cash provided by operating activities was $16.9 million for the three months ended March 31, 2024, compared to net cash provided by operating activities of $16.8 million for the three months ended March 31, 2023.

Investing Activities. Net cash used in investing activities was $3.3 million for the three months ended March 31, 2024, compared to net cash used in investing activities of $18.8 million for the three months ended March 31, 2023. The decrease in investing activities of $15.5 million is primarily due to a reduction in capital expenditures following the completion of our prior growth capital program in 2023.

Financing Activities. Net cash used in financing activities of $15.9 million for the three months ended March 31, 2024 was primarily related to the repurchase of shares for $8.1 million, quarterly dividends of $3.6 million to Class A common stock shareholders, distributions to Solaris LLC unitholders of $1.6 million, $1.5 million of payments related to taxes on the vesting of stock-based compensation and payments under finance leases and insurance of $1.0 million. Net cash used in financing activities of $4.7 million for the three months ended March 31, 2023 was primarily related to the repurchase of shares for $14.4 million, quarterly dividends of $3.7 million to Class A common stock shareholders, distributions to Solaris LLC unitholders of $2.0 million, payments under finance leases and insurance of $1.3 million, and $1.3 million of payments related to taxes on the vesting of stock-based compensation, partially offset by net borrowings under the Credit Agreement of $18.0 million.

Future Sources and Uses of Cash

Our material cash commitments consist primarily of obligations under our Credit Agreement, Tax Receivable Agreement, finance and operating leases for property and equipment, and purchase obligations as a part of normal operations. We have no material off balance sheet arrangements as of March 31, 2024, except for purchase commitments under supply agreements disclosed below.

As of March 31, 2024, we expect to pay approximately $0.1 million in commitment fees on our Credit Agreement within the next twelve months, calculated based on the unused portion of lender commitments, at the applicable commitment fee rate of 0.375%. As of March 31, 2024, if our borrowings under the Credit Agreement remain at $30.0 million, we expect to pay approximately $2.5 million in interest within the next twelve months, calculated based on the weighted average interest rate on the borrowings outstanding as of March 31, 2024 of approximately 8.32%.

As of March 31, 2024, we had purchase obligations of approximately $2.8 million payable within the next twelve months.

Critical Accounting Estimates

We had no material changes in our critical accounting estimates during the three months ended March 31, 2024, see Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates” in our Annual Report on Form 10-K for the year ended December 31, 2023 for additional information.

Off Balance Sheet Arrangements

We have no material off balance sheet arrangements. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such financing arrangements, except for purchase commitments under supply agreements.

For quantitative and qualitative disclosures about market risk, see Part II, Item 7A. “Quantitative and Qualitative Disclosures about Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2023. Our exposure to market risk has not changed materially since December 31, 2023.

Credit Risk

The majority of our accounts receivable have payment terms of 60 days or less. As of March 31, 2024, two customers accounted for 12% and 11% of our total accounts receivable. As of December 31, 2023, two customers accounted for 12% and 10% of our total accounts receivable. We mitigate the associated credit risk by performing credit evaluations and monitoring the payment patterns of our customers. Please see Part I, Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2023 for more information regarding credit risk of our customers.

Disclosure Controls and Procedures

In accordance with Exchange Act Rules 13a-15 and 15d-15, we have evaluated, under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of March 31, 2024. Disclosure controls refer to controls and procedures designed to provide reasonable assurance that the information required to be disclosed by us in reports that we file under the Exchange Act is accumulated and communicated by our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure and is recorded, processed, and summarized and reported within the time periods specified in the rules and forms of the SEC. Based on the evaluation of our disclosure controls and procedures as of March 31, 2024, our principal executive officer and principal financial officer have concluded that, as of such date, our disclosure controls and procedures were effective in our internal control over financial reporting.

Changes in Internal Control over Financial Reporting

There were no changes in our system of internal control over financial reporting (as defined in Rule 13a-15(f) and Rule 15d-15(f) under the Exchange Act) during the quarter ended March 31, 2024 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Factors that could materially adversely affect our business, financial condition, operating results or liquidity and the trading price of our Class A common stock are described under Part I, Item 1A. “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2023, as filed with the SEC on February 27, 2024. As of the date of this filing, there have been no material updates to the risk factors previously disclosed in Part I, Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2023.