CEO.CA Chairman's Briefing

TSX - FRC

CALGARY, March 2, 2017 /CNW/ - Canyon Services Group Inc. ("Canyon" or the "Company") today announces its fourth quarter and 2016 results, and provides an update on its capital program.  The following results should be read in conjunction with the Management's Discussion and Analysis, the audited consolidated financial statements and notes of Canyon Services Group Inc. for the year ended December 31, 2016 and the Annual Information Form for the year ended December 31, 2015, which are available on SEDAR at www.sedar.com.

HIGHLIGHTS

2016 compared with 2015

• Revenue for 2016 of $239.6 million, compared to $404.0 million in 2015.
• Net loss for 2016 of $72.2 million, compared to a net loss of $62.1 million in 2015.
• Adjusted EBITDA¹ for 2016 of negative $24.0 million, compared to positive $31.3 million in 2015.
• Total proppant pumped for 2016 of 368,581 tonnes, compared to 376,773 tonnes in 2015.
• Average utilized fracturing equipment was 87,500 HHP, compared to 100,000 HHP in 2015.

Annual financial results declined significantly in 2016 primarily as a result of extreme competition for Canyon's service offerings resulting in significant pricing pressures.  Pressure Pumping equipment prices for fracturing services¹ declined by more than 40% year over year.  Cost optimization initiatives only partially offset the dramatic decrease in revenue.

Fourth quarter 2016 compared with fourth quarter 2015

• Net loss for Q4 2016 of $12.2 million, compared to a net loss of $18.3 million in Q4 2015.
• Adjusted EBITDA¹ for Q4 2016 of negative $0.9 million, compared to positive $7.7 million in Q4 2015.
• Total proppant pumped for Q4 2016 of 123,244 tonnes, compared to 107,394 tonnes in Q4 2015.
• Average utilized fracturing equipment² was 107,500 HHP, compared to 100,000 HHP in 2015.

Q4 2016 financial results declined significantly compared to Q4 2015 primarily as a result of extreme competition for Canyon's service offerings resulting in significant pricing pressures.  Pressure Pumping equipment prices for fracturing services¹ declined by 30% compared to Q4 2015.  Cost optimization initiatives only partially offset the dramatic decrease in revenue.

2017 Capital Program

The Company is adding $25.6 million to its 2017 capital spending plans.  The primary focus of the new capital spending is maintenance capital expenditures to support anticipated increasing oilfield service activity levels.  If pricing does not improve during 2017, the Company will modify its capital program to meet activity demands.  Canyon's capital spending plans, other than capital expenditures through business combinations, are summarized below:   

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¹ Certain financial measures in this news release – namely Adjusted EBITDA, funds flow, and adjusted loss and comprehensive loss, are not prescribed by IFRS. These financial measures are reconciled to IFRS measures in the Non-GAAP Measures section of this news release. Other non-standard measures are also described in Non-GAAP Measures.

A description of the Company's previously announced Expansion capital program is described in the Capital Expenditures section of this news release.

OVERVIEW OF RESULTS

FINANCIAL AND OPERATING HIGHLIGHTS

2016 Highlights

In 2015, Canyon underwent an optimization process that resulted in a dramatically improved cost structure in 2016. The results of the optimization process helped reduce the Company's financial losses in 2016 by more than $30 million¹. Some of the key results of our optimization are as follows: 

• Canyon's approach to personnel optimization resulted in 2016 direct personnel costs for hydraulic fracturing being $17 million lower than they would have been had 2015's personnel cost structure been carried forward to 2016.
• Personnel optimization (described above) contributed to $2 million of incremental savings on personnel travel costs.
• Canyon was able to reduce third party contracting costs by 70% ($10 million) through a combination of reduced supplier prices and increasing the use of internal labour to reduce third party contracting requirements.
• The above cost reductions were partially offset by the effect of bad debt expenses, severance costs, and commodity tax reassessments totaling $7.7 million (2015: severance costs of $1.5 million).

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¹ Certain financial measures in this news release – namely Adjusted EBITDA, funds flow, and adjusted loss and comprehensive loss, are not prescribed by IFRS. These financial measures are reconciled to IFRS measures in the Quarterly Financial Review, Annual Financial Review and Non-GAAP Measures section of this news release. Other non-standard measures are also described in Non-GAAP Measures.

We do anticipate that 2016's cost structure will begin to see inflationary pressures in 2017 as the industry environment improves and Canyon's activity increases.

• Canyon's Pressure Pumping operating segment's hydraulic fracturing activity (measured by tonnes of proppant pumped) decreased 2%, despite overall 2016 well completions in the WCSB declining by 35% from 2015.
• Canyon's Pressure Pumping fracturing support well service activity increased with the total number of job days increasing to 3,207 in 2016, compared with 2,011 days in 2015.
• Materials and inventory costs decreased by 10% in 2016, primarily due to negotiated supplier cost reductions and an increase in demand for more cost effective products. This resulted in a direct cost savings for our customers.

Having low debt levels entering 2015 (debt less cash at December 31, 2014: $29.9 million) permitted the Company to be proactive in optimizing its cost structure during the downturn.  However, the length and severity of the downturn required that Canyon take additional measures in order to emerge from the downturn in a strong financial position. 

• On March 3, 2016, Canyon suspended its dividend of $0.03 per common share in response to the downturn.
• Canyon issued 15.8 million common shares on March 29, 2016 for gross proceeds of $63 million ($59.7 million net of transaction costs). The net proceeds were initially used to repay bank debt and permitted Canyon to proactively pursue growth prospects.
• As a result of the equity offering, an anticipated recovery in commodity prices, and internal economic rate of return analysis, Canyon announced an investment into the most advanced hydraulic fracturing pumps in the WCSB. The upgrade will reduce Canyon's operating costs and will provide our customers with more continuous pumping operations. The upgraded pump design will allow Canyon to reduce the number of pumps on our customers' locations, fuel consumption, manpower and repair and maintenance requirements. The benefits of this investment will begin to occur in the second half of 2017 once the new fleet of pumps is deployed in the field (see Capital Expenditures).

Canyon enters a potential industry recovery with $27.7 million debt less cash, which is relatively unchanged from the $29.9 million debt less cash balance at the start of the downturn two years ago.  This puts Canyon in a strong position to make additional investments in equipment upgrades and/or acquire oilfield services businesses.

Fourth Quarter 2016 Highlights

In 2015, Canyon underwent a significant optimization process that resulted in a substantially improved cost structure in 2016.  The results of the optimization process helped reduce the Company's financial losses in Q4 2016 by more than $7 million. Some of the key results of our optimization are as follows:

• Canyon's approach to personnel optimization resulted in 2016 direct personnel costs for hydraulic fracturing being $3.5 million lower than they would have been had 2015's personnel cost structure been carried forward to Q4 2016.
• Personnel optimization, described above, contributed to incremental savings on personnel travel costs of $0.6 million.
• Canyon was able to reduce third party contracting costs by 55% ($2.8 million) through a combination of reduced supplier prices and increasing the use of internal labour to reduce third party contracting requirements.

We do anticipate that 2016's cost structure will begin to see inflationary pressures in 2017 as the industry environment improves and Canyon's activity increases.

The fourth quarter of 2016 saw the first meaningful year-over-year activity increase since the start of the downturn in the beginning of 2015.   

• Canyon's Pressure Pumping hydraulic fracturing activity (measured by tonnes of proppant pumped) increased by 15% from Q4 2015, which compares to Q4 2016 well completion declines in the WCSB of 29% from Q4 2015.
• Canyon's Pressure Pumping fracturing support well service activity increased with the total number of job days increasing to 1,053 in 2016, compared with 707 days in 2015.
• Despite the overall increase in activity, Pressure Pumping equipment prices for hydraulic fracturing services were 30% below fourth quarter 2015 levels, but exited Q4 2016 20% higher from mid-Q3 2016 levels.

BUSINESS ENVIRONMENT

Oil (NYMEX WTI) and natural gas (AECO) prices are important factors that affect the results of Canyon's exploration and production (E&P) customers, and therefore ultimately affect Canyon's financial results.  The US$/CDN$ exchange rate provides context for WTI oil prices which are priced in US$.  Oilfield services' industry activity statistics help provide context to the operational and financial results of Canyon relative to general oilfield service activity levels.

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¹ Source: Nickles Energy Group.

Canyon's revenue rates are influenced by crude oil and natural gas pricing as changes in these prices directly affect our customer's ability to generate cash flow and ultimately utilize Canyon's services. WTI prices in 2016 and 2015 were significantly below 2014 pricing levels.  The significant decline in WTI prices during this period was a result of global oil supply exceeding oil demand.  With 2015 and 2016 WTI oil prices 48% and 53%, respectively, below 2014 levels, Canyon's Pressure Pumping and Fluid Management services declined significantly. In particular 2016 Pressure Pumping equipment prices for hydraulic fracturing services were down more than 60% from 2014 pricing levels.

During Q4 2016, global concerns around oversupply of oil have partially abated due to discussions and agreement inside and outside OPEC (Organization of the Petroleum Exporting Countries) to limit oil production, which combined with the continued growth in global oil demand, resulted in WTI oil prices stabilizing above $50/bbl in December 2016.  Where natural gas prices are concerned, AECO spot prices improved sequentially, increasing by 31% to CDN$3.11/mcf in Q4 2016 from Q3 2016 prices of CDN$2.38/mcf. With the recent stabilization of oil and natural gas prices, the oilfield services industry activity declines, which started in early 2015, seemed to have hit a bottom in Q3 2016, with initial signs of activity and pricing improvements in Q4 2016.

INDUSTRY COMMENTARY & 2017 OUTLOOK

Industry Commentary     

The general trend in well completions design has resulted in increased fracturing intensity on a per well basis in the form of more fractures per wellbore and/or larger individual fracture designs.  One of the main predictors of fracture intensity for pressure pumping is the average total length in meters per well. Meters drilled per well in 2016 has increased from 2015 and 2014 by approximately 7% and 20%, respectively, however, WCSB total meters drilled in 2016 has decreased by approximately 60% from 2014 levels due to the sharp decrease in overall activity. The service intensity per well combined with the increased proppant volumes has not been enough to offset the activity and pricing declines experienced in 2016.

Stabilization of oil prices above US$50 per barrel in late Q4 2016 and early 2017 has provided renewed optimism about E&P capital expenditures which has already translated to increases in oilfield services activity.  E&P capital programs remain sensitive to the volatile swings in commodity prices.  However, recent improvement in commodity prices combined with optimism that global oil demand and supply is closer to equilibrium levels, has introduced the potential for higher activity levels and further price increases for our services in 2017.  Therefore, additional increases in commodity prices from current levels may cause demand for services to significantly outstrip the Canadian pressure pumping industry's ability to supply equipment and the corresponding manpower in the current market.  Conversely, decreases in commodity prices will defer an oilfield services recovery.  Current commodity price levels, and the resultant demand for Canyon's services, should continue to support modest customer price increases for pressure pumping services as the pressure pumping industry strives to return to positive EBITDA margins. Incremental improvements in commodity prices would support the customer price increases necessary to return the business model to sustainable return on investment levels.   

E&P's continue to focus on the most economic resource plays within the WCSB. The key trend is for continued investment in the Montney, Bakken and Viking formations with increasing interest in the Duvernay and Shaunavon.  These are all areas in which Canyon is active. Given the growing service intensity required by E&P companies to complete wells in the Montney and Duvernay formations, a modest increase in commodity prices could result in an increase in E&P's capital programs leading to a return to a sustainable level of well completion services pricing.  Any potential pricing increase could be positively or negatively magnified depending upon how quickly the well completion services industry can reactivate idle equipment. Our view is that the ability for the pressure pumping industry to activate idle equipment will depend on: (1) the availability of qualified workers, many of whom have now left the industry; and (2) the need for significant investment to repair equipment which has been idle for more than a year.  While a positive final investment decision (FID) on liquefied natural gas would have a positive impact on advancing increases in well completion services pricing, we believe that the economics of the key WCSB resource plays (noted above) are competitive with other significant North American resource plays such that an FID is not required for continued (and potentially increasing) E&P investment in these areas.  

Canyon Commentary

While Canyon has optimized its cost structure over the past several quarters in response to decreased WCSB activity and customer pricing levels, the impact of lower customer pricing for 2016 has more than offset benefits gained from our cost optimization commitment. This pricing degradation has directly impacted the bottom line as margins have been eroded since 2014, resulting in negative consolidated Adjusted EBITDA for 2016.  However, prices for Canyon's services began improving throughout Q4 2016, with further modest price improvements anticipated in Q1 2017.  The Company believes that prices will continue to improve throughout 2017 and Canyon is already seeing signs that there is a shortage of equipment and people required to meet well completion needs in the WCSB.  In the first two months of Q1 2017, Canyon pumped approximately 120,000 tonnes of proppant. We anticipate Q1 2017 average Pressure Pumping fracturing prices to be 10% to 15% higher than Q4 2016 average pricing levels.  The estimated increased pricing, combined with increased activity, should return Canyon to meaningful Adjusted EBITDA levels in Q1 2017.

Canyon believes that the pressure pumping industry will continue to evolve and that hydraulic fracturing intensity will increase.  For this reason, despite having one of the most modern fracturing fleets in the industry, Canyon is making an initial investment in high specification, continuous duty QEM 3000 hydraulic fracturing pumps. Canyon anticipates making incremental investment in high specification equipment so that it can stay ahead of the inevitable market place shift to higher intensity well completions.

It is our belief that there will continue to be an increased HHP demand in formations like the Montney and Duvernay, and therefore, hydraulic fracturing companies that have high specification and standard levels of equipment, and/or access to capital to invest in additional High specification equipment, will be able to generate scale and create more operationally efficient businesses. Companies that are unable to adapt to the changing industry dynamic will eventually be restricted to providing services in a very small segment of the WCSB and/or be less competitive in a majority of the WCSB formations. 

Primary Objectives

As a result of our relatively strong financial position and our optimized cost structure, Canyon's short-term and long-term objectives remain essentially unchanged for 2017. 

Our primary short-term objectives are to:

• Increase prices while maintaining our optimized cost structure, so as to return to positive funds flow and positive return on invested capital.
• Complete deployment of 11 newly retrofitted High specification QEM 3000 fracturing pumps.
• Increase average utilized fracturing equipment levels by adding personnel to support current customer demands, therefore accelerating our return to positive return on investment.

Our primary long-term objectives are:

• To build a leading Canadian oilfield service provider that can succeed and grow over the long-term and provide superior long-term returns on invested capital to our investors by reducing finding and development costs for our customers through operational and technical advancements in service delivery.
• To grow Canyon's operating assets over the next five years, with a continuing focus on servicing the WCSB.

To achieve our objectives, Canyon will continue to undertake the following key activities:

• Seek out attractive investment opportunities, which will add both long-term value on a per share basis and enhance our relative competitive position with customers including: (1) add purpose built equipment (QEM 3000s) for the increasing well intensity levels of the WCSB; (2) optimize staffing levels; and (3) actively evaluate oilfield merger and acquisition opportunities.
• Strengthen relationships with top-tier customers and build our reputation in the region's premier unconventional plays with a particular focus on high-rate treatments.

QUARTERLY FINANCIAL REVIEW – FOURTH QUARTER 2016 COMPARED TO 2015

The Consolidated fourth quarter results from operating activities are presented in the above table.  Discussion of operating activity results are described by operating segment in the Company's annual MD&A.

SUMMARY OF QUARTERLY RESULTS

CAPITAL EXPENDITURES

In addition to the $25.6 million of new capital expenditures announced today, on September 8, 2016, the Company announced an investment of $16.5 million, primarily to upgrade the capability of existing pressure pumping equipment, add ancillary equipment for support services to its pressure pumping division, and expand its fluid management equipment.

Canyon is upgrading 11 existing 2500 HHP pumps to new High specification SPM QEM 3000 HHP pumps (QEM 3000). Since February 2016 Canyon has been testing a prototype of the QEM 3000 in deeper high pressure reservoirs in the WCSB.  Increased pumping pressures and durations required by our customers in areas such as the Duvernay and Montney have pushed the current standard 2500 HHP pumps to their maximum capabilities resulting in higher maintenance costs and increased downtime.  The QEM 3000 is a more robust pump designed for continuous operation and is better suited to 24-hour operations with high pumping pressures and long pumping durations compared to the existing 2500 HHP pumps currently operating in the WCSB.  The upgrade will reduce Canyon's operating costs and will provide our customers with more continuous pumping operations where needed.  At completion of the retrofit, Canyon will have 12 QEM 3000's, which will represent 14% of Canyon's total pressure pumping fleet, the highest such percentage amongst our competitive peers.

NON-GAAP MEASURES

The Company's Annual Consolidated Financial Statements have been prepared in accordance with IFRS. Certain measures in this document do not have any standardized meaning as prescribed by IFRS and are considered Non-GAAP Measures.

Adjusted EBITDA, funds from (used in) operations, adjusted loss and comprehensive loss and adjusted per share amounts are not recognized measures under IFRS.  Management believes that in addition to loss and comprehensive loss, the following measures are useful to help assess the results of the Company.

Descriptions and reconciliations of these Non-GAAP Measures to the most directly comparable IFRS measures are outlined below.  Readers should be cautioned that the below metrics should not be construed as an alternative to or a more meaningful measure than those determined in accordance with IFRS.  Canyon's method of calculating these metrics may differ from other companies and accordingly, they may not be comparable to measures used by other companies.

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¹ Certain financial measures in this news release – namely Adjusted EBITDA, funds flow, and adjusted loss and comprehensive loss, are not prescribed by IFRS. These financial measures are reconciled to IFRS measures in the Quarterly Financial Review, Annual Financial Review and Non-GAAP Measures section of this news release. Other non-standard measures are also described in Non-GAAP Measures.

Adjusted EBITDA

Canyon calculates Adjusted EBITDA as loss and comprehensive loss for the period adjusted for depreciation and amortization, equity settled share-based payment transactions, gain or loss on sale of property and equipment, finance costs, foreign exchange gain or loss, income tax recovery, gain on business combination and impairment. 

Adjusted EBITDA is a useful supplemental measure as it provides an indication of the cash results generated by the Company's principal business activities prior to consideration of how those activities are financed and how the results are taxed.

Funds from (used in) Operations

Funds from (used in) operations refers to cash flow from (used in) operations before changes in non-cash working capital, income taxes recovered (paid), but includes finance costs and current tax recovery (expense).

Funds from (used in) operations is a measure of liquidity based on cash generated by the Company's activities without consideration of the timing of the monetization of non-cash working capital items or payment of taxes.  Management believes that funds from (used in) operations provides investors with an indication of cash available for capital commitments, debt repayments, payment of taxes, and other expenditures.

Adjusted Loss and Comprehensive Loss

Adjusted loss and comprehensive loss is calculated as loss and comprehensive loss plus amortization expense on intangibles, impairment expense, gain on business combination and share-based payment transactions. 

Adjusted per share basic and diluted loss per share are calculated as adjusted loss and comprehensive loss divided by weighted average basic and diluted shares outstanding.

These measures provide investors with results generated by the Company's business activities in the normal course of business, not taking into account share-based payments expense, amortization of intangibles or impairment, which are not reflective of past operational activity.

Readers should be cautioned that the above metrics should not be construed as an alternative to loss and comprehensive loss, determined in accordance with IFRS, as an indicator of the Company's performance.  Canyon's method of calculating these metrics may differ from other companies and accordingly, they may not be comparable to measures used by other companies.

Other Non-Standard Financial Terms and Calculations

Consolidated Pressure Pumping revenue per tonne

This calculation is determined based on total Pressure Pumping revenue divided by total proppant pumped for the relevant period.  This calculation will change from period to period based on pricing changes, changes in types of product utilized (primarily proppant and chemicals), the weight of the proppant used, prices for the product sourced by our third party customers, and the weighting of Pressure Pumping fracturing revenue relative to non-fracturing support services.     

Pressure Pumping fracturing revenue per tonne

This calculation is determined based on total Pressure Pumping hydraulic fracturing revenue divided by total proppant pumped for the relevant period.  This calculation is determined based on the change in hydraulic fracturing revenue per tonne of proppant pumped.  This calculation will change from period to period based on pricing changes, changes in types of product utilized (primarily proppant and chemicals), the weight of the proppant used, and prices for the product sourced by our third party customers.   

Pressure Pumping equipment prices for fracturing services

This calculation is determined based on the change in Pressure Pumping fracturing revenue per tonne of proppant pumped, but excludes from revenue products that are sourced on behalf of third parties, such as proppant, chemicals, and/or third party equipment specific to a fracturing job.  This calculation will change from period to period based on customer pricing changes and the weight of the proppant used.   

Consolidated Pressure Pumping revenue per job

This calculation is determined based on total Pressure Pumping revenue divided by total pressure pumping jobs for the relevant period. This calculation is the historical revenue activity metric which will fluctuate dramatically based on the types of jobs and intensity of jobs and billing process used to invoice clients. 

Average fracturing revenue per job

This calculation is determined based on total Pressure Pumping hydraulic fracturing revenue divided by total pressure pumping hydraulic fracturing jobs for the relevant period. This calculation is the historical revenue activity metric which will fluctuate dramatically based on the types of jobs and intensity of jobs and billing process used to invoice clients. 

Optimization Process Savings Calculations

These calculations were made by applying 2015 Pressure Pumping fracturing's full year per tonne average variable cost structure, and 2015 average fixed cost structure, to 2016 activity levels (activity levels are based on tonnes of proppant pumped).  Personnel optimization, personnel travel expenses, third party contracting costs, and repairs and maintenance (R&M) expenses are components of Pressure Pumping's expenses 'other – cost of services expense'.

Customer Savings for Proppant and Chemical Calculations

These calculations were made by calculating the change in total proppant and chemical costs on a per tonne basis for each of 2016 and 2015.  Proppant and chemical costs are components of Pressure Pumping's 'other – cost of services expense'.

FORWARD-LOOKING STATEMENTS

This document contains certain forward-looking information and statements within the meaning of applicable securities laws.  The use of any of the words "anticipate", "believe", "continue", "estimate", "expect", "grow", "may", "plans", "objective", "ongoing", "optimize", "plans", "should", "trend", "will" and similar expressions are intended to identify forward-looking information or statements.  In particular, but without limiting the foregoing, this document contains forward-looking information and statements pertaining to the following: future oil and natural gas prices; future inflationary pressure, future results from operations; future liquidity and financial capacity and financial resources; future costs and expenses; future interest costs; future capital expenditures; future capital structure and expansion; the making and timing of future regulatory filings; anticipated activity levels of our customers; and the Company's ongoing relationship with major customers.

The forward-looking information and statements contained in this document reflect several material factors and expectations and assumptions of the Company including, but not limited to: impact of commodity prices on E&P capital programs, activity and pricing, and our ability to generate a sustainable return on investment; ability to hire personnel and reactivate idle equipment; effect of an FID on activity; 10% to 15% increase in Pressure Pumping fracturing price from Q4 2016; financial results will return to meaningful Adjusted EBITDA levels in Q1 2017; our fracturing fleet at June 30, 2017; estimated HHP allocation by WCSB formation and pumps suited to these formations; companies will be required to invest in High specification equipment to remain efficient and competitive in a majority of the WCSB formations;  management's estimate of the allocation of 2016 HHP demands by WCSB formation and provides management's estimate as to what capacity pumps are ideally suited to each formation, our primary objectives, and methods of achieving those objectives;  2017 capital program, the general continuance of current or, where applicable, assumed industry conditions; the continuance of existing tax, royalty and regulatory regimes; certain commodity price and other cost assumptions; the continued availability of adequate debt and/or equity financing and cash flow to funds its capital and operating requirements as needed; and the extent of its liabilities.  The Company believes the material factors, expectations and assumptions reflected in the forward-looking information and statements are reasonable but no assurance can be given that these factors, expectations and assumptions will prove to be correct.

The forward-looking information and statements included in this document are not guarantees of future performance and should not be unduly relied upon.  Such information and statements involve known and unknown risks, uncertainties and other factors that may cause actual results or events to differ materially from those anticipated in such forward-looking information or statements including, without limitation: changes in commodity prices; changes in the demand for or supply of the Company's services; unanticipated operating results; changes in the collectability of customer accounts; changes in tax or environmental laws, royalty rates or other regulatory matters; changes in the development plans of third parties; increased debt levels or debt service requirements; limited, unfavorable or a lack of access to capital markets; increased costs; a lack of adequate insurance coverage; the impact of competitors; reliance on industry partners; attracting and retaining skilled personnel and certain other risks detailed from time to time in the Company's public disclosure documents (including, without limitation, those risks identified in this document and the Company's Annual Information Form).

The forward-looking information and statements contained in this document speak only as of the date of the document, and none of the Company or its subsidiaries assumes any obligation to publicly update or revise them to reflect new events or circumstances, except as may be required pursuant to applicable laws.

SOURCE Canyon Services Group Inc.

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