SHLE Source Energy Services Ltd

TSX: SHLE

CALGARY, March 14, 2018 /CNW/ - Source Energy Services Ltd. ("Source" or the "Company") is pleased to announce its 2017 annual and fourth quarter results.

Highlights

2017 was a transformative year for Source:

Solid fourth quarter performance completing a transformative year:

• Achieved Adjusted EBITDA⁽¹⁾ of $13.1 million;
• Reached Normalized Adjusted Gross Margin⁽¹⁾ per MT of $47.76;
• Delivered Adjusted Gross Margin⁽¹⁾ per MT of $31.61;

We've grown:

• Completed the acquisition of the Blair Facility in April 2017;
• Acquired the Preston Facility, as part of the larger Preferred Acquisition, in November and completed a public and private equity offering to finance the transaction;
• Expanded Source's production capacity and terminal capacity by 115% and 25% respectively;
• Grew our inferred mineral resources⁽²⁾ by 61% or 57.3 million metric tonnes ("MT");
• Increased our fleet of specialized frac sand rail cars to 2,345;

We've prospered:

• Increased sand volumes by 128% and sales by 102% year-over-year;
• Reduced Net Loss by 79%, or $34.5 million, and improved Adjusted EBITDA⁽¹⁾ by $51.1 million, as compared to 2016;
• Improved Gross Margin per MT by $17.65, or 186%, and Adjusted Gross Margin⁽¹⁾ per MT by $14.27, or 75%, year-over-year;
• Achieved a Normalized Adjusted Gross Margin⁽¹⁾ per MT of $47.76 in the fourth quarter of 2017;

We've become stronger:

• Completed our initial public offering ("IPO") in April 2017;
• Repaid $22.3 million of the outstanding 10.5% Senior Secured First Lien Notes in April 2017;
• Expanded Credit Facilities from $35 million to $70 million;

We're prepared for continued growth:

• Commenced expansion of our Wembley terminal;
• Commenced 500,000 MT per year expansion at our Weyerhaeuser processing facility;
• Continued improvement and expansion of our Blair and Preston processing facilities; and
• Doubled our workforce from 220 to over 4401

Brad Thomson, President and CEO said the following, "I'm proud of the 2017 accomplishments of the Source Team. Our 2017 growth positions us to meet the increased demand for frac sand that we're continuing to witness in the Western Canadian Sedimentary Basin (the "WCSB"). Operators continue to move to direct sourcing of frac sand as they transition from the development phase to the "manufacturing" phase of their programs. These companies look to Source for a reliable supply of frac sand as their activity levels increase."

Business Outlook

Compared to last year, Source began 2018 with 115% more annual production capacity, 200% more storage capacity at unit train capable receiving terminals, and double the number of Sahara units. This growth was achieved through the combination of organic growth and acquisition activities.

The benefit of 2017's strategic acquisitions and successful organic growth projects are already being realized in 2018. In January, Source set new monthly records for highest volumes of customer orders and highest volumes of delivered sales. These records were set in spite of significant winter weather that affected rail operations from mid-December 2017 to mid-February 2018. Month-to-date in March 2018 we are on pace to surpass the monthly sales records we set in January of this year.

Our outlook for 2018 remains strong. In 2017, we saw WCSB proppant demand more than double when compared to the prior year's demand, driven primarily by increases in Montney and Duvernay well counts and increases in well proppant intensity. Today, we continue to see the liquids rich portions of the Montney and Duvernay drive WCSB proppant demand with our leading customers continuing to increase sand intensity. The trend toward larger completions is expected to continue throughout the year, despite the uncertainty of AECO gas prices.

The impact of weather and road conditions in spring generally impacts second quarter sales numbers; however, our current second quarter of 2018 order book shows continuing customer demand. Looking ahead to the second half of 2018, the strength of our existing order book is robust.

In the Montney and the Duvernay, we continue to see more companies move into "manufacturing mode". These well-capitalized operators regularly enter into pipeline and processing commitments and are now entering into contracts that provide them with certainty of frac sand supply. Source now has the majority of its sales secured under long-term contracts, and it's our view that these contracts will continue to underpin our business as more of our customers move into manufacturing mode.

In addition to the previously announced Duvernay contract, in March of 2018, Source entered into an agreement with a large customer to extend the term of the existing contract between the companies. This agreement includes a prepayment from the customer along with a long-term commitment to acquire a substantial percentage of its Northern White frac sand from Source. The agreement is an example of how the industry has evolved as it ensures the customer has a reliable supply of frac sand to support its growing proppant needs.

Mr. Thomson went on to say, "We're pleased to renew and expand our supply partnership with this leading Canadian company. Our teams have enjoyed a long relationship, and with this agreement we'll see Source's expanded frac sand production and distribution capabilities used to enhance the service model offered by our counter-party. This is a win-win arrangement. As proppant demand in the WCSB continues to rise, every company involved in the supply chain is being pressured to improve its service offering. We're proud to roll up our sleeves and collaborate with this company. Together we'll ensure that the end customer receives the affordable, reliable supply of frac sand that it's looking for."

With an increase in frac sand demand, Source has started to consider how we increase our production capacity to meet this demand. Source has two low cost expansion opportunities at our Preston and Blair facilities, and a domestic sand mine opportunity on the land covered by our Peace River, Alberta exploration permit. Pending the completion of the appropriate contractual agreements, Source views these expansion opportunities much the same way a midstream company may view the risk of constructing new pipelines or gas processing infrastructure.

Overview of Results

Source had strong performance in 2017 as western Canadian completion activity improved significantly compared with 2016. Annual sand volumes increased by 128% year-over-year while sand revenue for 2017 was 102% higher than in 2016, and total sales revenue was 108% higher than 2016. Wellsite solutions revenue increased by $33.7 million, or 158%, in 2017 compared to 2016 due to a 117% increase in trucking revenues and a 426% increase in revenues generated from the Sahara units. For 2017, Normalized Adjusted Gross Margins were $37.27 per MT, which was 88% higher, or $17.42 per MT higher, than Normalized Adjusted Gross Margins realized in 2016 due to improved pricing and production costs. For 2017, Adjusted EBITDA was $43.6 million, which was $51.1 million higher than the $7.5 million negative Adjusted EBITDA in 2016, and Net Loss for 2017 was reduced by $34.5 million compared to a $43.4 million Net Loss in 2016.

Sales

In the fourth quarter of 2017 Source's sand revenue increased by $28.1 million, or 79%, compared to the fourth quarter of 2016, due to a 98% (275,891 MT) increase in sand volumes partially offset by a 10% decrease ($12.53 per MT) in average sales price. The average sales price in the fourth quarter of 2017 was impacted by a 165,544 MT increase in coarse and finer grade sales at lower mine gate pricing which effectively lowered the average price by approximately $22.50 per MT. The increased mine gate sales were undertaken to minimize the impact of the year-end slowdown in oilfield activity in the WCSB in December 2017. In the fourth quarter of 2017, Source's sand revenue increased by $1.8 million, or 2.8%, compared to the third quarter of 2017, primarily due to a 9.2% increase in sand volumes (46,917 MT) partially offset by a 5.8% decrease ($7.12 per MT) in the average sales price. The decrease in the average sales price was due to the increase in mine gate sales in the fourth quarter of 2017.

Wellsite solutions revenue increased by $1.4 million in the fourth quarter of 2017, compared with the fourth quarter of 2016, due to a 320% increase in Sahara revenues, partially offset by a 25% decrease in trucking revenues due to a 15% decrease in sand sales occurring at the wellsite. Wellsite solutions revenue decreased by $7.1 million in the fourth quarter of 2017, compared with the third quarter of 2017, primarily due to a 51% decrease in trucking revenues arising from a 38% decrease in sand sales occurring at the wellsite combined with a 18% decrease in Sahara revenues.

Normalized Adjusted Gross Margin in the fourth quarter of 2017 was $47.76 per MT. By removing the gross margin impact of the incremental mine gate sales and the impact of selling inventories acquired as part of the Preferred Acquisition Normalized Adjusted Gross Margin portrays what Source made on sand sales in the WCSB. All the assets acquired in the Preferred Acquisition in 2017, including inventory, were acquired at fair market value which negatively impacted gross margins as the fair value of inventory acquired at both the mine and terminal were greater than Source's internal costs to produce would have been. The impact of the sales of inventory acquired at fair value is estimated to have negatively impacted gross margins by approximately $2.80 per MT in the fourth quarter of 2017. Gross Margin in the fourth quarter of 2017 increased by $8.4 million, or $5.85 per MT, compared to the fourth quarter of 2016 due to improved pricing and production costs. Adjusted EBITDA for the fourth quarter of 2017 improved by $13.9 million to $13.1 million compared to the same period in 2016 and Net Loss in the fourth quarter of 2017 was reduced by $8.0 million compared to the same period in 2016.

Cost of Sales

Fourth quarter 2017 cost of sales was $57.6 million, which was $18.4 million higher than fourth quarter of 2016, due to increased production costs associated with higher sales volumes combined with the unfavorable impact associated with inventory volumes acquired at fair market value as part of the Preferred Acquisition in November 2017, partially offset by the positive impact of a 4.7% strengthening of the Canadian dollar on US dollar denominated components of cost of sales. Sand production costs per unit declined by 20% in 2017, compared to 2016, as production rose and the fixed cost elements of production were spread over more units combined with the positive impact of a stronger Canadian dollar. As part of the Preferred Acquisition all assets acquired, including inventory, were acquired at fair market value which negatively impacted cost of sales as the fair value of inventory acquired at both the mine and terminal were greater than Source's internal costs to produce would have been. The fair value of inventory acquired is estimated to have negatively impacted cost of sales by $1.6 million, or approximately $2.80 per MT, in the fourth quarter of 2017. The remaining inventory is expected to be fully processed and sold by the end of the first quarter of 2018 with an expected negative impact in the first quarter of 2018 of approximately $1.9 million. In the fourth quarter of 2017, the average Canadian/US dollar exchange rate strengthened by 4.7% as compared to the fourth quarter of 2016, which led to decreases in the Canadian dollar equivalent cost of sales.

Capital Expenditures

Source's capital expenditures fall into three main categories: overburden removal, capital expenditures at existing facilities to make improvements and maintain operations, and growth capital expenditures for new capacity to grow production or distribution. Capital expenditures for the fourth quarter of 2017 were $24.5 million, an increase of $23.0 million from the fourth quarter of 2016. The increased capital expenditures were primarily driven by terminal expansion associated with our new Fox Creek terminal and the expansion of our existing Wembley terminal, increased overburden removal costs associated with increased production in the quarter, wellsite solutions expenditures associated with new Sahara units and production expansion associated with purchasing additional land with the potential for future mining activities, and new processing equipment at existing mines.

Cash and Net Working Capital

As of December 31, 2017, Source had $nil cash on hand and had senior long-term debt outstanding of $129.3 million, as compared to $nil cash on hand and $124.4 million of senior long-term debt outstanding as of December 31, 2016. For the fourth quarter of 2017, Source had cash flows provided by operating activities of $25.5 million compared to cash flows used in operating activities of $12.7 million for the same period in 2016, due a $7.9 million decrease in total current assets less total current liabilities (the "Net Working Capital") combined with a $8.0 million decrease in net loss for the quarter. Capital expenditures in both periods were funded through a combination of cash flows provided by operating activities and funds received from equity issuance and amounts available under the Credit Facilities.

Net Working Capital as of December 31, 2017 was $35.1 million, as compared to $6.2 million as of December 31, 2016. The increase was primarily due to higher accounts receivable balances resulting from higher sales in the year ended December 31, 2017 compared to year ended December 31, 2016, combined with higher inventory levels due to the increased size and scale of Source operations over 2017. This impact was partially offset by an increase in accounts payable as of December 31, 2017 for the same reasons as above.

Fourth Quarter Conference Call

A conference call to discuss Source's fourth quarter financial results has been scheduled for 7:30 am MT (9:30 am ET) on March 15, 2018, for interested analysts, investors and media representatives.

The conference call dial-in details are:

The call will be recorded and available for playback approximately 2 hours after the meeting end time, until April 15, 2018, using the following dial-in:

ABOUT SOURCE ENERGY SERVICES

Source is a fully integrated producer, supplier and distributer of high quality Northern White frac sand primarily to the WCSB. Source provides its customers with a full end-to-end solution through its Wisconsin mines, processing facilities, unit train capable rail assets, strategically located terminal network and "last mile" logistics capabilities. Source's full-service approach allows customers to rely on its logistics capabilities to increase reliability of supply and to ensure the timely delivery of their growing frac sand requirements. In addition to its transload terminal network and in-basin storage capabilities, Source provides storage and logistics services for other bulk oil and gas well completion materials that are not produced by Source. Source's full service approach allows customers to rely on its logistics capabilities to increase reliability of supply and to ensure the timely delivery of their growing requirements for frac sand and other bulk completion materials.

IMPORTANT INFORMATION

These results should be read in conjunction with Source's audited consolidated financial statements for the year ended December 31, 2017 and 2016, together with the accompanying notes (the "Financial Statements") and its corresponding management's discussion and analysis for such period (the "MD&A"). The Financial Statements and MD&A and other information relating to Source, including the Annual Information Form ("AIF"), is available under the Company's SEDAR profile at www.sedar.com. The Financial Statements and comparative statements have been prepared in accordance with International Financial Reporting Standards ("IFRS") as issued by the International Accounting Standards Board ("IASB"). Unless otherwise stated, all amounts are expressed in Canadian dollars.

NON-IFRS MEASURES

In this press release Source has used the terms Adjusted Gross Margin, Normalized Adjusted Gross Margin and Adjusted EBITDA, including per MT, which do not have standardized meanings prescribed by IFRS and Source's method of calculating these measures may differ from the method used by other entities and, accordingly, they may not be comparable to similar measures presented by other companies. These financial measures should not be considered as an alternative to, or more meaningful than, net income (loss), Gross Margin and other measures of financial performance as determined in accordance with IFRS. For additional information regarding Non-IFRS measures, including their use to management and investors and reconciliations to measures recognized by IFRS, please refer to the MD&A, which is available online at www.sedar.com and through Source's website at www.sourceenergyservices.com.

FORWARD-LOOKING STATEMENTS

Certain statements contained in this press release constitute forward-looking statements relating to, without limitation, expectations, intentions, plans and beliefs, including information as to the future events, results of operations and Source's future performance (both operational and financial) and business prospects. In certain cases, forward-looking statements can be identified by the use of words such as "expects", "estimates", "forecasts", "intends", "anticipates", "believes", "plans", "seeks", "projects" or variations of such words and phrases, or state that certain actions, events or results "may" or "will" be taken, occur or be achieved. Such forward-looking statements reflect Source's beliefs, estimates and opinions regarding its future growth, results of operations, future performance (both operational and financial), and business prospects and opportunities at the time such statements are made, and Source undertakes no obligation to update forward-looking statements if these beliefs, estimates and opinions or circumstances should change. Forward-looking statements are necessarily based upon a number of estimates and assumptions made by Source that are inherently subject to significant business, economic, competitive, political and social uncertainties and contingencies. Forward-looking statements are not guarantees of future performance. In particular, this press release contains forward-looking statements pertaining, but not limited, to: outlook for operations and sales volumes; industry activity levels; expectations regarding increased demand for and sales volumes of sand in 2018; the continued increase of sand sales volumes and sand spot pricing in 2018; the strength of Source's contract book in the second half of 2018, the expected timing to process and sell the remaining inventory acquired as part of the Preferred Acquisition and the expected negative impact in the first quarter of 2018; and increased sand intensities for Canadian well completions.

By their nature, forward-looking statements involve numerous current assumptions, known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of Source to differ materially from those anticipated by Source and described in the forward-looking statements

With respect to the forward-looking statements contained in this press release, assumptions have been made regarding, among other things: proppant market prices; future oil, natural gas and natural gas liquids prices; future global economic and financial conditions; future commodity prices, demand for oil and gas and the product mix of such demand; levels of activity in the oil and gas industry in the areas in which Source operates; the continued availability of timely and safe transportation for Source's products, including without limitation, rail accessibility; the maintenance of Source's key customers and the financial strength of its key customers; the maintenance of Source's significant contracts or their replacement with new contracts on substantially similar terms and that contractual counterparties will comply with current contractual terms; operating costs; that the regulatory environment in which Source operates will be maintained in the manner currently anticipated by Source; future exchange and interest rates; geological and engineering estimates in respect of Source's resources; the recoverability of Source's resources; the accuracy and veracity of information and projections sourced from third parties respecting, among other things, future industry conditions and product demand; demand for horizontal drilling and hydraulic fracturing and the maintenance of current techniques and procedures, particularly with respect to the use of proppants; Source's ability to obtain qualified staff and equipment in a timely and cost-efficient manner; the regulatory framework governing royalties, taxes and environmental matters in the jurisdictions in which Source conducts its business and any other jurisdictions in which Source may conduct its business in the future; future capital expenditures to be made by Source; future sources of funding for Source's capital program; Source's future debt levels; the impact of competition on Source; and Source's ability to obtain financing on acceptable terms.

A number of factors, risks and uncertainties could cause results to differ materially from those anticipated and described herein including, among others: the effects of competition and pricing pressures; risks inherent in key customer dependence; effects of fluctuations in the price of proppants; risks related to indebtedness and liquidity, including Source's leverage, restrictive covenants in Source's debt instruments and Source's capital requirements; risks related to interest rate fluctuations and foreign exchange rate fluctuations; changes in general economic, financial, market and business conditions in the markets in which Source operates; changes in the technologies used to drill for and produce oil and natural gas; Source's ability to obtain, maintain and renew required permits, licenses and approvals from regulatory authorities; the stringent requirements of and potential changes to applicable legislation, regulations and standards; the ability of Source to comply with unexpected costs of government regulations; liabilities resulting from Source's operations; the results of litigation or regulatory proceedings that may be brought against Source; the ability of Source to successfully bid on new contracts and the loss of significant contracts; uninsured and underinsured losses; risks related to the transportation of Source's products, including potential rail line interruptions or a reduction in rail car availability; the geographic and customer concentration of Source; the ability of Source to retain and attract qualified management and staff in the markets in which Source operates; labour disputes and work stoppages and risks related to employee health and safety; general risks associated with the oil and natural gas industry, loss of markets, consumer and business spending and borrowing trends; limited, unfavourable, or a lack of access to capital markets; uncertainties inherent in estimating quantities of mineral resources; sand processing problems; and the use and suitability of Source's accounting estimates and judgments.

Although Source has attempted to identify important factors that could cause actual actions, events or results to differ materially from those described in its forward-looking statements, there may be other factors, including those described under the heading "Risk Factors" in the AIF, that cause actions, events or results not to be as anticipated, estimated or intended. There can be no assurance that forward-looking statements will materialize or prove to be accurate, as actual results and future events could differ materially from those anticipated in such statements. The forward-looking statements contained in this press release are expressly qualified by this cautionary statement. Readers should not place undue reliance on forward-looking statements. These statements speak only as of the date of this press release. Except as may be required by law, Source expressly disclaims any intention or obligation to revise or update any forward-looking statements or information whether as a result of new information, future events or otherwise.

SOURCE Source Energy Services