Drilling Tools International Corp

Previous wording

The following discussion and analysis should be read in conjunction with the accompanying unaudited condensed consolidated financial statements and related notes as of March 31, 2024, and for the three months ended March 31, 2024 and 2023, included elsewhere herein. For additional information pertaining to our business, including risk factors which should be considered before investing in our common stock, refer to our Annual Report on Form 10-K for the fiscal year ended December 31, 2023. Our historical results are not necessarily indicative of the results that may be expected for any period in the future. All dollar amounts are expressed in thousands of United States dollars (“$”), unless otherwise indicated.

Current wording

The following discussion and analysis should be read in conjunction with the accompanying unaudited condensed consolidated financial statements and related notes as of June 30, 2024, and for the three months ended June 30, 2024 and 2023, included elsewhere herein. For additional information pertaining to our business, including risk factors which should be considered before investing in our common stock, refer to our Annual Report on Form 10-K for the fiscal year ended December 31, 2023. Our historical results are not necessarily indicative of the results that may be expected for any period in the future. All dollar amounts are expressed in thousands of United States (“U.S.”) dollars (“$”), unless otherwise indicated. Capitalized terms used in this section, but not otherwise defined, have the meanings ascribed to them in the Report.

Previous wording

We are a global oilfield services company that designs, engineers, manufactures and provides a differentiated, rental-focused offering of tools for use in onshore and offshore horizontal and directional drilling operations, as well as other cutting-edge solutions across the well life cycle. We operate from 16 locations in North America and 7 international service and support centers across Europe and the Middle East.

Current wording

We are a global oilfield services company that designs, engineers, manufactures and provides a differentiated, rental-focused offering of tools for use in onshore and offshore horizontal and directional drilling operations, as well as other cutting-edge solutions across the well life cycle. We now operate from 16 service and support centers across North America and maintains 10 international service and support centers across the Europe, Middle East, and Africa ("EMEA") regions and Asia-Pacific ("APAC") regions.

Previous wording

Our business model primarily centers on revenue generated from tool rentals and product sales. We generated revenue from total tool rentals and product sales of $37.0 million and $40.8 million for the three months ended March 31, 2024 and 2023, respectively, and had net income of $3.1 million and $5.7 million for those same periods. As of March 31, 2024, we had cash and cash equivalents of $14.0 million, and an accumulated deficit of $3.2 million.

Current wording

Our business model primarily centers on revenue generated from tool rentals and product sales. We generated revenue from total tool rentals and product sales of $37.5 million and $37.9 million for the three months ended June 30, 2024 and 2023, respectively, and had net income of $0.4 million and $0.9 million for those same periods. Additionally, we generated revenue from tool rentals and product sales of $74.5 million and $78.7 million for the six months ended June 30, 2024 and 2023, respectively, and had net income of $3.5 million and $6.6 million for those same periods, respectively. As of June 30, 2024, we had cash and cash equivalents of $6.8 million, and an accumulated deficit of $3.1 million.

Previous wording

These factors may be influenced by the oil and gas region in which our customers operate. While these factors may lead to differing revenues, we have generally been able to forecast our product needs and anticipated revenue levels based on historic trends in a region and with a specific customer.

Current wording

All of these factors may be influenced by the oil and gas region in which our customers are operating. While these factors may lead to differing revenues, we have generally been able to forecast our product needs and anticipated revenue levels based on historic trends in a given region and with a specific customer.

Previous wording

In the first quarter of 2024, the oil and gas market witnessed a dynamic interplay of geopolitical tensions, supply concerns, and global demand fluctuations. Crude oil prices remained volatile, with benchmarks such as Brent and WTI experiencing fluctuations driven by a multitude of factors. Geopolitical tensions in key oil-producing regions, such as the Middle East, continued to influence market sentiment, leading to sporadic spikes in prices. Additionally, concerns over supply disruptions, particularly amidst conflicts and geopolitical uncertainties, added to the market’s unease. As the global market for crude oil has continued its recovery, technical recessions, specifically in China, have slowed progress and created fluctuations in global demand. As of March 31, 2024, the WTI oil price was approximately $84 per barrel.

Current wording

In the first half of 2024, the oil and gas market witnessed a dynamic interplay of geopolitical tensions, supply concerns, and global demand fluctuations. Crude oil prices remained volatile, with benchmarks such as Brent and WTI experiencing fluctuations driven by a multitude of factors. Geopolitical tensions in key oil-producing regions, such as the Middle East, continued to influence market sentiment, leading to sporadic spikes in prices. Additionally, concerns over supply disruptions, particularly amidst conflicts and geopolitical uncertainties, added to the market’s unease. As the global market for crude oil has continued its recovery, technical recessions, specifically in China, have slowed progress and created fluctuations in global demand. As of June 30, 2024, the WTI oil price was approximately $83.29 per barrel.

Previous wording

Despite the high volatility in spot oil prices described above, our customers tend to be more focused on medium-term and long term commodity prices when making investment decisions due to the longer lead times for offshore projects. These forward prices experienced far less volatility in 2023, which is expected to continue throughout 2024, and have maintained levels which are highly constructive for offshore project demand.

Current wording

Despite the high volatility in spot oil prices described above, our customers tend to be more focused on medium-term and long term commodity prices when making investment decisions due to the longer lead times for offshore projects. These forward prices experienced far less volatility in 2022 and 2023 and have maintained levels in 2024 which are highly constructive for offshore project demand.

Previous wording

Prices for natural gas have decreased somewhat throughout the first quarter of 2024 relative to the fourth quarter of 2023 in the United States due to several factors, including a mild winter in key consuming regions and increased production and availability, both of which led to an oversupply in the market. Additionally, constrained storage capacity and delivery delays resulted in uncertainty around liquified natural gas exports in the United States.

Current wording

Prices for natural gas have decreased somewhat throughout the first half of 2024 relative to the fourth quarter of 2023 in the U.S. due to several factors, including a mild winter in key consuming regions and increased production and availability, both of which led to an oversupply in the market. Additionally, constrained storage capacity and delivery delays resulted in uncertainty around liquified natural gas exports in the U.S.

Previous wording

Henry Hub natural gas spot prices have decreased from an average of $2.31 per one million British Thermal Units (“MMBtu”) in March 2023 to $1.49 per MMBtu in March 2024.

Current wording

Henry Hub natural gas spot prices have increased from an average of $2.18 per one million British Thermal Units (“MMBtu”) in June 2023 to $2.53 per MMBtu in June 2024.

Previous wording

The ongoing conflict in Ukraine and the evolving Israel-Hamas conflict have caused uncertainty in the oil and natural gas markets, and the financial markets, both globally and in the United States. Such uncertainty already has and could continue to cause stock price volatility and supply chain disruptions as well as higher oil and natural gas prices. These could result in higher inflation worldwide, impact consumer spending and negatively impact demand for our goods and services. Moreover, uncertainty over interest rate actions taken by the U.S. Federal Reserve to combat inflation could further increase the probability of a recession.

Current wording

The ongoing conflict in Ukraine and the evolving Israel-Hamas conflict have caused uncertainty in the oil and natural gas markets, and the financial markets, both globally and in the U.S. Such uncertainty already has and could continue to cause stock price volatility and supply chain disruptions as well as higher oil and natural gas prices. These could result in higher inflation worldwide, impact consumer spending and negatively impact demand for our goods and services. Moreover, additional interest rate increases by the U.S. Federal Reserve to combat inflation could further increase the probability of a recession.

Previous wording

Notwithstanding the significant commodity price volatility over the past several years, we have seen decreases in United States onshore drilling activity. During the three months ended March 31, 2024, the weekly average U.S. onshore rig count as reported by Baker Hughes was 602 compared to 742 for the three months ended March 31, 2023. Current rig activity remains significantly improved from 2020 levels when the weekly average rig count for the year ended December 31, 2020 was 418.

Current wording

Notwithstanding the significant commodity price volatility over the past several years, we have seen decreases in U.S. onshore drilling activity. During the three and six months ended June 30, 2024, the weekly average U.S. onshore rig count as reported by Baker Hughes was 583 and 592 rigs, respectively, compared to 698 and 720 rigs for the three and six months ended June 30, 2023, respectively. Current rig activity remains significantly improved from 2020 levels when the weekly average rig count for the year ended December 31, 2020 was 417.

Previous wording

We are experiencing the impacts of global inflation, both in increased personnel costs and the prices of goods and services required to operate our rigs and execute capital projects. While we are currently unable to estimate the ultimate impact of rising prices, we do expect that our costs will continue to rise in the near term and will impact our profitability. To date, we do not believe that inflation has had a material impact to our financial condition or results of operations because we have been able to increase the prices we receive from our customers.

Current wording

We are experiencing the impacts of global inflation, both in increased personnel costs and the prices of goods and services required to operate our rigs and execute capital projects. While we are currently unable to estimate the ultimate impact of rising prices, we do expect that our costs will continue to rise in the near term and will impact our profitability.

Previous wording

Please refer to the section titled “Non-GAAP Financial Measures” for a reconciliation of Adjusted EBITDA to net (loss) income, the most directly comparable financial performance measure calculated and presented in accordance with GAAP.

Current wording

Please refer to the section titled “Non-GAAP Financial Measures” for a reconciliation of Adjusted EBITDA to net income, the most directly comparable financial performance measure calculated and presented in accordance with GAAP and a reconciliation of free cash flow to net cash provided by (used in) operating activities, the most directly comparable liquidity measure calculated and presented in accordance with U.S GAAP.

Previous wording

We currently generate our revenue, net from tool rental services and product sales. Tool rental services consist of rental services, inspection services, and repair services are accounted for under Topic 842. We recognize revenues from renting tools on a straight-line basis. Our rental contract periods are daily, monthly, per well, or based on footage. As part of this straight-line methodology, when the equipment is returned, we recognize as incremental revenue the excess, if any, between the amount the customer is contractually required to pay, which is based on the rental contract period applicable to the actual number of days the drilling tool was out on rent, over the cumulative amount of revenue recognized to date.

Current wording

We currently generate our revenue, net from tool rental services and product sales. Tool rental services consist of rental services, inspection services, and repair services is accounted for in accordance Topic 842. We recognize revenues from renting tools on a straight-line basis. Our rental contract periods are daily, monthly, per well, or based on footage. As part of this straight-line methodology, when the equipment is returned, we recognize as incremental revenue the excess, if any, between the amount the customer is contractually required to pay, which is based on the rental contract period applicable to the actual number of days the drilling tool was out on rent, over the cumulative amount of revenue recognized to date.

Previous wording

We expect that product sales revenue will increase as aged and consumable products will continue to be replaced in order to maintain or increase capacity.

Current wording

We expect that product sales revenue will increase as aged and consumable products will continue to be replaced in order to maintain or increase capacity. Additionally, product sale focused acquisitions are expected to further increase product sale revenue.

Previous wording

Tool rental revenue decreased $2.3 million, or 7%, to $30.0 million for the three months ended March 31, 2024 as compared to $32.3 million for the three months ended March 31, 2023. The decrease was primarily driven by decreased market activity across all divisions, especially in relation to our Directional Tool Rentals (“DTR”) division, the revenue of which increased $0.3 million and the Premium Tools Division ("PTD"), the revenue of which decreased $2.2 million. These decreases were offset by an increase in our Wellbore Optimization Tools ("WOT") division, the revenue of which increased $0.1 million.

Current wording

Tool rental revenue decreased $0.7 million, or (2)%, to $28.3 million for the three months ended June 30, 2024 as compared to $29.0 million for the three months ended June 30, 2023. The decrease was primarily driven by decreased market activity in relation to our Directional Tool Rentals (“DTR”) division, the revenue of which decreased $2.5 million. The decrease was partially offset by an increase in our Premium Tools Division ("PTD"), the revenue of which increased $1.0 million, our Wellbore Optimization Tools ("WOT") Division, the revenue of which increased $0.5 million, and the addition of Deep Casing, which added rental revenue of $0.3 million for the three months ended June 30, 2024.

Previous wording

Selling, general, and administrative expense decreased $0.5 million, or 3%, to $17.9 million for the three months ended March 31, 2024 as compared to $18.4 million for the three months ended March 31, 2023. This decrease was primarily driven by a decrease in bonus expenses. No other driver of this increase was individually significant.

Current wording

Selling, general, and administrative expense increased $1.9 million, or 11%, to $19.6 million for the three months ended June 30, 2024 as compared to $17.7 million for the three months ended June 30, 2023. This increase was primarily driven by an increase in personnel related fees and other costs associated with the public company transition. No other driver of this increase was significant.

Previous wording

Depreciation and amortization expenses increased $0.4 million, or 7%, to $5.4 million for the three months ended March 31, 2024 as compared to $5.0 million for the three months ended March 31, 2023. The increase was primarily driven by additions to the property, plant and equipment balance as of March 31, 2024.

Current wording

Depreciation and amortization expenses increased $1.0 million, or 20%, to $5.7 million for the three months ended June 30, 2024 as compared to $4.7 million for the three months ended June 30, 2023. The increase was primarily due an increase in depreciation expense resulting from a higher property, plant and equipment balance as of June 30, 2024.

Previous wording

Unrealized gain on equity securities increased by $0.3 million, or 854%, to $0.2 million for the three months ended March 31, 2024 as compared to a unrealized loss of $0.0 million for the three months ended March 31, 2023. The increase in the gain was primarily due to favorable market valuations in the first quarter of 2024 as compared to the first quarter of 2023.

Current wording

Unrealized gain on equity securities increased by $0.1 million, or 14%, to $0.5 million for the three months ended June 30, 2024 as compared to $0.4 million for the three months ended June 30, 2023 primarily due to favorable market valuations in the second quarter of 2024 as compared to the second quarter of 2023.

Previous wording

To supplement our unaudited interim consolidated financial statements, which are prepared and presented in accordance with GAAP, we use certain non-GAAP financial measures, as described below, to understand and evaluate our core operating performance. These non-GAAP financial measures, which may be different than similarly titled measures used by other companies, are presented to enhance investors’ overall understanding of our financial performance and should not be considered a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP.

Current wording

To supplement our unaudited interim consolidated financial statements, which are prepared and presented in accordance with U.S GAAP, we use certain non-GAAP financial measures, as described below, to understand and evaluate our core operating performance. These non-GAAP financial measures, which may be different than similarly titled measures used by other companies, are presented to enhance investors’ overall understanding of our financial performance and should not be considered a substitute for, or superior to, the financial information prepared and presented in accordance with U.S. GAAP.

Previous wording

This non-GAAP financial measures should not be considered in isolation from, or as substitutes for, financial information prepared in accordance with GAAP. There are a number of limitations related to the use of these non-GAAP financial measures compared to the closest comparable GAAP measure. Some of these limitations are that:

Current wording

This non-GAAP financial measures should not be considered in isolation from, or as substitutes for, financial information prepared in accordance with U.S. GAAP. There are a number of limitations related to the use of this non-GAAP financial measures compared to the closest comparable U.S.GAAP measure. Some of these limitations are that:

Previous wording

The following tables present a reconciliation of Adjusted EBITDA to net income (loss) for the three months ended March 31, 2024 and 2023 (non-recurring transaction expenses recorded to other (income) expense are presented separately within Adjusted EBITDA):

Current wording

The following tables present a reconciliation of Adjusted EBITDA to net income (loss) for the three and six months ended June 30, 2024 and 2023 (non-recurring transaction expenses recorded to other (income) expense are presented separately within Adjusted EBITDA):

Previous wording

We may use additional cash generated to execute strategic acquisitions or for general corporate purposes. We believe that our existing cash on hand, cash generated from operations and available borrowings under the Credit Facility Agreement will be sufficient for at least the next 12 months to meet working capital requirements and anticipated capital expenditures.

Current wording

At June 30, 2024, we had $6.8 million of cash and cash equivalents. Our primary sources of liquidity and capital resources are cash on hand, cash flows generated by operating activities and, if necessary, borrowings under the Credit Facility Agreement. We may use additional cash generated to execute strategic acquisitions or for general corporate purposes. We believe that our existing cash on hand, cash generated from operations and available borrowings under the Credit Facility Agreement will be sufficient for at least the next 12 months to meet working capital requirements and anticipated capital expenditures.

Previous wording

Net cash provided by operating activities for the three months ended March 31, 2023 was $7.1 million resulting from our net income of $5.7 million, adjusted for non-cash charges of $6.1 million in depreciation and amortization, including amortization of right of use assets, deferred financing costs, and debt discounts, $0.3 million of bad debt expense and $1.1 million in deferred tax expense. This was partially offset by a $4.5 million gain on rental tool recovery sales and $1.9 million in net changes from operating assets and liabilities. The $1.9 million in cash used from operating assets and liabilities is primarily due to an $1.6 million cash outflow in accounts receivable, a $1.1 million in cash out flow related to operating lease liabilities, and a $3.1 million cash outflow related to accrued expenses. This was partially offset by a $0.7 million cash inflow due to decreased prepaid expenses, and a $3.2 million cash inflow from accounts payable due to the timing of disbursements.

Current wording

Net cash provided by operating activities for the six months ended June 30, 2024 was $4.4 million resulting from our net income of $3.5 million, adjusted for non-cash charges of $13.5 million in depreciation and amortization, including amortization of right of use assets and deferred financing costs, $1.0 million of stock-based compensation expense, and $0.2 million in provisions for excess and obsolete property, plant, and equipment. This was partially offset by a $5.0 million gain on rental tool recovery sales, $0.4 million in deferred tax expense, and $7.7 million in net changes from operating assets and liabilities. The $7.7 million in cash used in operating assets and liabilities is primarily due to a $1.5 million cash outflow in accounts receivable, $2.2 million cash outflows related to operating lease liabilities, and $5.9 million cash outflows related to accounts payable and accrued liabilities due to the timing of disbursements. These outflows were offset by a $2.0 million cash inflow related to prepaid expenses. We will continue to evaluate our capital requirements for both short-term and long-term liquidity needs, which could be affected by various risks and uncertainties, including, but not limited to, the effects of the current inflationary environment, rising interest rates, and other risks detailed in the section of this Report entitled “Risk Factors.”

Previous wording

Net cash provided by operating activities for the three months ended March 31, 2024 was $3.3 million resulting from our net income of $3.1 million, adjusted for non-cash charges of $6.5 million in depreciation and amortization, including amortization of right of use assets and deferred financing costs, and $0.2 million of stock-based compensation expense. This was partially offset by a $2.8 million gain on rental tool recovery sales, $0.2 million unrealized gains on equity securities, and $3.7 million in net changes from operating assets and liabilities. The $3.7 million in cash used in operating assets and liabilities is primarily due to a $1.8 million cash outflow in accounts receivable, a $1.1 million cash outflow from operating lease liabilities as we increase right-of-use assets on hand and a $5.3 million cash outflow from accounts payable and accrued expenses as a result of the timing of disbursements. This was partially offset by a $2.8 million cash inflow in inventory as a majority of purchases remained unpaid at period end and a $1.7 million cash inflow related to decreases in the prepaid expenses balance. We will continue to evaluate our capital requirements for both short-term and long-term liquidity needs, which could be affected by various risks and uncertainties, including, but not limited to, the effects of the current inflationary environment, rising interest rates, and other risks detailed in the section of this Report entitled “Risk Factors.”

Current wording

Net cash provided by operating activities for the six months ended June 30, 2023 was $14.1 million resulting from our net income of $8.2 million, adjusted for non-cash charges of $12.0 million in depreciation and amortization, including amortization of right of use assets and deferred financing costs, $4.0 million of stock-based compensation expense as a result of the Business Combination, $0.4 million of bad debt expense and $0.5 million in deferred tax expense. This was partially offset by a $9.1 million gain on rental tool recovery sales and $1.8 million in net changes from operating assets and liabilities. The $1.8 million in cash used in operating assets and liabilities is primarily due to a $1.8 million cash outflow in accounts receivable associated with an increase in sales and higher revenues during the first six months of 2023 compared to the first six months of 2022, a $2.2 million cash outflow from operating lease liabilities as we increase right-of-use assets on hand and a $1.5 million cash outflow from prepaid expenses due to differences in timing of prepayments. This was partially offset by a $2.3 million cash inflow in accounts payable and accrued expenses due to differences in the timing of disbursements and a $1.4 million cash flow from inventory as a result of increased sales and revenues during the first six months of 2023. We will continue to evaluate our capital requirements for both short-term and long-term liquidity needs, which could be affected by various risks and uncertainties, including, but not limited to, the effects of the current inflationary environment, rising interest rates, and other risks detailed in the section of this Report entitled “Risk Factors.”

Previous wording

Net cash used in investing activities for the three months ended March 31, 2024 was $19.6 million. Purchases of property, plant, and equipment of $6.2 million and the acquisition of CTG for $18.2 million were partially offset by proceeds from rental tool recovery sales of $4.9 million.

Current wording

Net cash used in investing activities for the six months ended June 30, 2024 was $26.7 million. Purchases of property, plant, and equipment of $16.3 million and the acquisition of CTG for $18.2 million were partially offset by proceeds from rental tool recovery sales of $7.7 million.

Previous wording

Net cash used in investing activities for the three months ended March 31, 2023 was $1.2 million. Purchases of property, plant, and equipment of $7.0 million were partially offset by proceeds from rental tool recovery sales of $5.8 million and proceeds from the sale of property of $0.1 million.

Current wording

Net cash used in investing activities for the six months ended June 30, 2023 was $13.4 million. Purchases of property, plant, and equipment of $24.6 million were partially offset by proceeds from rental tool recovery sales of $11.1 million and proceeds from the sale of property of $0.1 million.

Previous wording

Net cash provided by financing activities for the three months ended March 31, 2024 was $24.6 million resulting from proceeds from the term loan of $25 million offset by $0.4 million in payments of deferred financing costs.

Current wording

Net cash provided by financing activities for the six months ended June 30, 2024 was $23.5 million resulting from proceeds from the term loan of $25 million offset by $0.6 million in payments of deferred financing costs and $0.8 million in repayments of the Term Loan.

Previous wording

Net cash used in financing activities for the three months ended March 31, 2023 was $7.5 million resulting from a net decrease in amounts outstanding under the Credit Facility Agreement of $7.5 million.

Current wording

Net cash used in financing activities for the six months ended June 30, 2023 was $4.3 million resulting from proceeds from the Business Combination and PIPE Financing, net of transaction costs, of $23.1 million, partially offset by a net decrease in amounts outstanding under the Credit Facility Agreement of $18.3 million, payments of deferred financing costs of $0.3 million and payments to holders of DTIH convertible preferred stock in connection with the Business Combination of $0.2 million.

Previous wording

For a description of our critical accounting policies and estimates, see our Annual Report on Form 10-K for the fiscal year ended December 31, 2023. In addition to the critical accounting policies and estimates disclosed in our Annual Report, accounting for Business Combinations was identified as a new critical accounting policy and estimate in the three months ended March 31, 2023.

Current wording

For a description of our critical accounting policies and estimates, see our Annual Report on Form 10-K for the fiscal year ended December 31, 2023 (the "Annual Report"). In addition to the critical accounting policies and estimates disclosed in our Annual Report, accounting for Business Combinations was identified as a new critical accounting policy and estimate in the six months ended June, 2024.

Previous wording

We account for business combinations using the acquisition method of accounting in accordance with ASC 805, Business Combinations. On the acquisition date for a business combination, we allocate the total purchase consideration for the acquisition to the assets acquired and liabilities assumed based on their respective estimated fair values on the acquisition date. Additionally, we identify and attribute fair values and estimated lives to acquired intangible assets. We identify an acquired intangible asset apart from goodwill whenever the intangible asset arises from contractual or other legal rights, or when it can be separately sold, transferred, licensed, rented, or exchanged. We recognize goodwill, if any, in the amount by which the aggregate fair value of the total purchase consideration exceeds the aggregate fair value of the net assets (including intangible assets) acquired.

Current wording

We account for business combinations using the acquisition method of accounting in accordance with ASC 805, Business Combinations. On the acquisition date for a business combination, we allocate the total purchase consideration for the acquisition to the assets acquired and liabilities assumed based on their respective estimated fair values on the acquisition date. Additionally, we identify and attribute fair values and estimated lives to acquired intangible assets. We identify an acquired intangible asset apart from goodwill whenever the intangible asset arises from contractual or other legal rights, or when it can be separately sold, transferred, licensed, rented, or exchanged.