/NOT FOR DISSEMINATION IN THE UNITED STATES OF AMERICA/
CALGARY, Nov. 5 /CNW/ - Cathedral Energy Services Income Trust (the "Trust"/TSX: CET.UN) is pleased to report its results for the three and nine months ended September 30, 2008. Dollars are in '000's except for day rates and per Trust Unit amounts.
FINANCIAL HIGHLIGHTS
$ in 000's except Three months ended Nine months ended
per Trust Unit amounts September 30 September 30
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2008 2007 2008 2007
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Revenues $ 52,686 $ 38,355 $ 128,422 $ 106,052
EBITDAS(1) $ 16,914 $ 13,775 $ 36,941 $ 33,024
Per Trust Unit - diluted $ 0.52 $ 0.43 $ 1.14 $ 1.04
EBITDAS(1) as a % of revenue 32% 36% 29% 31%
Income before taxes $ 13,022 $ 10,073 $ 25,508 $ 22,218
Net income $ 10,296 $ 7,126 $ 20,402 $ 14,498
Per Trust Unit - basic $ 0.32 $ 0.23 $ 0.64 $ 0.46
Per Trust Unit - diluted $ 0.32 $ 0.22 $ 0.63 $ 0.46
Cash distributions declared
per Trust Unit $ 0.21 $ 0.21 $ 0.63 $ 0.63
Distributable cash(1) $ 13,844 $ 10,747 $ 28,996 $ 26,950
Cash distributions declared $ 6,813 $ 6,626 $ 20,252 $ 19,756
Payout ratio(1) 49% 62% 70% 73%
Property and equipment
additions $ 15,129 $ 4,364 $ 26,564 $ 14,652
Weighted average Trust Units
outstanding:
Basic ('000) 32,384 31,515 32,091 31,318
Diluted ('000) 32,522 31,734 32,318 31,735
September December
30 2008 31 2007
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Working capital $ 17,444 $ 16,947
Long-term debt and capital lease obligations
excluding current portion $ 27,308 $ 17,441
Unitholders' equity $ 85,145 $ 79,250
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(1) Non-GAAP measure; see "NON-GAAP FINANCIAL MEASUREMENTS" within
Management's Discussion & Analysis.
MANAGEMENT'S DISCUSSION & ANALYSIS
This Management's Discussion & Analysis ("MD&A") for the three and nine months ended September 30, 2008 should be read in conjunction with the annual audited consolidated financial statements and notes thereto for the year ended December 31, 2007, as well as the MD&A in the Trust's 2007 Annual Report, and with the unaudited interim consolidated financial statements for the three and nine months ended September 30, 2008. This MD&A has been prepared as of November 5, 2008. Dollar amounts are in '000's except for day rates and per Trust Unit amounts.
FORWARD-LOOKING INFORMATION
Certain statements in this MD&A including (i) statements that may contain words such as "anticipate", "could", "expect", "seek", "may" "intend", "will", "believe", "should", "project", "forecast", "plan" and similar expressions, including the negatives thereof, (ii) statements that are based on current expectations and estimates about the markets in which the Trust/Cathedral operates and (iii) statements of belief, intentions and expectations about developments, results and events that will or may occur in the future, constitute "forward-looking statements" and are based on certain assumptions and analysis made by the Trust/Cathedral. Forward-looking statements in this MD&A include, but are not limited to, statements with respect to future capital expenditures, including the amount, nature and timing thereof; oil and natural gas prices and demand; other development trends within the oil and natural gas industry; business strategy; expansion and growth of the Trust's/Cathedral's business and operations including the Trust/Cathedral's market share and position in the oilfield service market; and other such matters. Such forward-looking statements are subject to important risks and uncertainties, which are difficult to predict and that may affect the Trust's/Cathedral's operations, including, but not limited to: the impact of general economic conditions in Canada and the United States; industry conditions, including the adoption of new environmental, safety and other laws and regulations and changes in how they are interpreted and enforced; volatility of oil and natural gas prices; oil and natural gas product supply and demand; risks inherent in the Trust's/Cathedral's ability to generate sufficient cash flow from operations to meet its current and future obligations; increased competition; the lack of availability of qualified personnel or labor unrest; fluctuation in foreign exchange or interest rates; stock market volatility; opportunities available to or pursued by the Trust/Cathedral and other factors, many of which are beyond the control of the Trust/Cathedral. The Trust's/Cathedral's actual results, performance or achievements could differ materially from those expressed in, or implied by, these forward-looking statements and, accordingly, no assurance can be given that any of the events anticipated by the forward-looking statements will transpire or occur, or if any of them do transpire or occur, what benefits the Trust/Cathedral will derive therefrom. Subject to applicable law, the Trust disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
All forward-looking statements contained in this document are expressly qualified by this cautionary statement. Further information about the factors affecting forward-looking statements is available in the Trust's current Annual Information Form and 2007 Annual Report which has been filed with Canadian provincial securities commissions and are available on www.sedar.com.
NON-GAAP FINANCIAL MEASUREMENTS
This MD&A refers to certain financial measurements that do not have any standardized meaning within Canadian Generally Accepted Accounting Principles ("GAAP") and therefore may not be comparable to similar measures provided by other companies and/or trusts.
The specific measures being referred to include the following:
i) "Gross margin" - calculated as revenues less operating expenses is
considered a primary indicator of operating performance;
ii) "EBITDAS" - defined as earnings before interest on long-term debt
and capital lease obligations, taxes, depreciation, amortization and
unit-based compensation expense; this measure is considered an
indicator of the Trust's ability to generate funds flow from
operations prior to consideration of how activities are financed,
how the results are taxed and measured and non-cash expenses (see
tabular calculation under EBITDAS);
iii) "Distributable cash" - defined as cash flow from operating
activities before changes in non-cash operating working capital less
required principal repayments on long-term debt and capital lease
obligations and maintenance capital expenditures; distributable cash
is a key performance measurement used by management, analysts and
investors to evaluate the financial performance of the Trust (see
tabular calculation under Distributions);
iv) "Maintenance capital expenditures" - refers to capital expenditures
required to maintain existing levels of service but excludes
replacement cost of lost-in-hole equipment to the extent the
replacement equipment is financed from the proceeds on disposal of
the equipment lost-in-hole;
v) "Payout ratio" - calculated as cash distributions declared divided
by distributable cash, is an indicator of the Trust's ability to
fund its distributions from the Trust's ongoing operations excluding
changes in non-cash working capital (see tabular calculation under
Distributions and distributable cash definition above); and
vi) "Funds from operations" - calculated as cash flow from operating
activities before changes in non-cash operating working capital, is
considered an indicator of the Trust's ability to generate funds
flow from operations but excluding changes in non-cash operating
working capital which is financed using the Trust's bank
indebtedness/line of credit facility.
OVERVIEW
As result of steady improvement in the Canadian operating environment combined with further expansion in the U.S., the Trust generated Q3 2008 revenues of $52,686 and year-to-date revenues of $128,422, representing the highest level of Q3 revenues in the Trust's history. Within the oilfield service sector, the directional drilling sub-sector has been a very active area with a growing number of wells being drilled directionally/horizontally. In resource plays such as the Bakken (southeast Saskatchewan) and Montney (northeast B.C.), operators are using the combination of horizontally drilled wells and multi-stage fracturing to increase reservoir recoveries and it is expected that such completion techniques will continue to expand the number of horizontal wells drilled. The 2008 Q3 revenues were led by the Trust's directional drilling division which represented 77.6% (2007 Q3 - 75.8%) of 2008 Q3 total revenues. The Trust's U.S. drilling division grew significantly over the 2007 Q3 period, generating period revenues 79.8% higher than in 2007 and on a year-to-date basis increasing revenues by 46.5% over 2007. Both the Trust's production testing and wireline divisions improved period and year-to-date revenues as result the commencement and expansion of U.S. operations. This increase was also supported by the increasing momentum within the natural gas drilling activity in Western Canada. 2008 Q3 EBITDAS was $16,914 ($0.52 per diluted Trust Unit) which represents a $3,139 or 22.8% increase from $13,775 ($0.43 per diluted Trust Unit) in 2007, year-to-date 2008 EBITDAS reached new levels totaling $36,941 compared to 33,024 in 2007. For the three and nine month period ended September 30, 2008 net income was $10,296 ($0.32 per diluted Trust Unit) and $20,402 ($0.63 per diluted trust unit) respectively, which compares to $7,126 ($0.22 per diluted Trust Unit) and $14,498 ($0.46 per diluted Trust Unit) respectively in 2007.
RESULTS OF OPERATIONS - THREE MONTHS ENDED SEPTEMBER 30, 2008
Three months ended September 30, 2008
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Directional Production
Revenues drilling(1) Wireline testing Total
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Canada $ 22,992 $ 5,069 $ 3,814 $ 31,875
United States 17,917 2,068 826 20,811
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$ 40,909 $ 7,137 $ 4,640 $ 52,686
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Three months ended September 30, 2007
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Directional Production
Revenues drilling(1) Wireline testing Total
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Canada $ 19,112 $ 6,009 $ 2,875 $ 27,996
United States 9,964 395 - 10,359
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$ 29,076 $ 6,404 $ 2,875 $ 38,355
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(1) including rental of related equipment
The strengthening Canadian operating environment combined with the Trust's continued growth in the U.S. markets, resulted in record revenues of $52,686 for the quarter. Directional drilling activity days increased 34.1% from 3,287 in 2007 Q3 to 4,409 in 2008 Q3. The average day rate received for providing directional drilling services increased 5.0% on a quarter-over-quarter basis to $9,098 (2007 - $8,667). The increase in the directional drilling average day rate is the net result of Canadian day rate decreases due to continued market pressures offset by significantly increased days and corresponding day rates in the U.S. market, where U.S. industry activity levels hit a multi-year high in late August. While directional drilling activity days in Canada increased 20.5%, the U.S. activity increased 57.5% due to additional equipment, increased activity levels within the existing client base and was further supplemented by the expansion of the U.S. client base. For 2008 Q3 U.S. activity days represented 43.4% of total activity compared to 36.9% of total activity during the same period in 2007. On a quarter-over-quarter basis revenues from the production testing division increased 61.4% due to the addition of 6 new testing units and as natural gas drilling regained momentum over the summer months. As previously announced the Trust expanded its production testing business to the U.S. Rocky Mountain region, establishing a base office in Grand Junction, Colorado, while operating primarily in Wyoming. In early 2008 Q2 one production testing unit was transferred to the U.S. operations and it commenced generating revenues in late July 2008. Six additional testing units came on line in late September 2008. The Trust's wireline division had a quarter-over-quarter increase in revenues of 11.4% with the increase being due to the continued expansion of the U.S. wireline division in 2008 Q3. In early 2008 the Trust established a second U.S. operations base for its wireline division in Dickinson, North Dakota with one wireline unit. During 2008 Q3 a second wireline unit was transferred from the Canadian fleet to the Dickinson operations base.
Gross margin - The gross margin for 2008 Q3 was 46.5% which compares to 51.5% in 2007 Q3. The decrease is primarily attributed increased directional field labour rates and increased equipment rental charges in the U.S. due to the increase in the quarter-over-quarter activity levels.
General and administrative expenses - General and administrative expenses increased from $6,533 in 2007 Q3 to $7,943 in 2008 Q3 - an increase of $1,410. The increase was the net result of i) increased personnel; ii) office/shop rental costs; iii) increase in activity levels for the U.S. directional drilling division; iv) increased costs associated with the establishment of additional U.S. operating bases and v) decreased professional fees, during Q3 2007 approximately $300 in professional fees related to an aborted corporate acquisition was incurred. As a percentage of revenues, general and administrative expenses were 15.1% in 2008 Q3 and 17.0% in 2007 Q3.
Depreciation and amortization - Depreciation and amortization for 2008 Q3 was $3,411 which compares to $3,110 in 2007 Q3. Despite a significant amount of capital expenditures on the Trust's depreciable asset base over the past 12 months, depreciation on a quarter-over-quarter did not increase significantly due to the change in accounting method for foreign currency translation of the Trust's U.S. operations (refer to note 2 to the consolidated financial statements for the period ended September 30, 2008). As a percentage of revenues, depreciation amounted to 6.5% for 2008 and 8.1% for 2007.
Interest expense - Interest expense related to long-term debt and capital leases decreased from $269 in 2007 Q3 to $266 in 2008 Q3 due to the combined net effect of: i) an increase in the average level of debt outstanding; and ii) a decrease in the effective interest rate on the related debt. Other interest expense, which decreased marginally on a quarter-over-quarter basis from $120 in 2007 Q3 to $115 in 2008 Q3, relates mainly to interest charges on use by the Trust of its bank indebtedness/line of credit facility.
Foreign exchange gain/loss - The Trust's foreign exchange gain/loss has changed from a $302 loss in 2007 Q3 to a $21 loss in 2008 Q3. Effective January 1, 2008, the Trust changed the classification of its U.S. operations to self-sustaining (as opposed to integrated) resulting in the financial statements being translated using the current rate method as opposed to the temporal method (refer to changes in accounting policies section).
Unit-based compensation expense - For 2008 Q3 the Trust had unit-based compensation expense of $215 which compares to $323 for 2007 Q3. The value of the options is being amortized against income over the three-year vesting period.
Gain on disposal of property and equipment - During 2008 Q3 the Trust had a gain on disposal of property and equipment of $519, which compares to a gain of $973 in 2007 Q3. The Trust's gains are mainly due to recoveries of lost-in-hole equipment costs including previously expensed depreciation on the related assets. The timing of lost-in-hole recoveries is not in the control of the Trust and therefore can fluctuate significantly from quarter-to-quarter.
Taxes - For 2008 Q3, the Trust had a tax expense of $2,726 (effective tax rate of 20.9%) which compares to $2,947 (effective tax rate of 29.3%) for 2007 Q3. The decline in the effective tax rate is due to a higher portion of the Trust's pre-tax income being allocated to unitholders combined with a reduction in Canadian statutory tax rates.
RESULTS OF OPERATIONS - NINE MONTHS ENDED SEPTEMBER 30, 2008
Nine months ended September 30, 2008
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Directional Production
Revenues drilling(1) Wireline testing Total
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Canada $ 55,335 $ 14,089 $ 9,001 $ 78,425
United States 44,444 4,727 826 49,997
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$ 99,779 $ 18,816 $ 9,827 $ 128,422
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Nine months ended September 30, 2007
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Directional Production
Revenues drilling(1) Wireline testing Total
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Canada $ 50,495 $ 16,154 $ 8,681 $ 75,330
United States 30,327 395 - 30,722
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$ 80,822 $ 16,549 $ 8,681 $ 106,052
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(1) including rental of related equipment
2008 Q3 year-to-date revenues were $128,422 which represented an increase of $22,370 or 21.1% over 2007 Q3 year-to-date revenues of $106,052. A modest year-to-date improvement in Canadian activity levels was supported by significant growth and expansion in the U.S. operations.
The directional drilling division revenues (including rentals and inspection revenues) have increased from $80,822 in 2007 to $99,779 in 2008. This increase is the net result of: i) an increase in activity days from 8,804 in 2007 to 11,191 in 2008; and ii) a decrease in the average day rate from $8,959 in 2007 to $8,729 in 2008. On a year-to-date basis Canadian activity days increased from 5,267 to 6,042 while the U.S. activity days increased from 3,537 to 5,149 a 45.6% improvement. The U.S. Q3 year-to-date directional revenues increased 46.5% on a year-over-year basis.
Expansion to the U.S. combined with the modest increase in natural gas drilling expenditures in the western Canada market resulted in increased revenues for the Trust's production testing division while the wireline division's Canadian revenues were reduced due to the transfer of units to the U.S. The Trust's production testing division contributed $9,827 in revenues during 2008 Q3 year-to-date which is a 13.2% increase over 2007 revenues of $8,681. The wireline division generated revenues of $18,816 for 2008 Q3 year-to-date which compares to $16,549 for 2007 which represents a 13.7% increase; this increase was the result of the expansion of wireline operations to the U.S. commencing in 2007 Q3.
Gross margin - The gross margin for 2008 was 46.1%, which compares to 49.3% in 2007. The decrease is attributed to number of factors including: i) a decrease in the average day rate in providing directional drilling services; ii) increased directional field labour rates and iii) equipment rental and repair charges due to the increase in the year over year activity levels in the U.S.
General and administrative expenses - General and administrative expenses increased from $19,547 in 2007 to $22,965 in 2008 - an increase of $3,418. The increase was the net result of i) increased personnel; ii) increases in office/shop rental costs; iii) increase in activity levels for the U.S. directional drilling division; iv) increased costs associated with the establishment of additional U.S. operating bases and v) decreased professional fees, during Q3 2007 approximately $300 in professional fees related to an aborted corporate acquisition was incurred. As a percentage of revenues, general and administrative expenses were 17.9% in 2008 and 18.4% in 2007.
Depreciation and amortization - Depreciation and amortization for 2008 was $9,281 compared to $8,809 in 2007. The $472 increase is related to the Trust's investment in property and equipment over the past 12 months. Despite a significant amount of capital expenditures on the Trust's depreciable asset base over the past 12 months depreciation on a quarter-over-quarter did not increase significantly due to the change in accounting method for foreign currency translation of the Trust's U.S. operations (refer to note 2 to the consolidated financial statements for the period ended June 30, 2008). As a percentage of revenues, depreciation and amortization amounted to 7.2% for 2008 and 8.3 % for 2007.
Interest expense - Interest on long-term debt and capital lease obligations has decreased from $792 in 2007 to $785 in 2008 due to the combined net effect of: i) an increase in the average level of debt outstanding; and ii) a decrease in the effective interest rate on the related debt. Other interest expense, which increased on a year-over-year basis from $282 in 2007 Q3 to $290 in 2008 Q3, relates mainly to interest charges incurred on use by the Trust of its bank indebtedness/line of credit facility.
Foreign exchange gain/loss - The Trust's foreign exchange loss has decreased from $586 in 2007 to a loss of $20 in 2008. Effective January 1, 2008, the Trust changed the classification of its U.S. operations to self-sustaining (as opposed to integrated) resulting in the financial statements being translated using the current rate method as opposed to the temporal method (refer to changes in accounting policies section).
Unit-based compensation expense - Unit-based compensation expense for 2008 was $1,367 which compares to $1,205 in 2007. The Trust Unit options granted are valued using the Black-Scholes option pricing model and such value is being amortized against income over their three-year vesting period.
Gain on disposal of property and equipment - During 2008 Q3 YTD the Trust had a gain on disposal of property and equipment of $1,059 which compares to $1,157 in 2007. These gains are mainly due to recoveries of lost-in-hole equipment costs, including previously expensed depreciation on the related assets. The timing of lost-in-hole recoveries is not in the control of the Trust and therefore can fluctuate significantly from quarter-to-quarter and year-to-year basis.
Taxes - For 2008, the Trust had a tax expense of $5,106 (effective tax rate of 20.0%) which compares to $7,720 (effective tax rate of 34.8%) in 2007. The 2007 tax provision includes a cumulative non-cash adjustment of $3,318 related to the substantive enactment of the previously announced changes to the taxation of income and royalty trusts, other than real estate investment trusts. Removing the 2007 adjustment noted above the effective tax rate for 2007 was 18.7%. The adjusted effective tax rate has increased mainly due to the continuing growth in the U.S. operations which are taxed at a higher rate as well as some expenses not being deductible for tax purposes.
OTHER COMPREHENSIVE INCOME
Other comprehensive income ("OCI") for the three and nine month period ended September 30, 2008 amounted to $959 and $1,393, respectively. The year-to-date gain is entirely comprised of an unrealized foreign currency translation gain, and reflects the changing value of the Canadian dollar compared to the U.S. dollar and the impact on the translation of the U.S. subsidiary.
LIQUIDITY AND CAPITAL RESOURCES
The Trust's principal source of liquidity is cash generated from operations. The Trust also has the ability to fund liquidity requirements through its credit facility and the issuance of debt and/or equity. At September 30, 2008, the Trust had an operating line of credit with a major Canadian bank in the amount of $12,500 (December 31, 2007 - $12,500) of which $7,123 (December 31, 2007 - $6,030) was drawn. During the quarter, the Trust increased the authorized amount on its bank revolving term loan to $30,000 from the previously approved $25,000; drawings on this facility as at September 30, 2008 totaled $27,000 (2007 - $17,000). In addition, at September 30, 2008 the Trust had obligations under capital leases in the amount of $301 (December 31, 2007 - $451) and other long-term debt of $248 (December 31, 2007 - $283).
On October 31, 2008 the Trust renegotiated its credit facility. The revised credit facility provides for a $20,000 (previously $12,500) operating loan facility plus a revolving-term loan facility with an authorized amount of $45,000 (previously $30,000). The operating loan bears interest at the bank's prime plus 0.25% per annum and the revolving term facility bears interest at the bank's prime plus 0.75% per annum. The credit facility matures June 30, 2009. Prior to maturity the borrower may convert the revolving term loan to a non-revolving term loan repayable monthly over 36 months with interest only for the first 12 months. The credit facility is secured by a general security agreement over all present and future personal property with a first charge over certain real estate assets and is subject to certain covenants regarding the payment of dividends, cash distributions and the maintenance of certain financial ratios.
Operating activities - Cash flow used in operating activities for the three months ended September 30, 2008 totaled $427 compared to $3,156 cash flow provided by operating activities during the same period in 2007. Cash flow from operating activities for the nine months ended September 30, 2008 was $24,051 (2007- $27,228). The Trust has a strong working capital position at September 30, 2008 at $17,444 which compares to $16,947 at December 31, 2007.
Investing activities - Cash used in investing activities for the three and nine months ended September 30, 2008 amounted to $5,161 and $16,425, respectively, which compares to $6,908 and $15,254 for the same period in 2007. During 2008 Q3 the Trust invested an additional $15,129 (2007 - $4,364) in property and equipment for a total Q3 year-to-date investment of $26,564 (2007 - $14,652). The significant additions included expansion of the overall mud motor and drill collar fleet, MWD components which will be used in the 2008 build out of 20 EM-MWD systems, of which 8 were operational to September 30, 2008, final progress payments on the construction of a mud motor facility in Nisku, Alberta and progress payments on the construction of new production testing units. At September 30, 2008, the Trust's operating entities had 86 MWD systems, 25 production testing units and 28 wireline units. The Trust's 2008 capital budget has been increased by $6,600 to $39,900; this increase is related to the purchase of land and building in Calgary. In due course, we will be consolidating our Calgary operating facilities. The 2008 capital budget includes maintenance capital in the amount of $746. The Trust expects its 2008 capital budget to be financed by way of a combination of cash flow from operations and bank debt.
Financing activities - For the three months ended September 30, 2008 financing activities provided $5,994 of cash flow which compares to $3,616 for the three months ended September 30, 2007. Cash used in financing activities for the nine months ended September 30, 2008 amounted to $4,376 (2007 - $12,883) in 2007. Distributions paid to Unitholders for 2008 Q3 amounted to $6,797 (2007 - $6,616) bringing year-to-date distributions paid for the nine months ended September 30, 2008 to $20,188 (2007 - $21,258). The increase in distributions paid on a quarter-over-quarter basis is the result of an increase in the number of Trust Units outstanding while the year-to-date decrease is the net effect of the increases number of shares outstanding offset by the payment of a "special" $0.05 per Trust Unit cash distribution declared in December 2006 ($1,549) and payable January 15, 2007 - there was no such "special" cash distribution paid in 2008. The Trust's "regular" monthly distribution has been at $0.07 per Trust Unit since September 2006. Cash distributions paid have been financed from cash flow from operations and management currently expects future cash distributions will also be financed from cash flow from operations. For the nine months ended September 30, 2008 financing cash inflows resulted from: i) $4,904 (2007 - $2,916) cash received on the exercise of Trust Unit options, ii) an $10,047 increase in new long-term debt (2007 - $2,173) and iii) a $1,093 increase in bank indebtedness (2007 - $3,545). Offsetting these inflows were cash outflows of $232 (2007 - $259) for the repayment of long-term debt and capital lease obligations. At November 5, 2008, the Trust had 32,582,022 Trust Units and 3,134,764 Trust Unit options outstanding.
Contractual obligations - In the normal course of business, the Trust incurs contractual obligations and those obligations are disclosed in the Trust's MD&A for the year ended December 31, 2007. As at September 30, 2008 the Trust's commitment to purchase property and equipment and operating supplies is approximately $23,405. The commitments are expected to be financed from a combination of cash flow from operations and bank debt.
CONTROLS AND PROCEDURES
Management is responsible for establishing and maintaining adequate disclosure controls and internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable, but not absolute, assurance regarding the reliability of financial reporting and the preparation of consolidated financial statements for external reporting purposes in accordance with GAAP. Internal control over financial reporting may not prevent or detect fraud or misstatements because of limitations inherent in any system of internal control. There were no significant changes in the design or effectiveness of the Trust's disclosure controls or internal controls over financial reporting in the third quarter of 2008.
CHANGE IN FOREIGN CURRENCY TRANSLATION
Prior to January 1, 2008, the Trust's U.S. operations were classified as integrated operations and were translated using the temporal method with all translation gains (losses) included in the determination of net income for the current period. Effective January 1, 2008, the Trust changed the classification of its U.S. operations to self-sustaining resulting in the financial statements being translated using the current rate method as opposed to the temporal method. Under the current rate method of translation, revenues and expenses of the subsidiary are translated at the rates in effect at the time of the transactions while assets and liabilities are translated at the current exchange rate in effect at the balance sheet date. Upon consolidation of the U.S. operations, gains and losses due to fluctuations in the foreign currency exchange rates are deferred on the balance sheet as a separate component of Other Comprehensive Income ("OCI"). Accumulated other comprehensive income (loss) forms part of Unitholders' equity. This change in foreign currency translation has been applied prospectively and resulted in a foreign exchange loss of $1,894 being deferred and recorded as OCI as at January 1, 2008.
NEW ACCOUNTING POLICIES
Effective January 1, 2008, The Trust adopted the Canadian Institute of Chartered Accountants ("CICA") section 3031, "Inventories", section 1535, "Capital Disclosures", and section 3861, "Financial Instruments - Disclosure and Presentation". These standards have been adopted prospectively. For the nine months ended September 30, 2008, the adoption of these standards did not have an effect on the Trust's results, financial position or cash flows but additional disclosures have been provided in the notes to the interim financial statements.
In February 2008, The Canadian Accounting Standards Board confirmed that the use of International Financial Reporting Standards ("IFRS") will be required in Canada for publicly accountable profit oriented enterprises for fiscal years beginning on or after January 1, 2011. The Trust will be required to report using IFRS beginning January 1, 2011. The Trust has begun the process of evaluating the impact of the change to IFRS.
During the three months ended September 30, 2008 the Trust issued Phantom Options and therefore adopted a new accounting policy with respect to these options. Awards under the Phantom Option plan are granted in the form of stock appreciation rights ("SARs"). Such awards are payable in cash, and compensation expense is recognized as the SARs change in market value based on the fair market value of the Trust's units at the end of each reporting period.
BUSINESS RISKS
The MD&A for the year ended December 31, 2007, which is included in the Trust's 2007 Annual Report, includes an overview on business risks associated with the Trust and its operating entities Those business risks remain in effect as at September 30, 2008 as well as the following additional risks:
Risks of foreign operations
The Trust is currently pursuing providing oilfield services in Venezuela. Working outside of Canada gives rise to the risk of dealing with business and political systems that are different than the Trust is accustomed to in Canada. The Trust expects to hire employees and consultants who have experience working in the international arena and it is committed to recruiting qualified resident nationals on the staff of its international operations. In addition, the Trust is committed to continuing expansion of its North American market to mitigate this risk. These potential risks include: expropriation or nationalization; civil insurrection; labour unrest; strikes and other political risks; fluctuation in foreign currency and exchange control; increases in duties and taxes; and changes in laws and policies governing operations of foreign based companies. Those business risks remain in effect as at September 30, 2008. At September 30, 2008, the Trust has a net investment in its Venezuela subsidiary of $1,700.
Foreign currency risk
In addition to foreign currency risk associated with U.S. dollar, the Trust is now exposed to foreign currency fluctuations in relation to Venezuelan Bolivar. The Trust's foreign currency policy is to monitor foreign current risk exposure in its areas of operations and mitigate that risk where possible by matching foreign currency denominated expense with revenues denominated in foreign currencies. The Trust strives to maintain limited amounts of cash and cash equivalents denominated in foreign currency on hand and attempts to further limit its exposure to foreign currency through collecting and paying foreign currency denominated balance in a timely fashion.
DISTRIBUTIONS
The Administrator of the Trust reviews the level and nature of distributions (cash, in-kind or a combination of cash and in-kind) on an on-going basis giving consideration to current performance, historical and future trends in the business, the expected sustainability of those trends and enacted tax legislation which will affect future taxes payable as well as required long-term debt repayments, maintenance capital expenditures required to sustain performance and future growth capital expenditures. Despite the seasonality of the Trust's business, it is the Trust's policy to pay consistent distributions throughout the year. The Trust's operations in western Canada are subject to seasonality as activity levels in the oilfield services industry are generally lower during "spring breakup" which normally commences in late March and continues through to May (mainly in the Q2 of the fiscal year). The net result of the Trust's policy to pay consistent distributions throughout the year despite the seasonality of its operations is that in Q2 cash distributions declared may exceed net income, cash flow from operating activities and/or distributable cash for the quarter.
Distributable cash is a supplemental non-GAAP financial measurement that management considers a key measure in demonstrating the Trust's ability to generate the cash necessary to pay distributions, fund future capital investments and the repayment of long-term debt and capital lease obligations. Distributable cash as presented is not intended to represent operating profit for the period nor should it be viewed as an alternative to operating profit, net income or other measures of financial performance calculated in accordance with Canadian GAAP. Distributable cash does not have any standardized meaning within Canadian GAAP and therefore may not be comparable to similar measures presented by other trusts (refer to Non-GAAP Financial Measurements).
The following is a comparison of cash distributions declared and certain defined amounts:
Fiscal year
2008 ---------------------
2008 Q3 Q3 YTD 2007 2006
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Cash flow from operating
activities $ (427) $ 24,051 $ 39,729 $ 39,929
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Net income for the period $ 10,296 $ 20,402 $ 24,863 $ 35,348
-------------------------------------------------------------------------
Distributable cash $ 13,844 $ 28,996 $ 38,993 $ 45,972
-------------------------------------------------------------------------
Cash distributions declared $ 6,813 $ 20,252 $ 26,405 $ 24,681
-------------------------------------------------------------------------
Excess (shortfall) of cash
flow from operating
activities over cash
distributions declared $ (7,240) $ 3,799 $ 13,324 $ 15,248
-------------------------------------------------------------------------
Excess (short-fall) of net
income over cash
distributions declared $ 3,483 $ 150 $ (1,542) $ 10,667
-------------------------------------------------------------------------
Excess of distributable
cash over cash
distributions declared $ 7,031 $ 8,744 $ 12,588 $ 21,291
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Net income includes significant non-cash charges, which for the three months ended September 30, 2008 were $4,203, for the nine months ended September 30, 2008 were $10,557 and for the years ended December 31, 2007 and 2006 were $16,607 and $13,429, respectively, that do not impact cash flow. Included in these non-cash charges is a provision for depreciation that is not a reasonable proxy for the cost of maintaining existing levels of service (i.e. maintenance capital expenditures). Therefore, in certain periods cash distributions declared may exceed net income. The Trustees review distributable cash over a cumulative annualized period rather than a specific quarter. On an annualized basis it is not management's intent to distribute 100% of distributable cash.
Distributable cash for the three and nine months ended September 30, 2008 and 2007 is calculated as follows:
Three months ended Nine months ended
September 30 September 30
--------------------- ---------------------
2008 2007 2008 2007
-------------------------------------------------------------------------
Cash flow from operating
activities $ (427) $ 3,156 $ 24,051 $ 27,228
Add: - changes in non-cash
operating working
capital(1) 14,407 7,858 5,849 175
Less: - required principal
repayments on
long-term debt and
capital lease
obligations (78) (67) (232) (242)
- maintenance capital
expenditures (58) (200) (672) (211)
-------------------------------------------------------------------------
Distributable cash $ 13,844 $ 10,747 $ 28,996 $ 26,950
-------------------------------------------------------------------------
Cash distributions declared $ 6,813 $ 6,626 $ 20,252 $ 19,756
-------------------------------------------------------------------------
Payout ratio 49% 62% 70% 73%
-------------------------------------------------------------------------
-------------------------------------------------------------------------
(1) Changes in non-cash operating working capital have been added back
(deducted) as such changes are financed using the Trust's bank
indebtedness/line of credit facility. In addition, if changes in non-
cash operating working capital were not excluded from the calculation
of distributable cash it would introduce cash flow variability and
affect underlying cash flow from operating activities.
EBITDAS:
EBITDAS is calculated as follows:
Three months ended Nine months ended
September 30 September 30
--------------------- ---------------------
2008 2007 2008 2007
-------------------------------------------------------------------------
EBITDAS as reported $ 16,914 $ 13,775 $ 36,941 $ 33,024
Deduct: - depreciation and
amortization 3,411 3,110 9,281 8,809
- interest - long-term
debt and capital
lease obligations 266 269 785 792
- unit-based
compensation
expense 215 323 1,367 1,205
- provision for taxes 2,726 2,947 5,106 7,720
-------------------------------------------------------------------------
Net income for the period $ 10,296 $ 7,126 $ 20,402 $ 14,498
-------------------------------------------------------------------------
-------------------------------------------------------------------------
RELATED PARTY TRANSACTIONS
A Trustee of the Trust and Director of Cathedral Energy Services Ltd., is
a partner in a law firm and, through that law firm, is involved in providing
and managing the legal services provided to the Trust at market rates. The
total amount paid for these legal services for the nine months ended
September 30, 2008 was $21 (2007 - $31), respectively.
SUMMARY OF QUARTERLY RESULTS
-------------------------------------------------------------------------
Three
month
period Sep Jun Mar Dec Sep Jun Mar Dec
ended 2008 2008 2008 2007 2007 2007 2007 2006
-------------------------------------------------------------------------
Revenues $52,686 $29,483 $46,253 $39,054 $38,355 $24,985 $42,712 $35,327
EBITDAS 16,914 4,632 15,395 13,707 13,775 4,837 14,412 13,046
Net income
(loss) 10,296 189 9,917 10,365 7,126 (2,415) 9,787 8,127
Net income
(loss)
per Trust
Unit -
basic 0.32 0.01 0.31 0.33 0.23 (0.08) 0.32 0.26
Net Income
(loss) per
Trust Unit
- diluted 0.32 0.01 0.31 0.33 0.22 (0.08) 0.31 0.26
Cash
distri-
butions
declared
per Trust
Unit 0.21 0.21 0.21 0.21 0.21 0.21 0.21 0.26
-------------------------------------------------------------------------
OUTLOOK
In the near term there will be a degree of uncertainty and volatility in the overall market place due to the current global capital and debt issues as well as the overall state of the world's economies. The price of oil has recently dropped significantly and the effect on producers has been somewhat buffered by the strengthening of the U.S. dollar. As a result, in the near term the Trust's activity levels may be affected negatively. That said, the Trust's management considers the long-term fundamentals for the supply and demand for energy to be positive for the oilfield services sector.
The Trust continues its 2008 build out of 20 EM-MWD systems of which 8 were completed by the end of 2008 Q3; the remaining 12 will be operational by the end of 2008. To date in 2008, we have added 9 EM-MWD systems to the U.S. operations and due to demand we expect to add 4 more to the U.S. market before the end of 2008. At the end of 2008 we expect to have 37 EM-MWD systems operating in the U.S. We continue to see significant advances in the capabilities of our EM-MWD, in particular in the area of signal detection which allows us to drill deeper and into areas where EM has not been successful before.
In October 2008 another electric line wireline unit was transferred to the U.S. fleet. The Trust now has 3 wireline units based in Dickinson, North Dakota and 2 wireline units based in Casper, Wyoming. We will continue to monitor customer demand as to the need for additional wireline units in the U.S.
A seventh production testing unit was delivered to the U.S. operations in October 2008 and due to customer demand 4 additional production testing units have been ordered for the U.S. market and delivery is scheduled for late 2009 Q1. In the Canadian market, we had originally expected to receive 5 production testing units by the end of October 2008 and now deliveries are expected in November and December 2008.
The Trust continues to actively pursue opportunities to offer an expanded range of services to its customers, increase its market share, enter new geographic territories and make strategic acquisitions. Cathedral is pursuing directional drilling business opportunities in South America. A bid has been submitted, the bid evaluation process continues and we will in due course be advised as to the outcome of the bidding process.
CONSOLIDATED BALANCE SHEETS
Dollars in 000's September December
(unaudited) 30 2008 31 2007
-------------------------------------------------------------------------
ASSETS
Current assets:
Cash and cash equivalents $ 4,556 $ 1,306
Accounts receivable 47,331 37,359
Taxes recoverable 1,260 -
Inventory 6,700 3,584
Prepaid expenses and deposits 1,400 781
-------------------------------------------------------------------------
61,247 43,030
Property and equipment 83,109 67,639
Intangibles 478 588
Goodwill 19,775 19,775
-------------------------------------------------------------------------
$ 164,609 $ 131,032
-------------------------------------------------------------------------
-------------------------------------------------------------------------
LIABILITIES AND UNITHOLDERS' EQUITY
Current liabilities:
Bank Indebtedness $ 7,123 $ 6,030
Accounts payable and accrued liabilities 34,158 17,203
Distribution payable to Unitholders 2,281 2,216
Taxes payable - 341
Current portion of capital lease obligations 141 194
Current portion of long-term debt 100 99
-------------------------------------------------------------------------
43,803 26,083
Capital lease obligations 160 257
Long-term debt 27,148 17,184
Future income taxes 8,353 8,258
Unitholders' equity:
Unitholders' capital 54,311 48,193
Contributed surplus 2,333 2,205
Retained earnings 29,002 28,852
Accumulated other comprehensive loss (501) -
-------------------------------------------------------------------------
85,145 79,250
-------------------------------------------------------------------------
$ 164,609 $ 131,032
-------------------------------------------------------------------------
-------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF OPERATIONS AND RETAINED EARNINGS
Dollars in 000's except per Trust Unit amounts
(unaudited)
Three months ended Nine months ended
September 30 September 30
--------------------- ---------------------
2008 2007 2008 2007
-------------------------------------------------------------------------
Revenues $ 52,686 $ 38,355 $ 128,422 $ 106,052
Expenses :
Operating 28,212 18,598 69,265 53,770
General and administrative 7,943 6,533 22,965 19,547
Depreciation and amortization 3,411 3,110 9,281 8,809
Interest - long-term debt and
capital lease obligations 266 269 785 792
Interest - other 115 120 290 282
Foreign exchange loss 21 302 20 586
Unit-based compensation
expense 215 323 1,367 1,205
-------------------------------------------------------------------------
40,183 29,255 103,973 84,991
-------------------------------------------------------------------------
12,503 9,100 24,449 21,061
Gain on disposal of property
and equipment 519 973 1,059 1,157
-------------------------------------------------------------------------
Income before taxes 13,022 10,073 25,508 22,218
Taxes:
Current 2,122 1,426 5,131 3,476
Future (reduction) 604 1,521 (25) 4,244
-------------------------------------------------------------------------
2,726 2,947 5,106 7,720
-------------------------------------------------------------------------
Net income for the period 10,296 7,126 20,402 14,498
Retained earnings, beginning
of period 25,519 24,636 28,852 30,394
Less: distributions declared (6,813) (6,626) (20,252) (19,756)
-------------------------------------------------------------------------
Retained earnings, end of
period $ 29,002 $ 25,136 $ 29,002 $ 25,136
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Net income per Trust Unit:
Basic $ 0.32 $ 0.23 $ 0.64 $ 0.46
Diluted $ 0.32 $ 0.22 $ 0.63 $ 0.46
-------------------------------------------------------------------------
-------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME AND ACCUMULATED OTHER
COMPREHENSIVE LOSS
Dollars in 000's
(unaudited)
Three months ended Nine months ended
September 30 September 30
--------------------- ---------------------
2008 2007 2008 2007
-------------------------------------------------------------------------
Net income for the period $ 10,296 $ - $ 20,402 $ -
Other comprehensive income:
Unrealized foreign exchange
gain on translation of
self-sustaining foreign
operations 959 - 1,393 -
-------------------------------------------------------------------------
Comprehensive income for
the period $ 11,255 $ - $ 21,795 $ -
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Accumulated other
comprehensive income (loss),
beginning of period $ (1,460) $ - $ - $ -
Adjustment for change in
foreign currency
translation method - - (1,894) -
Other comprehensive income 959 - 1,393 -
-------------------------------------------------------------------------
Accumulated other
comprehensive loss, end of
period $ (501) $ - $ (501) $ -
-------------------------------------------------------------------------
-------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
Dollars in 000's
(unaudited)
Three months ended Nine months ended
September 30 September 30
--------------------- ---------------------
2008 2007 2008 2007
-------------------------------------------------------------------------
Cash provided by (used in):
Operating activities:
Net income for the period $ 10,296 $ 7,126 $ 20,402 $ 14,498
Items not involving cash:
Depreciation and
amortization 3,411 3,110 9,281 8,809
Future taxes (reduction) 604 1,521 (25) 4,244
Unrealized foreign exchange
gain (loss) (27) (93) (66) (196)
Unit-based compensation
expense 215 323 1,367 1,205
Gain on disposal of property
and equipment (519) (973) (1,059) (1,157)
-------------------------------------------------------------------------
13,980 11,014 29,900 27,403
Changes in non-cash operating
working capital (14,407) (7,858) (5,849) (175)
-------------------------------------------------------------------------
(427) 3,156 24,051 27,228
-------------------------------------------------------------------------
Investing activities:
Property and equipment
additions (15,129) (4,364) (26,564) (14,652)
Proceeds on disposal of
property and equipment 1,047 1,586 1,849 2,100
Change in other assets - 110 - -
Changes in non-cash investing
working capital 8,921 (4,240) 8,290 (2,702)
-------------------------------------------------------------------------
(5,161) (6,908) (16,425) (15,254)
-------------------------------------------------------------------------
Financing activities:
Distributions paid to
Unitholders (6,797) (6,616) (20,188) (21,258)
Advances under long-term debt 10,000 2,000 10,047 2,173
Repayment of long-term debt (31) (20) (82) (93)
Repayment of capital lease
obligations (47) (47) (150) (166)
Proceeds on exercise of Trust
Unit options 776 524 4,904 2,916
Increase in bank indebtedness 2,093 7,775 1,093 3,545
-------------------------------------------------------------------------
5,994 3,616 (4,376) (12,883)
-------------------------------------------------------------------------
Change in cash and cash
equivalents 406 (136) 3,250 (909)
Cash and cash equivalents,
beginning of period 4,150 781 1,306 1,554
-------------------------------------------------------------------------
Cash and cash equivalents,
end of period $ 4,556 $ 645 $ 4,556 $ 645
-------------------------------------------------------------------------
-------------------------------------------------------------------------
Cathedral Energy Services Income Trust is a limited purpose trust which owns the securities of Cathedral Energy Services Ltd. and Cathedral Energy Services Limited Partnership (collectively "Cathedral") represents the right to receive cash flow available for distribution from Cathedral. Cathedral is engaged in the business of providing selected oilfield services to oil and natural gas companies in Western Canada and the Rocky Mountain and Williston Basin regions of the United States and currently provides drilling services and related equipment rentals, production testing services and wireline services. Cathedral markets its services under six brand names: Directional Plus and The Directional Company which provide directional drilling services; CAT Downhole Tools which provides downhole equipment including drilling jars, shock subs and high performance drilling motors on a rental basis; Tier One Oil Services which provides oil and natural gas production testing services; Advance Wireline which provides cased hole logging and perforating, complete slickline services and casing integrity inspection logging; and Xtreme Wireline which provides slickline services. Cathedral strives to provide its clients with value added technologies and solutions to meet their drilling and production testing requirements. Its mandate is to supply "Best in Class, Best in Service" equipment and personnel to its clients. The trust units trade on the TSX under the symbol: CET.UN. For more information, visit www.cathedralenergyservices.com.
%SEDAR: 00018316E