Source Energy Services Reports Q4 2022 and Year End Results

Calgary, Alberta (March 8, 2023) TSX: SHLE

Source Energy Services Ltd. (“Source” or the “Company”) is pleased to announce its financial results for the three and twelve months ended December 31, 2022.

2022 PERFORMANCE HIGHLIGHTS

Key highlights for the year ended December 31, 2022, included the following:

• realized Adjusted EBITDA⁽¹⁾ of $61.5 million, a 59% increase from 2021;
• reported a net loss of $8.8 million, a $15.6 million improvement from 2021;
• realized sand sales volumes of 2,845,600 MT and total revenue of $415.9 million, a 15% and 30% increase, respectively, from 2021;
• recorded utilization of 75% for the Canadian Sahara fleet and 74% for the US Sahara fleet for the year;
• closed a transaction with Canadian Silica Industries (“CSI”) to assume operation of CSI’s Peace River frac sand facility, complementing Source’s Northern White proppant resources;
• closed a transaction for a new $75.4 million (US$55.0 million) credit facility;
• lowered borrowing costs by 200 basis points by commencing cash interest payments for the senior secured notes and further improved borrowing costs due to lower effective interest rates on the new credit facility;
• reduced amounts outstanding for the credit facilities by $9.8 million at December 31, 2022 compared to prior year;
• renewed one major customer contract at the end of the year and a second major contract in early 2023; and
• realized gross margin of $58.1 million and Adjusted Gross Margin⁽¹⁾ of $79.0 million, increases of 48% and 31%, respectively, when compared to 2021.

Note:

1. Adjusted Gross Margin (including on a per MT basis) and Adjusted EBITDA are not defined under IFRS, refer to ‘Non-IFRS Measures’ below for reconciliations to measures recognized by IFRS. For additional information, please refer to Source’s MD&A available online at www.sedar.com.

RESULTS OVERVIEW

Notes:

1. One MT is approximately equal to 1.102 short tons.
2. The average Canadian to United States (“US”) dollar exchange rate for the three and twelve months ended December 31, 2022, was $0.7365 and 0.7686, respectively (2021 – $0.7935 and 0.7978, respectively).
3. Adjusted EBITDA and Adjusted Gross Margin (including on a per MT basis) are not defined under IFRS, refer to ‘Non-IFRS Measures’ below for reconciliations to measures recognized by IFRS. For additional information, please refer to Source’s MD&A available online at www.sedar.com.

2022 RESULTS

Western Canadian Sedimentary Basin (“WCSB”) completion activity levels remained strong throughout the year which drove improved sand sales volumes and increased pricing in the spot market for sand, as supply and demand dynamics rebalanced during the year. Source achieved a $96.1 million or 30% increase in total revenue compared to 2021, driven by higher sand sales volumes, higher average realized sand pricing and improved wellsite solutions revenue.

Cost of sales, excluding depreciation, increased for the year due to higher sand sales volumes and higher costs for transportation and freight, due to increased prices for fuel, compared to last year. Source incurred additional costs for third party sand purchases, procured to ensure no customer supply interruptions resulting from increased customer demand, relative to 2021. These cost increases were partly mitigated by improved sales distribution across mesh sizes resulting in improved yields. Cost of sales was also impacted by a weakening Canadian dollar on US denominated costs relative to last year; however, this was offset by gains realized on foreign currency forward contracts settled during the year.

For the year ended December 31, 2022, gross margin increased by $18.8 million, attributed to higher sand sales volumes and improved pricing. Excluding gross margin from mine gate volumes, Adjusted Gross Margin was $29.80 per MT, compared to $24.33 per MT in 2021, favorably impacted by improved customer and spot market pricing, despite higher costs for transportation and freight due to increased fuel costs compared to last year. Higher volumes of mine gate sales, relative to last year, contributed further reductions to cost of sales and further benefited gross margin for 2022. The weakening of the Canadian dollar negatively impacted Adjusted Gross Margin; however, this impact was largely offset by the settlement of foreign currency forward contracts in the third quarter.

Operating expenses increased on a year-over-year basis, primarily attributed to increased repairs and maintenance costs, including expenditures required to bring the new Peace River facility online, and an increase in royalty payments, directly related to higher activity levels. In 2021, general and administrative expense benefited from proceeds of the Canada Emergency Wage Subsidy (“CEWS”) program and the reversal of a provision for bad debt expense. Adjusted EBITDA was $61.5 million for 2022, a reflection of the strong sand sales volumes and sand sales pricing realized.

New Senior Credit Facility

On October 14, 2022, the Company closed a new revolving asset backed senior credit facility (the “ABL”) with a syndicate comprised of FGI Worldwide LLC and CIT Northbridge Credit, as advised by CIT Asset Management LLC, providing access to funding of approximately $75.4 million (US$55.0 million). The ABL provides Source with a lower cost of borrowing and less restrictive covenants.

Upon closing of the ABL, Source repaid all outstanding draws on the former ABL facility and senior secured term loan (collectively, the “Credit Facility”). The Company also entered into a supplemental indenture that governs the Notes which permitted Source to execute the ABL facility in exchange for a one percent consent fee to the noteholders which was paid in kind on closing. For additional information, including the financial covenants of the ABL facility, refer to ‘Long-term Debt’ within Source’s MD&A, available online at www.sedar.com.

Liquidity and Capital Resources

Note:

1. Adjusted EBITDA and Free Cash Flow are not defined under IFRS, refer to ‘Non-IFRS Measures’ below. The reconciliation to the comparable IFRS measure can be found in the table below.

Source generated Free Cash Flow of $3.9 million for the year ended December 31, 2022, compared to $11.0 million generated for 2021. The decrease is attributed to higher financing expense paid, as interest incurred for the Notes in 2021 was paid in kind, compared to $12.9 million of cash interest payments recognized for the Notes through 2022. Higher interest expense incurred for the ABL facility, reflecting higher average draws outstanding and an increase in the variable interest rates for the facility, as well as incremental costs incurred for the closing of the ABL facility, also contributed to the reduction in Free Cash Flow. An increase in capital expenditures for the year, largely due to maintenance work performed at the Peace River facility and increased overburden removal costs, as well as $1.5 million in incremental interest expense for lease obligations, largely due to lease payments related to the Peace River facility, further contributed to the reduction. The increase in cash outflows were partially offset by a $22.9 million improvement in Adjusted EBITDA, reflecting strong volumes and increased average sand prices, compared to the prior year.

During the fourth quarter of 2022, Free Cash Flow was impacted by an increase in financing expense paid, attributed to the payment of two quarterly interest payments during the period, for a total of $8.7 million, compared to the same period last year when interest incurred for the Notes was paid in kind. Source was not permitted to make the August 15, 2022 quarterly interest payment for the Notes until after the closing of the ABL facility, which occurred in October, 2022. Source realized an increase in capital expenditures and interest expense for lease payments during the quarter, as noted above, compared to the fourth quarter of 2021.

Source’s capital expenditures for the fourth quarter of 2022 were $4.2 million, an increase of $2.2 million compared to the same period last year. The increase in expenditures for maintenance and sustaining capital was primarily related to the Peace River facility maintenance, and a $1.9 million increase in costs associated with overburden removal for mining operations, as continued strong sand sales volumes are expected. Growth capital expenditures were lower, on a quarter-over-quarter basis, due to the completion of Source’s ninth Sahara unit in the fourth quarter of last year.

For the year ended December 31, 2022, capital expenditures increased by $8.3 million compared to 2021, driven by expenditures for the Peace River facility and increased overburden removal, as noted above. During 2022, Source sold excess production equipment, generating proceeds of $1.5 million. Management continues to assess equipment and other assets required to service Source’s operations to ensure optimal levels are maintained on an on-going basis.

Q4 2022 RESULTS

Source sold sand volumes of 566,130 MT for the three months ended December 31, 2022, generating sand revenue of $70.3 million, an increase of $15.3 million or 28% from the fourth quarter of 2021. The increase was primarily due to a 33% increase in average realized sand price ($35.08 per MT, excluding mine gate sales). During the fourth quarter, revenue from mine gate sales lowered the average realized sand price by $14.87 per MT; however, the impact of mine gate sales on average realized sand pricing was more than offset by the pricing increases for spot and contract customers. The sale of lower-value mine gate sales has a favorable impact on production costs, creating efficiencies which result in increased production yields. The increased sand revenue reflects meaningful pricing gains realized for both spot customers and contracted customers, relative to the fourth quarter of last year, as certain contracts reflect pricing increases implemented late in 2022.

For the three months ended December 31, 2022, wellsite solutions revenue was $16.2 million, an increase of $4.3 million or 36% compared to the same period in 2021. During the quarter, trucking volumes were lower compared to the fourth quarter of 2021, impacted by certain customer job and permitting delays. Despite the lower volumes, last mile trucking solutions generated a 32% increase in revenue over the same quarter last year, favorably impacted by longer trips from terminal to the wellsite and increased pricing realized. Sahara-related revenue increased 44% on a quarter-over-quarter basis, due to a 35% increase in days utilized across the nine-unit fleet. Sahara units operating in the US achieved utilization of 85%, with recently added customers operating in New Mexico and Montana.

For the fourth quarter of 2022, terminal services revenue was $1.0 million, an increase of $0.3 million compared to last year. The increase during the fourth quarter was primarily due to higher chemical elevation volumes, as well as revenue generated from the transloading of other non-sand materials, reflecting the commencement of an agreement to transload condensate rail cars through the first quarter of 2023.  A reduction in sand elevation volumes for the quarter, compared to the same period last year, partially offset these increases.

Cost of sales, excluding depreciation, increased by $12.4 million for the fourth quarter of 2022 compared to the same period in 2021. Higher sand sales volumes realized impacted cost of sales, as well as of higher costs for transportation and freight. In the fourth quarter of 2022, increased amounts of  third party sand were purchased, and incremental fuel surcharges were incurred on these purchases, unfavorably impacting cost of sales, excluding depreciation. These increases were partially offset by a reduction in production costs, attributed to warmer weather experienced during the fourth quarter, which contributed to increased production efficiencies. Last year, cost of sales was favorably impacted by proceeds received from the CEWS program totaling $0.1 million for the fourth quarter of 2021. Significant components of cost of sales are denominated in US dollars, including sand processing and rail freight, and are therefore subject to exchange rate fluctuations. During the fourth quarter of 2022, a weakening of the Canadian dollar on US dollar denominated components of cost of sales contributed an increase of $6.38 per MT to cost of sales, compared to the same period last year.

Gross margin increased by $6.4 million for the quarter. Excluding gross margin from mine gate volumes, Adjusted Gross Margin for the fourth quarter was $30.15 per MT, favorably impacted by improved customer and spot market pricing, as well as certain production adjustments to offset increasing costs for fuel. These improvements more than offset higher costs for transportation and freight due to higher fuel costs, compared to the fourth quarter of 2021. Excluding the impact of the weakening Canadian dollar during the three months ended December 31, 2022, and the benefit of proceeds from the CEWS program during the fourth quarter of 2021, Adjusted Gross Margin (excluding margin from mine gate volumes) increased by $14.65, or 94%, compared to the same period last year. The weakening of the Canadian dollar negatively impacted Adjusted Gross Margin by approximately $3.29 per MT.

For the fourth quarter of 2022, total operating and general and administrative expense increased $2.9 million, compared to the same period in 2021. During the three months ended December 31, 2022, operating expense increased by $2.2 million from the same period last year. The increase is primarily due to increased people costs as a result of higher compensation expense, including variable incentive compensation, as well as higher repairs and maintenance for Source’s rail car fleet which resulted in increased equipment costs compared to prior year. Royalty costs incurred grew as a result of higher sand shipments from mines that require royalty payments and, combined with increased insurance expense, led to increased selling and administrative costs compared to the same period last year. General and administrative expense increased $0.7 million in the fourth quarter of 2022 compared to the same quarter in 2021, primarily due to increased people costs as a result of higher compensation expense, including higher variable incentive compensation in the current quarter. Higher selling and administrative costs were incurred during the quarter as a result of increased professional fees compared to last year.

ESG UPDATE

Source is committed to operating in a sustainable manner and works closely with its stakeholders to go above and beyond current regulatory requirements through initiatives such as voluntary greenhouse gas emissions reduction programs, as well as Source’s production water recycling program. During 2022, Source reduced its greenhouse gas emissions rate by 2.4% compared to the previous year, and 23.4% compared to the base year. Source’s water recycling program reduces the reliance on local well water and in 2022 Source recycled over four hundred million litres of water, ensuring Source remained far below its permitted well water allowance. Source has reclaimed just under fourteen acres of land adjacent to its Wisconsin processing facilities, part of Source’s continued effort to return the land to a thriving vegetative state. In 2022, Source purchased wetland credits to ensure any wetlands impacted by future mine expansion initiatives would be protected.

As an active member of its community, Source supports initiatives that align with its corporate values, support the charitable efforts of our employees and are located close to its operations. Source supports community needs in the areas of Arts and Culture, Education, Environment, Health and Wellness and Sports and Recreation through financial donations and employee volunteer hours.

For more information, Source’s most recent ESG report is available at www.sourceenergyservices.com.

BUSINESS OUTLOOK

Strong industry activity continues to favorably impact frac sand supply and demand fundamentals which are expected to remain strong through 2023. Previous well permitting issues in the northeastern British Columbia region, which caused customer delays in late 2021 and through 2022, have now been resolved and are expected to bring increased activity to the region again as exploration and production (“E&P”) companies catch up on their development plans. Source has renewed customer contracts with terms and conditions reflective of the current operating environment. Source believes these fundamentals, coupled with Source’s leading service offerings and logistics capabilities required for larger volumes of sand per well, as well as Source’s terminal network footprint, would support further improved gross margins in 2023.

In the longer-term, Source believes the increased demand for natural gas, driven by power generation facilities, increased natural gas pipeline export capabilities and liquefied natural gas exports will drive incremental demand for Source’s services in the WCSB. Source continues to see increased demand from customers that are primarily focused on the development of natural gas properties in the Montney, Duvernay and Deep Basin. This trend is consistent with Source’s view that natural gas will be an important transitional fuel that is critical for the successful movement to a less carbon intensive world.

UPDATED NI 43-101 TECHNICAL REPORTS FOR THE MINERAL PROJECTS IN WISCONSIN, UNITED STATES

Source is pleased to announce that it has filed with the applicable Canadian securities regulatory authorities updated National Instrument 43-101 – Standards of Disclosure for Mineral Projects (“NI 43-101”) technical reports for each of its three mineral projects in Wisconsin, United States (collectively, the “Technical Reports”).

The Technical Reports have each been prepared with an effective date of December 31, 2022 and were updated as part of an annual assessment that accounts for conventional mining depletion of the mineral resources and include updated production records. The updated resources do not represent a 100% or greater change in the total mineral resources.

Mineral resources are not mineral reserves and do not have demonstrated economic viability. There is no guarantee that all or any part of the mineral resource will be converted into a mineral reserve. Source has not based its production decisions and ongoing mine production on mineral reserve estimates, preliminary economic assessments, prefeasibility studies or feasibility studies. As a result, there may be an increased uncertainty of achieving any particular level of recovery of minerals or the cost of such recovery and historically projects without any mineral reserves have increased uncertainty and risk of failure.

Further details with respect to the scientific and technical information contained in this press release are available in the Technical Reports, which are available under the Company’s SEDAR profile at www.sedar.com.

FOURTH QUARTER CONFERENCE CALL

A conference call to discuss Source’s fourth quarter financial results has been scheduled for 7:30 am MST (9:30 am ET) on Thursday, March 9, 2023.

Interested analysts, investors and media representatives are invited to register to participate in the call. Once you are registered, a dial-in number and passcode will be provided to you via email. The link to register for the call is on the Upcoming Events page of our website and as follows:

Source Energy Services Q4 2022 Results Call

The call will be recorded and available for playback approximately 2 hours after the meeting end time, until April 9, 2023, using the following dial-in:

Playback Number: Toll-Free 1-800-319-6413

Playback Passcode: 9671

ABOUT SOURCE ENERGY SERVICES

Source is a company that focuses on the integrated production and distribution of frac sand, as well as the distribution of other bulk completion materials not produced by Source. Source provides its customers with an end-to-end solution for frac sand supported by its Wisconsin and Peace River mines and processing facilities, its Western Canadian terminal network, its “last mile” logistics capabilities and Sahara, a proprietary wellsite mobile sand storage and handling system.

Source’s full-service approach allows customers to rely on its logistics platform to increase reliability of supply and to ensure the timely delivery of frac sand and other bulk completion materials at the wellsite.

IMPORTANT INFORMATION

These results should be read in conjunction with each of Source’s audited consolidated financial statements for the years ended December 31, 2022 and 2021, together with the accompanying notes (the “Financial Statements”) and its corresponding MD&A for such periods. The Financial Statements and MD&A and other information relating to Source, including the Annual Information Form (“AIF”), are 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. Unless otherwise stated, all amounts are expressed in Canadian dollars.

NON-IFRS MEASURES

In this press release Source has used the terms Free Cash Flow, 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) and gross margin, respectively, which represent the most directly comparable measures of financial performance as determined in accordance with IFRS.

Reconciliation of Adjusted EBITDA and Free Cash Flow to Net Loss

Note:

1. Includes expenses related to the incident at the Fox Creek terminal facility and one-time retirement payments.

Reconciliation of Gross Margin to Adjusted Gross Margin‍

For additional information regarding non-IFRS measures, including their use to management and investors, their composition and discussion of changes to either their composition or label, if any, please refer to the ‘Non-IFRS Measures’ section of 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”, “believes”, “continues”, “focus”, “trends”, “anticipates” 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 unless required by applicable law. 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: our expectation that strong sand sales volumes will continue; our continued assessment of equipment and other assets required to service our operations; anticipated high activity levels in the first quarter of 2023; Source’s efforts to return the land of a thriving vegetative state; our expectation that frac sand supply and demand fundamentals will remain strong through 2023; our expectation that the resolution of permitting issues in northeastern British Columbia will bring increased activity to the region; our beliefs respecting improved gross margins in 2023; increased demand for natural gas, increased natural gas pipeline export capabilities and liquefied natural gas exports will drive incremental demand for Source’s services in the WCSB; continued increase in demand from customers primarily focused on the development of natural gas properties in Montney, Duvernay and Deep Basin; the Company’s view that natural gas is an important transitional fuel for the successful movement to a less carbon intensive world; expectations respecting future conditions; and profitability.

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 liquefied natural gas 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, Source’s rail car fleet and the accessibility of additional transportation by rail and truck; 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 impact of climate change risk; the ability of Source to retain and attract qualified management and staff in the markets in which Source operates; labor 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, unfavorable, or a lack of access to capital markets; uncertainties inherent in estimating quantities of mineral resources; sand processing problems; implementation of recently issued accounting standards; the use and suitability of Source’s accounting estimates and judgments; the impact of information systems and cyber security breaches; and risks and uncertainties related to COVID-19 or its variants, including changes in energy demand.

Although Source has attempted to identify important factors that could cause actual actions, events or results to differ materially from those described in the forward-looking statements, there may be other factors 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.

Any financial outlook and future-oriented financial information contained in this press release regarding prospective financial performance, financial position or cash flows is based on assumptions about future events, including economic conditions and proposed courses of action based on management’s assessment of the relevant information that is currently available. Projected operational information contains forward-looking information and is based on a number of material assumptions and factors, as are set out above. These projections may also be considered to contain future oriented financial information or a financial outlook. The actual results of Source’s operations for any period will likely vary from the amounts set forth in these projections and such variations may be material. Actual results will vary from projected results. Readers are cautioned that any such financial outlook and future-oriented financial information contained herein should not be used for purposes other than those for which it is disclosed herein. The forward-looking information and statements contained in this document speak only as of the date hereof and have been approved by the Company’s management as at the date hereof. The Company does not assume any obligation to publicly update or revise them to reflect new events or circumstances, except as may be required pursuant to applicable laws.