CECO Environmental Corp.
Q4 2020 Earnings Call Transcript

Published: 3 Mar 2021

[Operator:]

Good morning and welcome to the CECO Environmental Conference Call. All participants will be in listen-only mode. . After today’s presentation there will be an opportunity to ask questions. . Please note this event is being recorded. I would now like to turn the conference over to Matt Eckl, Chief Financial Officer of CECO Environmental. Please go ahead.

[Matt Eckl:]

Thank you for joining us on the CECO Environmental fourth quarter 2020 conference call. On the call today is; Todd Gleason, Chief Executive Officer; and myself Matt Eckl, Chief Financial Officer. Before we begin, I'd like to note that we have provided a slide presentation to help guide our discussion. The call will be webcast along with our earnings presentation on our website at cecoenviro.com. The presentation materials can be accessed through the Investor Relations section of the website.

[Todd Gleason:]

Thanks Matt. Throughout much of 2020 we started our earnings calls by thanking our dedicated employees, their families, and our great customers and operating partners. It has been a challenging time as the entire world has been forced to navigate the global pandemic and adjust how we work and interact. We are very pleased with how Team CECO has come together to embrace new technologies, processes, and adhere to rigorous COVID policies to ensure health and safety. So once again thank you for all you do to ensure we deliver for our customers and drive value for all constituents. As is highlighted on Slide 3 and in our press release this morning, CECO delivered strong results in the fourth quarter of 2020. Let's quickly review the facts and figures and later Matt will provide more color around some of these numbers. Orders were up mid teen levels both sequentially and year-over-year as we booked $77 million in the fourth quarter. Getting back on the orders growth trajectory, it's always a positive but even more important as we saw reductions in our backlog. We look to turn the corner on this trend early in 2021 as we believe our orders growth will continue. Sales were $83 million which did reduce backlog because it was obviously higher with new orders. The fourth quarter sales results were down 7% versus 2019 but they were up sequentially 7% over Q3 2020. Our project teams continued to execute very well despite the challenges of COVID restrictions.

[Matt Eckl:]

Thanks, Todd, I'll start with Slide 6 and orders. At 77 million of orders we are pleased to see all three segments grow sequentially and year-over-year. While we are still below our pre-COVID averages, we see markets are improving as Power Gen and refinery markets start spending on deferred CAPEX. Industrial customers seem less concerned by the outcome of the U.S. election and COVID. December was a very strong orders month at CECO as confidence factors grew amongst our customers. Doubling down on Todd's comments, our pipeline continues to expand and reached $1.9 billion, a new high in my four years plus, mostly driven by our push into new adjacent markets like EV production and industrial wastewater. Energy booked 46 million in Q4, up over 16% versus our trailing 12-month average, which we believe is an inflection point as the economic pressures of COVID subside. 9 million came from our refinery based FCC cyclones, which were up triple-digit both year-over-year and sequentially. While the $9 million level is not yet back to our historical averages, we are pleased that we had year-over-year improvement in this category because for the full year we were down 50%. We are growing more confident this will be an area of strong orders growth in 2021. Industrials and fluid, both printed their second consecutive quarter of orders growth. Industrials was a bit more pronounced at 11% growth sequentially. We're very encouraged by the progress this team is making with wind and electric vehicle manufacturing and food and beverage in the quarter. Fluid’s grew on par with its peers at 5% sequential and 1% year-over-year. We like the trend coming out of COVID, but we won't be fully satisfied until orders are well above $10 million per quarter. While we are seeing our distributors start to restock, a positive sign, our end markets, including oil and gas, hospitality, and aquaculture, are still cautious until mobility and tourism improves. On the right, revenue grew 7% sequentially on energy backlog conversion. Simply put, end users constructing plants in Asia and the U.S. have started to gain momentum, while Europe and Middle East jobs are still experiencing COVID delays. I am pleased with the health and the execution of our backlog. While covering revenue, we want to take a minute to address a new metric, we intend to report on a quarterly basis that we're highlighting as short cycle sales. Details are steadier and typically higher margins. They turn from booked order to sale in less than four months, sometimes much, much faster. This metric represents the combination of sales via aftermarket replacement parts, recurring contracts and services, and distribution based short cycle sales. In Q4, short cycle sales were $17 million and $71 million for the full year. That's approximately 23% of our total revenue. If you look at the CECO portfolio today, our product that doesn't necessarily lend itself toward a high percentage of predictable recurring sales because many of our largest sales related areas comes from our customer’s CAPEX budgets.

[Todd Gleason:]

Thanks Matt, and I echo your remarks and appreciate your perspective after you have helped CECO navigate some challenging markets several times over the past four years. I have mentioned on both earnings call since my arrival how capable and dedicated the CECO team is and that comes through in your assessment of the continued hard work. Let's wrap up with the next few set of slides, please turn to Number 16. The top section points to the 2020 review from an orders and backlog perspective. As we've already mentioned, orders were down 27% for the year. We estimate that COVID related market impacts drove at least 80% of that decline. And the fact that orders were up in Q4, we think demonstrates that we are well-positioned for market recovery. Unfortunately, this order declined for full year 2020 means we enter 2021 with 15% less backlog or project revenue. This will put some pressure on the first two quarters, which is why we are stressing that orders growth, cash flow generation, and margin conversion are key indicators of how well we are turning the corner as COVID impacts start to subside. The middle section reiterates a series of strengths we have highlighted before. With approximately 40% of our professional staff being engineers or application specialists CECO is uniquely positioned as a leader in key environmental and industrial process sectors. We will continue to build off this expertise. We are also extremely asset light, which means we have a certain amount of flexibility when end markets ebb and flow. Both of these qualities allow us to invest for growth in a focused manner. And we expect to generate strong free cash flow in 2021. So our already healthy balance sheet will be in great shape, they have the right pieces of our portfolio. For the bottom of the slide, we highlight that we are committed to delivering financial results that reflect our improved cost structure and recovering markets. There may be a quarter or two in early 2021 where revenues are lower from our reduced starting backlog but we expect to rebuild that backlog throughout the year and deliver. We are close to finalizing our new enterprise strategy. We will have a strong focus on CECO's leading technology platforms that represent our best position for sustained growth. Within CECO we have 10 to 12 platforms that span air filtration and quality management, gas and liquid separation, and industrial processes and flow. So most certainly better positioned for organic investment and their markets will continue to provide sustainable growth. We will also focus on adding more short cycle revenue platforms to CECO over time to add more balance to our portfolio. A couple of examples of current organic investments would be our water treatment platform we recently introduced reverse osmosis, de-sanding and desalting technology, which rounds out our ability to serve our Middle East customers produced in oily water separation needs. Prior to this year, the scope of work CECO could bid on was limited to separation internals only not a full customer solution. Another would be our advanced analytical services and training team that we just launched based out of Houston, Texas. This group of experienced service engineers targets our Brownfield customers and comes with a Rolodex of new service customers. Their focus is repairing, calibrating, and testing analyzers and continuous emissions monitoring systems, or SEMS that are installed in the field today. Listening to our customers we understand CAPEX is tight in the need to keep their current systems operational. We expect the services team to rapidly become a multi-million dollar business in a short period of time. So we look forward to sharing our more comprehensive and new enterprise strategy in the near future. This will provide investors with a roadmap for how we will steadily elevate our position as an environmentally focused, diversified industrial. You turn to Slide 17 you may remember the slide image on the top left from our Q3 earnings presentation. We wanted to reiterate that as we navigate 2021 which again, we expect to show solid orders and backlog growth, that CECO is much better positioned for strategic investments, and higher margin results. Bottom line, back in 2017 we saw a sudden decline in end markets, but CECO was not yet officially organized internally nor did we have a strong balance sheet at that time. Today we have much more robust systems and processes in our balance sheet as an enabler, not a detractor. As we see market growth, we will be stronger and more agile. Please turn to Slide 18. We remain committed to these financial targets, especially as markets recover and become more normalized. Revenue growth of at least 5% is something we believe our leading platforms can deliver. We also believe we are closer to realizing 13% EBITDA margins, especially when we get our backlog back to 2019 levels. So these financial targets are well within reach. Finally, we expect to generate solid free cash flow in 2021, always a key goal of our organization. Now let's wrap up on Slide 19. It has been a unique 12 plus months. Our focus on delivering for our customers is always important and we remain committed to doing so while maintaining health and safety. We have been aggressive with cost management and improved our operational efficiencies. As Matt highlighted, this has been a steady focus for CECO and we are in better position than ever. We saw nice momentum in the fourth quarter in key energy markets and we expect much of that to continue. And we look forward to articulating more of our key initiatives and strategic priorities. This will help to focus CECO towards a more clear and executable growth program, and our investors can track the progress. We thank you for your support, interest, and your time today. With that, we will open up the line for questions. Operator.

[Operator:]

. And the first question comes from Jim Ricchiuti with Needham & Company.

[James Ricchiuti:]

Hi, good morning. Just had a question about the short cycle business and the metric you're providing. And what I was curious about is, is that short cycle business more weighted toward maintenance related revenue or is it more the traditional business?

[Todd Gleason:]

Yeah. Hey, good morning Jim, Todd here. I'll now start and then hand it over to Matt who's done a lot of work with his team on assembling the data and information behind it. It does include maintenance and sort of repair. But, it also is I guess, I'll use your word sort of more of a classic or standard set of businesses as well. Businesses that when we book the potential order, we book the sale, we produce and ship the product relatively quickly. So it does also include some of our product lines and businesses such as our pumps business, etc. So it's a combination of three or so things, three or four things, it's aftermarket repair parts. The small area of our businesses where we do have some recurring revenue and then our sort of short cycle book to ship businesses like our fluid handling.

[James Ricchiuti:]

Got it, do you guys use this as something of a leading indicator for the business?

[Todd Gleason:]

You know maybe yes, I think that's a good way to look at it. So, one of the reasons we want to put a spotlight is for the following. Number one, I think historically, we, as an organization have talked about and maybe almost even sort of consistently but never really provided any real metrics around things like recurring revenue. We are going to grow our recurring and our services revenue, but we never really put specific numbers to it, and then a spotlight on it. And even the same thing somewhat true internally, if you want to say that from a holding ourselves responsible for focusing on improving and driving results in that area. So we're starting now, right. We wanted to put a real number out there that we expect to talk about and potentially even provide more color in advance, quarter-over-quarter and year-over-year. And I -- it is an indicator for sure of, I would say sort of the general industry, so to speak. I -- especially in our industrial businesses, where we do have a little bit more of a short cycle space.

[Matt Eckl:]

Jim, I would just add one thing, the majority of our business is CAPEX spend. And we really want to drive maintenance spend with our customers. So pumps, filters, ductwork, services with the customer, repairs, all higher margin business that are deemed short circuit cycle. So that's what's all-inclusive in that.

[James Ricchiuti:]

And last comment, not to continue to pile on to the answer. But, we highlighted a new services team offering that we're launching this year, and we're excited about that. I think our ability to not only show the metric and talk about how we're driving those results, but then really add very specific even if they are somewhat small initiatives that we're doing within our businesses. It -- I think it provides more clarity to our investors where we're taking organic investment to start and potentially down the road some other investments to continue to grow. But we do want to find more sustainable revenue profile of our organization.

[James Ricchiuti:]

Got it, that makes sense. And just a question on the backlog, I mean, curious if you could give any perspective in terms of the margin profile of the backlog, just also in light of the comments you made about the fact that you'll be building backlog but there's going to be some pressure, it sounds like in the first couple of quarters of the year?

[Todd Gleason:]

Yeah, as we look at backlog margins right now, Jim, they're reflective of our Q4 margin rate, maybe a little bit pressured. Just because in the last two or three quarters as some of the bookings on the energy side have come in, we've seen some pricing pressure there. But for the most part, we're executing through cost measures, and executing for our customers to increase those margins as we deliver them.

[James Ricchiuti:]

Got it, thanks. I will step back in the queue.

[Todd Gleason:]

Thanks, Jim.

[Operator:]

Thank you. And the next question comes from Amit Dayal with H.C. Wainwright.

[Todd Gleason:]

Thank you. And good morning Amit.

[Amit Dayal:]

Good morning and thank you. With respect to this analytic services business, as a part of maybe your recurring revenue effort, is this product ready to go or does it need some more development?

[Todd Gleason:]

Not a product, it's a services team. It is an expansion to really a lot of the relationships we already have with existing Brownfield customers. So these are existing facilities that in the predominantly in the energy space, we're starting with a regional focus. We believe that the focus area that we are hiring and that we're leveraging our relationships, as well as the service technicians if you want to call it that for this specific space, and we predicted -- we specifically call that continuous emission monitoring. That's a pretty broad category, but a very important category. There's a lot of data analytics, a lot of part components to it as well. So it's not a product offering as much as it's a technical service offering and we're ready to go and we're just going to be building out that team as we continue to prove out the momentum.

[Matt Eckl:]

And then we already have the test equipment, the trucks and the men.

[Amit Dayal:]

Yup, understood. And then roughly, do you have an estimate of how big this opportunity is within the existing customer base?

[Matt Eckl:]

Well, it's a fairly large opportunity. In other companies that are in this space have shown a propensity to be able to grow relatively steadily. Obviously, we're starting here. So in the year, it's a relatively small number. We believe, though, that this could easily be in the next few years a solid double-digit millions of dollars of revenue as we continue to invest and grow.

[Amit Dayal:]

Just a last one from me, as the economy comes back, maybe your backlog starts building up again, do you expect some of the costs you took out of the business to come back in again based on the group's needs going forward?

[Matt Eckl:]

So in 2021, we will absolutely see some increases just because of variable pay health care costs. You can't take Q4 and just annualize that out. But I think I did coordinate on the color in my remarks that we think it's around 18 million per quarter, which is well below the 21 to 22 per quarter we had previously. No, we don't expect to have to increase our cost structure. Our aim is at 13% or greater EBITDA margins we need to get that growth. We're tracking utilizations of our application engineers and our project management team. And we'll increase as the backlog grows, but we're going to maintain our margin ranges in that sense. So I don't see it having to grow too much and make a ton of investment Amit.

[Amit Dayal:]

That's all I have guys, thank you so much.

[Todd Gleason:]

Thanks for asking.

[Matt Eckl:]

Thank you.

[Operator:]

Thank you. And the next question comes from Bill Rosalo with Titan Capital.

[Unidentified Analyst:]

Thank you, a couple of questions. First of all, you'd mentioned that you have the highest pipeline that you've had in several years. Is that due to the market expanding or is that really CECO specific initiatives that is leading to that?

[Todd Gleason:]

Yeah, this is Todd. Good morning Bill and then I'll hand it over to Matt, who again, he and his team have done a tremendous amount of work with our businesses on analyzing the historical perspective, as well as how we model out this pipeline. We're getting better at it every day. It's our largest pipeline and so, I mean, I think it's indicative of a couple things. Number one, we feel that we continue to maintain our performance and our position in markets, and that's attributable to how we continue to invest in those markets internationally. So we're expanding into adjacent markets consistently. It provides more market scope for us, I think, to add into the backlog or excuse me into the pipeline, number one. Number two, we saw a fair amount of deferrals and opportunities over the last especially 12 to 18 months, some of which economic relief related associated with COVID. So, if you think about where our historic backlogs are, excuse me, pipeline had been at its previous peak of call it 1.7 billion, I might say, at least half of the new record, getting from 1.7 to 1.9 is that natural increase associated with higher levels of deferment from the previous periods. COVID being a unique environment, I don't know that we were tracking this level of pipeline because we didn't own all these businesses 10 plus years ago when the financial crisis hit. And then the other is our expansion into adjacent markets and our investment into being a leader.

[Unidentified Analyst:]

Great, thanks.

[Todd Gleason:]

And Matt is nodding that I hit the answer, so we are good with that.

[Unidentified Analyst:]

Okay, thank you. And how do you see or believe that the Biden administration's approach to all things environmental enhances your air and the water business, just can you talk through that either headwind or tailwind that you believe this administration is setting up?

[Todd Gleason:]

Yeah, we're learning, obviously, pretty quickly here what some opportunities could look like. We think we're interested in areas of environmental and water as you mentioned, Bill. So certainly keen to learn more of what our customers are asked to do and want to do in this space. I think infrastructure investment is going to be -- could be interesting for the economy, and for industrial companies like ours, where we're positioned. Look, we really like -- we really like across most of our end markets, the feel of confidence like we said, the large pipeline of opportunity. We think that as much as anything, internationally, domestically, the competence of businesses that were moving past the pandemic constraints, potentially coupled with some new investments coming in infrastructure and in environmental regulation, those could be positives. And again, I think our pipeline shows that, that we have some unique opportunities.

[Unidentified Analyst:]

And then lastly, what additional insights would you like to share about your refinery customers, either their behaviors or signals and their turnaround plans, and just how they're -- how you would characterize them today versus what would be normal if we had not gone through the COVID related oil price downturn?

[Todd Gleason:]

We do a lot of feed studies for all the independent refiners and some of the big integrated all over the globe. And I will say that the feeds are driving more leads and our pipeline higher. I would say internationally is where we're seeing the majority of it. India is a market that right now HPCL is I think it's IOCL, I forget the other ones, that are both moving forward some large projects. In the U.S., if you read what the independents are printing, CAPEX budgets are down 30% to 40% year-over-year as they continue to cut because of mobility data, transportation, COVID still is a pressure on them. But what we are seeing is in those CAPEX budgets bill, there's a shift from new plants, and this conversion from renewable diesel over to maintenance, to all the CAPEX that they deferred last year starting to come back. As we've said multiple times over, our business you can't defer it forever. Your equipment will break down. So we believe that those leading indicators are all positive for us. Obviously, if you watch what's happening with crack spreads from April till today, they continue to rise. They're in the band of last five-year average, which is good. Outside, that means they're making no money whatsoever. They're making cash or reinvesting back into the business. So several leading indicators for us that refinery is headed back up. And we're excited about that obviously.

[Unidentified Analyst:]

Matt taking your comment one step further, are you sensing that you at least in 2021, will have a larger share of the CAPEX budget?

[Matt Eckl:]

We believe that there will be a larger share of the CAPEX budget for all refineries. We don't comment on the share of our wins of those orders that are placed.

[Todd Gleason:]

Yeah, but Bill we've talked I think before on or certainly we've tried to explain that last year 2020, obviously, the balloon of CAPEX if you want to say got smaller, and we feel that just to play out that example, the air in the balloon so to speak was pushed more to one side of the CAPEX maintenance that maybe didn't -- that we didn’t benefit from and this year that air in the balloon may have got larger, but even if it didn't, and we believe it is, but even if it didn’t, so to speak, that air is being pushed over to our side of the maintenance CAPEX arena for 2021. And we already feel like we're seeing that sort of that opportunity set.

[Unidentified Analyst:]

Thank you both.

[Todd Gleason:]

Thank you Bill.

[Operator:]

Thank you. And the next question comes from Tate Sullivan from Maxim Group.

[Tate Sullivan:]

Hi, thank you. Good morning. Hey, you mentioned a couple times electric vehicle production during your comments. I mean where are you in the sales process with this opportunity, are you already doing projects, and is it a global opportunity or U.S. right now? Please, if you can provide that.

[Todd Gleason:]

Yeah, I'll sort of start by maybe saying yes, to all the above. I mean, we're actively bidding on new opportunities, it's a growing space. There's expansion in this space internationally. Domestically, we've won some projects recently in domestic areas. We're very close, we think, to some attractive projects internationally as well. So I think this is an area that we look forward to highlighting as we sort of -- as we sort of continue to move along and then look for our space as well, like a lot of other industrial providers of solutions. We look at not only new builds, but we look at conversions in automotive, in other industries, plant conversions, right. So, as those plants start to really now convert from one class of vehicle to an EV manufacturing space, they really have a fairly large CAPEX build out and we're benefiting from that as well.

[Tate Sullivan:]

Can you -- as a follow-up can you give an example what type of equipment do you provide to the EV industrial customers, I mean, I imagine not NOx emissions, is it, do they have an environmental angle and can you provide an example?

[Todd Gleason:]

VOC’s dust collector, so think of RTOs and think of dust collectors as two really good examples there. We're cleaning the air and at the same time, obviously eliminating the volatile organic compounds that are generated in those environments.

[Tate Sullivan:]

Thanks. Separate one from me. I saw in your K that percent of revenue from outside the U.S. is 35% in 2020, I think should people going forward associate you as a growing international company, you mentioned Middle East opportunities as well can you just frame that discussion, please?

[Matt Eckl:]

Yeah, ebbs and flows. I think if you were to go back two years ago, it was close to 50

[Tate Sullivan:]

Thank you both.

[Todd Gleason:]

Thanks Tate.

[Operator:]

Thank you. . And the next question is a follow-up from Jim Ricchiuti with Needham & Company.

[James Ricchiuti:]

Hi, just as it relates to the last question, I know that the business ebbs and flows between domestic and international, but is there any additional color as to where you're seeing some recovery in market, is it -- are you -- have you noticed more of a recovery, more strengthening for instance in the U.S. market in Q4 or is it still tougher to tell because it depends on various projects that you're targeting?

[Todd Gleason:]

So in Q4, I would say in the energy sector we did the India increase, we saw China increase as well. In our industrial sector, I'd say North America is the strongest. We are seeing opportunities across Europe. We recently added a international sales manager over there to continue to grow our industrial and fluid handling capabilities. And so that's opened some of the pipeline, Jim, but in energy in North America as Todd used in the remarks kind of choppy right now.

[James Ricchiuti:]

Got it. And again, I know that the market is still fairly unsettled as we're in this gradual recovery, but I'm wondering how you're looking at inorganic growth opportunities, how active is the -- are the activities right now? Is the pipeline building, are you looking actively or is it still something that you're being a little bit more cautious on in this current environment?

[Todd Gleason:]

Yeah, I think we're certainly building we think a very focused funnel for our analysis. There are certainly opportunities out there that are, as we advance our strategy and our strategic thinking both organically as well as how we think about our portfolio going forward, we want to make sure that we have the appropriate funnel of opportunities that really match up well with where we think the markets are going, where we think we have a best opportunity to expand leadership positions, and especially continue to balance out, like I said, sort of our business or revenue profile, to more repeatable, sustainable sort of short cycle businesses. So look, I would say, Jim, we're not -- we're not transacting anything right now, right. We're very focused on our strategy, on our organic opportunities. But yeah, we're building a funnel and we're starting to feel really good about our strategic plans coming together so that when we're ready to execute, it's very clear, internally and externally what we're focusing on and why we're doing it.

[James Ricchiuti:]

Got it, thank you.

[Todd Gleason:]

Thank you.

[Operator:]

Thank you. And this concludes our question-and-answer session. I would like to turn the conference back over to Todd Gleason for any closing remarks.

[Todd Gleason:]

Yeah, thank you. Well look, I appreciate your time and interest today. Let me double down on comments that we made thanking Team CECO, all of our customers and partners. We navigated a very challenging year, proud of our results but more importantly, I'm really proud of the commitment that our employees and everyone that's associated with our organization showed as we -- there was no playbook 12 months ago when we embarked on the tough decisions and the challenges that we all faced. And so we appreciate all those efforts. We hope everyone continues to stay focused, healthy, and safe. We look forward to speaking with everybody soon. And with that, we'll say enjoy the day. We'll talk to you soon.

[Operator:]

Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.