GP Strategies Corporation
Q2 2020 Earnings Call Transcript

Published: 7 Aug 2020

[Operator:]

Good morning and welcome to the GP Strategies Second Quarter 2020 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Ann Blank, Vice President of Investor Relations. Please go ahead.

[Ann Blank:]

Thank you. Good morning, everyone. And welcome to GP Strategies second quarter 2020 earnings call. On the call today are Adam Stedham, Chief Executive Officer and President; and Mike Dugan, Chief Financial Officer. Before we begin, I would like to remind you that today's comments will include forward-looking statements, including statements about the anticipated effects of the COVID-19 pandemic, and related events on our business and results of operations. Because these forward-looking statements are based upon management's expectations and assumptions that are subject to risks and uncertainties, there are important factors that could cause our actual results to be materially different from those expressed or implied by these forward-looking statements. For a complete discussion of these risks, we encourage you to read our documents on file with the SEC, which are posted on the investor section of our website at gpstrategies.com. A replay of this webcast will be available on our website for 90 days following today's call. The slides that are being presented today are also available on the Quarterly Earnings Releases page of the Investors section of our website. At this time, I'd like to turn the call over to Adam Stedham.

[Adam Stedham:]

Thank you, Ann, and good morning, everyone. I hope everyone is staying safe and healthy. It's an honor to be here today speaking to you for the first time as CEO of GP Strategies. Before I get started, I'd like to take a moment and acknowledge the many contributions of Scott Greenberg during his 15 years in the role. I look forward to continuing to work with Scott and the rest of the board of directors as well as all of our employees. During my 23 years with the company I've gained a deep knowledge of our business and the marketplace we serve. Looking forward, I strongly believe in the future of the company and our ability to strategically capitalize on the many opportunities to grow the business and deliver long term shareholder value. And these are obviously extraordinary times and I want to thank all of our employees who've worked diligently to adjust to the many changes that we're all facing and for keeping the business moving forward. Just one year ago, we outlined three key objectives, drive organic growth, improve our balance sheet, and streamline our business model. At that time, we had anticipated an acceleration of our business in the second half of 2019. In line with this expectation, during the fourth quarter of 2019, we delivered organic revenue growth of 12% and a 46% increase in adjusted EBITDA compared to the same period in 2018. Additionally, our backlog was at an all-time high, and we began 2020 with very high expectations for the year. As COVID-19 impacted our clients and the company, we acted swiftly to reduce cost, preserve adjusted EBITDA and maintain a strong balance sheet. Despite an approximately $27 million sequential decrease in revenue during the first quarter of 2020, compared to the fourth quarter of 2019, we delivered positive adjusted EBITDA of $3.4 million. Our ability to streamline operations gave us confidence that although we expected a decrease in revenue from continued impact of the pandemic, we would deliver adjusted EBITDA in the second quarter of 2020 equivalent or greater to Q1. As a result of the swift actions, the company increased adjusted EBITDA in the second quarter to $6 million, a 75% increase over the first quarter of 2020. The second objective we shared one year ago was to strengthen the balance sheet. Over the past 12 months, we've diligently reduced our long term debt from approximately $120 million as of June 30, 2019, down to $58 million as of June 30, 2020, bringing our leverage down to 2.1. Now, I'd like to take a quick minute to discuss my priorities for the -- and discuss a little bit about the second half of 2020. The overall objective is to continue to push the organic growth initiatives that lead to growth in 2019. Now, a key component of that is our sales strategy. And the sales strategy is based upon developing deeper relationships with key clients, which ultimately drove organic growth in 2019. Last month, it was announced that GP Strategies has received Supplier of the Year Award with General Motors Corporation for the third year in a row. There are many opportunities for us to provide expanded value to GM and our broader client base, and the depth and momentum of the GM partnership is indicative of our positioning overall with our clients. Although the current environment created by the pandemic has impacted the company's revenues, I believe that most of our client relationships have only been strengthened throughout this crisis. Now in addition to sales growth, as CEO, my top two priorities for the company are focus and responsiveness. You'll hear more about how we are operationalizing these priorities over the remainder of the year and how we believe they will generate shareholder value. During the past year, we took steps to focus the business with the sale of two operating units. We will continue to take strategic actions to reduce the complexity of the business while providing opportunities for strategic growth initiatives. Looking out to the second half of 2020, we expect revenue to increase sequentially for the third and fourth quarters of the year. Additionally, we anticipate adjusted EBITDA for the second half of 2020 to improve compared to the first half. I believe that the actions we've taken over the past year, especially since COVID-19 came onto the scene, have put the company on solid footing to manage throughout the current environment. We're now stronger and more flexible, which positions the company to benefit for the long term. Now, I'll turn the call over to Mike and he can review the financial results for the quarter.

[Mike Dugan:]

Thanks, Adam. And good morning, everyone. Before I get into the details of the quarter-over-quarter results, I wanted to briefly go over a comparison of the Q2 results to our outlook for Q2 as stated during the Q1 earnings call. Starting with revenue, we noted that we expected COVID-19 to impact revenues more significantly in the second quarter of 2020 compared to the first. You can see this is the case with Q2 revenue dropping to $106.1 million. I also mentioned on the Q1 call that we expected Q2 adjusted EBITDA to be consistent with or slightly improved over Q1 due to the expected cost scaling and cost-cutting initiatives to be enacted in Q2. As you can see, our Q2 reported adjusted EBITDA of $6 million, is up over 75% from Q1 of 2020. This demonstrates the company's significant ability to scale costs as top-line revenue fluctuates during these uncertain times. I would also like to point out that during Q2, the company was able to generate positive cash flow of $22.9 million, and as a result, we were able to continue to reduce long term debt out of cash with the balance now at $45.6 million compared to $65.8 million in Q1. I will go through some of the details of the drivers of these results later in this presentation. Now turning to the traditional quarter-over-quarter discussion, starting with revenue and gross profit on Slide 7. During today's call, I will primarily be focusing on Q2 comparisons at a consolidated company level. However, the details of drivers by segments and by practice are included in this presentation and are also called out in the MD&A section of our 10-Q which will be filed after this call. We reported Q2 revenue of $106.1 million which is down $43.3 million or 29% from the $149.4 million of revenue reported in Q2 of last year. The primary drivers of this decline are a $32.5 million decline in revenue due to the postponement of certain training events and other delays and execution of client projects that can be directly linked to COVID-19. There was also A $4.6 million decline in revenue due to the divestitures of the LNG and tuition businesses, and a $1.8 million decline due to fluctuations in foreign currency exchange rates. Finally, there's a net $4.4 million decrease in other services, much of which can still be indirectly linked to the slowdown in the economy due to COVID-19 as the typical rate of new project awards has slowed down to the clients delaying spending during the COVID situation. In terms of gross profit, we reported gross profit of $15.9 million, which is down $7.1 million or 30.8% of the $23 million of gross profit reported in Q2 of 2019. Excluding severance costs of $2.1 million which is included in cost of sales in Q2 of 202, the gross margin would be 16.9%, which is an increase of 1.5% over the gross margin reported in Q2 of 2019. While gross profit dollars have declined as a result of the revenue decline due to the cost cutting activities undertaken in Q2, our margins have actually increased. We continue to monitor the ever changing landscape and our objective is to take the necessary steps to preserve gross margin percent to the extent possible during this period of depressed revenues, due to the disruption caused by COVID-19 restrictions. Moving on to SG&A on Slide 8. General and administrative expenses for Q2 are down $1.2 million or 7.9% from the $15.4 million in Q2 of 2019. The primary driver being cost cutting actions taken in Q2 to reduce G&A labor and expenses to more closely align with our lower revenues. While some of these G&A cost savings in Q2 were due to temporary actions taken in the quarter, a good portion of the cost reductions are permanent cost cuts that are expected to carry over into future quarters. Sales and marketing expense For Q2 of 2020 is in line with the expense incurred in Q2 of last year. Moving on to other P&L items on Slide 9 and to touch upon just a few. We incurred restructuring charges of $0.9 million in Q2 of 2020 to improve operational efficiency and enable the company to respond locally, while at the same time reducing costs. Interest expense in the quarter is down $1.1 million from Q2 last year and 1.7 million year to date due to lower borrowings under the credit facility and lower interest rates. The effective tax rate year to date 2020 is 48.8% and is impacted by the jurisdictional mix of income and the decrease in overall pretax earnings. Moving on to the earnings summary on Slide 10. After adjusting for special items, we reported adjusted earnings per share for Q2 of $0.12 versus earnings of $0.22 per share for Q2 last Year. Adjusted EBITDA for Q2 was &6 million which is down from the $10.4 million of adjusted EBITDA reported in Q2 last year. And looking forward, as Adam mentioned, we expect adjusted EBITDA on the second half of 2020 to exceed the first half of the year. For details on adjusted EPS and adjusted EBITDA, you can refer to the appendix in the back of this presentation. Moving on to some balance sheet drivers on Slide 11. Operating cash flow for Q2 is $22.9 million and year to date is $32.8 million. One item to note when considering the cash flow performance year to date is that the company currently has deferred payroll tax and other tax liabilities totaling $12.3 million related to the CARES Act and other COVID relief which will be paid throughout -- through 2022. A rough wind down of this deferred liability is a net $1 million of payments in the second half of 2020, $8 million of payments in 2021, and $3 million of payments in 2022. Our cash flow without the impact of these deferred payments is still $20.5 million year to date. Net debt was $45.6 million as of June 30, which is a reduction of $29.1 million from the $74.7 million in net debt reported as of December 31, 2019. And the company's leverage ratio as defined under our credit facility as of February 2, 2020 was 2.1, which is down from 2.3 leverage ratio reported in Q4 of 2019. And it's more than a full turn lower than the 3.3 leverage ratio reported just nine months ago at the end of Q3 2019. Finally, turning the backlog on Page 12. backlog as of Q2 2020 was $327 million which is down 3.5 million or 1.1% compared to the $330.5 million of backlog that was reported for Q2 of 2019. After considering the $15 million of backlog related to the divested tuition and LNG all fuels business that was in the Q2 2019 figure, the increase in backlog is approximately $11.5 million or 3.6%. This concludes the financial update. I'll now turn the call back to Adam.

[Adam Stedham:]

Thank you, Mike. Before I turn the call over for Q&A, I'd like to provide a little more detail on my priorities of focus and responsiveness. My first priority is to focus the business in regions and industries where the company has a sustainable competitive advantage and the ability to scale. Now my second priority is responsiveness. As we continue to evaluate the risks and opportunities in the marketplace, the evolving needs of our clients vary significantly by region and industry. As a result, we implemented structural changes during the quarter to increase our responsiveness by empowering more local decision making that enables us to quickly and effectively serve our clients in their respective region and industry. I believe that the focus on responsiveness and focus throughout the organization will result in our ability to deliver improved operating performance and ultimately increase shareholder value over the long term. I look forward to providing further updates on this during our next quarter call. So at this point, operator, can we turn the call over to Q&A?

[Operator:]

We will now begin the question-and-answer session. [Operator Instructions] Our first question today comes from Jeff Martin with ROTH Capital.

[Jeff Martin:]

Thanks. Good morning, Adam and Mike.

[Mike Dugan:]

Good morning, Jeff.

[Adam Stedham:]

Good morning.

[Jeff Martin:]

I was wondering if you could talk in detail about the rescheduling efforts that have transpired throughout the quarter and subsequent to the end of the quarter. And -- you know, how those will come on in the second half of the year? And how you see that transitioning into the start of next year as well?

[Adam Stedham:]

So I'll discuss -- I'll give you what I can, Jeff, and what we know right now. So some of our work was simply delayed. We announced in the fourth quarter of last year a large outsourcing relationship that we won in the automotive industry, and that was delayed for months and it's now -- from when we thought it was going to start, it's now started and that's moving on. In addition to that, much of our face to face delivery, clients are aggressively moving to move that to a virtual platform and to try to deliver in a virtual platform, which is ramping up very quickly. But it's not to the level of the face to face delivery volumes that we had seen previously. As a result of that, we're working with clients to make sure that they can meet their compliance needs. And they can deliver all of their compliance training, either through a virtual format or a live format in some regions of the world as they're opening up. So, we do believe that there's some pent up demand in the system. And there are clients who have training that they desire and need to deliver but have not been able to, but we really -- at this point, we don't have a solid understanding of the volume of that and how it's going to flow through over the remainder of the year and going into next year.

[Jeff Martin:]

Okay, Do you have a figure on how much of the business historically is face to face delivery versus virtual or online?

[Adam Stedham:]

I believe we said on the previous calls, it was 25% to 30%. Ann is that correct, or?

[Mike Dugan:]

That's correct. That's correct, Adam, 25% to 30%.

[Jeff Martin:]

Is face to face?

[Adam Stedham:]

Right, historically.

[Jeff Martin:]

Okay. And then could you discuss the trend of the sales activity? And how it's currently faring in -- Yes, selling in a virtual world today?

[Adam Stedham:]

Absolutely. So the sales activity has -- the pipeline had slowed for a period of time, as everyone was reprioritizing around dealing with the COVID situation. We're now seeing some activity improvement in the pipeline. One of the challenges that we faced coming into this year is we had a couple of opportunities that we had been verbally told were going to happen this year. That did not happen because of COVID. And as we've talked about on previous calls, the second half of the year, particularly Q4 is a big strategic planning for our outsourcing business. Typically, that's a time that makes sense to award outsourcing and align the budget years. So we did have activity in Q4 that we -- that was very promising and we were very excited about that did not materialize into revenues this year because with the COVID situation, the timing wasn't right. We're still having conversations with those clients. In addition, we're starting to hear clients discussing activities for Q4 of this year looking at, okay, how do we manage 2020 and beyond? And does it make sense to look at a partner relationship in a post COVID world? If you recall, during previous downturns of the economy, typically post downturn, we see a lot of activity in that space. We're starting to have conversations about that with clients. None of it has materialized into pipeline activity in terms of we have a request for proposal in hand. But in terms of our early stage pipeline development metrics, we feel as though there are very positive things happening that will develop throughout the year.

[Jeff Martin:]

Okay, that's helpful. Thank you. And then the last question, how should we think about cash flow for the second half of the year obviously, you've had a catch up in collections in first time. And then you had CARES act related deferrals benefits you. So excluding those, how should we think about cash flow in second half of the year?

[Mike Dugan:]

Yes. Jeff, this is Mike, obviously. In the second half of the year, so we had a -- as our revenue declined, there is a natural component of the working capital converts to cash and that -- we had collections improvement, but we also had that situation of declining revenue, that working capital flow through and into cash. So, as you look out to the second half of the year, I already mentioned that the net payments of the current deferred liabilities about 800K, we actually have more payments in the second half of the year than that, but there's also additional accrual of deferrals for the second, third quarter and fourth quarter related to the deferred payroll taxes. So it's a net of about 800K. And then, as we -- as revenue ramps up and we mentioned -- Adam mentioned that revenue is expecting to -- is expected to sequentially increase in Q3 and Q4 compared to Q2, as that revenue increase, there is going to be some conversion of that revenue into cash going into the working capital to fund that revenue increase. So we have some rough rules of thumb, 50% of the revenue increase might, during that period of time, go into working capital, but that's the information I can give you. Is that a guess what your question was?

[Jeff Martin:]

That helps. Yes, thank you, Mike. Appreciate your time.

[Mike Dugan:]

No problem.

[Operator:]

[Operator Instructions] Our next question today comes from Zach Cummins with B. Riley FBR.

[Zach Cummins:]

Good morning, Adam. Yes. Good morning, Adam and Mike. Thanks for taking my questions.

[Mike Dugan:]

Good morning, Zack.

[Zach Cummins:]

Can you -- yes, can you speak to -- I guess it's probably hard to provide a lot of clarity around this. But can you speak to the progression of the rebound that you're expecting? Are there areas of strength versus areas of weakness, just trying to get a little more clarity into how you're thinking about this as we progress to the second half of the year?

[Adam Stedham:]

What I can say is, obviously, China was the first place that we saw all of our face to face deliveries canceled. China is the first place that we're seeing face to face deliveries reschedule. Right? And we're seeing that -- we're also -- we're seeing that we're starting to get face to face activities reschedule in the US in Europe, different parts of the world, but it is proving to be unpredictable. We will schedule classes then we'll cancel classes, and then we'll add the classes back. So it is unpredictable. And so we really don't know about the pent up demand, what we do believe is in Q2, the overwhelming majority of our face to face delivery was canceled for large parts of Q2. So from that point forward, as we continue to reschedule face to face deliveries, it's just an increase. But it's very difficult to get a feel for it. Particularly, because if you look at the amount of our business, it still operates in the United States. In many ways, the US market is a little less predictable right now than other parts of the world. So I don't think I answered your question, Zach, other than to say we're definitely seeing a rebound, but it's very difficult for us to predict the level.

[Zach Cummins:]

No, I understood that. Appreciate that. And then I guess just speaking to the automotive sector since it's been such a good growth driver for you prior to the pandemic, I was just wondering what you've seen in that sector since we've started to see rebound in some of the automotive production numbers that you're starting to see pick up in business as a result of that.

[Adam Stedham:]

Right. So we believe -- we continue to believe that the automotive industry presents a tremendous amount of opportunity for us. And the amount of disruption and change that is happening in -- our value, put it this way, our value creation is helping them deal with disruption and change. And the COVID situation has only increased the magnitude of disruption and change they're dealing with. So we actually continue to feel very positive about it. Our Request for Proposal activity is strong in the automotive industry. The automotive industry, particularly in the US was hit very, very hard in Q2. And we experienced a -- and you'll see in the queue, that's an industry that had a significant downturn for us. But we continue to believe that this is an industry that provides long term significant growth opportunity for us. And as that industry rebounds, we will rebound with it.

[Zach Cummins:]

Understood. That's helpful. And then, Mike, just one question for you. In terms of the cost-cutting and cost scaling efforts that you undertook here in Q2, I mean, can you provide a little more context around maybe some of the benefits that you recognized here in Q2 with some of those efforts and if there's any potential reversal of those benefits as we go towards the back half of the year?

[Mike Dugan:]

So, during Q2, there was some temporary levers that were implemented at the beginning of Q2 in what amounts to furloughs and one day off a week type of situation that were quick levers that we could implement and achieve immediate savings. Then that gave us time to actually, as we progress into Q2, look at the outlook, and we've had to make those difficult decisions and enacted and implement permanent cost cuts in the -- based on where we see the volume of the business being, and that's why you see the severance charge that was taken in Q2 relates to -- it basically -- the way to think of it, in Q2, we had temporary levers in place, but by the end of Q2, we implemented the permanent levers, and those permanent levers are pretty much equal in terms of the permanent savings to see going on forward in Q3 are equivalent to the temporary levers that we took in Q2. That's the best way I could describe it for you.

[Zach Cummins:]

Understood. That's helpful. Well, thanks again for taking the questions and best of luck in the second half.

[Adam Stedham:]

Thanks.

[Mike Dugan:]

No problem. Thanks, sir.

[Operator:]

This concludes our question-and-answer session, I would like to turn the call back over to Adam Stedham for any closing remarks.

[Adam Stedham:]

No, I would just -- I would thank everybody for joining today and just reiterate the comments, we feel that we're managing the situation well, and that we're positioned well. And as our clients continue to grow back, we are well-positioned to help them deal with all the change that they're going to have to manage through in a post COVID world. So we feel that creates opportunities for the company and our shareholders. So thanks, everyone, and look forward to talk to you next quarter.

[Mike Dugan:]

Thanks, everyone.

[Operator:]

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