Harsco Corporation
Q4 2019 Earnings Call Transcript

Published: 21 Feb 2020

[Operator:]

Good morning. My name is Stephanie and I will be your conference facilitator. At this time, I would like to welcome everyone to the Harsco Corporation Fourth Quarter Release Conference Call. All lines have been placed on mute to avoid any background noise. After the speakers' remarks, there will be a question-and-answer period. Also, this teleconference presentation and accompanying webcast made on behalf of Harsco Corporation are subject to copyright by Harsco Corporation and all rights are reserved. Harsco Corporation will be recording this conference. No other recordings or redistributions of this teleconference by any other party are permitted without the expressed written consent of Harsco Corporation. Your participation indicates your agreement.

[Dave Martin:]

Thank you, Stephanie, and good morning, everyone joining us. I'm Dave Martin, Vice President of IR for Harsco. With me today is Nick Grasberger, our Chairman and Chief Executive Officer; and Pete Minan, Harsco's Senior Vice President and CFO. This morning, we will discuss our results for the fourth quarter and the full year as well as our outlook for 2020. We'll then take your questions. Before our presentation, however, let me mention a few items. First, our quarterly earnings release as well as the slide presentation for this call are available on our website. Second, we will make statements today that are considered forward-looking with the meaning of the Federal Securities Laws. These statements are based on our current knowledge and expectations, and are subject to certain risks and uncertainties that may cause the actual results to differ materially from these forward-looking statements. For a discussion of such risk factors and uncertainties, see the Risk Factors section in our 10-K. The company undertakes no obligation to revise or update any forward-looking statement. Lastly, on this call, we may refer to adjusted financial results that are considered non-GAAP for SEC reporting purposes. A reconciliation to GAAP results is included in our earnings release today as well as the slide presentation. Now, I’ll turn the call over to Nick to begin his remarks.

[Nick Grasberger:]

Thank you, Dave, and good morning, everyone. Our results for the fourth quarter were consistent with our previous guidance and Pete will provide additional color in a few minutes. My comments will focus primarily on our outlook for this year and I will also reinforce a few of the key messages related to our planned acquisition of the Environmental Solutions business or ESOL from Stericycle. For 2020, on a consolidated basis, we expect revenue and EBITDA to grow by mid to high single digits with the strongest growth in Rail followed by Clean Earth and Harsco Environmental or HE. Our guidance does reflect a cautious stance on the potential effect of the coronavirus outbreak on our HE and Rail businesses, even though we have yet to experience any meaningful direct impact. I’ll make a few comments on each segment. First, Harsco Environmental, our Q4 results reflected the weakest conditions across our steel industry customers in the last four years. Volume was down nearly 10% year-over-year and capacity utilization declined to 72.5%, the lowest figure since Q4 of 2015. Nevertheless, on a full-year basis, the impact of new contracts and cost reduction measures enable the HE to hold revenues and profits about equal to 2018 and once again deliver double-digit profit margins.

[Pete Minan:]

Thanks, Nick, and good morning, everyone. So, let's start with slide 4 in our consolidated financial summary for the fourth quarter. Harsco’s revenues totaled $400 million in adjusted operating income in the fourth quarter was $31 million. Both these figures were the same as the preliminary financial results we provided in January. This adjusted operating income figure compares with adjusted operating income of $27 million in the prior year quarter after excluding the industrial businesses that we've now sold. The majority of the variance against the original guidance in the quarter was attributable to our Rail segment where we encountered shipment delays and higher operating costs as a result of manufacturing and capacity challenges following the consolidation of our manufacturing facilities in North America. The remainder of the variance was due to the Environmental segment where softer than expected services and product demand from our customers impacted the results. Steel output at our customer sites was roughly 6% lower than anticipated and declined approximately 9% compared with the fourth quarter of 2018. Furthermore, steel market pressures intensify late in the quarter essentially a continuation of what was overall a challenging year for the industry, and against this challenging backdrop, we are encouraged that the business was able to maintain a 10% adjusted operating margin in the quarter which is comparable with the prior year quarter. Overall, we again believe that our performance particularly later in 2019 illustrates the improvements we've made within this business in recent years and it reflects positively on the growth investments we've made in Environmental. Meanwhile Clean Earth had another strong quarter consistent with our expectations. Revenues grew 20% plus year-on-year or 17% organically, and we delivered a 17% adjusted operating margin in Q4. Harsco’s adjusted earnings per share from continuing operations for the fourth quarter was $0.12. This figure is adjusted for strategic costs related to our pending ESOL acquisition and a few other unusual items in the quarter. Lastly, we generated $28 million of free cash flow in Q4 and we spent nearly $6 million to repurchase 349,000 shares of our stock in the quarter.

[Operator:]

Your first question comes from the line of Chris Howe with Barrington Research.

[Chris Howe:]

Moving through some of my questions here; if we look at the time period since you released preliminary Q4 results until now, you have mentioned the different buckets and the different operational improvements that are happening at the facility in South Carolina. Is the conservative assumption to assume that facility is back up and running and running to your expectations by mid-year? In other words, could this be back up and running sooner or is it right to think about mid-year only?

[Nick Grasberger:]

Chris, I believe that the mid-year assumption is appropriate. There’s an awful lot to do. Again indicate and express my confidence that we will in fact get it done. But I think to assume anything earlier than mid-year is inappropriate.

[Chris Howe:]

Okay. So, yeah, given the improvements being made there in combination with your expectations for Rail, it seems like that could line up for a good 2021 not to be too forward-looking, but going more on Rail, my next question, can you talk more about what you’re seeing in regard to the after-market mix? You had mentioned that the after-market mix was part of some of the weakness. But I assume after-market is still expected to grow positively in fiscal year 2020 and beyond. Can you talk more about that?

[Nick Grasberger:]

Yeah. That’s right, Pete, can you talk more about that?

[Pete Minan:]

Yeah. That right. The backlog commentary that Pete provided, the growth in the backlog is primarily driven by equipment. Now, we still do expect the aftermarket business to grow about 10% top line this year. So, still very good growth, whereas the growth in equipment is 40%, 50%. So, that that's driving the mix.

[Chris Howe:]

Okay. Okay. And then as far as Protran, that's still going to continue to be a substantial growth driver moving forward. What are your expectations for Protran as far as how it winds up as a portion of the mix in 2020?

[Nick Grasberger:]

Okay. I think the Protran top line growth should be well over 10% as well. A few of the large orders that were expected in Q4 that have been pushed out are indeed the guidance for this year.

[Pete Minan:]

Yeah. So, Chris, this is Pete. The Protran revenues in 2019 are about 12-or-so-million dollars. We're probably going to do twice that in 2020 at the top line. It’s obviously a very small base, but it will grow substantially.

[Operator:]

Your next question comes from the line of Jeff Hammond with KeyBanc Capital Markets.

[Jeff Hammond:]

Just on Clean Earth, can you just talk about the mix dynamic that's holding back the margin drop-through? And then I'm just wondering why corporate expense, you know, overall is going up if you're shifting $5 million to the Clean Earth.

[Pete Minan:]

Yeah. Let me take the second question first ,Jeff. This is Pete. So, in terms of corporate, it's really a combination of a couple of things. There's some growth investment that we're making in corporate. There's also some additional compensation in the comp comparison to last year that's driving most of it. There's a very little amount of other stuff, but it's a combination of new position, some comp increases compared to last year, and in growth investments In the case of Clean Earth, the mix really is a combination of the three business lines. So we got contaminated, dredge and hazardous. In 2019, the mix in hazardous had a couple of operations with respect to mobile units that were very, very good margins. They’re going to be on line in this year as well, but they’re going to be at a slightly lower margin. So the composition between or among the three business lines is really what's driving it. Dredge is increasing a bit and as you know, dredge is lower margin than it has, and the contaminated business will grow as well. It's just a combination of those.

[Jeff Hammond:]

Okay. And then free cash flow, can you just talk about what you think working capital is going to be because it was a pretty big drag in 2019 and it looks like you're keeping your growth CapEx flat. Is there any expectation that that ends up being a high number and pull back some of the growth CapEx?

[Pete Minan:]

Yeah. So the working capital, we have some challenges in working capital really in Q4, and really in the last month the Q4 really in two areas. One, the biggest by far was related to the operational challenges we had in Rail which affected our inventory levels that we ended up being higher than we wanted them to be. It kind of delayed some of the sales into later in the month. So we didn't get some of the billings out that we wanted to. So the combination of that had a fairly significant effect on our working capital which we think we've got under control and intended to see that -- the reverse itself in 2020. In the case of HE, we also struggled with working capital but in that case it was largely related to receivables that our customers held back on the last couple of days of the year. And we ended up receiving a good portion of the – these deferred collections if you will in early January. That's liable to continue for the year but we've got strategies in place to kind of manage that as well as manage the vendor payments to help. In terms of CapEx, the expectations just as you laid it out, right now we're targeting to keep growth CapEx spend flat including, well it – that's not just HE. It’s the bulk of it, but there's a little bit in Rail as well, but by and large, there's really no intention to move that. Even though the pipeline of opportunities is greater, we're going to be selective to identify those that best achieve our desired metrics.

[Jeff Hammond:]

Okay. And then just one on ESOL, like it was kind of going through some of the conference calls, etcetera, and it seems like their industrial business, which I think flows through hazardous still had been pretty cyclical, and there were some large projects and I think you characterize your hazardous business as less cyclical. So, I'm just trying to understand maybe what's different there and then they also talk about direct disposal costs and I think Clean Earth doesn’t really do any direct disposal. So can you just kind of address those two dynamics on the ESOL business?

[Pete Minan:]

Yeah. So I'll take the second question first. Actually ESOL and Clean Earth have a very similar dynamic with respect to disposal, right. Neither business owns final disposal assets, so they both need to contract with them for the ultimate disposal of what's processed through their TSDFs. So there's not much of a difference there between the business model on the two. With respect to the so called M&I or industrial component of hazardous waste, it is true that in Clean Earth, it’s really not lumpy. As we did our diligence on ESOL, there was a little bit more lumpiness but again I think that’s something that we would hope to address in our operational improvement initiatives.

[Operator:]

Your next question comes from the line of Rob Brown with Lake Street Capital.

[Rob Brown:]

Stick with ESOL, maybe you could just give us – Clean Earth has had very strong growth in the quarter but I think ESOL was growing much more slowly. Could you kind of reconcile why the difference there? And can you get ESOL’s growth improving? And what sort of the plans there?

[Nick Grasberger:]

Sorry. Rob, can you repeat that? I didn't catch all of that for some…

[Rob Brown:]

Yeah. Sorry. Just wanted to kind of get a sense of what you think the growth in ESOL can be and Clean Earth seem to have a pretty strong growth rate. Can you get ESOL’s growth rate improving, and what sort of your plans for growth in the Clean Earth business overall?

[Pete Minan:]

Yeah. So, as Nick mentioned, the ESOL business is very similar to the Clean Earth business that we own, as you know, in terms of their business dynamics. They’ve got some elements that are different and some expanding market – expanded markets that we don’t have a Clean Earth. But I think the expectation is that, we should achieve similar organic growth rates in ESOL, maybe even slightly better than we were currently experiencing in Clean Earth, which is, roughly high-single digits. Clean Earth has been consistently achieving those – that type of organic growth rate over the last few years and we think that there’s clearly the opportunity to deliver that same degree of growth in the acquired ESOL business, you know, once we get it on board.

[Rob Brown:]

Okay. Great. And then switching to Rail, you know, thinking through the backlog growth there, what’s sort of your expectation in 2020 should you see a continued strong order flow there? And maybe comment on the capacity that you’ll have once you get the operations fixed and how that backlog growth sort of fits into that capacity?

[Nick Grasberger:]

Yeah. We certainly do anticipate the backlog to continue to grow. In fact, I mentioned some key milestones from a capacity standpoint by midyear. We have other targets for the end of this year to accommodate the backlog going into 2021, which was pointed out earlier, should be another quite strong year for the Rail business. So, we need to continue to expand capacity really throughout the year to accommodate that backlog for 2021.

[Rob Brown:]

And can you kind of mention what would your capacity be exiting 2020, kind of a number…

[Nick Grasberger:]

Well, we look at it primarily from equipment perspective and the number of slots available in the plant for machines. And I think we’re about 18 now. We need to try to get to around 30 by mid-year and something closer to 40 by the end of calendar 2020.

[Pete Minan:]

So if I may add, Rob it's Pete. Just in terms of kind of the financial equivalent, basically when were successful in addressing the matters that we described under project score, we feel confident that the capacity will be adequate, more than adequate to deliver the long-term revenue targets that we put out.

[Rob Brown:]

Great. That’s helpful. And then, on China and I guess the coronavirus, what do you – you kind of mentioned that there’s some kind of a – bit of headwind. What do you sort of expecting there, what’s the risk points and exposure?

[Nick Grasberger:]

Well, of course, it’s very difficult to say. Our revenue in China is really derived from two primary steel making facilities. At this point, they have not reduced their production. But my understanding is that we’re seeing inventory levels, steel inventory levels in China increase. And so, it wouldn’t surprise us if at some point this year, there are some production cutback. But they’ve not been discussed with us by our customers and we’re certainly not seeing any impact now. We just see the potential for that being the case.

[Rob Brown:]

Got it. Okay. Thank you. I’ll turn it over.

[Operator:]

Thank you. This concludes today’s conference. You may now disconnect.

[Nick Grasberger:]

Thank you. Have a good day.