Harsco Corporation
Q2 2020 Earnings Call Transcript

Published: 9 Aug 2020

[Operator:]

Good morning. My name is Carmen and I will be your conference facilitator. At this time, I would like to welcome everyone to the Harsco Corporation Second Quarter Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. Also, this telephone conference 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 teleconference. No other recordings or redistributions of this telephone conference by any other party are permitted without the express written consent of Harsco Corporation. Your participation indicates your agreement.

[Dave Martin:]

Thank you, Carmen. Welcome to everyone joining us this morning, and I hope you’re doing well. I’m Dave Martin, VP of Investor Relations for Harsco. With me today is Nick Grasberger, our Chairman and Chief Executive Officer; and Pete Minan, our Senior Vice President and Chief Financial Officer. This morning, we will discuss our results for the second quarter of 2020 and various initiatives at the company, including the integration of ESOL. We will then take your questions. Before our presentation, however, let me mention a few items. First, our quarterly earnings release as well as a slide presentation for the call, are available on our website. Second, we will make statements today that are considered forward-looking within 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 actual results to differ from those forward-looking statements. For a discussion of such risks and uncertainties, see the Risk Factors section in our most recent 10-K and 10-Q. The company undertakes no obligation to revise or update any forward-looking statement. Lastly, on this call, we will refer to adjusted financial results that are considered non-GAAP for SEC reporting purposes. A reconciliation to GAAP results is included in the earnings release as well as the slide presentation. Now I’ll turn the call over to Nick to begin his prepared remarks.

[Nick Grasberger:]

So, good morning, everybody and thanks for joining us today. While we are seeing some evidence of improvement in our end markets, the second quarter was characterized by extreme volatility and uncertainty, both for Harsco and for our customers. The volume of waste material that we processed declined about 20% year-over-year in the quarter, a bit more in our steel markets and somewhat less in most of the clean earth markets. Shipments in Harsco Rail held up well for most of the quarter, but began to decline later in the quarter as North American customers pushed out delivery dates due to COVID-related pressures. Within Harsco, the pandemic and the current operating environments have brought out the best in our workforce. We’ve moved quickly to adapt and remain flexible, and our ability to navigate the challenges is a testament to the strength of our leadership team and the strong culture that we’ve built at Harsco. I truly appreciate the ongoing support that we have received from our customers, investors, relationship banks and other stakeholders. And I would like to thank all of our employees for their resilience and dedication to our business and to our customers. The fact that Harsco remains on track with our portfolio of transformation into a pure-play environmental solutions company, only adds to my confidence in our team and in our future. Throughout the quarter, we were focused on four key priorities

[Pete Minan:]

Thanks, Nick and good morning everyone. So please turn to Slide 6 and our consolidated financial summary for the second quarter. But before we go through the detail, let me echo Nick’s comments. I am also pleased with our Q2 results in the context of the economic pressures we’ve experienced and continue to be impressed by the effort and coordination of our operational and finance teams managing through this difficult period. Our collaborative and proactive approach allowed us to react quickly to the changing market conditions. And these actions, coupled with our continued focus on safety and operational excellence, enabled us to generate strong results and positive free cash flow during the quarter.

[Operator:]

Thank you. We’ll go ahead with your first question. That will come from Michael Hoffman with Stifel. Please go ahead with your question.

[Michael Hoffman:]

Thank you very much. So I appreciate not giving guidance in light of this just moving pieces, but how do you feel about a backstop around free cash flow since you have alluded it will be positive? You have managed to get leverage below 4x. Can you help us a little bit about what the backstop might be on free cash flow, nothing less than kind of number as opposed to a guidance range?

[Pete Minan:]

Michael, it’s Pete. How are you doing?

[Michael Hoffman:]

Good, good.

[Pete Minan:]

Right now, I think it’s – we feel very comfortable saying it’s going to be positive free cash flow. I think given the volatility and the uncertainty in the markets as well as the timing of some of the payments that come from our customers in any period of time, I think it’s best that we just leave it at that rather than put any sort of backstop, as you said.

[Michael Hoffman:]

Okay. Can I ask it a different way? Will you – do you think It will be free cash flow positive in the second half since you were in the first half?

[Pete Minan:]

Yes, I think so. That’s the plan.

[Michael Hoffman:]

Okay. So I could assume that I will be better than the first half, is at least a minimum?

[Pete Minan:]

Yes, that’s a good way to look at it, Michael.

[Michael Hoffman:]

Okay, alright. That helps a lot. And then the – within the context of the Clean Earth business, when you say industrial is lumpy, is it big generator, small generator? Is there an end market that you are seeing that clean harvest has just reported, and they are alluding to that there’s some softness in chemical, for instance, but they have reinstated in revised guidance? So I am just curious what you are thinking and seeing on your industrial business?

[Nick Grasberger:]

Yes. Well, first of all, Michael, it’s Nick. The lumpiness in Clean Earth is really predominantly in the soil business. I think the industrial business has stabilized and is moving north a bit. So I would characterize it as a bit more stable and predictable. It’s going to be – these large construction projects that feed our soil business that are lumpy.

[Michael Hoffman:]

Yes. And that’s consistent with what you are hearing from ABI and some of that sort of indexing around future non-res construction. The last question then for me, you did a terrific job of proving that you can, in fact, flex costs around the steel business. If activity stays right where it is right now, at one point, you thought steel would be down about 15%, overall worldwide production. Where is your view about steel in context of those comments back in June?

[Pete Minan:]

Michael, it’s Pete. It’s virtually the same. Right now, our expectation is that overall steel production, at least as it relates to our customers, will be down about anywhere from 13% to 15% for the full year.

[Michael Hoffman:]

Okay. That’s terrific. Nice job on the cost cutting gentlemen. Thank you very much for taking the questions.

[Nick Grasberger:]

Thanks, Michael. Thanks.

[Operator:]

Your next question will be from the line of Jeff Hammond with KeyBanc Capital Markets. Please go ahead.

[Nick Grasberger:]

Hi. Jeff.

[Jeff Hammond:]

Hey, good morning, guys.

[Pete Minan:]

Hey, Jeff.

[Jeff Hammond:]

So just on Rail, can you just talk about the cadence into the second half given the kind of balance of very strong backlog versus some of these deferrals that you are seeing? And how does that kind of inform that 12% to 14% EBITDA margin you talked about last quarter?

[Nick Grasberger:]

Yes. Well, first of all, we certainly expect that the second half in Rail to be a good bit better than the first half. We are also still looking at good double-digit EBITDA growth year-over-year in the Rail business. From a margin standpoint, the margin should lift as well. So Q3 margins will likely be similar to that in Q2, but Q4 should be better.

[Jeff Hammond:]

Okay. So the deferrals are more impacting new orders coming in and the second half getting materially better?

[Nick Grasberger:]

Yes. I think the North American business will be softer in the second half than what we had thought 3 months ago. Some of the push-outs are within the year some of them are into ‘21.

[Jeff Hammond:]

Okay. And then certainly some noise with the ESOL acquisition coming in. It looks like the soil business is kind of the big headwind in the bridge. But can you just talk about how the hazardous business performed versus your expectation in the quarter, both in terms of top and bottom line?

[Nick Grasberger:]

Yes. Yes. I would say, generally speaking, that the volume trends that we saw in hazardous, while consistent with the market were nonetheless a bit weaker than we thought they would be. A good bit of that was retail. As I mentioned, that’s coming back. Some of that was medical. That’s coming back as well. And of course, the industrial volumes with production picking up are also improving. But I would say, in general, they were softer than we anticipated. But again, as we look at the performance of kind of peer companies in the hazardous sector, we believe our trends have been consistent with theirs.

[Jeff Hammond:]

Okay. And then construction materials, a lot of my companies that sell into non-res are seeing work stoppages abate and things improve. And if – are you starting to see some of that loosen up and some of these work stoppages abate where that business would get better?

[Nick Grasberger:]

Yes, we have. But I think, on the other hand, we have still been surprised particularly in the Northeast, that other projects that we expected to restart have not yet restarted. So it’s – it has been a bit of a surprise for us, but that business changes week-to-week, day-by-day in this environment. So it’s difficult to project, as I mentioned.

[Jeff Hammond:]

Okay. And then the higher cost was the number you said, the $10 million to $12 million sequentially, is that mostly in corporate? Or does that kind of blend across the segments?

[Pete Minan:]

Yes. That’s across the segments. There’s an element in the corporate cost, Jeff, but it’s pretty much almost proportionate across the business units.

[Jeff Hammond:]

Okay. And then just final question, on the ESG, good to see your sustainability report and improvements, can you just talk about, as you get feedback from some of these ESG funds and the people that look at it, in your self assessment, like where are the biggest opportunities for you guys to continue to kind of improve on the curve?

[Nick Grasberger:]

Yes. Well, I think a lot of it, honestly, is driven by better disclosure of the things that we are doing, and we have done. A lot of the metrics that others look at, we historically had not provided and had not disclosed. We are beginning to do that. So that’s helpful. Clearly, on the social and the governance side, I think we have been and we continue to get stronger. I think the focus is really more on the E, the Environmental. And again, a lot of it comes down to better tracking and focus on certain metrics. And we have made good progress there. There’s an awful lot of focus on it now. And of course, with the shift in our portfolio, we will have even better metrics and results. So that’s really the focus.

[Jeff Hammond:]

Okay. Thanks guys.

[Operator:]

Your next question is from the line of Rob Brown with Lake Street Capital. Please go ahead.

[Rob Brown:]

Good morning.

[Nick Grasberger:]

Good morning.

[Pete Minan:]

Yes.

[Rob Brown:]

Just following up again on the Rail push-outs in terms of potential new orders, how – I know the visibility isn’t great. But how quickly can that come back? What’s sort of the dependency there? And maybe historically, what have you seen in terms of that order activity kind of resuming?

[Nick Grasberger:]

I think generally what we have seen is that the Class 1s tend to be a little bit slow to reduce their capital spending budgets, and we certainly saw that over the last quarter. But at the same time, they are then reluctant to boost it back up. So they – it tends to lag a bit. And so I think it’s unlikely that the recently announced capital spending reductions by the Class 1s will be reinstated this year.

[Pete Minan:]

Rob, this is Pete. Let me just add just one other point. When we are talking about these push-outs, these are all relative to our previous expectations for the second half. I think the main point is that we do anticipate there is still to be meaningful growth in this business even in consideration of those push-outs compared to prior year.

[Rob Brown:]

Yes. Okay, great. That’s great color. And then the Clean Earth activity, you mentioned a number of things you were doing and starting to work on. But does this COVID slowdown really change anything in terms of what you are doing in terms of getting Clean Earth and ESOL integrated or is that really progressing on plan? And do you – are you seeing any new opportunities kind of develop as you get into it?

[Nick Grasberger:]

Yes, yes. Yes, good question. No, I don’t see any impact of COVID on our ability to integrate the business and to capture the benefits that we identified, as I highlighted earlier. We have been very happy as we have dug into the business and reached out to our new colleagues at ESOL and solicited their thoughts, and very pleased with the additional opportunities that we have identified. So I think despite the pandemic situation, the upside in the business is even greater than we thought.

[Rob Brown:]

Okay. Okay, great. Thank you. I will turn it over.

[Nick Grasberger:]

Thank you.

[Operator:]

Your next question will come from the line of Larry Solow with CJS Securities. Please go ahead.

[Larry Solow:]

Great. Good morning. Just on the Rail segment, again, I just missed the beginning. So on the pushout, is that more North America related or is that across the board? And obviously, most of your growth has been coming internationally. So I was just trying to assess that.

[Nick Grasberger:]

Yes. Yes. No, it’s really all in North America. Of course, our customer base in North America is largely private. Our customer base outside the U.S. is largely funded by governments, right, infrastructure projects and so forth. And so the international business has been largely unaffected by COVID, and those projects are continuing on the time line that we had expected months ago.

[Larry Solow:]

And mostly your growth in backlog and your expectations moving out have been more on the international side. Is that correct or...

[Nick Grasberger:]

Yes, absolutely. So the big wins that we have had with the Deutsche Bahn, Pete mentioned in this past quarter, India and Hungary. Yes.

[Larry Solow:]

And you still expect – I know you are not giving guidance, but you still expect sequential improvement in both margin and sales as we go into the back half in Rail, correct?

[Nick Grasberger:]

We do. Yes.

[Larry Solow:]

Okay. And then in terms of – you mentioned international really haven’t seen any push-outs. But just on a longer-term basis or a mid- to long-term basis, any fear anecdotally that – obviously, you have a great backlog and you can probably live off that for some time. But I know you have expectations of inevitably maybe 3, 4 years out reaching a $500 million segment sales number and $100 million EBITDA number. Is that still within your sort of longer-term targets?

[Nick Grasberger:]

Yes, very much so. I think the international opportunities continue to expand, as I mentioned before. I think the success technologically in our SBB contract has really boosted our brand. Many doors have been opened. We will have a good look at many similar opportunities in the EU and also in Southeast Asia. So I think I have never been more optimistic about the international portion of the Rail business.

[Larry Solow:]

Got it. And then just switching gears real fast, on the Environmental, obviously, unprecedented period, you are reducing growth CapEx, which completely makes sense. How about – as the markets start to recover, do you guys – I am sure you will return to some growth capital expectation, but do you – is that somewhat tempered longer-term with sort of a greater focus on cash flow?

[Nick Grasberger:]

Yes. Good question. And absolutely, it is tempered. We are focused more on shifting the mix within the business than unnecessarily growing the top line. So I think you will see EBITDA minus capital spending continuing to grow, whereas revenue will be a bit more muted. And it’s all focused on shifting that mix to less capital intensive, more environmentally-oriented services and products.

[Larry Solow:]

Got it. Great. Thank you very much.

[Nick Grasberger:]

Thank you.

[Operator:]

Next question comes from the line of Chris Howe with Barrington Research. Please go ahead.

[Chris Howe:]

Hi. Good morning, everyone.

[Nick Grasberger:]

Good morning.

[Pete Minan:]

Okay.

[Chris Howe:]

I just wanted to follow-up on some of those questions that we have had on the Rail segment. You commented about the backlog having a higher mix in the International business. But perhaps you can dig in a little bit further as to how the aftermarket piece is doing. I know you said the short-cycle business there was some pull forward in this quarter. What are your expectations for that piece of the business as we look forward? And I know the backlog – in terms of the backlog, perhaps you can comment on the adjusted EBITDA to free cash flow conversion in this segment and kind of what your expectations are for cash flow generation here?

[Nick Grasberger:]

I will take the first part of that, Chris. Yes, I think the aftermarket business outside the U.S., let’s say, primarily in China should remain strong in the second half of the year. One thing we – you need to consider is that, as this backlog internationally is delivered and most of that, of course, is equipment, okay, which will have bit of a dampening effect overall on margins. As we – as that installed base over time requires aftermarket components, that’s where we will see the real margin lift. So aftermarket outside North America today is, in terms of margin, predominantly in China. But that’s going to shift over time. We will still have good margin in China. But you will start to see more aftermarket following our new installed base in Europe.

[Pete Minan:]

Yes. Let me just add a couple of other points. So with respect to aftermarket, so for the reasons Nick just mentioned, the percentage of aftermarket as a total of the whole business units, revenues for example, will be smaller than it had been in the prior year just because of the increase in new equipment orders and deliveries. In terms of free cash flow, as we are growing, you appreciate that the cash flow for this business is modest as we grow. And that’s because we start making investments as we build the inventory for these long-term contracts and don’t deliver the cash flow until we actually get the units delivered. So the expectations of cash flow generation for this business unit are very, very modest this year. And they will increase in subsequent years as we start delivering the units and start to take advantage of the aftermarket on that installed base.

[Chris Howe:]

Okay. And then my last question is in regard to ESOL, you mentioned the reaffirmation of your goal to get to that $70 million, and the cost savings and synergies are still there and will be realized as time moves forward. But from a – as we kind of look over the integration, can you maybe talk about what’s moving slightly ahead of expectations? What’s been discovered that previously was undiscovered? And kind of how things are moving along from an innings perspective?

[Nick Grasberger:]

Yes. Yes. Yes, I would say, as we understand the business better and the industry better, we have realized in terms of, let’s say, the value proposition that we believe, the Clean Earth segment can provide to the market, there’s an opportunity there to differentiate somewhat from the existing market participants. So it’s something we are very focused on now. It’s not just about the integration, although, of course, an awful lot of work is being done there. We are also very focused on that value proposition. And we think that there’s a lot of upside in the business over time as we carve out a somewhat unique position in the market around customer service. So that’s been, I think, longer term, one of the more appealing aspects of the acquisitions that we have made in the Clean Earth segment.

[Chris Howe:]

That’s very helpful. Thank you for taking my questions.

[Nick Grasberger:]

Sure.

[Operator:]

We have no other questions at this time. I will now turn the call back over to Dave Martin for any closing remarks.

[Dave Martin:]

Thank you, Carmen, and thank you, everyone, for joining us this morning. Please contact me with any follow-up questions. And again, we appreciate your interest in Harsco and look forward to speaking with you in the future. Take care.

[Operator:]

Thank you. Thank you again for joining today’s conference. This concludes the call. You may now disconnect.