Matrix Service Company
Q4 2021 Earnings Call Transcript

Published: 14 Sep 2021

[Operator:]

Thank you for standing by and welcome to the Matrix Service Company Conference Call to discuss results for the Fourth Quarter Fiscal Year 2021. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. As a reminder, today's program may be recorded. I would now like to introduce your host for today's program, Kellie Smythe, Senior Director of Investor Relations. Please go ahead.

[Kellie Smythe:]

Good morning and welcome to Matrix Service Company's fourth quarter fiscal 2021 earnings call. Participants on today's call will include John Hewitt, President and Chief Executive Officer; and Kevin Cavanah, Vice President and Chief Financial Officer. The presentation materials we will be referring to during the webcast today can be found under Events and Presentations on the Investor Relations section of matrixservicecompany.com. Before we begin, please let me remind you that on today's call, the company may make various remarks about future expectations, plans and prospects for Matrix Service Company that constitute forward-looking statements for the purposes of the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various factors, including those discussed in our annual report on Form 10-K for our fiscal year ended June 30, 2021 and in subsequent filings made by the company with the SEC. To the extent the company utilizes non-GAAP measures, reconciliations will be provided in various press releases, periodic SEC filings and on the company's website. I will now turn the call over to John Hewitt, President and CEO of Matrix Service Company.

[John Hewitt:]

Thank you, Kellie and good morning, everyone and thank you for joining us. I'd like to begin our call by congratulating and thanking our employees for achieving a total recordable incident rate of 0.28 in fiscal 2021 which represents the best safety performance in the company's history. This achievement was made in a year when additional rigorous COVID safety protocols were in place, adding to the test planning complexities and employee distractions. The safety performance -- the safety performance is world-class and only serves to strengthen our resolve to achieve and maintain a zero incident safety performance throughout our operations. Before we leave the topic of safety, I'd also like to thank our storm response teams for the tremendous work they are doing, along with others to restore power in Louisiana following Hurricane Ida. These teams often spend weeks away from home and work under extremely difficult circumstances to restore power and quality of life for those impacted. I'd also like to announce that next week, Matrix will publish it's first sustainability report in which, among other things, we describe our enterprise-wide ESG governance framework with oversight by our Board of Directors to drive culture, accountability and continuous improvement. Reaffirm our commitment to uphold the highest standards of ethics, integrity and respect. Our success depends on our people and our word. Report on baseline metrics for Greenhouse Gas emissions, document our employee diversity baseline which will shape recruiting efforts, succession planning and professional development. Report on other key areas, including safety, health and well-being, training and development and community. And clearly, state as a corporate citizen, our role in society and our commitment to supporting our communities, being a good steward of the environment and being a trusted partner to all stakeholders. This has been an enterprise-wide effort undertaken by our employees and leadership to showcase our accomplishments, identify areas of continuous improvement and set the stage for transparent annual reporting on all areas of ESG. I'd now like to turn the call to Kevin Cavanah, who will briefly review fiscal 2021 results, after which I will share our outlook on a much brighter fiscal 2022, including a discussion on the current business environment, our strategy and finally, our opportunity pipeline and the acceleration in awards we are seeing in the first quarter of fiscal 2022.

[Kevin Cavanah:]

Thanks, John. I will start by reviewing the results of each segment and then discuss consolidated results. Despite a strong start to the fiscal year, the Utility and Power Infrastructure segment had a relatively difficult fourth quarter. Revenue was $53 million in the fourth quarter, up almost 18% over the third quarter due to an increased volume of capital projects. The gross profit for the quarter was a negative $6.3 million as good project execution on electrical service work was offset by a charge to revenue of $6.6 million on a large capital project that is currently in startup and commissioning. The project has largely been impacted by enhanced health and safety protocols, supply chain disruptions, travel restrictions and employee concerns brought about by the COVID pandemic. Several major weather events also contributed to schedule compression and cost increases as the company worked to achieve project completion. We expect the project to have a positive outcome, although at a reduced margin. Although the revenue was up over the third quarter, low revenue volume continued to result in the under-recovery of overheads that negatively impacted gross margins by over 400 basis points. As a result of the project charge and under recovery, the segment produced a quarterly operating loss of $9 million. We expect to see this segment return to our expected gross margin range of 10% to 12% as we move through fiscal 2022. However, the near term, will be impacted by under-recovery of overheads as well as lower margin revenue on the project discussed above. The Process and Industrial Facilities segment had a good fourth quarter and completed a decent fiscal 2021 considering the COVID environment as a result of increased refinery, maintenance and turnaround activity revenue was $60 million, up almost 40% over the third quarter and was the highest quarterly revenue number for the year. In the quarter, project execution was strong throughout the segment, including refinery turnaround and maintenance activity. In fact, direct gross margin has been above our normal expected range of 9% to 11% in three of the last four quarters. As a result of good project execution and improved overhead recovery, gross profit in the quarter was $6.3 million and operating income was $2.7 million. As we look forward to fiscal 2022, we expect the first quarter revenue to be seasonally lower and expect increasing revenue and earnings as we move through the rest of fiscal 2022. Based on our recent results and financial projections, we are increasing our long-term margin expectations for this segment from 9% to 11% to 10% to 12%. The Storage and Terminal Solutions segment had a mixed quarter which finished a tough year for this traditionally strong segment. Revenue in the quarter of $62 million, while up modestly from the third quarter was still impacted by the current environment. The segment results were negatively impacted by the settlement of a dispute related to a project that was completed in 2018. The company successfully settled the dispute but received less than the net receivable recorded on the books resulting in a $2.9 million charge that was recorded as a reduction in revenue. In connection with the settlement, the company received $8.9 million in the first quarter of fiscal 2022. This settlement allowed us to avoid future legal costs, eliminate any litigation risk and increase our cash balance. Excluding the settlement impact, the direct margins earned in the segment were just below the normal range of 10% to 12%. As a result of low revenue volume, under recovery impacted the segment gross margin by 200 basis points in the quarter. Due to the charge related to the settlement and under-recovery of overheads, the segment produced $1.6 million of gross profit and an operating loss of just over $3 million. As we look forward, we expect to see this segment return to our expected gross margin range of 10% to 12%. However, the near term could still be impacted by under-recovery of overheads. Moving to consolidated results; while the fourth quarter revenue was up 18% over the third quarter, overall revenue levels were about $30 million short of our expectations as a result of the continuing effects of the pandemic. Although SG&A and construction overhead costs have been positively impacted by cost reductions implemented over the past two years and were in line with our expectations, low revenue volume still led to under-recovery of overheads that negatively impacted gross margin. Gross profit was $1.5 million or 0.9% in the quarter. The gross profit and EPS did not meet our expectations due to the project charge in the Utility and Power Infrastructure segment which resulted in a negative EPS impact of $0.16 in the quarter as compared to an expected benefit of $0.06. The charge related to the settlement of the contract dispute in the Storage and Terminal Solutions segment which impacted earnings by $0.08 and the lower-than-expected revenue. The end result was an EPS loss of $0.40 in the quarter as compared to expectations of achieving near breakeven performance. It is obvious that revenue volume significantly impacts our operating performance. So, I want to take a couple of minutes to discuss the management of our cost structure and the related impact on future earnings. As we have discussed before, since the start of fiscal 2020, the company has implemented almost $70 million of cost reductions on an annualized basis. This translates to an approximate 27% decrease to the company's overhead cost structure. Reductions have occurred throughout the business and included headcount reductions, facility closures and consolidations, CapEx reductions and a zero-based approach for non-labor overhead. A significant portion of the cost reductions are permanent but the company will add the necessary construction overhead resources to effectively win and execute projects as revenue volume returns. As you would expect, the cost reduction changes positively impact the future earnings potential of the company. For example, at the cost -- current cost structure, the quarterly revenue required to achieve breakeven results has decreased from approximately $275 million to about $200 million. However, at that level, the company would still have some under-recovery of construction overheads. To fully recover construction overheads, we do see quarterly revenue volumes of about $220 million as compared to $300 million required before we implemented the cost reductions. The big takeaway is that the cost reductions we have implemented, position the company for significant earnings improvement as revenue volumes improve. Revenue improvement starts with project awards, so let's review backlog. We ended the fiscal year with backlog of $463 million as project awards were negatively impacted by the pandemic and the related decrease in spending by our customers throughout fiscal 2021. We are seeing improved award activity in early fiscal 2022 and believe our backlog level will increase from this point. John will cover this improvement later in the call. As we discussed previously, revenue volume is key to improving our operating results and the first quarter award activity and our near-term prospects support improved earnings as we move through fiscal 2022. Moving on to the balance sheet and cash flow; while the operating environment was difficult in fiscal 2021, we were able to maintain a strong financial position throughout the year. We ended fiscal 2021 with cash of $84 million and zero debt as compared to beginning of the year balances of cash of $100 million and debt of $10 million. During the year, we paid off $10 million of debt, funded CapEx of $4 million and spent $4 million in onetime restructuring costs. Subsequent to year-end, we entered into a new $100 million asset-backed credit facility that replaces the previous $200 million credit facility. Availability under the new credit facility is determined by the borrowing base and is initially $70 million. The borrowing base is calculated on a monthly basis and is expected to increase with the volume of business. We have utilized $43 million of borrowing capacity to support issued letters of credit but we expect these letters of credit to decrease almost 50% in the first half of fiscal 2022. Overall, we believe we are positioned to support the anticipated increased levels of project work. I will now turn the call back to John.

[John Hewitt:]

Thank you, Kevin. With fiscal 2021 behind us, I'd like to turn your attention to the future and as mentioned earlier, I'll cover three areas with you

[Operator:]

Our first question comes from the line of Brent Thielman from D.A. Davidson. Your question, please.

[Brent Thielman:]

Great, thanks. Good morning, John and Kevin.

[John Hewitt:]

Good morning.

[Kevin Cavanah:]

Good morning.

[Brent Thielman:]

John, on the Utility and Power Group, just given all that's happening with power delivery upgrades and the peak shaving opportunities, you talked about I guess, still surprised to see some pressure on the revenue this quarter. Can you just talk about the moving pieces within that? Is that just a function of some of the transition of these projects you're executing and then how quickly can we see that, I guess, reverse especially with this new award activity?

[John Hewitt:]

Yes. So the -- in that segment, there's two principal pieces of revenue development there. One is just on pure electrical infrastructure, transmission distribution substation work. And so that is continuing to grow for us. We, a couple of years ago, went through kind of a reorganization there to improve performance and hit rate. We're seeing the success of that focus in every organization and that business is performing pretty well. And so we're continuing to look for opportunities to expand that business and outside of our kind of core geography on the East Coast. The other piece of that segment is work we do for LNG-related peak shaving terminals for utilities. And we're continuing to see a significant amount of opportunities in our opportunity pipeline for that work. And we're seeing opportunities, albeit them smaller but opportunities related to existing LNG peak shaving infrastructure that had been in the country for years, looking for upgrades and maintenance work. One of the awards that we will -- that we've collected here in the last 60 days is related to storage around LNG.

[Brent Thielman:]

Okay, that's helpful. And then, I cut in some of the commentary there. It sounds like the crude storage market, things are perking up but it's still pretty competitive. John, how would you -- how would you sort of assess the rest of the environment with all this new award activity you've picked up? I mean, is it -- is it still ultracompetitive as we're coming off the bottom in some of these markets? How do you feel about so the bid margins and some of those new work you're picking out?

[John Hewitt:]

Yes. I think it depends on which segment it's in. I'd say in general, these -- the early award activity are smaller awards. They are -- there are projects in the sub-$50 million kind of range. Some of them are in markets where we've got a strong position in. Others are more competitively -- were competitively bid. I think when you look around, for sure, the crude storage market and what's available to bid in the crude storage market right now which is mostly one, two or three tanks, that market is really competitive. And -- but there's projects in our pipeline where there are multiple tank expansions and opportunities that create not only flat bottom tanks for crude but also for other -- for other things like biofuels and other liquids. And so we're seeing that start to expand as well an opportunity in pipeline. And we still think we probably four to six months away for those things starting to turn into projects for us.

[Brent Thielman:]

Okay. And then, I know it's early on just in terms of the partnership with Chart Industries but maybe can you talk about the inroads you're seeing in hydrogen-related work. I don't think it was really supposed to be meaningful for you for another several quarters. But kind of where you're at and when you think that starts to hit the revenue a little more meaningful.

[John Hewitt:]

Yes. We felt that that was -- those project opportunities for us were, I think 6 to 12 months out, we talked about initially and I think that's still -- that's still in the time frame that we're looking at. We've jointly and individually did some projects and most -- some storage projects, we're working with a series of clients, both from a developer standpoint. And I'll call blue-chip kind of clients who're looking at opportunities that they want to expand existing infrastructure or put in new infrastructure. And so I think for us, it's realistic that sometime after the first of the calendar year, we should see some of those opportunities, at least get to a decision point on whether they -- whether it's us or maybe somebody else but the competitive set is fairly small there. And so we feel pretty good about where our position is.

[Brent Thielman:]

Okay. Just -- and then, last one, just with the cash and the new credit facility flexibility that gives you. Maybe just talk about your thoughts around M&A versus sort of reserving some liquidity, what looks to be a ramp-up in project activity. I just want to get some thoughts on kind of business development opportunities that you might be looking at with the liquidity you have?

[John Hewitt:]

For right now, I mean, we're primarily focused on organic growth and return to strength in our markets. There is -- there's a lot there for us to say grace over. And so we're focused there. But we will need to consider acquisitions as a business as we continue to look for opportunities for growth. And -- but in the near term, that any kind of sizable acquisition, I think, is not on the table.

[Brent Thielman:]

Okay, thank you. Appreciate it.

[Operator:]

Our next question comes from the line of John Franzreb from Sidoti & Company. Your question, please.

[John Franzreb:]

Morning, John and Kevin.

[John Hewitt:]

Good morning.

[John Franzreb:]

I want to start with the process and industrial related to gross margin assumptions. But based on mix and not restructuring actions, can you talk a little bit about what's changed in the mix and process that gives you the confidence to raise the gross margins?

[John Hewitt:]

Kevin?

[Kevin Cavanah:]

So, I think I know what you're asking. So on the process and industrial facilities, we did increase the margin expectations there from previous range of 9% to 11% to the new range of 10% to 12%. If you look at performance over the past couple of years, that segment has normally exceeded our expectations from a direct margin performance. Now when you look at the actual gross margin, there has been under recovery because of the lower revenue volumes as a result of the pandemic. But as revenue volume returns and we saw this quarter, it came back pretty strong. We'd expect it to continue to increase as we move through fiscal '22. That under recovery is going to -- we're going to get to the level where we're fully recovering in that segment. And at that point, just a mix of work, we should see the gross margins in that higher range. I mean it's -- a lot of that has to do with the diversity that we've built into that segment. In the past, I think refinery work would have been the predominant piece of revenues in that segment and that's still there and that's good margin work. But it's supplemented by other types of projects, thermal vacuum chamber work, engineering work for gas processing, mining and minerals are a few examples that will help drive the margin up to be more consistent with our expectations in the other two segments.

[John Franzreb:]

Great. And on the cost reduction efforts, two questions here. Firstly, the $220 million versus the $200 million breakeven points. What's the delta between those numbers? And how much of that $70 million in restructuring is variable? And at what point does that have to come back?

[Kevin Cavanah:]

So the $70 million, that's the number of amount of costs we've put out of the organization throughout fiscal '20 and '21. And as I talked, it's in a wide range of areas, I think it's probably 70% permanent. We talked about that there will be some costs that we'll need to add as revenues come back, most of that cost will be related to things like positions that support revenue, either estimating, project management, quality control, those types of costs. In addition, there is some variable costs in this environment that will come back like travel costs have been extremely low, especially year fiscal '21 because nobody is traveling for most of the year. Those costs will come back. And then finally, I guess another piece of cost that will come back is as earnings improve and we return to profitability, there's some variable compensation costs, so that will come in. But I'd say at least 70% of the costs that we've reduced are permanent in nature. I don't know if I answered your entire question, though.

[John Franzreb:]

No. Yes, other part is the difference between the $220 million, $200 million breakeven levels.

[Kevin Cavanah:]

Yes. So, I'm glad you're asking about that. So, if you go back a couple of years before we started trying to reduce our cost structure, at that point, it would have required us to have revenue of $275 million in a quarter, just to breakeven. And -- but yes, at that breakeven level, we'd still have unrecovered overheads. And so it would have taken us $300 million to fully recover the overheads. As a result of reducing the cost, we've lowered those targets for the company. $200 million is the point -- about $200 million is the point where we're going to reach breakeven earnings. There'll still be some under-recovery of overheads at that level. You get to around $220 million. Now you're getting to full recovery of overheads. And at that point, you'll see the -- you should see the margins that we've talked about, those margin targets of 10% to 12% should be what you see in the financial statements. And obviously, from that point forward, earnings improve further.

[John Franzreb:]

Got it, Kevin. And on the $100 million of awards so far, can you give us a sense of the time line on those jobs? Are they -- is it short-term jobs? Is that longer duration? When do you kind of expect them to kind of roll into the P&L?

[John Hewitt:]

I would say we said -- I'm not sure I cut the number but it's right now it's .

[Operator:]

Ladies and gentlemen, please remain on your line. Your conference call will resume momentarily. Once again, please remain on your line. Your conference call will resume momentarily. And you may resume.

[John Hewitt:]

Can everybody hear us? We got kicked out.

[Operator:]

Yes, we can hear you.

[John Hewitt:]

Okay, good.

[John Franzreb:]

Am I still left?

[John Hewitt:]

Yes.

[John Franzreb:]

I was pinging the poor operator. So John, the last thing I heard was we were discussing about the timing of the recent awards and how does that kind of play out?

[John Hewitt:]

Right, right. So the awards -- I wouldn't sure -- I heard you had hit the number but it was within the first 60 days were at around -- we're at around $180 million and we expect that to continue to increase as we go through the quarter -- the first quarter here. So it's a mixed bag, those projects. Some of them, in general, most of them won't start having any kind of impact on revenue until the second quarter. And some of them are multiyear projects and some of them will be -- will flush through the system this fiscal year, so it's a combination of both.

[John Franzreb:]

Okay. And I'm going to try my luck here guys. One more question on new credit facility. You touched a little bit about, I guess, on M&A but can you talk a little bit about how it changes your ability to repurchase stock? And any changes in your ability to spend on CapEx and why not just let the CapEx number for fiscal 2021 where you're at it?

[Kevin Cavanah:]

Yes, yes. So for CapEx, I would expect us to start out the year a little slower on CapEx than we'll end the year, obviously, waiting for revenues to return. But we've been at a pretty low level of CapEx for the last 18 months, so we'll need to increase. I think for the total year, we're currently anticipating CapEx of somewhere around $9 million to $10 million. Now on the credit facility, we're not limited on that CapEx. And on the credit facility, right now, we're -- we are restricted a bit on how much we can do for certain other things. I'm not saying we're precluded from doing buybacks but that's something we would need to be proactive about if we're planning on doing so. I think as earnings improve, our appetite for stock buybacks will improve. But we've -- it's been important for us to maintain the strong balance sheet this last year and I think we've done a good job of doing that. And so that's going to continue to be our approach. Just like John said, we're not looking at really major M&A in this environment. We want to see the earnings improve, go back to profitable results and then we'll get a little more aggressive on growth initiatives and other uses of cash.

[John Franzreb:]

Thanks a lot, Kevin. I appreciate taking my questions.

[Kevin Cavanah:]

Thanks, John.

[John Hewitt:]

Thanks, John.

[Operator:]

Thank you. And this does conclude the question-and-answer session of today's program. I'd like to hand the program back to John Hewitt for any further remarks.

[John Hewitt:]

Thank you everybody for their attendance today and wish everybody to be safe and healthy as we move through the balance of the calendar year. Thank you. Thank you, again.

[Operator:]

Thank you ladies and gentlemen for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.