Thermon Group Holdings, Inc.
Q4 2021 Earnings Call Transcript

Published: 27 May 2021

[Operator:]

Greetings ladies and gentlemen, and welcome to the Thermon Group Holdings Fourth Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note, that this conference is being recorded. I will now turn the conference over to our host Kevin Fox, Chief Financial Officer. Thank you. You may begin.

[Kevin Fox:]

Thank you, Diego. Good morning and thank you for joining today's fiscal 2021 fourth quarter conference call. Earlier this morning we issued an earnings press release, which has been filed with the SEC on Form 8-K and is also available on the Investor Relations section of our website. We have also updated our investor presentation, which includes a summary of our ESG achievements in fiscal '21.

[Bruce Thames:]

Thank you, Kevin and good morning. We hope everyone listening is staying safe and in good health. We appreciate you joining our conference call and for your interest in Thermon. Kevin Fox, our new CFO is here to provide additional information on our Q4 and full year financial performance following my remarks. I'd like to take a few moments to reflect on a very challenging year in fiscal 2021. As the year began, the world and the global economy were faced with the worst pandemic in 100 years and by far the worst demand destruction in the history of the oil industry. Despite the challenges, I have been impressed with how this team has responded to every obstacle. They kept the health and safety of our employees and customers as the top priority and were successful in that endeavor. In addition to having no workforce transmissions of the virus, we had zero recordable and lost-time incidents in the fiscal year, which is among the best in the industry. In addition, the team was laser-focused on value preservation, while serving our customers and exemplifying our core values of care, commit and collaborate. The team was able to restructure the business and reduce SG&A costs by $22 million in the year of which, we believe 80% is structural, while driving continuous improvements to achieve an additional $3.8 million in savings in our manufacturing operations.

[Kevin Fox:]

Thanks, Bruce. Revenue in the fourth quarter was $73.3 million, a decrease of 17% versus the previous year. We had guided a $69 million to $76 million range on our previous call and we came in right in the middle of the range. FX was a minor tailwind, about $1.5 million with revenues down 19% on a constant currency basis. From a regional perspective, EMEA was the only region with year-over-year growth primarily due to the continued execution on multiple large projects with all other regions contracting in the period. Pricing continues to be positive with our quick turn margins up year-over-year. On a trailing 12-month basis, Thermon revenue was down 28% with FX only half of a point headwind for the full year. EMEA was flat, the USLAM region was down 39% year-over-year with Canada and APAC down 29% and 22%, respectively. As we think about progression through the year, we were down 37% in the first half and down 19% in the second half. While fiscal '21 was a difficult year due to the combination of the COVID-19 pandemic and disruptions to the oil and gas markets, we've seen an inflection during recent months. TTM bookings showed a positive year-over-year growth for the first time in March and global orders in the first six weeks of the new quarter are trending positively across the board. Maintenance spending appears to be increasing as facility access restrictions are easing, particularly in the Western Hemisphere. Margins came in at 37.1% in the quarter with a few specific items to call out.

[Bruce Thames:]

All right. Thank you, Kevin. If you'll turn now to the strategy update slide. Moving on to Slide 5 in the -- or excuse me -- it's slide 9 from the presentation. Thank you, Kevin. All right; since 2015 downturn in the energy sector, this team has worked to successfully reposition Thermon to capitalize on growing demand for chemicals and petrochemicals. With the recent events and the shift towards decarbonization, the Board and management have revisited our strategy to capitalize on some of the transitions underway. Our focus has been on using technology to effectively mine the existing installed base, while looking for new geographies and markets to replicate the model of growing installed base to capitalize on high value recurring revenue streams. From these efforts, Thermon is highly focused on the electrification of industry that is underway, which we believe will accelerate the transition from steam and reduce onsite natural gas heating in many applications. We see growth in developing markets, particularly in the Eastern Hemisphere as one of the significant opportunities for expansion going forward. The emerging middle class in India, China and other Asian countries creates growing demand for our solutions in our traditional markets for chemical, petrochemical and power. Diversification of our end markets is the second area identified as a significant driver for growth going forward. We are targeting goal of growing other segments of our business, such that less than 40% of revenues are generated from oil and gas by the end of fiscal 2026. Thermon has participated in many of these diversified end markets historically, but more on an opportunistic basis. With the expansion of the portfolio to include process and environmental heating and increased direct sales and channel focus, many of these sectors represent significantly greater overall opportunity. The shift to renewable energy sources such as biofuels, concentrated solar power and wind power, all represent opportunities for growth. Examples of other sectors with promising growth that we have touched historically include commercial, rail and transit, as well as food and beverage. The third area identified is technology-enabled maintenance. We remain committed to investments in new product development that include connected and smart control solutions, advanced heating technologies and material science. Even with the recent downturn in customer demand, we maintained our prudent strategy to invest through the cycle and spent 2.7% of revenue on R&D. One of our nine product launches last year, the Genesis Network enables customers to improve safety and reliability, while reducing total cost of ownership. With IoT capabilities, the new Genesis platform creates opportunities for recurring revenues from software as well as troubleshooting and predictive maintenance. All of these solutions further strengthen the relationship with our end customers and improve our abilities to capture recurring revenues from the installed base. Turning now to Slide 10, on guidance for fiscal '22. Going forward, we maintain a laser focus on driving operational improvements to positively impact the overall profitability of the business. We are committed to delivering $2 million in cost savings through continuous improvement, while holding the line on SG&A expenses in the year. We anticipate the cost savings combined with price increases will more than offset any inflationary increases to drive meaningful EBITDA margin expansion in the year. We also remain committed to and are investing in our strategic initiatives to drive growth in the business going forward. With a strong pipeline of new solutions, our commitment to new product development and commercialization remains steadfast with an approximate 2.7% of revenues dedicated to these efforts in the fiscal year. While the level of uncertainty in the current environment remains, we are reinstating revenue guidance for fiscal '22 to a range of $278 million to $295 million for the full year. In conclusion, I do not believe this quarter's results are representative of the underlying strength of our business model nor does it change our expectations for fiscal year '22. When the unusual expenses in the quarter are isolated, the underlying profitability and cash flow are more consistent with our historic performance. We expect the work done in fiscal year '21, will generate operating leverage and show significant improvements in financial performance in fiscal year '22. We have a talented team that remains committed to serving our customers and creating long-term value for our shareholders. By focusing on our operational and strategic initiatives, Thermon is well positioned to emerge a stronger, more profitable business as our customers and end markets emerge from this pandemic. I'd like to pause now and turn it back over to Diego for the Q&A portion of our call.

[Operator:]

Thank you. And at this time we will be conducting a question-and-answer session. The first question comes from Scott Graham with Rosenblatt Securities. Please, state your question.

[Scott Graham:]

Yes, hi, good morning, Bruce and Kevin.

[Bruce Thames:]

Good morning, Scott.

[Scott Graham:]

So, I was -- I was hoping that you guys would be able to unbundle little bit more the $5.8 million of unusual items here. In particular, the $3.3 million hit on execution, which is, it's obviously a really big number and kind of maybe help us understand why it happened and what you're doing to avoid that from happening going forward or is that just really an isolated situation but even still it was large? Just shed some light on the $5.8 million, in particular the $3.3 million.

[Bruce Thames:]

Yes, I'll -- Scott, this is Bruce, I'll jump in on the $3.3 million. We had a very large time and material contract that we had in -- it was outside of the US and essentially we had warranty rework that had to be done during the winter months during COVID protocols, which drove some exceptional expenses. It's unusual and it is one -- it's a one-time isolated project and we -- we do not foresee this recurring going forward. But Kevin, if you want to just maybe touch on some of the other items in that $5.8 million.

[Kevin Fox:]

Yes. And Scott, further residual, you've got the impact of the winter storm in there that was $0.5 million, the bad debt reserve for a specific customer, we're back to back there -- there in EPC and EMEA region, but ultimately felt like it was appropriate reserve for that at this point in time. And then really with the rest of the items in SG&A, just a lot of little things, whether it's timing, whether it's certain things getting resolved, which was the right time to take those into the P&L, so. As I mentioned, individually, none of them were greater than $250,000 but really just accumulation of a few things happened here at the end of the quarter. So, we look at those expenses as unusual time limited and I think as we look forward in the business, we certainly expect things to get back to a more normal stabilized performance here . Scott, are you still with us?

[Scott Graham:]

Yes, no, I'm…

[Operator:]

Go ahead, sir.

[Scott Graham:]

So, yes, so essentially the $5.8 million goes away, I get that. Can you tell us the split between cost of sales and SG&A of the $5.8 million?

[Kevin Fox:]

Let's see, now $3.3 million, that would have been gross margins. The residual would have been your base cost, but you need to factor in about, let's call it about $700,000 into cost as well. So, probably, $4 million versus $1.8 million on COGS versus SG&A, Scott.

[Scott Graham:]

Okay. And one of the big highlights of last quarter was your discussion around where you expect margins to be both in 2022 as well as in 2023. So, does your sort of goal of being up 200 basis points to 300 basis points of -- in EBITDA margin, does that sort of relate to the trailing 12 months through the December quarter and we kind of just push this quarter aside making that number more like a 400 basis points plus EBITDA margin expectation for improvement for 2022?

[Bruce Thames:]

Yes, Scott. As I said in my script, based on this quarter, I view this is an event, not a trend and our expectations on fiscal year '22 and margin expansions that we shared last quarter are unchanged.

[Scott Graham:]

Right. Bruce, but what I'm saying here is that, that guidance was 200 basis points to 300 basis points. So, are you saying…

[Bruce Thames:]

Based on where we were as of the trailing 12 in December, our view is unchanged.

[Scott Graham:]

Very good. And your view on '23 for EBITDA margin, 22% plus, is that unchanged?

[Bruce Thames:]

Yes, that's correct. That is unchanged.

[Scott Graham:]

Okay, thank you.

[Bruce Thames:]

Yes, no problem.

[Operator:]

Thank you. Your next question comes from Brian Drab with William Blair. Please state your question.

[Brian Drab:]

Hi, thanks. I'm just going to begin with MRO. I know you said that you believe that you're starting to see MRO activity picking up. And can you just elaborate on that? I'm just opening up the slides now for the first time, so I don't know if there is some detail, but can you quantify it all what you've seen in MRO growth and what you're expecting for the year for MRO?

[Bruce Thames:]

We've seen a nice progression through the year. I think maybe if you -- you should kind of claw back to our Q1, MRO was off 48% and I'd like to note that this is really unusual for us in a downturn. Normally maintenance spending stays pretty robust but the pandemic limited access to facilities and so we saw really a just an acute drop off in maintenance. And as we said, we believe that there is building demand for maintenance activity, the pent-up demand. So, we were off 48%, the progression next quarter was around 34% if I'm not mistaken, then 24%. I think we finished this one around 14%. So we've -- and that's a decrement to the prior year. Particularly, we saw in March an inflection where we actually saw positive MRO growth year-over-year in the month of March. The thing that really negatively impacted our fourth quarter the most is that, as you recall, starting January, the lockdowns in Canada, in Europe, now in India, all of those really impacted -- negatively impacted those MRO sales early in the quarter but February through March, we saw those gain momentum. So, we are seeing a nice trend in the right direction.

[Brian Drab:]

Okay. Thanks, Bruce. And what have you seen in terms of MRO in April and May?

[Bruce Thames:]

We are seeing that trend continue and maybe even gain speed.

[Kevin Fox:]

And Brian, the caveat I would have that would just underline maybe previous comments, Bruce made around, it's going to depend regionally on where things are at from an opening standpoint, geographies like the US, are obviously going to be a little further ahead, places like Canada, a little further behind as you start to look globally, currently places like India are still struggling. So, it kind of reinforces the thesis that it's not necessarily a change in underlying demand. But it's more as we view it driven by access restrictions, but certainly the first few weeks in the New Year have shown promising in areas that are opening up.

[Brian Drab:]

Okay, great. And then, as long as you're talking about some of the regions, can you break down what the -- what you saw in terms of revenue and orders in the major regions in the quarter?

[Kevin Fox:]

So, revenues in the quarter, Brian, US let's see were down let's say 28% in the US, down about 23% in Canada, EMEA was actually up quite positively. I mentioned the large projects previously, that's a plus 34% and APAC down 16%, that should get us to the down 17% in the quarter.

[Brian Drab:]

Okay. EMEA, again, sorry, was what, EMEA?

[Kevin Fox:]

Apologies; 34% positive.

[Brian Drab:]

Plus 34%. Okay, thanks. And then I guess just two more questions. The Texas Freeze that we had in February and you mentioned that could drive demand longer term. Have you seen any -- can you talk any more about that issue and driver and are there any regulations maybe that are going to go into place or have gone into place that could drive demand for your products?

[Bruce Thames:]

Yes. So, first of all, it was a -- I mean large and widespread impact to the infrastructure and it was not only power, but it also included the natural gas infrastructure. I can tell you there are a new -- a number of bills currently in the Texas Legislature that are underway. Several of which would really have a positive overall impact on business opportunities going forward. I can't tell you -- the session is about to end, I can't tell you that those will pass, but they have had a pretty significant support. I do believe in the short-term kind of the near-term customers are a bit a wait and see to see what legislation is passed to make sure that what they do is in compliance with any new laws or legislation that's passed. However, we have seen some -- some nice business here just in the last few months as customers are doing some work, but we would expect that to gain momentum in advance of the upcoming winter season.

[Brian Drab:]

Okay, thanks. And then, maybe the last one is for Kevin. But I'm just curious if you could give any comment on this. If we get to the end of fiscal 2022 and revenue comes in the range and we're looking to then fiscal '23 and potential for things to get better. Let's say you get an incremental $50 million in revenue or something in, what would the incremental margins the on that type of growth longer term given the new cost structure like incremental EBITDA margin and revenue and if things start to really improve?

[Kevin Fox:]

Brian, I won't speak to the, maybe the incremental themselves, but would kind of go back to previous comments and questions around those long-term outline we've kind of put out there. If we think about the incremental improvements to EBITDA over the next 12 months, we think that's unchanged. And certainly still having a path to that 22% to 25% range on EBITDA margins over the longer term. I think -- I think all of that is fully intact and in front of us. And when we think about the opportunity to go after some of these incremental strategic initiatives as well. They are adjacent, whether it's investments on the front end of the business, on the channel, new product development, we're putting those plans together as well, but I think they'll certainly be incremental and accretive to the business and we look at that 22% to 25% type of EBITDA range over the long term is fully achievable still I think this quarter. Like Bruce said, it's a bump in the road, not a -- not the start of a trend.

[Brian Drab:]

Yes. Perfect, okay. Thank you very much.

[Kevin Fox:]

Thank you.

[Operator:]

Our next question comes from Jon Braatz with Kansas City Capital. Please state your question.

[Jon Braatz:]

Good morning, Bruce, Kevin.

[Bruce Thames:]

Good morning, Jon.

[Kevin Fox:]

Good morning, Jon.

[Jon Braatz:]

Bruce, could you talk a little bit more about the subject of moving from maybe steam to electrification, heat tracing? Is this being driven by cost? Is it being driven by ESG and sort of how big of an opportunity could this be going forward? And secondarily, are you seeing the possibility of a conversion to electric steam tracing, or is it just new capital projects going directly to electrification and not using steam? Anyways, a little -- whatever you could say about this that would be great.

[Bruce Thames:]

Yes. Jon, it's great question. The shift from steam to electric has been underway for many years. The last kind of market information that we had kind of gotten is somewhere in the mid-40% of the market was still steam and the balance was electric, so somewhere in that range. What we believe is that the, the ESG, the push towards decarbonization will accelerate that trend. The advantages of moving to electric are it's actually more efficient. You have a higher level of control and then certainly it's cleaner, so -- and lower maintenance. So, those are all kind of the drivers. The setback would be just the initial capital outlay. But this is a trend that's been underway. But we believe that, that just kind of the shifts that we're seeing globally will accelerate that transition.

[Jon Braatz:]

Okay. Okay, thank you very much.

[Operator:]

Thank you. That's all the questions for today. I'll now turn it back to Bruce Thames for closing remarks. Thank you.

[Bruce Thames:]

All right, thank you, Diego. And thank you all for joining the call here today. We appreciate your interest in Thermon, and enjoy the rest of your day.

[Operator:]

Thanks. This concludes today's conference. All parties may disconnect. Have a good day.