Univar Solutions Inc.
Q3 2020 Earnings Call Transcript

Published: 8 Nov 2020

[Operator:]

Good morning, ladies and gentlemen, and welcome to Univar Solutions' Third Quarter 2020 Earnings Call. My name is Carol, and I will be your host operator for this call. . I will now turn the meeting over to your host for today's call, Heather Kos, Vice President of Investor Relations at Univar Solutions. Heather, please go ahead.

[Heather Kos:]

Thank you and good morning. Welcome to Univar Solutions' Third Quarter 2020 Earnings Call and Webcast. Joining our call today are David Jukes, President and Chief Executive Officer; and Nick Alexos, Executive Vice President and Chief Financial Officer.

[David Jukes:]

Thank you, Heather, and good morning, good afternoon and good evening to everyone, and thanks for joining our call. Our mission at Univar Solutions is to streamline, innovate and grow, and I'm pleased to see progress on that mission reflected in our Q3 performance, which remains solid as we continue to adapt to these challenging times and deliver results. As a company that is always serious about safety, this remains our highest priority for employees, suppliers and customers, and I'm pleased to report that all our facilities remain operational. Key highlights from the quarter are

[Nick Alexos:]

Thank you, David. Hello, and good morning to all. I am pleased to share Univar Solutions' strong financial results and update you on our business activities. Constant currency net sales were down 15.6%. Excluding results of Environmental Sciences from last year's financials and FX, we estimate net sales were down approximately 11.1%. Gross profit, exclusive of depreciation, was lower by 9% to $496 million or 8.7% on a constant currency basis. Our gross margin expanded by 190 basis points to 24.7%, driven by a more favorable product and end market mix in our core businesses and a lesser benefit versus Q2 from nonrecurring and market volume and margin driven by COVID-related demand.

[David Jukes:]

Thanks, Nick. Moving to our integration progress. Despite the COVID-19 obstacles, we successfully delivered on several significant integration milestones with $11 million of Nexeo cost synergies during the quarter and $41 million year-to-date. I'd like to highlight a few of those milestones now. We successfully kicked off the fourth wave of our business systems migration and are continuing to successfully service our customers while optimizing our processes. Our site consolidation plan continued, closing 6 branches in the quarter, bringing total closures to 25. We finalized the sale of 2 further sites with cash proceeds of approximately $4 million, remain on schedule to close at least 15 branches in total during this calendar year. Since December 2019, our real estate site sales have generated pretax cash proceeds of $70 million. Our system migration plan to a single SAP system and time line remained the same as we communicated last quarter. The U.S.A. is scheduled to complete in Q2 2021, with Canada and Mexico following up behind in the second half 2021. We're in the early stages of realizing the full benefit of optimizing our scale but remain wholly committed to our strategy of having a strong local presence for our customers. Moving to our business strategy progress. Sales force effectiveness remains a key driver of business improvement as we leverage our advantaged network of sellers in combination with our digital platforms. We continue to track our levels of pipeline growth, transactional activity, customer retention, margin management and effective activity at the local business level. Even with the obstacles of COVID-19, we've maintained momentum and continue to see good progress in the leading indicators. In the U.S.A., our average customer contacts remain at the elevated levels of Q2 despite restrictions on face-to-face visits. And I'm pleased to report that the trend started in the first half of the year, continued in Q3 as we welcomed hundreds of new and returning customers. And equally important, of those new customers we welcomed in the first half of the year, 50% purchased again in Q3. The S22 program is well underway. In addition to the portfolio optimization work Nick highlighted earlier, we've done the following

[Operator:]

. Our first question comes from Steve Byrne from Bank of America Securities.

[Luke Washer:]

This is actually Luke Washer on for Steve. Your touch points were up 75% year-over-year, but sales were obviously down in the quarter. So I wanted to ask, how are you measuring the effectiveness of these touch points? Are you looking at kind of a win-loss ratio? And do you feel like you're gaining share from other suppliers?

[David Jukes:]

I think that the sales organization, I think we're in pretty good shape at the moment. So I'm very pleased with how they've adapted to a changed sales model and how they're adapting to the sales routines that we are -- we put in place with them. So I'm pretty pleased with how that organization is going. I'm never happy, but I'm pleased. I think what you have to be mindful of, if you look at our top line, is that we have a headwind in our energy business, which will take some top line growth down. But if you look at the improvements in our mix and improvements in our margins, we're actually winning business and winning share in that core distribution business. So the quality of the business that we're winning and taking is a good business, and it's more the core kind of business for a chemical distribution company. So overall, I'm pretty pleased with how things are shaping up.

[Luke Washer:]

Great. And just another one on Nexeo synergies. During the quarter, it looks like you got more Nexeo synergies than maybe you had expected before. But your full run rate of synergies through 2021 has remained the same at $120 million. So when you look at 3Q, was this kind of just a pull forward of those synergies? Or do you think you'd potentially identified opportunities for more consolidation or anything like that?

[David Jukes:]

No, and we're very focused on our $120 million commitment. And so we were able to pull some things forward into Q3 as we go through the systems migration program and just are able to focus on a few things that we couldn't have got to earlier. But no, we committed to $120 million commitment. However, we have our S22 program, And clearly, we see opportunities there to optimize the business further. And so our focus is also on that now.

[Operator:]

Our next question comes from Bob Koort from Goldman Sachs.

[Robert Koort:]

I was struck a little bit in your partial guidance for next year about talking for organic growth to be aligned with the economic growth out there. I guess it seems a little bit out of line with the assertions of selling differentiated benefits to your suppliers and customers, specialty focus, the sales force traction. Why not have greater ambition on your sales development going into next year?

[David Jukes:]

Well, I think we said, Bob, because it grow -- the rates were better. And that's how we see things. We do see the mix enrichment strategy working. We do see the greater focus on those differentiated end markets starting to work. But clearly, the economy is going to play a part in what we do, but we believe we can grow at least with the economy or better.

[Robert Koort:]

All right. Maybe it's my semantics of in line versus at least in line. But Nick, let me ask you a question. You did mention a headwind from normalizing compensation and some of the COVID-related travel reductions this year. Can you dimensionalize that for us in the next year? How big of a delta could that be?

[Nick Alexos:]

Yes, Bob. Thanks for the question, and thanks for your note last night as well. We aren't necessarily dimensionalizing it. I think as you would expect, in any recessionary period, you tend to pay less incentive comp. And as you recover, you have to absorb that incentive comp and any operating expense in your growth rate. So we're just trying to make that point so that people recognize that we will balance that as we target towards that 9% target, which would mean that you might see less increase in margin next year and then the proportional increase in 2022.

[Robert Koort:]

And if I could sneak a last quick one in. You mentioned inventory write-downs in the Canadian ag business. How big is that? And why was that required? What product?

[Nick Alexos:]

Yes. I mean, essentially, we decided to pursue an orderly exit of that business. And as you can see in the appendix, there's about $70 million of working capital left in the Canadian business that we will liquidate orderly over the next couple of quarters. Part of that is inventory. It's a small part of it, less than 1/3 of that is inventory. And we just reserved roughly $5 million in Q3 against that. We don't expect any material further risk against that going into the next few quarters, but it was really just taking a reserve against some of that inventory. It's all good inventory that will sell through into the season next year.

[Operator:]

Our next question comes from Laurent Favre from Exane.

[Laurent Favre:]

My first question is on oil and gas. So David, I was wondering if you could give us a sense of magnitude of the decline there. Your, I guess, closest peer talked about being down 1/3. Are we talking about the same magnitude? I know you have more upstream exposure, so maybe that's even worse than that. How small or how big is the business now when we think about the second half, for instance? That's the first question.

[David Jukes:]

Laurent, so on our oil and gas business last year, in total -- our energy business last year in total was about 9% of our sales. As we go through this year, it's about 6% of our sales. Of that, probably just a little over 1/3 of that is upstream oil and gas, and that's halved this year. So it's been a significant headwind for us going into this year. We said at the start of the year, we expected a $20 million headwind from oil and gas. It's going to be at least probably double it, maybe a little more than double it. But what I am pleased to see is that we are growing our business in other places, improving the mix to partially offset that. Whilst I said the rig count is looking a little better for October, honestly, we don't expect any pickup in that business going forward, and it's built into our thoughts. And the business that we have these days in that sector is more specialized products. So we feel it's a bit more robust and better margin business than we would have traditionally had. So I think we're at the bottom.

[Laurent Favre:]

And the second question was on the 2021 Nexeo integration step. So on one side, you're talking about cost of $60 million to $70 million, and on the other side, you have benefits of $25 million. We usually see a bigger ratio of cost to benefit at the beginning of an integration, not at the end. So I'm just wondering, can you remind us what's in that $60 million to $70 million? And are there in there some costs that are actually related also to the S22 program?

[David Jukes:]

So there aren't costs related to the S22 program. It is -- certainly, in terms of the benefits from it, I mean, the last part of the benefits don't come to the beginning of 2022. There's a big chunky number there, and that comes when we can turn off the legacy IT systems. So until we can turn off the legacy IT systems -- long ago, you never got 5% of the legacy IT systems, I have to keep that environment up and alive. So I can't shut that down until 2022. And that's when the big benefit or the big chunky final benefit comes through.

[Nick Alexos:]

And as you know, Laurent, there's a further incremental EBITDA pickup in 2022 in the last quarter, which is additive to that $25 million.

[Operator:]

Our next question comes from Laurence Alexander from Jefferies.

[Daniel Rizzo:]

It's Dan Rizzo on for Laurence. Could you provide color on -- I don't think we've heard in a while a news with suppliers. I was just wondering if it ged from here? Has it slowed during the pandemic? Or I mean is it where you want it to be?

[David Jukes:]

Sorry, Dan, I didn't quite catch the question. What...

[Daniel Rizzo:]

Agreements with suppliers is something you guys highlighted in the past. I was wondering if you can provide color on that.

[David Jukes:]

Well, we have -- I think we announced 5 or 6 new agreements in the last quarter. Certainly, business is a little more complicated these days than it used to be, but we are now making good progress. We have a very focused group of people in our dedicated industry verticals, all focused on their end markets and the products and chemistries and ingredients that are required for their end markets and will bring benefit to customers. So we have a dedicated group and a dedicated team on that now as part of our Consumer Solutions and Industrial Solutions business under Nick Powell's leadership. So -- and also suppliers are now thinking about how they operate in this new normal. So I think that we'll see a slightly more accelerated rate in 2021 than we've seen in 2020, but we continue to make good progress as we referenced in the prepared remarks.

[Daniel Rizzo:]

Okay. And then you mentioned what's going on with Canadian ag. I was wondering about other potential business line divestitures. Now obviously, you're not going to name them, but I was wondering where you are in the process. Is this type of view just getting started? Are you kind of -- is it ongoing thing? Or is it something that's almost completed? Just any color.

[David Jukes:]

Well, Dan, I think we flagged up that we expect to get at least $200 million from divestitures. And we're on -- well on track with that. The ag business contributes to that. It helps that. We do have other things that we're considering. I would -- it's never a precise science, buying and selling businesses. I would hope that we can be through that in the early part of 2021.

[Operator:]

Our next question comes from Kevin McCarthy from Vertical Research Partners.

[Cory Murphy:]

This is Cory on for Kevin. As it relates to the ag business, I was wondering if you could give us some guidance maybe on what the EBITDA, the margin and timing of the closing of the deal is just so we can kind of get an idea of what that was contributing.

[Nick Alexos:]

Yes. So Cory, there's two ag businesses. There's the distribution business, which, as we said, is being liquidated over time. That was broken out in our SEC filings, is roughly about a $300 million revenue business, not contributing a lot of EBITDA. So that's basically the $70 million of working capital. The ag services business that we've just executed this week, we're not disclosing the details. It's less than 1/4 of the total $200 million divestiture proceeds that we're targeting. And we just kind of called out that it's accretive to our leverage multiple. So I think it's a good outcome for the company and for us.

[Cory Murphy:]

Got it. And just a slightly different tack here. How are logistics costs trending? I think shipping costs have risen. But like domestic shipping costs, how is that trending for you guys?

[David Jukes:]

Certainly, third-party freight is a little tighter than it was a few months ago. So there is some tightness on that, but we do have -- most of our freight or not most of our freight, but 2/3 of our freight is on our own fleet, and so we can get operating effectiveness at our own fleet. The third-party freight prices are increasing because that market is tight at the moment. But I am glad that we have this fleet of our own that we can work and sweat harder. And as we consolidate assets down and we brings efficiencies into how we can manage that freight.

[Operator:]

Our next question comes from David Begleiter from Deutsche Bank.

[Katherine Griffin:]

This is Katherine Griffin on for David. First, I wanted to touch on the quarterly guidance. In Q3, of course, you did much better than we were expecting, just given some of the items in the bridge. It seems like with the guidance for Q4 today, that's playing out again. You seem a little bit like incrementally more negative just given the potential of more COVID-related shutdowns and normal seasonality. So I guess I'm just curious, like given where things were last quarter and some of the puts and takes that we thought about in the bridge from '19 to '20 for Q4, where are you seeing that upside? And can we think about this guidance as being conservative?

[David Jukes:]

Well, Katherine, I think that what we can do is control our own business, and we're controlling that very well. We're controlling our expenses very well. And I think we're getting good growth and good share growth in those core chemical ingredient markets that we're focusing on. And we performed, I think, very creditably in Q3, especially given all the difficulties that we face -- that we all face, I mean not just operate in today. As we look forward to Q4, again, I think we said we had a good October, October in line with September. November and December are always short months. They seasonally turned down. But we are mindful of some of our European markets are already locking down, are already closing down. We are mindful that there's a rising incidence of cases in other geographies as well. So we don't really have a great crystal ball about what may or may not happen. So I think we are giving guidance -- I think we tried to establish a track record of guidance that we feel confident in that we can hit. That's what we have given you for Q4 as well.

[Katherine Griffin:]

Okay. That's fair. And I was curious about your -- the call out of the decline in some of the essential end market demand as related to COVID-19. Sorry, can you hear me?

[David Jukes:]

Yes. We can hear you, Katherine.

[Katherine Griffin:]

Okay. Sorry. Yes. So I just wanted to ask a little bit more about the -- the call out of the decline in the essential end markets, that's really COVID. Is that entirely the -- like sanitizer sales, like over-earning sanitizers, is that equally kind of across like the pharmaceutical applications and water treatment? Just how should we think about that headwind?

[David Jukes:]

Well, I think you should think about it related to our comments on quarter 2 where we called out that we were able to make up a better-than-normal margin on certain key products into certain central end markets simply because of the supply/demand situation on those key products and we were able to sell kind of yesterday's stock at today's prices. So there's some margin increase in that. And we think there'll still be a higher level of demand for essential end markets, but there won't be -- but prices are more normalized as supply and demand comes back into balance. And so those markets that you spoke about, water treatment, pharmaceutical, I mean we are in business to keep people clean, healthy and safe. And so those products that go into those markets will still be in demand, but there won't be the opportunity to -- or there won't be that we don't foresee the supply/demand in balance that would distort the margin quite the way you did in Q2.

[Operator:]

Our next question comes from Michael McGinn.

[Michael McGinn:]

Good quarter. Mike McGinn on for Mike McGinn. So I just wanted to put a finer point on the 2021 framework. I mean with -- you have -- it looks like the next year's synergies offsetting is a divestment EBITDA, but then you had the uptick in the comp that you mentioned in the end market, the favorable essential end market headwind. So just confirming that you guys are expecting EBITDA to be up year-over-year in 2021. Is that correct?

[David Jukes:]

Well, at the moment, we're not giving guidance on 2021. What we're trying to do is give you some elements into our thinking as we look at that. We'll give 2020 on guidance when it comes to the February call.

[Michael McGinn:]

Okay. But maybe on the end market growth growing in line with the market, what is -- what are you benchmarking to? Is it the industrial production? Chem manufacturers or railcar chemical volumes? Can any major metrics that you guys are calling out internally?

[David Jukes:]

Yes. I mean it's GDP and industrial production. They're the kind of things that we look. I mean we look at a whole variety of metrics to try and get a view on what people think are going to happen. But GDP and industrial production are key drivers for us.

[Michael McGinn:]

Okay. And then if I can sneak one more in on energy refining. Is there any noticeable difference between your exposure, whether you're larger IOCs or you have some exposure to smaller operators? And then just your general thoughts on industry consolidation in general and where you're positioned with some of the larger players?

[David Jukes:]

Well, Mike, you may remember that we backed away from some of the larger players a few years ago as we kind of extricated ourselves out of some of the energy markets. So we have -- we still have business with some of the larger players, but it's a much lower level we would have had a couple of years ago. I think there's going to be some consolidation in that marketplace. And certainly, that's one place that we look at our outstanding debt very, very carefully because clearly, it's a place where there is a difficulty in the marketplace, and there is some underfunding. But we feel -- overall, we feel very confident about our ability to grow across other markets and retain that kind of specialty focus within the energy and refinery business that we are and then confident about how we can really grow in some of those Consumer Solutions, Industrial Solutions, general industrial markets, which are kind of much more robust for us longer term.

[Operator:]

. Our next question comes from Tom Burlton from Berenberg.

[Thomas Burlton:]

Just a couple of follow-up points for me really. First one relates to those very helpful points as you gave us around the 2021 adjusted EBITDA. You called out the $40 million of cost savings that you've crystalized this year, half of which related the prior year. I just wondered if you could give us a sense -- apologies if I missed it -- of the sort of quantum of that cost savings you're boasting for as you go into 2021. And in particular, thinking about your comment around getting margin expansion towards the S22 target. So just any sort of quantifying of that year-over-year cost savings going into '21? And then a follow-up on the point around energy, you helpfully gave us some sort of guidance on the energy headwind as we ended this year. I appreciate that's an ever shrinking part of the business. But sort of as you see the world today? And what's the best estimate for the sort of run rate headwind as we head into 2021, please?

[David Jukes:]

Sure, Tom. Thanks. I think that if you look at the cost savings, we're trying to give you some bits and pieces. So '21 and our general view that we can grow at least that and ahead of market. We're trying really hard not to nail down a number for 2021 at the moment because we're still doing our internal maths on our budgets and our plans. If you think about the $20 million -- $40 million of cost savings, I mean $20 million of those at least would reoccur into the following year. So we think those are costs which have gone rather than costs which are just flexed. And so you can kind of look at that number as part of our -- it's a number we have in our thinking going forward. In terms of the energy market, we don't really see energy as being a growth market for Univar Solutions. We do have some interesting pieces of the energy market, those more differentiated chemistries. We have a team of technicians and technical experts who kind of work on those things. So it's a more robust business that we have now within the energy market. But we don't see -- we don't expect a bounce back or growth in the energy market and nor are we staffing for that. What we are staffing for though is growth in other markets, much more robust markets, much more resilient markets like the Consumer Solutions markets, food, personal care, pharma, like Industrial Solutions business, cleaning, coatings, lubricants those kind of markets as well as growing share just through our local network of assets. We've got some fabulous assets, and we can handle chemicals incredibly safely -- house those chemicals incredibly safely. We see some really good opportunities to get better operating leverage through those assets. So we're very focused on that local business as well as well as our services business. So we see really good opportunities for growth in lots of other places. And we really aren't just betting all our chips on the oil and gas bubble anymore.

[Operator:]

This concludes the Q&A portion of our call. And I would like to turn it back to Heather Kos for final comments.

[Heather Kos:]

Thank you, ladies and gentlemen, for your interest in Univar Solutions. If you have any follow-up questions, please reach out to the Investor Relations team. This does conclude today's call.

[Operator:]

Thank you. Ladies and gentlemen, this does indeed conclude the conference call. Thank you once again for participating. You may now disconnect.