Q2 2020 Earnings Call

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Greetings and welcome to their money.

Holdings incorporated second quarter fiscal year 2020 earnings conference call. At this time, all participants are any listen only mode. A question answer session will follow the formal presentation. Then when should require operator system. During the conference. Please press star there on the telephone keypad. Please note. This conference is being recorded I will now turn the conference over to your host Kevin Fox.

Vice President.

<unk> development that's box you may begin.

Thank you America good morning, and thank you for joining todays conference call. We issued an earnings press release. This morning, which has been filed with the FCC on form 8-K and is also available on the Investor Relations section of our website at <unk> Dot Fairmont Dot com.

Replay of today's call will also be available via webcast. After the conclusion of the call. This broadcast as the property of Thurman and any redistribution retransmission or rebroadcast in any form without the expressed written consent to the company is prohibited.

During the call. We will also discuss some items that do not conform to generally accepted accounting principles, we reconcile those items to the most comparable GAAP measures and the tables at the end of the earnings press release. These non-GAAP measures should be considered in addition to and not as a substitute for measure is our financial performance reported in it.

Gardens with gap.

Before I turn this collaborative Bruce I'd like to remind you that during this call. We may make certain forward looking statements regarding our company and business that are not historical facts because forward looking statements relate to the future. They are subject to inherent uncertainties risks and changes in circumstances that are difficult to predict please refer to our annual report.

The most recent quarterly report filed with the FCC for more information regarding our forward looking statements, including the risks and uncertainties that could impact our future results. Our actual results may differ materially from there was contemplated by these forward looking statements. We caution you therefore against relying on any of these forward looking statements.

They are neither statements of historical fact in her guarantees or assurances of future performance any forward looking statement made by us during this call speak only as of the time at which it has made factors or events that could cause our actual results to differ may emerge from time to time, and it's not possible for us to predict all of them.

We undertake no obligation to publicly update any forward looking statement, whether as a result of new information future developments or otherwise, except as may be required by law and now it's my pleasure to introduce Bruce famous our president and Chief Executive Officer for his opening remarks.

Thank you Kevin.

Good morning, and thank you for joining our conference call and for your continued interest in thermal on a joining me today on the conference call today is a Jay Peterson, our CFO , who will follow me and present, the financial details of our fiscal year 2022nd quarter.

I I want to begin by talking about the trends, we're seeing with our customers and in the in markets, where we choose to compete we're seeing a weakening overall macro environment. That's supported by the most recent I M. M growth forecasts that has resulted in a more cautious approach to capital deployment by many of our.

Our customers.

Well questions persist regarding a number of factors impacting the global economy, we believe that execution of our strategy has positioned farm on well to continue to grow inspite of the economic uncertainty.

As a reminder, the heat tracing market of our legacy business was roughly 1.5 billion when we expanded into process human capabilities two years ago with the purchase of CCR thermal technologies now thermometer heating systems.

We now believe our total addressable market is at least twice as large [laughter]. It's our intent to continue to grow that addressable market and our share via geographic growth expansion into new verticals as well as potential future acquisitions.

From a capital investment standpoint, we see Capex estimates for the next 12 months growing in the Middle East Africa, India moderate to neutral spending growth in North America, and Asia, and Europe , continuing to be a very challenging and competitive economic environment.

Despite the varying levels of growth across the world Armand delivered top line growth for the eight consecutive quarter over the comp period with three of the for geographic segments growing revenue in Q2 at least 15% over the prior year quarter.

Even in an environment with limited GDP growth, we see opportunities to create value for our customers and shareholders by selectively pursuing new business and expanding the installed base that has been built over the last several decades.

Now moving to our in markets, where we are seeing mixed signals the outlook in the upstream continues to weaken due to the softening of global demand leading to excess capacity and lower commodity prices.

Downstream is also showing some weakness was slowing demand growth for transportation fuels capital projects. In this sector had been largely driven by tightening environmental regulations for lower sulfur content infuse. However in other areas, we're seeing significant growth opportunities tied to natural gas and patch.

Chemicals.

In midstream, we continue to be well position to capitalize on an LNG investment cycle.

[laughter], we've been awarded a major LNG project in North America that is not yet reflected in backlog or bookings for this quarter. We anticipate this project will begin to impact financials in fiscal year 2021, and continue for the next two to three years thereafter, we believe this LNG.

Investment trend will provide a significant tailwind through 2025 and beyond.

Both chemical and petrochemical sectors remain the world most robust of our end markets tied to demand for plastics as a global act the outlook for consumer spending remains positive.

There are a number of capital projects planned for the U.S. Gulf Coast, Canada and across the Middle Eastern Asia. We're also seeing a shift in investments toward older chemical projects as demand for transportation fuel weekends.

Combined cycle power projects are trending positively showing single digit growth, particularly in the U.S. and Latin America.

Demand for mass transit transportation and growing population centers continue to create large multiyear project opportunities in rail and transit.

We anticipate revenue growth in Q3 as projects now in production begin to contribute to the topline.

We're also seeing immoral opportunities and tracking switch products as maintenance dollars are released before year end.

In nuclear the majority of opportunities are tied to Mario you re spending within existing facilities. We have seen an increase in MRO opportunities during the first half which was anticipated following the completion of major nuclear plant upgrades in eastern Canada that we expect.

We will begin to translate into revenues in the second half of this fiscal year.

Even with these mixed signals from the market, our quotation activity and project pipeline are growing.

We've recently had an attractive win with the award of a key DHS process heating system in the southeast Asian refinery.

We continue to see the globalization of the THL platform as a key growth opportunity going forward.

Moving on to our financials, Jay our CFO will speak to the detailed financial results, but revenue has been a positive story for the past few quarters and this quarter continued that trend.

Toting Therm on revenue was up 14% in a mixed market and we were able to drive a seat sequential 360 basis point margin expansion through price realization expanded margins from new products and continuous improvement efforts related to our manufacturing costs more notable our margin.

As a 44.1% approached our historical average on a very heavy mix of Greenfield and MRO you he revenues at 47% and 53% respectively.

[noise] throughout the year, we will continue to execute on our cost reduction plans, while also focusing on new product development that will further enhance our margin profile overtime.

I'd like to shift focus to cash which was a good story this quarter as we mentioned on our last call. We felt there was an opportunity to increase the efficiency of our balance sheet and we improved our cash conversion cycle by over 25 days versus last quarter with a focused effort on all three drivers.

We were able to generate over 26 million in the operating cash flow during the quarter.

With our low capital intensity business model as a reminder, we typically spend slightly over 2% of revenue on Capex staying focused on our working capital will help consistently generate the cash needed to continue to pay down debt or pursue additional inorganic opportunities.

From an M&A standpoint, two years ago, we purchased the business line now known as thermometer heating systems. We're pleased with our progress since then and we will continue to be disciplined as we evaluate potential deals.

We will prioritize bolt on acquisitions that helped build upon our leadership position in key technologies globalize, the DHS platform or expand our addressable markets. We continue to evaluate transactions each quarter and in the absence of attractive M&A, we will prioritize debt.

Reduction.

In this quarter alone the savings from debt reduction and associated interest expense will translate to three cents. This year in the us on an annualized basis.

Alternative they leave from a organic growth perspective, we're continuing to invest in technology that person positions thermark to win in the market.

For example, recently completed investments in our research and development lab now give us the capability to rapidly integrate and test new put material compositions that will enhance performance improved quality and expand the range of applications for our heating solutions. We've also incorporated DHS is new product.

Development ideas into our stage gate process, providing an enterprise wide view into future revenue opportunities last but certainly a lot not least we continue to invest in our software team as they develop modern solutions to enhance our customers productivity safety and performance.

As I look into the second half of the year, we see a tougher set of comparisons due to strong growth we achieved in the second half of our fiscal 2019, especially Q3. However, we feel confident our plan for the remainder of the year and we're maintaining our annual revenue forecast of 2% to 4% organic growth.

For fiscal 2020.

Also wanted to highlight the thermonics celebrated its 65th anniversary last week.

The company was founded in 1954 and thermal on has been an innovator in the market ever since.

To the Fairmount employees around the globe.

Thank you for all you contribute and making this company what we are today and I look forward to what we will accomplish together in the years ahead.

Now I'll turn it over to Jay Peterson, our CFO , who will address the details of our financial performance for the second quarter Jay.

Thank you Bruce good morning, I will start by discussing our Q2 results.

And then finish with guidance any discussion on margin enhancements for fiscal year 2020.

First off revenue in orders our revenue this past quarter totaled 102.9 million.

And that's an increase of 14% over the prior years quarter.

They legacy revenue mix between MRO, you eat and Greenfield.

53% and 47% respectively.

With the Greenfield mix significantly higher than in the past.

FX decreased total revenue by approximately 1.5%.

And in constant currency.

Our revenue grew by 16%.

And this last quarter marks the eighth consecutive quarter that our business revenues have grown.

Orders for the quarter totaled 92.6 million.

Versus 95.8 million in the prior quarter for a decline of 2%.

Our backlog of orders.

Ended September at 102.3 million.

Versus 149.6 million as of September a fiscal year 19.

And that is a decrease of 32%.

Margins in our backlog improved by 200 basis points over the last 90 days.

And 400 basis points over the last three quarters.

And our book to Bill for the quarter was 0.9.

Moving on to gross margins.

Margins were 44% of revenue and we're at the highest level in the last three fiscal quarters.

Although gross margins declined by 70 basis points versus the comp period.

It is noteworthy that we were able to maintain 44% margins in spite of a substantial increase in the mix a greenfield.

Project revenues.

And consecutive quarter margins improved by 360 basis points.

And by 600 basis points over the last two quarters.

And in the quarter gross profit grew by $5 million or 12% versus the comp period.

While we have experienced cost increases attributable to the recent tariffs we have largely been able to pass these increases along to our customers and we have not seen any material impact to our gross margins due to tariffs.

On the optics core operating expenses for the quarter that is SDMA.

And this excludes depreciation and amortization of intangibles totaled $25.4 million versus 23.9 million in the prior year.

And that's an increase of 6.2%.

Relative to a 14% increase in revenue.

And comprehended in this modest operating expense increase is a 52% growth in research and develop men spending and other cost specific to achieving our fiscal year 20 strategic initiatives.

And our operating expense as a percent of revenue for the quarter was 24.7% again, this excludes depreciation and amortization.

And that's a decrease of 180 bips.

From the prior year level of 26.5%.

Now to earnings GAAP EPS for the quarter totaled 21 cents.

Compared to the prior year quarter of 10 cents.

An increase of 11 cents per share.

And note that S more than double on 14% revenue growth.

Due to gross profit growth and continued expense management.

Adjusted EPS.

As defined by GAAP EPS less amortization expense in any one time charges.

Totaled 29 cents a share relative to 22 cents a share in the prior year quarter.

And I'd like to call out that we are currently expensing $4.5 million per quarter.

Or 10 cents per share.

Or approximately 40 cents a share on an annual basis after tax.

For non cash amortization.

And note that the total amortization expense will decrease in may of fiscal year 21 to approximately $9.9 million per year.

To roll off of certain assets related to the 2010 private equity acquisition.

Therma.

In the quarter EBITDA grew by 18%.

Versus the comparison quarter and EBITDA as a percent of revenue.

It was 20.5%.

Thats, an improvement of 60 basis points versus the comparison period.

EBITDA totaled $21.1 million this last quarter.

Now moving onto the balance sheet and future capital allocation.

Our cash and investments balance at the end of September improved.

$39 million.

And we generated $24.5 million in free cash flow this quarter, and we were able to pay down $15.6 million in debt.

With additional debt pay down done this current quarter.

And this foregone interest expense will be accretive to our earnings by three cents a share over the next 12 months and that's an after tax number.

Our path Capex spend for the second quarter totaled 2.1 million.

Thats inclusive of both sustaining and maintenance capital and came in at 2% of revenue.

Recall, our net debt to EBITDA.

Was three point Fourx at the time of the October 17, CCBI acquisition and it is presently at 2.0 ex with additional de levering anticipated this fiscal year.

And lastly, our capital allocation priority.

In the absence of any near term M&A transaction.

Is to continue to reduce our debt.

Through optional debt repayment.

Taxes, our tax rate for the second quarter was 21%.

And tax expense for the quarter reflects a reduction of taxes totaling $784000 for the impact of a 4% tax rate reduction in Alberta, Canada.

And while this rate will be phased in over three years.

Accounting guidance requires that we adjust the respective tax accounts at the time the law becomes no.

And we continue to work with our tax advisors on various strategies to optimize our income tax structure.

And at the conclusion of this analysis it is possible our tax rate will be exposed downward later this fiscal year.

Finally on the 2020 guidance there are several guidance points I would like to mention.

We are holding to our previous revenue guidance of 2% to 4% growth.

And relative to our current margin performance.

Various activities are in process.

To improve our margins, including.

Florida half million dollars in cost reductions.

With an anticipated realization of $2.6 million and savings this current fiscal year.

And we announced price list increases earlier, this year or our maintenance related.

Products and in Q2, we realized a 130 basis points due to price.

With an expectation of a total 200 bips for the fiscal year.

And recent and planned product announcements.

We anticipate will yield accretive margins.

This year.

And lastly, as we head into the heating season, we typically see a seasonal uptick in margins.

Due to the increased mix of MRO activity.

And in conclusion due to growth in cash and EBITDA and continued reduction in our debt.

We expect to improve our net debt to EBITDA leverage to approximately one point fivex.

The ended the year and this is excluding.

Any M&A transaction.

And I would now like to turn the call over to Omar to moderate our Q in a session.

While there.

At this time will be conducting a question answer session if you'd like to ask a question. Please press star one under telephone keypad, a confirmation talent when cage. Your line is in the question Q.

Hey Press Star too if you would like to remove your question from the Q4 participants using speaker equipment. It may be necessary to pick up your hat that before pressing the star Keith.

One moment, please while the poll for questions.

Our first question is from Brian Drab William Blair. Please proceed with your question.

Hey, good morning, Thanks for taking my question.

Good morning, Brian how are you.

Alright, thank you.

The the large projects.

I guess, congratulations I guess, you only said North America, but can we say, whether that's Canada LNG.

Right now where you have a nondisclosure agreement, we're not at Liberty to discuss that further.

It is a very large north American project that that will.

Yield revenues for the next two to three years, though we're very pleased to be.

Okay is there.

Any chance that you can talk about what type of gross margin you'd expect.

That project overall, and maybe just directionally like would it be better than 45 or below 45.

It would be similar to our margin profiles for our greenfield mix of products projects.

Okay.

Okay.

So I guess, that's clearly below below 45 on that business.

There are below your average.

Okay.

Thanks.

It is it would be the average Greenfield project margins got it okay. Okay.

Lastly.

Opportunity there is on on the.

20, or 30 year annuity that would follow.

Right.

Right.

And then.

Burst.

Is there any update on any of the other large projects that you're bidding on and pipeline and others and other.

Yes Big project out.

Yeah.

Arctic LNG projects out there some other big projects and any update on.

You know at least qualitatively than your your optimism about winning some of these larger project.

What I will say is the the overall environment for LNG midstream.

Is really really promising and we see a number of these large projects moving forward.

Beyond just.

I'd, but through.

Design and award so we're very pleased.

With the current when we have and we also see additional opportunities in our quote.

Our quotes in our pipeline.

Okay. Okay. Thanks, and then.

Yes. So you you beat the street expectations for the second quarter and maintained guidance so that that implies.

One of two things you either the street was just too low for the second quarter or your.

I guess, maybe more likely implying a slower second half to the year.

Yes, I think the that right to say, yes, lower second half we had a really strong age to last year that was a heavy mix.

Of Greenfield.

And we just looking at our current backlog and the the makeup of our backlog, we don't see as strong greenfield in the second half.

I think Conversely, we do see some significant opportunity for gross margin expansion in age to relative to the prior year.

Okay and then we.

In between you know just kind of splitting up the quarters, the third quarter fourth quarter. I think you said on the call that you.

We expect growth year over year in the third quarter.

But I guess that would that mean, obviously been a decline in the fourth quarter is that the takeaway.

No my comment was really that Q3 is that would be.

A difficult comp and that we were.

In fact, a difficult comp in the second half and that we were.

Maintaining our 2% to 4%.

Revenue growth projections for the year.

And and we really don't give quarterly guidance just due to.

The volatility of projects moving in or out of a quarter.

Okay.

Okay I'm just looking at the.

The revenue was flat for the next two quarters year over year that gets you to about the high end of the guidance.

Which implies.

After that.

There, we've got relatively conservative guidance or are we should be modeling down I guess year over year at the at the midpoint.

I just want to give an opportunity tell me I'm doing the math wrong or if that's kind of but okay.

Greg.

You would see flat into you know slightly.

Down revenues in H. too.

Relative to the prior year.

Okay. Thanks, and then just one last one can you elaborate on the THX when terms that maybe timing size geography end market.

Yes, It was southeast Asia, which which I noted it's in a refinery.

And it's a real nice.

Oh process heating package that we've been awarded we should see that.

Land or generate revenue in late.

Q4 or.

Q1 of fiscal 2021.

Okay, alright, thanks very much.

I think that thing we're excited about there is it's illustrated the opportunities we have to globalize. This business, that's what's exciting about it.

Thanks.

Thank you Brian .

Thanks.

As a reminder, we're now conducting a question answer session. If you would like to ask a question. Please press star one under telephone keypad a confirmation total indicate your line is in the question Q you May Press Star too if you would like to remove your question from the Q4 participants using speaker equipment, and maybe not say to pick up your handset before president start.

Please all people for questions.

Your next question is from Jon Braatz, Kansas City Capital. Please proceed with your question good morning, everyone.

Good morning, John Bruce you.

You mentioned that Youre seeing some headwinds in the some of your end markets.

Given the slowing a little bit.

And.

And I don't know if you can quantify these things but.

As you look forward if these headwinds persist.

How much.

How much of a headwind is that for for Thermonics.

And I assume it's mostly in the Greenfield area as opposed to.

MRO operations.

Yes, John that's correct, where we see.

Where we see more some challenges going forward are really more in.

And really a more cautious approach to capital deployment with with some of our customers and a couple of years I noted, a particularly upstream which has been weak so.

You know, we and we don't benefit.

From upstream as much like in the shale plays as maybe some other businesses. So that's been less impactful.

The areas that we do best upstream have been Canada, which has not recovered since the downturn. So that really hasn't had a huge impact on us because it hasn't worsen.

And then the other area, where we do quite a bit of business upstream has has been in Russia.

The other area noted was really in refining and just the slow growth in.

Demand for transportation fuels has certainly.

You know.

Not required the level of capital investment. However, there is we have benefited from our really investments.

In.

Projects to reduce the sulfur referred to produce lower sulfur moves and so those have really created additional opportunities in spite of the fact that there has the demand growth has been fairly weak in that sector.

Okay.

Are you seeing or are you seeing any.

It was there any reason to believe that these trends could worsen.

Or is it too early to tell.

I would say at this time, it's too early to tell we're just we're just watching it and we are seeing mixed signals because we see some really positive.

Lines in other areas of our end markets. Thanks.

Okay. Thank you Bruce.

Thank you Sir Thanks, John .

This concludes the question answer session now, we'll now turn the floor back over to Bruce Davis for closing remarks.

Okay. Thank you and thank you all for joining on the call today, we do appreciate your interest therm on enjoy the rest of your day.

This concludes today's conference you may disconnect your lines at this time. Thank you for your participation.