Q4 2022 Target Hospitality Corp Earnings Call

Good morning, and welcome to the target hospitality fourth quarter and full year 2022 earnings conference call. All participants will be in listen only mode did you need assistance. Please signal a conference specialist by pressing star.

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Please note this event is being recorded.

I'd now like to turn the conference over to Mark sure.

On your Vice President of Investor Relations. Please go ahead.

Thank you good morning, everyone and welcome to target hospitality fourth quarter and full year 2022 earnings call. The press release, we issued this morning outlining our fourth quarter and full year results can be found in the investors section of our website.

In addition, a replay of this call will be archived on our website for a limited time.

Please note the cautionary language regarding forward looking statements contained in this press release.

This same language applies to statements made on today's conference call.

This call will contain time sensitive information as well as forward looking statements, which are only accurate as of today March 10th 2023.

Target hospitality expressly disclaims any obligation to update or amend the information contained in this conference call to reflect events or circumstances that may arise after today's date.

As required by applicable law.

For a complete list of risks and uncertainties that may affect future performance. Please refer to target hospitality periodic filings with the SEC.

We will discuss non-GAAP financial measures on today's call. Please refer to the tables in our earnings release posted in the investors section of our website to find a reconciliation of non-GAAP financial measures referenced in today's call and their corresponding GAAP measures.

Leading the call today will be Brad Archer, President and Chief Executive Officer, followed by Eric T Calomiris Executive Vice President and Chief Financial Officer. After their prepared remarks, we will be joined by Troy Schrenk, Chief Commercial officer and open the call for questions.

I'll now turn the call over to our Chief Executive Officer, Brad Archer.

Mark Good morning, everyone and thank you for joining us on the call today target's record setting 2022 results are a direct reflection of our commitment to further solidify our strong financial standing while positioning the business to quickly respond to strategic growth opportunities.

Throughout 2022 target meaningfully increased its minimum revenue commitments diversified its end market customers and increased discretionary cash flow by 215%.

We achieved these accomplishments, while serving a diverse customer base across 29 communities.

We have remained focused on providing premium full service hospitality solutions to our world class Hff's clients many of them have been customers for over a decade.

As a result target had consecutive quarterly hff's demand increases, resulting in a 17% year over year increase in utilization with consistent customer renewal rates of over 90%, which we've enjoyed for over seven years.

Targets reputation and our commitment to these customers supported numerous hff's contract renewals and extensions over the past year.

We anticipate these contracts will add over 200 million of cumulative revenues grew 2028.

We are pleased with our current H F S utilization and its ability to meet our strong customer demand. However, we will thoughtfully evaluate select opportunities to add capacity in response to customer demand where appropriate.

While also adequately expanding our significant market share.

During 2022, we demonstrated target superior operational flexibility that that allowed us to match, increasing hff's demand, while simultaneously utilizing existing assets to expand our government segment by 60%.

The end result was a more fully optimize network and more valuable contracts.

Regarding the government segment, we have completed the enhancements to our expanded humanitarian community announced in July of 2022.

Its completion, we have solidified this community is the only purpose built campus with the sole mission of providing critical hospitality solutions and supported the government's humanitarian aid efforts we.

We can say.

This one of a can all inclusive community has exceeded the expectations of our partner and the U S government.

Since its inception in 2021 it has been our belief this world class facility would be the premier community, providing critical hospitality solutions to the government humanitarian aid missions.

This belief has recently been affirmed with U S government publicly announcing their intention to consolidate the remaining active influx care facilities.

Additionally, we are pleased to announce that our nonprofit partner has recently been awarded an indefinite delivery indefinite quantity quantity contract related to the extension of our humanitarian community in Pecos. This award.

<unk> got a base five year term with an additional five year option establishes the contracting vehicle required by the U S government to appropriately fund multiyear contract awards.

The Audi Q award to our nonprofit partner is one of the final steps in the government contract award process prior to working through definitive agreements.

We are highly pleased with the progress as the contracting big lots to come sooner than expected.

And we anticipate working through additional contract specifications over the coming months.

We look forward to solidifying the longevity of this community and the critical humanitarian mission. It was purpose built to provide.

As a reminder, last year, we entered into an exclusive of 11 year partnership with our national nonprofit partner.

A long term agreement solidified our joint commitment to continue providing critical humanitarian services did you.

States government at this highly customized campus.

In summary, we have achieved our strategic objectives to materially strengthen targets financial position, while simultaneously diversifying our customer base and continuing to accelerate value creation for our shareholders.

I'll now turn the call over to Eric to discuss our fourth quarter financial results 2023 financial outlook and capital allocation initiatives in more detail.

Thank you Brad.

Fourth quarter, we experienced continued strong demand fundamentals and positive momentum in customer activity.

Predominantly driven by growth in our government segment and the materially expanded humanitarian community.

Fourth quarter 2022, total revenue was $152 million and adjusted EBITDA was approximately $91 million.

Our government segment produced quarterly revenue of approximately $150 million compared to $47 million in the same period last year.

The significant increase was attributed to the expanded humanitarian community we announced in July .

As a reminder, targets government segment, including extending humanitarian community center around annual minimum revenue commitments.

Additionally, expanded humanitarian community includes variable service revenue that aligns with monthly changes, particularly in the population.

This contract structure provides ideal flexibility for our customers as their occupancy requirements fluctuate over time.

While also providing meaningful minimum revenue commitments that create significant revenue and cash flow visibility for target.

We have found the structure is the optimal outcome for all parties and it creates a sustainable structure, which we believe is the basis for contract longevity for years to come.

Hff's segments delivered fourth quarter revenue of $36 million.

The $34 million in the same period last year.

This increase was driven by sustained momentum in customer demand for targets premium service offerings.

Recurring corporate expenses for the quarter were approximately $9 million and we anticipate recurring corporate expenses will remain around nine to 10 million per quarter for the remainder of the year.

Total capital expenditures for the quarter were approximately $27 million with $23 million related to the substantial infrastructure enhancements required at the expanded to maintaining T D.

With the completion of key enhancements in 2022, we expect a more moderate pace of capital expenditures.

We ended the quarter with $182 million of cash and over $305 million of liquidity.

With zero borrowings under the company's $125 million revolving credit facility and a net leverage ratio of 0.6 times.

2021 2022 target has remained focused on reducing total indebtedness and maximize financial flexibility.

Over this time wherever they used a total cumulative debt.

But more than $225 million.

Additionally, we recently announced and $125 million partial redemption of the 95% senior secured notes.

Illustrating our commitment to a disciplined capital allocation strategy.

Focus on high return initiatives.

Inclusive of the $125 million note redemption.

We will have reduced total indebtedness by over $350 million since 2020 and over $200 million in the last 12 months alone.

Over the past 12 months, we have increased the intrinsic value of the equity both a $2 per share just in these balance sheet initiatives.

This highlights our commitment to allocating capital to the highest return initiatives, while continuing to maximize value creation for our shareholders.

Turning to our financial outlook and capital allocation objectives.

Targeted enhanced end market portfolio and contract structure has supported increased minimum revenue commitments and providing greater visibility on long term revenue and cash flow.

Additionally, we are pleased with the progress of discussions relating to the multiyear term extensions for the expanded humanitarian community.

We believe the government's decision this week issued of Yankee contract award to a not perfect partner solidifies. The sustainability of this purpose built community by establishing the necessary mechanism to fund.

Multiyear contract awards.

We continue to work closely with our nonprofit partners and anticipate additional contracts specifics related to targets clinical hospitality solutions to be finalized in the coming months.

Coupled with our ongoing business development efforts that have created the strongest project pipeline. The company has seen in several years.

Company is reiterating its preliminary 2023 financial outlook.

Which includes revenue of five around $25 million maximum of $710 million with adjusted EBITDA of $365 million.

Excluding acquisitions 2023 capital spending.

It should approach more normal levels between 20 and $30 million per year.

Predominantly focused on organic growth capital.

The range of preliminary 2023 revenue reflects the possible contribution a variable service revenue associated with expanded you maintain community.

Along with other potential second half weighted revenue catalysts.

As it relates to the expanded humanitarian community target expects the government to continue managing its muni allotments based on a variety of factors.

<unk> seasonality.

Use of smaller dispersed shelter capacity across the United States.

And other variable demand dynamics.

For the quarter the government nomination to our community have remained in line with expectations, which contemplates a range of variable demand dynamics, including a typically lower seasonal census during the winter months.

However, there are a variety of other potential catalysts that have shifted from our original expectations.

For instance, the government delayed its previously anticipated lifting of title 42 from December 2022 to May of 2023.

As a result of the consolidation of remaining influx care facilities, it's taken longer than expected, resulting in delayed timing of additional variable service revenue.

We expect an increase in variable service revenue weighted more towards the second half of 2023 as a result of the shift.

Targets enhanced balance sheet will allow the company to continue evaluating a range of high return capital allocation initiatives focused on maximizing long term shareholder value, while simultaneously expanding long term growth opportunities.

Target has identified and continues to pursue an active and expanding pipeline of strategic growth opportunities.

These opportunities include expanding reach across government agencies in support of select National defense projects as well as unique commercial diversification opportunities spanning a variety of domestic energy transition initiatives.

Target is prepared to allocate or $500 million of net growth capital to these high return opportunities through 2027.

As a result of the size and scale of these strategic projects.

There was inherently a longer program cycle prior to award announcements.

And while final outcomes are not 100% certain we can say we are quite pleased with the progress of discussions and believe there are tangible milestones being achieved on these important large scale projects.

We look forward to providing additional updates in the coming quarters as the opportunities progress.

With that I will turn the call back over to Brad for his closing comments.

Thanks, Eric a record setting 2022 results illustrate our commitment to enhance operational flexibility maximize asset utilization and provide unmatched value to our customers, which has supported the achievement of our strategic objectives. We are well positioned entering 2023 with an optimal balance sheet and over.

$300 million of liquidity well.

We will utilize this foundation and the tremendous momentum we have created to continue pursuing initiatives focused on accelerating value creation for our shareholders.

I appreciate everyone joining us on the call today and thank you again for your interest in target hospitality.

We will now begin the question and answer session.

To ask a question you May press Star then one on your telephone keypad.

If youre using a speakerphone please pick up your handset before pressing the keys.

If at any time your question has been addressed and you'd like to withdraw. Your question. Please press Star then two.

At this time, we will pause momentarily to assemble our roster.

The first question.

Question comes from Scott Schneeberger with Oppenheimer. Please go ahead.

Thank you very much good morning, everyone off more for my first question I would like to kind of hone in on the development with your partner with regard to the ER to the kidney IV IQ Award could you just talk a little bit more another level of detail.

About what has occurred there.

And if helpful. Maybe compare and contrast this year's.

Negotiation period and process as opposed to last year. Thank you.

Hi, Scott good morning, its Eric.

So it is a great great question. So discussed last year, our first and I think that's a good segue to this current discussion.

Recall last year the.

When the awards were done they were done in emergency basis, right and so they were done that way specifically in 2021, and we did that in 2022 and those emergency mechanisms by nature are effectively one year funding structure.

Determines the contract term.

So with this idea of Q I think the the big change on this is the permanent shift in how the government is thinking through the infrastructure around there you see capacity and this.

This allows for the mechanism to be much more much longer multiyear process now there are effectively two step functions here.

First step function, which is this which is to create the idea IQ funding mechanism, which in this case is a really a super important point because it establishes a five year initial term and then the one five year option, which is what we've been talking about for many months.

From that point forward, then there was a discussion around what exactly the scope of services look like and any sort of economics out of that now last year. If you recall.

And we don't expect any changes we have not made any changes in terms of the economics I think that's important we've had that experience for nine years with Delhi, We got that experience last year as well now last year also the scope.

Right. So so the only modifications we made were structurally are to increase the scope, but no other northern economic terms effectively changed now.

We would expect the same here going forward as it stands today, which is why we have not made any changes to our two outlook.

And we will continue the discussion around with our government partner.

With the government as well as our nonprofit partner around that scope as the government releases that information over the next few months and Scott maybe if I'll just add with the spread mooring, but add a few things there because I think it's very important to Erik mentioned going from emergency to to the Ics and when you look at it.

That today there is only.

Two active Ics and one of them, we know their forklifts been out publicly that at some point here in mid mid to mid year of 2023.

If theyre going to mothball that.

And not use it anymore.

They put that out publicly. So this has always been out there are in the government moving into the more permanent type facilities longer term, but I think that bodes well for where we're at but that was a big distinction in this contract move into the more permanent facility the government rebalancing there.

Their portfolio as well and this is allowing them to do that.

Okay. Thanks, guys are very informative some some good points there.

I guess Oh.

Let's transition it to kind of more near term that sounds like an excellent long term development, but more near term.

Eric you highlighted.

It's kind of like second half.

Stronger than first half on seasonal utilization in west taxes could you just speak to and as Brad just mentioned kind of the Fort Bliss wind down dynamics, how how should we be thinking about your inflows at west Texas based on.

Seasonality, one and and wind down at Fort Bliss. Thanks.

Sure.

Another great question.

I'll I'll I'll state say holistically that the capacity that we're seeing is exactly what we would expect to see in fact, it's very similar to what we saw last year as well and so the contractual mechanism we have in place and the occupancy levels we have.

They are doing what we would expect them to do.

The one ship that we that we had that I mentioned was the expectation titled 42 being lifted by the administration in December 'twenty, one 2022 which ultimately delays things now that's relevant because.

We also in and around that time were just completing a PCC in the east.

Spansion.

So because of the timing of this entitled 42, the government delayed the how he's thinking about Fort Bliss that was relevant because that allowed for bliss contract stay a little bit longer than what would have otherwise anticipated. So effectively what's happened is that capacity has been sharing if you will.

Between PCC in Portland.

So as we move forward with title 42 being lifted.

With the typical seasonality, we would expect from children's specifically right because that's the census population that that really impacts us.

And then the movement of we're blessed this summer and in the termination of that.

That shifts a lot of things really through the second half. So I would love to give you a quantum of number which is probably what you would for ideal, but unfortunately cannot do that suffice to say that.

Look I would just say that it's I think I think a lot of a lot of things are being positioned towards second half.

Hard to say what that quantum is because as you know migration flows are not clear.

Albeit we can say and I think and I think we may have touched on this at some point in the past is that.

For half of the entire touch points on the immigration flows in 2022 alone.

Rejected specifically due to titled 42, and the rest came in through Tiger Lake, which is a typical asylum claim.

The reason why that's relevant is because once that's lifted.

You would effectively see as it relates to 2022 at least just using that as a precursor you would've expected to see the immigration flows double from where they would have been.

Actually and so I think that's relevant as opposed to where we are now so we'll see what happens in the balance of the year, but my expectation would be that the inflows would be pretty significant.

And I'm, just just one more for me and I'll turn it over and it goes back to the first topic I I raised and and one of your comments during the prepared remarks or in response to that first question was with your partner and the idea of Hue Award is is should we add.

Turning to page now that it looks like it would be a five year base in five year extension. It sounds like that is being established in this new development, what I inferred from something that one of you mentioned that it would probably be the same structure as a base lease.

And then a a a variable utilization a component is that how we should think about the future contracts or may it be structured in another fashion. Thanks.

Well, Scott when we submitted with our partner on the <unk> IQ that's exactly how we submitted the way its setup to set up today, we haven't heard any changes the way the idea IQ at this point was given to them. So we had to put in a base concept pricing and in all of that to be awarded this.

Understood. Thanks, I'll turn it over thank you. Thank you.

The next question comes from Greg Gibas with Northland. Please go ahead.

Hey, good morning, Brian and Eric Thanks for taking the questions congrats on a quarter as well.

If I really could just follow up on that idea of cuprum the nonprofit partner.

What are the next steps there and when would we expect to see an update on that contract.

Yeah, Great Great question, so you're.

Like we said it'll be these things do take a little bit of time. This is a.

This is a little bit of a process I think.

What what we need to get surety of is any scope modification that could be a result of the.

The changes right. So the first the first step is to create the funding mechanism and appropriated dollars, which is effectively what this means right.

The next step then is for the government to finalize its scope.

Now if you recall last year, we increased the scope from 4000 beds.

Additional 2400, alright, so sort of increased dramatically now again, that's a reflection of I think one the.

The built for purpose nature of the facility, which is truly I'd love to say, it's best in class and that would be unfair, it's actually absolute world class and by far the absolute best facility out there.

Sure.

The other thing that needs to two to come into play here is.

You have to bear in mind, the government has re imagining how they think about it its capacity.

They have 22 shelter locations across the United States. Those are tend to be very small there logistically challenging and our understanding is that they are seeking additional alternatives and so the point being is that there could very well be other locations that come into into play here.

And so we'll just have to see what the scope changes look like if there are any.

Any locations increased with the army.

And then and then just go from there so but I think that process is going to take as we mentioned, it's going to take a few months.

Yeah, which is much shorter than what we've been doing and how we started this process in September with the Rd IQ when we submitted.

Even before that we've been talking about it. So we have we think this is a huge hurdle for us to get over and we did that.

Can you just reiterate I think it's probably a couple of months as Eric said there'll be discussions immediately.

But.

That are already happening in there.

And we should conclude this I would say in the next few months.

And my point, there just not a long youre not talking 689 10 months here.

Yes, a great point and that's very helpful guys.

And just a follow up there again.

As we think about them thinking about yes.

Perhaps changing the scope.

On the on the contract you know if we think about Fort Bliss being mothballed like you said.

Is that a safe assumption to assume that they would require more scope.

Look I think when you look at titled 42.

Supposedly coming off in May I would just tell you a high level I think the need for our types of services.

Are going to be greater.

We think there will be more deals out there we would have to win those I'm not sure there'll be more more scope. If you will in our west Texas facility.

But I think overall on the border across the U S. Some of the things that we are dealing on now I think there will be a greater need it doesn't mean, we're going to end up with them, but I think our pipeline and we touch on this is more active and more real than it's been ever and our.

So I think that's a great point I think to add onto that.

As Brad mentioned, a great point, which is our pipeline is exceptionally active.

In and around these types of things, but in addition to that Greg just for clarification. The government as part of this process has clearly indicated that they are net short capacity right and they know it and so.

Yeah.

To Brad's point, what the ultimate outcome of that is still yet to be determined but I would submit to say, it's not a far stretch it looks it looks much better for target. So.

We'll just leave it at that but certainly not certainly very positive.

Got it very helpful.

And then I guess lastly, just you know what is maybe reasonable to assume regarding variable revenue. This year I know you've provided the range, but but what would maybe be kind of a rough baseline that that would be a fair assumption.

Well, we had we had initially indicated that we were going to look.

Look at close to $50 million in variable revenue for 2023.

And you know as I said that is there will be pushed more towards the second half specifically parse.

Partially partially due to the tariff way too, but really it's really a function of just typical seasonal census that we're seeing right now which is not which is not out of the ordinary that's actually that's actually coming in fine.

Look I mean, I I'd like to say, there's a chance that it then it's better than all of that.

But look we'll just have to wait and see I think it's a little too early just to say you know if it is better how much so.

Look I think it's hard to make a determination Greg when you're in the shoulder period, when youre coming out when you're coming off of the period, where.

Fewer fewer net children have been coming over the past few months right and so that kind of winds down the influx capacity, a little bit or need a little bit and then we'll see what that what that looks like particularly coming to spring, which which is seasonally very very strong.

Exceptionally could be exceptionally strong with the changes in administration policy.

Got it thanks for the color I'll pass it on.

Thanks.

Again, if you have a question. Please press Star then one.

The next question comes from Stephen <unk> with Stifel. Please go ahead.

Thank you and good morning, everybody.

Good morning.

Good morning.

A couple of things for me the first one.

Just on the variable piece and I don't want to read into this too much but when we think about the 50 million dollar expectation.

For the year at least I guess sort of a baseline how much though.

As utilization of the asset this year impact the negotiation is it pretty clear I mean, I guess this long term.

Need is sufficient or like of your utilization was.

LOE this year that the government could rethink the capacity needs longer term or is that.

Reading into it too short term of a data point.

Yeah, So I understand the I understand why you would ask that question I think it's I think it's very much a too short term data point, partially because what we're seeing.

Is is no different than what we saw last year at the same time.

So that's kind of point number one point number two I think the case of our daily location.

<unk> is a great case study for this and.

That was renewed for five additional years right in the middle of Covid right.

Alright, with with very few very few occupants for obviously for health reasons.

And so I don't think there's really a correlation to that one bit as we mentioned.

The government isn't is net short on the influx of capacity and so.

I don't think they.

Don't think that has really has any bearing as to how they're thinking about this.

Okay. Thanks.

What I thought, but I've gotten the question. So I figured I'd ask you so the other the other.

Bigger picture question.

If if we work under the assumption in our model is kind of built this way that you guys do secure this long term contract.

And then we look out and I mean, you don't have to bless the number that you're looking at I don't know, how your $75 million to $200 million of annual free cash flow and.

Visibility on that free cash flow.

What is.

You do over a multiyear period as far as utilizing that cash and maybe I know we've touched on this a little bit but what what are the other sort of end markets you might access our traditional steel a massive return of capital story to investors.

Look it's a great question the answer is.

Look I've been a broken record probably the past year on this but the answers are different when you're dealing with an emergency funding mechanism versus a long term idea structure. Okay. So some some my point is my answer's Gonna change lately.

So look I think there is a time, where where you start you do start looking at other capital return initiatives, Okay, and I think I think we could be approaching that time.

Now that said we are and we've said this many times. We are we are absolutely in growth mode too right and so there's a lot of things. We can do around that we can certainly look at some cash transactions, which we have but we have been very deliberate and very patient in that regard and we have not found the right thing at the right value just yet, but there are some opportunities out there.

There are other opportunities to materially grow the business to do equity exchange type transactions right and so that's that but that's not really a use of cash necessarily.

But there are opportunities to materially grow the business and diversify the business that way.

And then you look we put the balance sheet in a spot where we where we said we would and now we're in a spot where to the point when you start looking at over the next three or four or five years and you're talking you know six $700 million of free cash flow that can accumulate.

You start looking at new shareholder return type activities and none of these mutually exclusive.

Brad's point, none of these are mutually exclusive and.

We have a tremendous amount of flexibility and so what we can do with this is we can do cash transactions with new equity exchange deals we can do.

Dividends et cetera, we can do these things.

All contemporaneously at this point.

And.

And so I think we will your winter mode, where we will start looking at that in a more deliberate and more deliberate fashion.

I think that's probably close to that type of thing.

Great. Thank you and then just one final for me when you.

When you think about the oil patch and what's going on in Hff's South.

It feels like.

There was a sustained level of activity there probably not a lot of growth given the way the e&ps I remain pretty disciplined.

It reasonable to think about that business as being pretty steady state okay.

Levels I know you had the contract extensions, which gives visibility but is that a reasonable way to be thinking about that piece of the business in 2023.

Sure I I look I think you're right and the way we think about that business is a fantastic business. We just had $200 million of contract renewals. There. We are as we've as we've communicated before we do tend to see a lag.

So we do expect margin growth there over the next a couple.

A couple of quarters, and perhaps meaningful margin expansion, there, which is which is great.

But look at that business generate so much cash and it is it is so helpful in diversifying our balance sheet and what we can do that.

Spite it being you know call it a GDP type business at this point absent any other sort of strategic moves. We may we may make in terms of determining smaller kind of tuck in sort of acquisitions.

Look that's a fantastic business for us and we will continue to operate that and capture as much market share and margin as possible losses, while supporting our customers and their needs.

But you know look the.

The growth notwithstanding it's a fantastic business I mean utilization is increasing right.

And we are we had and I think look we have we have put that business in a.

Fantastic optimization on spot and really we're really really pleased with where that's positioned at this point, you're starting to see some movement on price not huge but.

As Eric said, there is always that lag.

It's not going to be a huge mover for us because we have a lot of long term contracts that are already baked in but as we as we come up on renewals and new high grading customers.

We're having a much better outcome.

Those negotiations so not sure youll see a huge move but it's nice to see that we are getting some of those now and higher utilization I think overall, we've really over the past couple of years looking at the consolidated portfolio right. When we look at margins when we look at growth what can we do to maximize every room in our portfolio.

So when we look at that we look at it holistically, whether that's with government, whether that's with rare earth type companies or if thats, the oil and gas side and I think we.

The team has done a tremendous job in really capturing that for us.

Yes. Thank you. That's that's that's helpful color on the feedback we get is very positive. So it dovetails with what you just said so thanks.

This concludes our question and answer session I would like to turn the conference back over to Brad Archer for any closing remarks.

Thanks again for joining us on the call today, and we look forward to speaking to you again in may when we deliver our first quarter numbers.

The conference has now concluded. Thank you for attending today's presentation you may now disconnect.

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