CCC Intelligent Solutions Holdings Inc. (CCC) Q1 2017 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Calgon Carbon Corporation First Quarter 2017 Financial Results Conference Call. All lines have been placed on mute to prevent any background noise. And after the speaker’s remarks, there will be a question-and-answer session. [Operator Instructions] Please limit yourself to one question and one follow-up question. Thank you. I’ll now turn the conference over to Mr. Dan Crookshank. Please go ahead.

Thank you very much, Chrystal. Good morning, everyone, and thank you for joining us for today's conference call and webcast. Our speakers for the prepared-remarks portion of today's call are Calgon Carbon's Chairman, President, and Chief Executive Officer, Randy Dearth; and Calgon Carbon's Senior Vice President and Chief Financial Officer, Bob Fortwangler. Also on the call and available to take your questions are Executive Vice President and leader of our core carbon and services business, Jim Coccagno; and Executive Vice President and leader of our advanced materials manufacturing and equipment division, Steve Schott. Management's prepared remarks today are accompanied by presentation slides. Those of you accessing the call via the webcast will find the presentation displayed in the webcast window. A stand-alone copy of the presentation is also available for download from our website at www.calgoncarbon.com via the link to today's webcast that can be found on the investor homepage. I'll now draw your attention to slide two. Statement made during today's call that are not historical facts are considered to be forward-looking statements and are made pursuant to the Safe Harbor provisions of federal securities laws. A list of factors that could affect the actual results can be found in the news release we issued earlier this morning and are discussed more fully in the reports we file with the Securities and Exchange Commission, particularly those listed in our most recent annual report on Form 10-K. These filings, as well as this morning's news release, can also be found in the Investor Relations section of our website. Now let me turn the call over to Randy.

Thanks, Dan, and thank you, everyone, for joining us for our first quarter 2017 earnings conference call. If you turn to Slide 3, I’ll start my remarks with an overview of our results for the first quarter. I’m pleased to report that we produced sales growth of 18.7% within our guidance range of 18% to 20%. With the full quarter of operations, as part of Calgon Carbon, the new business delivered sales of $24.2 million, slightly above our expectations. In our Legacy business, sales were lower than last year but slightly higher when excluding unfavorable foreign currency translation. Although sales to industrial sector customers were roughly flat against a good first quarter last year, what’s important to us is that we are seeing continued improvement in sales to this important customer base following the significant slowdown that began around the middle of last year. As a reminder, sales to these customers amount to about 30% of our sales in aggregate. This encouraging trend supports our belief that our activities in this area have stabilized particularly in the Americas region and we remain cautiously optimistic that an industrial sector recovery is underway. Mercury removal sales grew as expected and we are pleased to report that sales for the first quarter were $13 million, almost 60% higher than the $8.2 million we produced last year when adverse weather conditions and low natural gas prices were a drag on demand. Also contributing to the robust year-over-year growth was additional demand from those power plants that began to comply with MATS after April last year as well as sales to new customers. In terms of earnings per share, as anticipated, we continue to be burdened by some acquisition related expenses. Although these were considerably lower than the fourth quarter and we are near the end of including these expenses. Before going over the first quarter more detail, I’ll touch on a few business highlights. The $13.2 million award we won from California Water is a clear reminder that Calgon Carbon has the high value products, the reputation, and service capabilities to win large bids when those opportunities present themselves. We have commenced work in this contract and expect to complete work in mid-2018. Also, our equipment backlog reached its highest quarterly level since the first quarter of 2013 which in addition to the Cal Water contract reflects improved order intake for both traditional ultraviolet light and ballast water treatment projects. So all in all, our first quarter results were in line with our guidance and we’re starting the year as expected. Mercury removal sales overcame as soft prior year, industrial sector demand is stabilizing and the portable water opportunity is solid. As I said on our fourth quarter call, we have good reason to believe that the areas of soft demand we faced in 2016 may become areas of improvement in 2017 and our first quarter performance indicates the fact things are starting to move in the right direction for us. Before diving deeper into our performance for the quarter, I want to make sure you are aware that we have realigned our internal management reporting structure to incorporate the new business into our Legacy businesses and accordingly reorganized our reportable segments. On Slide 4, we’ve outlined the changes to our segment reporting. On the right side is a list of the three new reportable segments and the business components within each one. And on the left side, we’ve displayed our past reporting structure. Information about our performance at the segment level can be found in the press release and the 10-Q which will be filed later today. Moving on to a review of demand trends and first quarter accomplishments by end markets we serve, please turn to Slide 5. Starting with the left side which groups our Industrial sector end markets, the positive demand indicators among our industrial customers that we started to observe towards the end of 2016 has continued into the first quarter. Industrial sector manufacturing and production indices continue to show year-over-year improvement. Customer sentiment is generally more positive and our funnel of opportunities is strong plus our market share in the sector remains solid. For these reasons, we believe market conditions have stabilized supporting our cautiously optimistic view that a recovery in demand among our traditional customers is possible this year. In Industrial Processes, volumes for the first quarter were in line with our expectations and our order book for the second quarter is shaping up nicely. Sales from the activated carbon and filtration media activities of the new business contributed approximately $8 million. In the Environmental Water market, opportunities for industrial sector remediation projects remained solid and we’re continuing to focus marketing and technical efforts on the growing opportunities for perfluorinated compounds or PVC projects. With respect to ballast water treatment systems, although sales are below last year, we continue to see positive evidence that momentum for orders is building. Requests for quote activity remained high for the second consecutive quarter and inquiries are up 40% compared to last year. During the quarter, we began to see a modest pickup in orders including from distributors that are stocking systems in anticipation of IMO compliance on September 08. As a result, our backlog increased sequentially for the first time in five quarters and the second quarter is off to a very good start as well. Our ballast water equipment orders, just in one month, were higher than in any quarter since 2015. And on top of that, we are currently negotiating a number of long term agreements with international fleet operators representing over 300 vessels. Final sourcing of ballast water treatment systems by these operators is likely to come from more than one manufacturer, but we expect to be a significant supplier. This is a good sign that the market is beginning to move as we get closer to September 08. Moving to Environmental Air, as I mentioned earlier, we generated strong first quarter mercury removal sales compared to last year’s light first quarter when gas prices were lower and the weather was unseasonably warm. Our technical expertise in delivering high-value-add powdered activated solutions for hard-to-treat situations and advanced products are sustaining our market share. We expect future quarters to show more moderate rates of year-over-year growth now that we have passed the anniversary of the final compliance for MATS which is you may recall was April 2016. Turning to the right side of the slide in the Potable Water market, demand continues to increase particularly in the U.S. driven by regulation activity at the state level as well as growing public awareness which is leading to growth in the use of granular activated carbon equipment for the removal of PFCs and 1,2,3-Trichloropropane. For those of you who aren’t familiar with the 1,2,3-TCP contaminant, it is an ingredient pesticides using agriculture and also to be used an industrial solvent. Similar to perfluorinated compounds, it is a harmful contaminate that has made its way into certain groundwater drinking sources and can’t be removed economically using granular activated carbon. And just as organic things commonly and sometimes innocently used either in manufacturing or in agriculture or in fire foams today may become a problem tomorrow, additional opportunities for granular activated carbon, which aren’t on our radar screen today are likely to come into view in the future. I mentioned earlier the $13.2 million 1,2,3-TCP Cal Water reward, we also won two smaller projects and we are pursuing additional opportunities in states where regulations are pending. With respect to PFCs, we won two additional projects and quote activity remains robust. Each of these TCP and PFC projects once they are completed creates the opportunity for future reactivation business. The projects we have been awarded over the past five quarter will place about 4.5 million pounds of activated carbon online and we believe we are still in the early days of capturing opportunities in the still developing market. While demand is strong in North America, we are starting to see a slowdown in activity and demand in Europe, particularly in the UK water market as some of our customers are focused on cost management in their facilities. Touching briefly on our specialty carbon market, we had a good quarter generating higher sales in North America from commercial and military customers winning another respiratory carbon product award and continuing to win new business in metals recovery. In addition to reviewing our performance by end market, I want to give you a brief update on the new business, so please if you will turn to Slide 6. Business integration activities remain on track for completion in the third quarter and we were also on track to complete the wood carbon debottlenecking project as we enter 2018. As a reminder, this project is designed to expand capacity by more than 2 million pounds at the facility, which currently has the capacity to manufacture about 22 million pounds steam-activated, chemical activated and higher-value-added washed wood carbons. And Legnago reactivation facility in Italy is running very well with reactivation volume for the first quarter nearly 85% higher than last year. All in all, I’m pleased with the sales and profitability contribution by the new business and the smooth process underway to realize anticipated value from the acquisition through synergies and manufacturing projects as well as from strengthened standing in high-end markets that we serve. I will now turn the call over to Bob, who will take you through a review of our financial results for the first quarter. Bob?

Thank you, Randy, and good morning, everyone. I will begin with the review of the first quarter income statement on Slide 7. The waterfall chart at the top of the page, displays the bridge last year’s to this year’s gross margin before depreciation and amortization. Like the fourth quarter and as expected, our legacy business continues to be impacted by unfavorable customer and product mix as well as foreign currency translation. Last year’s gross margin also included a 0.8 percentage point benefit from a business interruption insurance claim settlement. The new business produced gross margins in line with our expectation despite incurring some higher cost from a temporary spike in natural gas prices in Southern France. And as expected, we recorded the final step up adjustment of $600,000 having completed one-turn of the new business inventory. Throughout the rest of the year, we will remain focused on manufacturing related initiatives and at delivering improvements to gross margin. The waterfall chart on the bottom of the slide displays the bridge from last year’s operating income of $8.5 million to this year’s $5.9 million. Lower legacy gross margin dollars were partially offset by productivity and cost improvement initiatives. The new business was a net positive contributor to operating income for the first quarter of 2017 adding $1.6 million, excluding all acquisition related costs. Moving to Slide 8, we show sources and uses of cash for the first quarter. Cash held steady at approximately $38 million. We generated operating cash flow of $4.4 million and our total debt increased to $236 million. In terms of capital allocation, capital expenditures for the quarter were $11.9 million and included the Neville Island refurbishment and expansion project, while our quarterly dividend payment totaled $2.5 million or $0.05 per share. Moving to our outlook for the second quarter on Slide 9 and starting with sales on the left side of the slide, we expect sales to increase 12% to 15% over the second quarter of 2016. The new business is expected to contribute $23 million to $25 million, while our legacy business sales are expected to be lower than last year, reflecting modest gains from industrial sector orders, mercury removal customers added in the second half of last year and higher sales on Latin America. These gains are expected to be more than offset by lower UV and ion exchange equipment sales as well as sales in Europe and Japan. In addition, we are expecting foreign currency translation will negatively impact legacy sales by $1.5 million. The right side of this slide details our outlook for other income statement line items. In line with the comment I made earlier about our focus on capturing manufacturing efficiencies and cost reduction initiatives, we see gross margins before depreciation and amortization in the range of 31.5% to 33% an improvement of approximately 1.5 percentage points to 2 percentage points from the first quarter. Depreciation and amortization is expected to be around $11.5 million. Selling, general, administrative and research expenses as a percent of sales are expected to be between 16% and 17% including $1.5 million to $2 million of acquisition and integration costs. Interest and other expenses are expected to total approximately $2.5 million and our income tax rate is expected to approximate 35%. I will now turn the call back to Randy for closing remarks.

Thanks, Bob. To wrap up our prepared remarks, our first quarter performance and outlook for the second quarter support our views on the 2017 growth drivers that we outlined on the fourth quarter call as well as our stated financial goals for the year. In our legacy business, opportunities in the portable water space in North America remain solid and we expect it to deliver sales increases from new projects. We also still expect to see increased mercury removal sales for the year and increased ballast water treatment sales toward the end of the year assuming enforcement of the IMO regulation takes effect in its current form on September 8. As noted earlier, the momentum for ballast water treatment system is building. We are starting to see it pickup in waters. With respect to our industrial sector customers, we believe market conditions have stabilized and still see potential for a recovery as we move through the year. Finally, foreign exchange translation should be less of a drag for the reminder of the year. Our outlook for 2017 sales contribution from the new business is unchanged at approximately $100 million. Leveraging these revenue growth drivers and various cost improvements, we have set a goal of increasing operating income to approximately $55 million from $24.5 million for 2016. We still expect to generate year-over-year gross margin gains as the year progresses through the capture of expected synergies and benefits from projects in the new business as well as from the realization of manufacturing efficiency gains in our legacy business. Improving the company’s gross margin is the high priority for all of us. Operating expenses are expected to decline as a percent of sales especially after the third quarter when we will finish incurring acquisition related expenses and trend toward our long-term target of 15%. As you can see, we are at a number of positive indicators that will help us overcome the hurdles we faced in 2016. We are extremely pleased with the new business, which is delivering results as expected and we are on track to realize our planned value enhancements by capturing synergies and completing the debottlenecking project at our wood-based carbon facility. Our legacy business is generally set to generate continued improvements throughout the year although we are seeing some pockets of softness for example in the portable water market in Europe, while we are diligently focused on driving profitability gains through operational and manufacturing process improvements as well as integrating the new business this year, we are sustaining our market shares in the high-end segments of the end markets we serve. We are ensuring our competitive advantages such as our premium brand, our customer stickiness and our technical expertise keep us well positioned for long-term growth. So with that, we will now take your questions.

[Operator Instructions] And your first question comes from the line of Ben Kallo with Robert Baird.

Good morning. Thanks for taking my questions. As far as the ballast water goes, it sounds like things are moving faster than we expected. Could you just update us possibly on – I know you said that date if it remains unchanged, what’s the probability of that and then also what’s the status on the coast guard update?

So, Ben, this is Steve. As it relates to the IMO, the environmental committee of the IMO will meet in July, and we’d expect at that meeting that there will be discussions around the September 8 date. We can’t predict what they will do. We are certainly seeing activity from ship owners that suggest they are planning in the way we would expect them to be compliant beginning September 8. And as far as the coast guard goes, can you be just a bit more specific on what your question is related to that?

So when your system will be approved for meeting their rule?

We are in very early preliminary stages of testing it. It won’t probably be filed – our approval won’t be filed before the end of the year. It should be around the end of the year for our planned filing and then we would wait for the coast guard to act. It will be sometime in the first half of 2018 based on the schedule we know today.

Okay, but people are still out there bidding for your systems, even though it doesn’t meet the coast guard compliance?

I think there aren’t – well, there is no one in the market today selling to any degree systems for U.S. Coast Guard vessels. The two UV competitors that we have who have U.S. Coast Guard Type Approval both have significant hold periods attached to their approvals, which makes it difficult for customers to use those systems and there aren’t any other UV manufacturers who have approval. So, yeah, it’s an ongoing developing market. The coast guard is certainly pushing ship owners for compliance and I think we will continue to see this market develop over the course of the year.

And that’s…

I’m sorry.

Go ahead, please.

I was going to say, I think it’s important to note there is still a large market for ships that don’t come to the U.S. and hence with the systems that were – we currently have that are IMO Type Approved, I mean that’s something that is going to work to our benefit.

Got it. And then as far as the acquisition goes, can you just maybe kind of give us an idea about how – you are couple of quarters into this now, how are you looking at the business, maybe a little bit further out into this year and any potential growth opportunities there? I will hop back in queue.

Well, I’ll refer back to the target we set for ourselves, at least in terms of bottom line improvement. We are going to improve the EBITDA in 2019 by about 40% of where we started and then we are absolutely on track for that and pleased with that. Overall, as I said in the comments, each of the business that we acquired, the wood carbon business, the reactivation business, as well as the [indiscernible] Prolite, all are doing extremely well. We are extremely excited especially with the wood carbon as they are sold out at the moment and we would like to grow that and be able to find higher margin applications for those products elsewhere in the world where we can use our network. So, overall, the integration is going well, they are delivering, in terms of top line is going well, the bottom line is going well, we are happy.

Good. Thank you very much.

Your next question comes from the line of Gerry Sweeney with ROTH Capital.

Good morning, guys.

Good morning, Gerry.

Hi, Gerry.

I want to follow up on ballast water as well, you’d mentioned in your prepared remarks working on a potential contract for up to 300 ships with the caveat that [indiscernible] be Calgon Carbon, but just curious if you could maybe dissect that a little bit because different ship size has different characteristics align better to your system than others, maybe what that opportunity is and maybe how that could develop in some of the hurdles and opportunities?

Gerry, this is Steve. There are actually several agreements. The total, the number you referenced, the 300 ships, those are all in discussions, I think, one has been signed. They are what we would call frame agreements where we would be named as a supplier to the ship owner and overtime it will be determined how many systems will provision to them and these are longer term agreements with a modest effect this year but the real impact will be in out years and these are in Europe and they are all IMO related not dealing with at the moment U.S. coastguard implications.

Okay. That’s helpful. And then switching maybe little bit to the U.S. it sounds like the 1,2,3-TCP just gaining, I don’t want to say gaining traction but accelerating a little bit Cal Water than some like a small contract from New Jersey PA. How big could this get with the understanding that we’re still in early stages but it is gaining momentum and just want to see if we could frame out the market opportunity a little bit.

Hey, Gerry, it’s Jim.

Hi, Jim.

It’s a good question. Good morning. It’s a good question and it is a little too early for us to be able to determine what the market is as with a lot of these regulations, California is kind of driving the boat here and Cal Water was the first large opportunity fortunate for us. We were able to gain that business. We are working on several more inside of California. California looks like the regulation is going to go until the fact the beginning of next year, that’s not a fully-vetted date yet, it’s still in commentary period but the industry is working towards that date. So we are pursuing several other opportunities in California. We believe we’ve received one in Pennsylvania and are working on some others, New Jersey would be next and possibly following would be Hawaii. The market size is really going to depend on what level those state ranks get set at, the lower the level, the greater the opportunity for us. We are well positioned, this is another one in the sweet spot for Calgon, it’s a carbon, it’s a equipment and it’s a service offering. So stay tuned, hopefully we’ll have more information for you in the future.

Got it. And then just two other real – one real quick one, DoD, sounds like business is picking up. Obviously new administration, a little bit more focus on defense, maybe some dollars [indiscernible] up for different things. Does this maybe flowing to a little bit to you guys on the specialty respirator market?

Yes, we spend a lot of time Gerry looking at the impact of the Trump administration on our business and you’re absolutely right, infrastructure spending around water would benefit Calgon Carbon military spending could benefit – will benefit Calgon Carbon. But we are looking at whole merit of other things as well in terms of obviously tax rates and trade issues and things that could have impact on us. So you’re absolutely right, military is the space that we’ve been in for a long period of time and spending should benefit us.

And then the final question that could lead in MATS, MATS. I’ve been talking to a couple of sources, obviously there has been some rumblings going on with the EPA approve it may be trying to walk back MATS. I’m not sure if it’s rhetoric political sort of posturing I think there were some meetings in the last week or two with some – with industry. Anything of substance or concrete starting to emerge on that front?

Gerry, this is Steve. I can relay to you and others just what we know that the EPA had been scheduled to defend the MATS rule in an oral argument and it sought to defer that hearing. And in doing so, it cited an executive order that directed them to look at rules burdens them to domestically produced energy resources. The administration has been difficult to predict certainly. There is not a timeframe that we are aware of and at this point, that’s all we can relay to you.

Okay. I mean from my perspective, it doesn’t quite make the whole lot of sense but I think that’s what we live in. So I appreciate it. I’ll jump back in queue.

Sure. Thanks.

[Operator Instructions] And your next question comes from the line of Michael Gaugler with Janney Montgomery.

Good morning, everyone.

Good morning, Mike.

Good morning, Mike.

Just two housekeeping items, most of my questions already been asked and answered, just wondering what your total anticipated integration costs are anticipated for 2017?

When we look at it, we spent including the inventory step up $2.7 million in Q1, Q2 we’re projecting about $1.5 million to $2.0 million, and in Q3 we’ll be a lot of lighter as we complete the transition service agreement and get our SAP system online. So I look at that and say maybe another $1 million, so if we add that all up you’re looking at anywhere between $5 million to $6 million for the year.

Okay. And then your guidance of $55 million for the year on the op line, that’s a GAAP number, correct?

Correct.

Okay guys. That’s all I had. Thanks.

Thanks, Mike.

Thanks, Michael.

At this time, there are no further questions in queue. I would now turn the conference back to Mr. Crookshank.

Thank you, Chrystal. Management team will be available for follow-up calls throughout the day and look for our 10-Q filing later today. Thank you. You can close the call out, Chrystal.

This concludes today’s conference call. You may disconnect and have a great day.