Target Hospitality Corp. (TH) Q4 2020 Earnings Report, Transcript and Summary

Good day and welcome to the Target Hospitality Fourth Quarter and Full Year 2020 Earnings Call. All participants will be in a listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I'd now like to turn the conference to Mark Schuck. Please go ahead.

Good morning, everyone, and welcome to Target Hospitality's fourth quarter and full year 2020 earnings call. The press release we issued this morning outlining our fourth quarter and full year results can be found in the Investor 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 the 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 30, 2021. 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, except as required by applicable law. For a complete list of risks and uncertainties that may affect future performance, please refer to Target Hospitality's periodic filings with the SEC. We will discuss non-GAAP financial measures on today's call. Please refer to the table in our earnings release posted in the Investor section of our website to find a reconciliation of non-GAAP financial measures referenced in today's call and their corresponding GAAP measures. Finally, on March 29, 2021, the Board of Directors of Target Hospitality and its special committee comprised of independent directors received a notice from Arrow Holdings, an affiliate of TDR Capital, withdrawing its previously announced proposal to acquire all of the outstanding shares of common stock of Target Hospitality, it or affiliates do not already own. Consequently, the special committee and its own outside legal counsel and financial advisor have ceased their evaluation of the proposal. Leading the call today will be Brad Archer, President and Chief Executive Officer followed by Eric T. Kalamaras, 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 will now turn the call over to our Chief Executive Officer, Brad Archer.

Thanks, Mark. Good morning, everyone, and thank you for joining us on the call today. In addition to discussing our 2020 performance, I will touch on the fourth quarter operational trends as well as our continued priorities entering 2021. 2020 was a challenging year. The global pandemic created an unprecedented operating environment for Target and companies around the world. As economic outlook became increasingly uncertain, Target took aggressive actions to appropriately position the company to navigate this uncertain environment. We quickly aligned the business to match customer demand, while maintaining a heightened focus on preserving our financial strength. These steps created a leaner and more efficient operating structure and appropriately positioned the business to take advantage of a more balanced market. Our commitment to cost containment initiatives and disciplined capital allocation provided the backdrop for producing strong 2020 financial results. We delivered adjusted EBITDA of $79 million, and reduced our outstanding borrowings by $32 million during the year, all of which significantly enhanced our liquidity position and increased Target's operational flexibility. In addition, as the global pandemic quickly spread, we implemented a strict operational response plan. As COVID-19 cases continued to rise throughout the year, we remained focused on adhering to this plan. This focus resulted in no community spread across our network and no cases of COVID-19 impacting our business. Our plan was instrumental in keeping our employees and customers safe, healthy and ready for work. Turning to the fourth quarter operational trends. We continued to see positive momentum in customer demand, which contributed to increases in occupancy and utilization during the quarter. The efficient operating structure we have created allowed us to meet increasing customer demand, with little incremental costs, further supporting strong margins and continued cash generation. Our network scale, combined with our premium service offering is unmatched. These attributes enabled us to effectively increase our market share, as customers continued to find added value in allocating labor to our premium network. Looking into 2021, we are encouraged with continued signs of economic recovery, anchored by global stimulus and increasing distribution of COVID-19 vaccines. We have continued to see improvements in market customer demand in 2021 and anticipate additional gradual increases in customer activity throughout the year. With the termination of TDRs proposal to take Target private, we look forward to continuing executing on Target's business strategy. Additionally, we are excited about the new partnership, we announced yesterday, with a leading national non-profit organization, supporting the U.S. government. This strategic partnership illustrates our consistent strategy of diversifying our cash flows with high quality contracts to provide significant revenue visibility. This is an example of Target's ability to leverage its existing core competencies to diversify its end markets. We believe this positions Target to further develop strategic long-term partnerships with government and non-profit organizations. Target has a unique set of core competencies that translate across a variety of end markets. Our suite of premier service offerings strategically positions Target to evaluate other potential value enhancing opportunities that will further diversify Target's end markets. As we have said, the principles of any evaluation will center around identifying scalable opportunities while increasing revenue visibility. As we continue to evaluate other potential growth vectors, we will stay focused on these tenets and maintain our strong financial position. We have created a structurally sound business. Our 2020 results are a testament to Target's ability to successfully navigate through a variety of business cycles. Target's premium network, significant scale and operating structure sets us apart and provides the ability to match customer demand and simultaneously enhance our financial strength. I'll now turn the call over to Eric, to discuss our fourth quarter and full year results in more detail.

Thank you, Brad, and good morning. In the fourth quarter, we experienced continued improvements in our operating metrics and realized sequential quarterly improvements in utilization from the lows experienced during the second quarter. We maintained a heightened focus on cost containment and capital discipline, providing the foundation to deliver strong fourth quarter and full year 2020 financial results. Full year 2020, total revenue was $225 million, adjusted EBITDA was approximately $79 million and discretionary cash flow was $46 million. Turning to our segment performance, our energy segment delivered fourth quarter revenue of $24 million, compared to $57 million in the same period last year. This decrease was driven by lower utilization as a result of the pandemic, which created a meaningful reduction in customer demand. Our government segment produced quarterly revenue of approximately $14 million, compared to $17 million in the same period last year. Now as a reminder, we successfully executed a renewal and extension of our government services contract on September 15, 2020. This five-year extension will add approximately $265 million in committed revenue until 2026. As a result of this contract extension, there was a decrease in non-cash deferred revenue amortization, for our construction cost reimbursement, that was embedded in the ADR. The cost of services in the ADR remained unchanged and the ADR will remain flat going forward. Our other segment, which primarily includes TCPL Keystone projects, had revenue of approximately $14 million for the fourth quarter compared to $1 million in the same period last year, as a result of the executive order, revoking the Keystone XL presidential permit. We anticipate significantly lower revenue associated with the TCPL project in 2021. Recurring corporate expenses for the quarter and full year were approximately $6 million and $29 million respectively. We have created an efficient operating structure that will allow us to continue meeting customer demand and support additional growth with minimal incremental costs. We anticipate recurring corporate expenses to remain around $7 million to $8 million per quarter through 2021. Total capital expenditures for 2020 were approximately $8 million. Target has established a premium network with substantial scale within its core operating regions. This scale allows Target to service increasing demand for its hospitality and accommodation services with minimal additional capital spending. Coupled with strong margins, this accommodation creates meaningful cash flow generation. We generated cash flow from operations of approximately $18 million and $47 million for fourth quarter and full year respectively. Since our network requires nominal maintenance capital, this essentially translates directly to discretionary cash flow. As we experience gradual utilization improvements, each dollar of revenue creates exponentially more cash flow. This is evident in the fourth quarter with our discretionary cash flow yield to revenue of approximately 35% compared to a 20% yield for full year 2020. Moving on to the balance sheet, we ended the year with $388 million of total long-term debt, including $48 million drawn in a revolving credit facility and consolidating that leverage of five times. We continue to focus on debt reduction and utilized $32 million [ph], further enhancing Target's liquidity position. As reminder, our long-term debt consists of $340 million in senior secured notes due 2024 and $125 million ABL credit facility, which have no near-term maturities or immediate financial covenants, providing significant flexibility and liquidity within our capital structure. Turning to our full year 2021 financial outlook, the recent announcement of the new government services contract provides a meaningful increase in 2021 revenue. The contract is fully committed and backed by the U.S. government, providing $118 million of minimum revenue commitments over its initial one-year term. The economics in this contract from an ADR and cost of services perspective, materially align with our existing government services contract. Further, this contract utilized Target's existing assets, which requires minimal capital spending. Target's core business remains strong and continues to benefit from its premium service offerings, network scale and efficient operating structure. We continue to see the modest improvements in end market customer demand and anticipate gradual increases throughout the balance of the year. We expect approximately 96% of our anticipated 2021 revenue being under contract, and approximately 69% of revenue having minimum revenue commitments. As a result, we announced our full year 2021 financial outlook, which consists of revenue between $235 million and $245 million. Adjusted EBITDA to be in the range of $88 million to $95 million and discretionary cash flow between $55 million to $60 million with $12 million to $17 million in capital spending. We anticipate our discretionary cash flow to largely be directed towards further debt reduction in our targeting in that leverage ratio below four times by year-end 2021, with continued improvements in 2022. We believe Target is well-positioned to continue benefiting from improved global demand and normalizing market trends. The structural advantages of our business model provide for significant cash generation, while allowing us to be prudent with our capital allocation. Our disciplined approach aligns with Target's objectives of identifying and executing value enhancing initiatives while continuing to create value for our shareholders. With that, I will turn the call back over to Brad for closing comments.

Thanks, Eric. As the 2020 economic outlook became increasingly uncertain, we took decisive action to appropriately position the business. Target's strong 2020 results are a testament to the team's ability to quickly react to an uncertain operating environment while maintaining focus on preserving our financial strength. The recent contract addition to our government segment illustrates Target's ability to quickly execute on opportunities that increase the value of the business and simultaneously provide valuable services and solutions for our customers. We have created an expansive network with premium hospitality service offerings and solutions, while partnering with high quality best-in-class customers. These attributes underpin our ability to continue producing strong financial results and ensuring the long-term success of the business. I appreciate everyone joining us on the call today and thank you again for your interest in Target Hospitality. [Technical Difficulty]

[Operator Instructions]. And the first question comes from Stephen Gengaro with Stifel. Please go ahead.

Thanks. Good morning, gentlemen.

Good morning.

A couple of things, but I'd like to start with on the energy front, clearly oil prices have been rising and much more solid. The environment looks better. What are you guys hearing from customers? Because hear mix about the potential for different types of customers to maybe boost activity above current budgets, versus maybe being stickier with a focus on cash flow from the E&P side. What are you guys seeing from your customer base and how do you think things evolved this year?

Hey, Stephen, this is Brad. How you're doing?

Very good.

Good to talk to you again. Look, I would tell you having meetings weekly, monthly, especially throughout the past year, looking in to 2021 getting somewhat through the first quarter now, compared to the days of the past, we especially see the larger operators sticking to their budgets, maintaining focus. We think that's going to be the theme for these guys going through the year from what from what we're seeing. With that said, we're continuing to see increases in our utilization and occupancy and we expect that continue through 2021on that. But to answer your question, we think they maintain focus throughout this year and stay within the budgets that they put out.

Great. Thank you. And then you obviously announced a pretty significant addition to your contracted revenue yesterday. Within the context of what you can comment on, the duration of the contract and sort of given the type of contract it is, how do you think about that contract or options for renewal? Do you sense you'll get extensions on it? How should we think about that contract going forward?

Yes, look, I think it's very similar to our other government contracts. Every government contract is based on a one-year annual appropriation. So that's nothing new. It's what we all had to get our heads around five years ago when we signed the Dilley contract, everybody had the same questions. I would tell you today, we're much stronger in in the government sector. We've positioned ourselves to be one of the leaders in that. And it's why we've gotten the partnership with a non-profit on this new facility. So I think we're set up very well as this goes forward, not only on this project, but I think the opportunity to put more wins on the board in the government sector are definitely out there as well.

Thanks. And then just, could you, it seems like the capital costs to prepare or ready facilities for this contract are minimal. And I was just curious is, when I think about that CapEx requirement and I know your maintenance CapEx is very low, is there anything when we think about 2021 CapEx, there's nothing significant there, and I imagine these facilities are not being mobilized or are being used at their current locations.

Yes, I'm going to speak to the project itself and I'll let Eric give kind of an overview of the CapEx for 2021. On the project itself, the great thing about this is very minimal CapEx on these facilities. We're adding a few structures, if you will, to the facility on a lease basis. But most of - all of the facilities are already in place. We're turning on the lights. We're getting them cleaned. Some of these were, if you will, mothballed here in COVID that we're opening back up in housing, some of the work force for this project. So very minimal capital on that side of it. I'll let Eric speak to the other piece.

Sure. So, Stephen, good morning. Two things. So when we originally were thinking about 2020, we had intimated a spend rate of about $10 million. And so I think when you think about that coming into 2021, we would have expected a similar type of number. I think when you add then this additional capital from the government service contract that's how we get to our range of $12 to $17 million. When we think about the maintenance capital which is probably the next on your part B of your question, which is what does that look like? I think if I were you, I would stick with something in the neighborhood of $3 million to $4 million of that $12 million to $17 million total capital allocation as maintenance which again is fairly consistent with what we've indicated in the past.

Very good. Thank you, gentlemen.

Thank you.

Next question comes from Scott Schneeberger with Oppenheimer. Please go ahead.

Thanks very much. Good morning guys. I guess, I will follow up on the new contract. And I'm curious if you could just share a little bit more, it seems like your runway [ph] will be - you didn't mean the non-profit, but I'm curious if you could tell us a little bit about the nature of the work and the type - sounds like workers will be placed there but it's also mentioned displaced persons. Can you comment, is it men, is it women, children. And will there be colocation with energy industry workers or will these be just exclusive to this project and not commingling of the people in the communities? Thanks.

Hey Scott, this is Brad. Nice to talk to you today. I'm going to let Troy speak to some of this. He's been really involved in a lot of this on the ground. And I'll let him speak to some of this and then I'll maybe jump in as well.

Hi good morning. Good to talk to you again. Our solution is centered around our clients' needs, like any client. And in this project, clearly focused on delivering housing, essential food services and logistics. So I think it's important to understand though, we're not going to discuss who will be how. However like Dilley and our contract under that agreement, we remain agnostic on who specifically is housed there. More importantly, we are leasing our facilities to our clients. And with a leading non-profit that has been delivering essential services for over five decades to various populations. So we're proud of the work and the partnership that we're going to be delivering with this leading non-profit, again who has tremendous experience in delivering this type of service. In addition to that as you look at the 4,000 beds that we're providing on the housing side, it's obviously composed of majority of customer employees and staff that will be delivering those essential services for the project. So to answer your question more specifically, I think you had a question regarding the population and where it's - how - it is a standalone facility. I want to be clear on that. So the leading non-profit organization will deliver those essential services to the population in a standalone facility and we will utilize our existing housing network to take care of the majority of the - all of their customers, staff and employees that we will provide the services at that facility. So again, very similar to the government contract that we have in place already. And we're excited about that partnership, especially we think it's going to be like Dilley the best in the category in the country.

Thanks. Appreciate that. I'm just curious, how should we think about modeling the other segment in 2021? Obviously, a significant change, 2021 versus 2020 on the main project there. So just back in that category? Thanks.

Sure Scott. I think 2021 will be very similar in modeling in terms of 2020 which was - we had said we were not projecting anything in the way of the TCPL project. If we got something out of it, that was great but we weren't going to allocate anything towards it from a budget perspective or certainly from outlook perspective. I think given the changes that we've seen at the administration level with the termination of the Presidential Permit, I think you'd have to make the same conclusion for 2021 as well. We don't expect anything material for 2021 on that project, which really comprises the substantial part of the after segment.

I appreciate that. And lastly, Brad, congratulations, I heard at the top of the comments about how you all have managed well in the pandemic and not had any major issues. Just curious if you could speak a little bit conceptually to - hopefully that continues. But given the isolated nature of the communities, how - just give us a feel for continued [Indiscernible], how you handle this situation. Obviously, [Indiscernible] has been fantastic, but any thoughts on if there were to be unfortunate incidents?

Scott, you kind of broke up a little bit, but I think your question was kind of around COVID and what we're doing and if that's it, I'll touch on that. Did I get that right?

Yes.

Yes. Look, we've even before COVID, 90%, really more than 90% of what we were doing at our facilities, if you will, for COVID right now, we were already doing them before. We're in the hospitality business. So the cleaning, the daily feeding of people, we had to increase some of that. So that was a fairly easy leap for us. We put some more things in place as well. We've got some outside people, if you will, doctors and folks telling us some other things to do. And we put those in place as well. We're continuing on with them. We've had very little positive COVID cases throughout all of our lodges whether that's North Dakota, Texas, et cetera. And so we're staying focused on it, even though we see a big drop in the State of Texas in the rates of COVID. We're going to stay vigilant and we'll continue to do that for the foreseeable future. So we're not relaxing that. We'll continue on. We've been very successful at it. It hasn't affected the business. And we'll continue to push that daily. And I'll tell you, our numbers internally continue to get better as we move forward. And as we've increased occupancy, we've actually seen less infection rate in our facilities than there ever has been. So it's getting better as we move forward with all the vaccines that are coming online.

[Operator Instructions] The next question comes from Ashish Sabadra with Deutsche Bank. Please go ahead.

Thanks for taking my question. Good results and congrats on the government win. I was just wondering, can you just talk about other things, other potential contracts in the pipeline that you're pursuing, particularly on the government side, but also outside of the government vertical? Any color on the pipeline? Thanks.

I'm going to turn to Troy.

Good morning, great question. When you think about the government contract, take it [ph] back, going on seven years now. We've become a trusted provider of essential services and the real solutions provider, solving some real challenges for the federal government through great partnerships. Based on that proven track record, we've really put ourselves in a position to continue to do that in the future. Look, I'll be frank, the need is great. And given our experience in delivering solutions to partners in the government, we fully expect us to continue to provide those solutions in the near term. Not going to predict when that's going to happen. But I can tell you the need is great and we are prepared to deliver. So look, we feel very good about that on a go forward basis.

Yes, and maybe just a little bit on our energy side. Look, we're pleased with the recovery that we've seen so far in our energy business. With that said, we are more excited for what the future holds. We believe we're in a great place to capitalize on a stronger recovery as the economy fully recovers more people come back to work, we're definitely going to be a beneficiary of that, with our customer based, our contracts we're already seeing that. So as more folks get back in the workplace, we think that translates into more business, that's more profitable business. As we have, we were already the most profitable in this industry. If you look at our numbers over the years, we were the most efficient operator. We're even more efficient today. So as the utilization continues to rise, the profits will rise along with them. So I think we're sitting in a very good spot as we get into the back of 2021, and into 2022.

That's very helpful color. And maybe if I can ask a follow up question on the comment that you made, particularly on the energy vertical. So on the Permian, in addition to the economic recovery, I think the rig count has been, or the number of rigs that are coming up or getting drilled has been an important leading indicator or important driver for the utilization. And then the other aspect has been just the capacity in the market. So last year, did you see more capacity being pulled out or any color on the capacity in the market? And also, any thoughts around or any conversations that you're having with the energy companies, which give you more visibility on the improvement around usage, thanks - and utilization? Thanks.

Sure, look, we've, we look at many indicators as you know, Ashish, aside from just rigs. But looking at the capital spending, as we talked about earlier, looking at rigs returning to work, looking at the number, total horsepower coming in the marketplace. There's so many factors from a data perspective that we're looking at. So what I can tell you right now is when we look at the data, some of those key kind of leading indicators are certainly more favorable than they were last year, kind of midyear through COVID. So we've seen a progressive, steady March back up, both in terms of rigs, frac fleets returning to work. Still what I would tell you, as we have said before, the Permian Basin is where you want to be. So we're in the right basin, with the largest network with the right contracts with exclusivity, and doing business with the right people. And those folks, the customers that we have, we've seen a nice progression of work and activity increase here's to the fourth quarter into the first. So look customer conversations that Brad said earlier, which I tend to agree with, is that they're going to stay within their capital budgets. At the same time, we're seeing steady activity in the Permian, both basins, the Delaware and the Midland basin.

That's very helpful color. Thanks, again, and congrats on the government win. Thanks.

Thank you.

The next question comes from Doug Becker with Northland Capital Markets. Please go ahead.

Thanks. Wanted to dig in a little bit more about the opportunity for other government and non-profit contracts. Fully appreciate you don't want to talk about the timing, but can you help frame the opportunity in terms of just the number of opportunities you're pursuing or just the size of potential opportunities? Would they be similar to what we've seen in the past?

Yeah. Look, again, I appreciate the question. And certainly, as we look at the need, the need is significant. And I think we've proven now over time, that we've been able to solve some really difficult challenges for the government and the partners that we've established over that time period. And those are the leaders in solving those issues along with us. So it's clear, it's been articulated to us that the need is great. We stand in a very good position with our existing assets to be able to deliver solutions on the housing side and on the logistics side. So again, not going to predict even timing. I think it would be inappropriate to even size it at this point. I think you can read the headlines, across the newspapers and determine just how great that need is. And then look at the size and scale and our competencies and see where there's a real match.

Fair enough. Maybe another way of addressing it is, do any of these opportunities require CapEx? Would you expect them to require any meaningful CapEx, if you're able to secure them?

This is Brad, Doug. So first and foremost, we're going to try to use our existing equipment that's out there and we have some. So that would be the push. A lot of this they want quickly, and even though it's a long-term use, they want to be able to get in it and use it for whatever that use this quickly. So having that set up and ready is a key in winning some of this work. Would we build and spend some CapEx? Absolutely. It's part of our business. But there would have to be the contract and the guarantees and those types of things would have to match that as well, what we would expect. But we definitely wouldn't run away from it if we were going to spend some CapEx. But the first push would be, to utilize our existing equipment.

Makes sense. And then just a nuanced question here. With the contract announced yesterday, you mentioned a minimum revenue commitment. Is there anything specifically that could drive meaningful upside that we should be keeping an eye out for?

I think on this contract, you can jump in here, but this is pretty set. Will there be some additions? There could be to this contract, some change orders, different things. I think, the upside is that we're well positioned. We look at this as a long-term facility and we continue on with this for multiple years. That's the goal. That's the upside in this. As far as the project itself, I'm not sure it's going to get much bigger than it is today for the year.

Yes, I think that's right. I mean, I think when you when you think about that, look, when we price the contracts with the government, it's done in such a way where it's effectively a guaranteed revenue type structure. So I wouldn't expect any additional revenue creep, at least on that portion of the contract. I think where it becomes incumbent upon us then is too hopefully, we can do it, we need to do to continue to reduce our cost to capture margin that increases over time from the underwriting. So that's kind of how I would think about that.

Thank you very much.

[Operator Instructions] The next question is a follow-up from Stephen Gengaro with Stifel. Please go ahead.

Thank you. Just one quick one on the oil and gas side. Are you guys seeing any change in the number of people at the well site? I mean, I think, we've heard some of that, but it seems like it's probably pretty small as it pertains to your business. But I'm just curious if you had seen any of that.

So Stephen, we're not seeing that one. When Troy and his team look at the crew counts, whether that's a frac or a cement crew or whatever, we're just not seeing any changes at that level right now. And Troy you're welcome to opine on that.

Now look, I mean, it's always that initiative for greater efficiency, as you know, from oilfield services and producers. But at the end of the day, we haven't seen any meaningful reductions or changes in terms of total manpower at the wellhead, which would translate then to occupancy for us. So we - there's a lot of moving parts and pieces, Stephen, in the supply chain from sand and sand hauling and it's really, frankly been unchanged.

Okay, great. Thank you both.

You bet.

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

Thanks for participating in our call today and thanks for your interest in Target Hospitality. We look forward to speaking with you again on our next quarterly call. Thanks.

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