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Edited Transcript of RME.TO earnings conference call or presentation 11-Mar-20 3:00pm GMT

Q4 2019 Rocky Mountain Dealerships Inc Earnings Call

Calgary Mar 27, 2020 (Thomson StreetEvents) -- Edited Transcript of Rocky Mountain Dealerships Inc earnings conference call or presentation Wednesday, March 11, 2020 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Garrett Andrew Wyatt Ganden

Rocky Mountain Dealerships Inc. - CEO, President & Director

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Conference Call Participants

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* Cherilyn Radbourne

TD Securities Equity Research - Analyst

* Jacob Jonathan Bout

CIBC Capital Markets, Research Division - MD of Institutional Equity Research

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen. Welcome to Rocky Mountain Dealerships' Fourth Quarter 2019 Financial Results Conference Call. (Operator Instructions) Please note that this call is being recorded today, March 11, 2020, at 9:00 a.m. Mountain Time.

I would now like to turn the meeting over to your host for today's call, Mr. Garrett Ganden, President and Chief Executive Officer of Rocky Mountain Dealerships. Please go ahead, Mr. Ganden.

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [2]

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Thank you, Sharon, and thank you to everyone for participating in our call today. Sitting with me today is our Chief Sales and Operations Officer, Jim Wood; and Chief Financial Officer, Jerry Schiefelbein. I would like to welcome Jerry to the RME team and remind listeners that we announced Jerry's appointment on December 13, 2019 and his first day with us was January 6, 2020.

Please note that while talking about our results and answering questions, we may make forward-looking statements. These statements are subject to known and unknown risks and future results may differ materially. We will also be discussing non-IFRS financial measures in today's call, including adjusted diluted earnings per share, adjusted EBITDA and operating SG&A.

For more information about these topics, please review the sections of RME's management discussion and analysis for this quarter entitled, caution regarding forward-looking information and statements, risks and uncertainties and non-IFRS measures. Listeners should also review the Risk Factors section of our most recent Annual Information Form. These documents can be found on our website as well as the SEDAR website.

Dollar amounts discussed in today's call are expressed in Canadian dollars and are generally rounded.

There is no doubt 2019 was a difficult year. In the fourth quarter, RME continued to respond swiftly and directly to the challenging and ongoing macroeconomic conditions. Throughout 2019, we focused on business factors within our control and that meant making difficult decisions. We took direct measures to rationalize costs across the entire RME network, which resulted in an SG&A reduction of $8.4 million over the full year 2018. Most of the savings of $5.7 million was realized in the fourth quarter, and we expect these cost reductions to benefit full year 2020 costs.

On the sales side, the ongoing canola trade restrictions with China, Canada's largest canola trading partner, impacted sentiment, reduced North American equipment demand to 15-year lows. RME saw our share of this falloff in a 26.3% reduction in reported sales from $1.050 billion in 2018 to $775 million in 2019. As a result of the sales mix shift towards the higher-margin parts and service business in 2019, we realized an increase in gross margin from 13.5% in 2018 to 14.3% in 2019.

The China trade impasse weighed on the entire industry. In response to losing a single largest canola trade partner, Canadian export brokers were able to produce new markets elsewhere in the world, somewhat mitigating the negative China trade impact. In 2019, Canada increased exports of canola to the EU, Bangladesh and United Air Emirates. While these increased exports elsewhere were encouraging, there is no denying the demand decline from China weighed on Canadian farm incomes and sentiment.

A trend benefiting our customers is the decoupling of crop prices since peaking in 2012. Canadian agriculture benefits from crop diversity and the strong foreign currency exchange rate relative to the U.S. dollar. This should help our customers better navigate the macroeconomic headwinds currently being faced.

What made the decision by the Chinese government to stop buying Canadian coal, most difficult was the timing, early March. Typically, by this time, Canadian farmers have already purchased seed. And in some regions, we're already planting. So their ability to switch crops in 2019 was not an option. Those who had purchased and planted canola were committed, knowing only that there was likely to be significant lower demand for their crop in the fall.

In 2020, with little change in the immediate future with respect to the unresolved trade disputes between China and Canada, we anticipate there will be less canola acreage planted in 2020, with customers opting to plant other crops. That option remains a characteristic unique to our Canadian customers. And to the extent that farmers can switch crops with greater certainty around end markets, it could improve farmer sentiment.

For the fourth quarter of 2019, gross profit margin was 12.6% versus 13.6% in the fourth quarter of 2018. Adjusted EBITDA was $6.6 million compared with $13.6 million for the same period in 2018. The waterfall chart on your screen illustrates the components of year-over-year change in adjusted EBITDA. We saw a $10.5 million decrease in gross profit on lower sales volume, a $3 million increase in gross profit on sales price variance, a $1.6 million increase in gross profit on sales mix, a $6.8 million decrease in OEM incentives on lower sales volumes, a $6.6 million decrease in operating SG&A reflects reduced sales commissions as well as other operating cost reductions and a $924,000 increase in short-term financing costs associated with the floor plan facilities as inventory originally expanded and was then worked down throughout the year.

For the full year 2019, gross profit margin increased to 14.3% versus the 13.5% in 2018. Adjusted EBITDA was $18.4 million compared with $43.1 million for the same period in 2018. Walking through the waterfall chart on your screen, this adjusted EBITDA change was due to a $37.3 million decrease in gross profit on lower sales volumes; a $5.6 million increase in gross profit on sales price variance; a $12 million increase in gross profit on sales mix; an $11.3 million decrease in OEM incentives on lower sales volumes; a $10.8 million decrease in operating SG&A, reflecting reduced sales commissions as well as other operating cost reductions; and a $4.5 million increase in short-term financing costs associated with RME's floor plan facilities.

The industry-wide contraction continued in the fourth quarter of 2019, as illustrated here by the agriculture equipment deliveries reported by the Association of Equipment Manufacturers for all of Canada. At 5,491 units, 2019 experienced the lowest level of equipment deliveries in Canada since 2004, which saw deliveries of 5,734 units. So in other words, the Canadian ag equipment market is now 4% behind where it was 15 years ago.

RME was able to reduce new equipment inventories in 2019. New equipment inventory was approximately $127 million, representing a decrease of approximately $3.8 million or 3% compared with inventory levels at the end of 2018. We had ordered new equipment early in 2019, expecting a typical year, which changed dramatically mid-March once China announced it was restricting canola trade with 2 of Canada's leading export brokers.

With a 4- to 6-month lead time on preorders, it took the majority of 2019 to reduce this book. As a result of the significant macroeconomic headwinds and subsequent weak equipment demand in the first half of 2019, used inventories were up in the year. Used equipment inventory was approximately $397 million, representing an increase of approximately $8.8 million or 2.3% compared to levels at the end of 2018. Combined, we brought total equipment inventories back in line with year-end 2018 to $524 million after peaking at record levels of over $560 million in the second quarter of the year. So the solid result of our efforts to aggressively reduce inventories throughout the year post the China announcement.

Through the turmoil of 2019, RME was able to retain balance sheet flexibility with available credit of $261.5 million compared with $286.5 million at year-end of 2018.

Operator, we're now ready to open the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from Cherilyn Radbourne with TD Securities.

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Cherilyn Radbourne, TD Securities Equity Research - Analyst [2]

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In terms of the SG&A cost control, I was wondering if you could give us some color on how much of the $6.6 million reduction in Q4 was due to what I'll call natural shock absorbers, like the lower sales commissions and lower incentive comp versus deliberate cost control that should stay with us in 2020.

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [3]

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So if you actually go through -- break it down, I think it was about 1/3 came from the commission reductions. And then the other 2/3 was really based on a multitude of other decisions that were made around -- some of it was headcount. Other pieces of it was just other discretionary expenditures that we were able to control.

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Cherilyn Radbourne, TD Securities Equity Research - Analyst [4]

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Okay. And I know that most of SG&A is fixed. So -- like is $17 million, $18 million a decent quarterly run rate to think about in 2020?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [5]

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We think it's probably in that range, give or take, of course, a little bit depending on what sales are commissioned being kind of the key fluctuating point. Remember, though, too, part of it, especially early on in the year with the CPP and EI and a number of those costs, it does actually usually start off the year at a bit of a higher level than as we get into the second, third and fourth quarters.

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Cherilyn Radbourne, TD Securities Equity Research - Analyst [6]

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Okay. That's very helpful. Do you have a target for used equipment inventory reduction in 2020 that you'd be willing to share?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [7]

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Not one that we've talked about or that from a guidance perspective, Cherilyn. Our belief and our expectation as we move into 2020 is a fairly meaningful reduction in overall inventories. I wouldn't say that $40 million, $50 million reduction would be out of the realm of reasonable or expected. That's going to come about from the sales in that cycle, but also from the fact of reduced new kind of what we saw in the latter half of 2019.

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Cherilyn Radbourne, TD Securities Equity Research - Analyst [8]

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Okay. And how are you sort of approaching 2020? Like are you going in with the assumption that this is going to be another very difficult year? Or do you have any level of optimism that things can improve?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [9]

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We are hoping for the best and planning for the worst. So for us, if you look at what impacted 2019, the largest one, of course, was the Chinese-Canadian canola trade war. As we go into 2020, we are now dealing with coronavirus. We are dealing with a NAFTA, which still has not been approved through the Canadian parliament. We still have that embargo on China. So we are approaching the year with cautious optimism. And I'll say again, hoping for the best, but planning for the worst.

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Operator [10]

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(Operator Instructions) We have a question from Jacob Bout with CIBC.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [11]

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Yes. I wanted to follow-on on that 2020 outlook. We still have some of these trade issues. But I guess, what's new here is the drop in oil price. And how should we be thinking about that with the Western Canadian farmer, giving some of the rental royalty payments are likely going to get squeezed again here? And what has been the reaction in the past, I guess?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [12]

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The bigger issue to me is actually the problems with the blockades around the railroads and being able to get our grains actually to the end markets, Jacob. That's the -- that's a bigger impact. I was reading an article the other day, and they were talking about the fact that there's 1 million bushels of grain of various products waiting to actually get to the force to be able to get shipped out. So the commodity price is really -- they're not awful. They're not great, but they're reasonable. But if we can't actually get those delivered, it's really hard to get the cash into the farmers', customers' hand. So that, to me, is a bigger concern, and we'll see how fast that gets remedied. The oil piece -- that's come down so much over the last -- since 2015. I think there will be a little bit of an impact on the farmers, but I don't think it's going to be as profound as it had been in the past. You do have to look at it at partially, too, with -- if the price stays down like this, the input costs for a lot of the customers should come down as well, which they use a lot of diesel in planting, seeding and harvesting, obviously.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [13]

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Okay. And then how are you thinking about supply chain disruptions from coronavirus? You're hearing anything from the OEM at all? And could this mean you need to carry a bit of extra inventory?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [14]

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We are watching it very, very closely. At this point in time, we haven't noticed any disruption. But Jacob, that is something that we are -- we have top of mind. And are continuing to watch that. It really does depend on how fast some of the factories can get back up, specifically in China, where a significant amount of components are manufactured. So at this point, we haven't seen an impact, but we are monitoring it very, very closely.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [15]

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Okay. And maybe my last question here, just on covenants. When I look at your fixed charge coverage ratio 1.1, better than what the covenant is. But I guess that's supposed to increase in the third quarter 2020. You're expecting you need any relief there at all? Or how should we think about that?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [16]

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So we're -- the answer to that is we're continuing to work with the banks. The banks have been very, very good to work with throughout 2019. From everything that we've seen thus far in 2020, there's no reason to believe that they're not going to be with us as we continue to negotiate what ultimately needs to happen. It really is going to come down to what does seeding look like as we start the year, right? From a sentiment perspective, are we able to get those grains delivered to get the money into the farmers' hands? That's going to be a big piece. We're talking with the banks very regularly, Jacob.

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Jacob Jonathan Bout, CIBC Capital Markets, Research Division - MD of Institutional Equity Research [17]

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Okay. Maybe just one last one here. You've taken quite a bit of cost out already. But if there is another leg down here, what else can you do?

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [18]

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If you go through and look what we've done over the years. There's always something that you're going to be able to do. What we've done today is we've really tried to minimize any impact on any customer-facing reductions, right? So we're trying to do everything that we can from discretionary spends, those types of things. If it -- if the market really does deteriorate significantly more and there's more required, it's going to be somewhat of a customer-facing impact.

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Operator [19]

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At this time, I will turn the call over to the presenters.

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Garrett Andrew Wyatt Ganden, Rocky Mountain Dealerships Inc. - CEO, President & Director [20]

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Yes. Thanks, everybody. I know the markets have been very challenging over the last number of weeks, and hope everybody has a great day.

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Operator [21]

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This concludes today's conference call. You may now disconnect.