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Edited Transcript of SQP.TO earnings conference call or presentation 1-Aug-19 2:00pm GMT

Q2 2019 Strongco Corp Earnings Call

MISSISSAUGA Aug 23, 2019 (Thomson StreetEvents) -- Edited Transcript of Strongco Corp earnings conference call or presentation Thursday, August 1, 2019 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* J. David Wood

Strongco Corporation - VP, CFO & Corporate Secretary

* Oliver Nachevski

Strongco Corporation - VP & COO

* Robert Jonathan Beutel

Strongco Corporation - Executive Chairman

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Conference Call Participants

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* Chen Rivlin;Rubicon Asset Management LLC

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Presentation

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Operator [1]

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Thank you for standing by. This is the conference operator. Welcome to the Strongco Second Quarter 2019 Results Conference Call. (Operator Instructions) And the conference is being recorded. (Operator Instructions) I would now like to turn the conference over to Robert Beutel, Executive Chairman. Please go ahead, sir.

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Robert Jonathan Beutel, Strongco Corporation - Executive Chairman [2]

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Thank you very much, Claudia. Good morning, everyone, and thank you for joining us to discuss our second quarter results for the period ended June 30, 2019. With me is David Wood, our Chief Financial Officer and Corporate Secretary. Also joining us today is Oliver Nachevski, Vice President and Chief Operating Officer.

Before we get started, I'd like to remind you that our discussion may contain forward-looking statements. This information, by its nature, is subject to risks and uncertainties that may cause actual events or results to differ materially. For more details, please see our news release issued yesterday and our MD&A and financial statements available on CEDAR and on our website at strongco.com. I'll begin today's call with a quick review of the quarter, followed by David who will discuss the financials in more detail and provide an outlook on our key markets. After this, Oliver will take you through some operational high points and at the end of the presentation, we'll be pleased to take your questions.

In the second quarter, Strongco achieved many improvements despite challenges in some markets. Both rental and product support sales were up in the quarter and 6 months ended June. Unfortunately, weaker demand in Québec, combined with ongoing uncertainties in other regions and strong competition, resulted in a decline in equipment sales, which led to lower revenues in total compared to the same periods last year.

Despite the lower revenues, however, gross margins improved due to the uptick in rentals and parts and service and operating profits increased, resulting from discipline on expenses. While reduced operating expenses are, in small part, a reflection of IFRS 16 accounting adjustments, the majority of the decrease was primarily the result of the rationalization of facilities across Strongco's branch network, which contributed significantly to overall cost reductions of $1.3 million for the quarter and $2.5 million in the first 6 months.

Interest expense increased in the quarter, due again in part to the adoption of IFRS 16, but also as borrowings rose to carry more equipment inventory and as interest rates moved up in the period. Strongco has been prudently and conservatively increasing inventory to correlate with the growth and rental activity and demand that we have been experiencing in recent quarters.

Given the somewhat slower start to the summer construction season, we have tapered back on our ordering in the near term and strongly believe that the current inventory levels will fall in the second half of 2019. Strongco ended the quarter with pretax earnings of $2.2 million before IFRS 16 compared to $1.6 million in the same quarter last year; and year-to-date pretax of $2.9 million before IFRS 16, compared to $1.8 million a year ago. Omitting the onetime charge in the third quarter of 2018, related to the lease termination at Fort McMurray, this is our sixth consecutive profitable quarter, and cash generated from operations continues to increase. While top line weakness is always disappointing, the bottom line performance is a credit to the streamlining initiatives of the past few years. As we move forward, leadership will continue to align both inventory and expense management with anticipated demand in order to pave the way for optimal performance and financial stability over the long term. With that, I'll turn the call over to David Wood to review the highlights of the quarter. David?

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J. David Wood, Strongco Corporation - VP, CFO & Corporate Secretary [3]

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Thank you, Robert. As we announced in Q1, our results for the quarter reflect the impact of the adoption of the new leasing standard IFRS 16 effective January 1 of this year. Under IFRS 16, all leases, including our property leases, which had previously been treated as operating leases, are now recorded on the balance sheet as assets and the lease liability. And the lease rental expense has been eliminated and replaced with charges for depreciation and interest.

Total revenues for the second quarter of 2019 were $112.7 million, down 7.6% for the quarter and down 3% year-to-date, due primarily to the following factors: first, lower sales of construction equipment and cranes in Québec partially offset by higher sales in Ontario; higher rental revenues due to increased demand, particularly in Alberta; strong product support revenues or sales of parts and service and warranty in Québec and Ontario. To elaborate on the performance of our business units, overall equipment sales were down 14.6% for the quarter and 6.9% year-to-date, mainly due to continued weak demand, competition from other dealers carrying Tier 3 product and weaker crane sales in the province of Québec.

Turning to Alberta, year-to-date equipment sales were up 12%, with articulated truck sales continuing to be strong partially offset by weaker sales of other equipment types. In addition, the ongoing steady demand for articulating and telescoping truck-mounted cranes and a few large sales from the conversion of RPOs, resulted in higher crane sales in Alberta.

In Ontario, equipment sales were higher in the quarter, the result of a few large multiunit orders and a recovering market for cranes and heavy lift truck.

For the 6 months, however, sales were down, primarily due to the drag on demand in the first quarter of the year. Rentals in the second quarter were up 19% for the 3 months and 1.2% for the 6-month period, as customers in Alberta and Ontario are opting to rent in the wake of continued economic uncertainty. Weaker overall markets resulted in lower rental activity for the quarter and year-to-date in Québec and Atlantic regions. Product support revenues were up 5.2% for the 3 months and up 3.8% for the 6-month period due to increased service and parts activity in Ontario and Québec, but were lower in Alberta due in part to the heavy rains in the early part of the second quarter, which curtailed construction activity.

While the gross profit was down slightly in the quarter, gross margin improved to 17.3% from 16.1% in the same period last year due to the increase in rentals and product support.

For the 6-month period, gross profit was $36.8 million or 18% of revenues versus $37.1 million or 17.6% in 2018. Operating expenses stood at $14.6 million, down from $15.9 million in the second quarter of 2018. And for the 6 months, operating expenses were $28.9 million, down from $31.4 million in the same period of 2018.

The lower operating expenses, combined with higher income composed primarily of -- higher other income composed primarily of foreign exchange gains and losses, resulted in higher operating income of $5.1 million in the quarter compared to only $3.7 million in the same period of 2018. And for the 6 months, operating income stood at $8.8 million, up from $6 million in the prior year.

EBITDA was up for both the quarter and the half year at $11.1 million and $20.6 million, respectively, with significant improvement as a percentage of revenues. As Robert mentioned, interest expense in the quarter rose to $3.4 million, up from $2.1 million a year ago, and for the 6-month period increased to $7 million, up from $4.2 million a year ago, due mainly to the impact of IFRS 16, but also due to a higher level of interest-bearing equipment notes and higher interest rates.

Net profit for the quarter and year-to-date was $1.7 million and $1.8 million, respectively. Before the adjustments for IFRS, however, net income was $2.2 million and $2.9 million for the quarter and 6 months, respectively, up from $1.7 million and $1.8 million, respectively, in the comparable periods last year.

To support the increase in rentals and anticipated sales in the balance of the year, equipment inventory at the end of June had increased to $188.2 million compared to $167.5 million at the end of December and up from $151.5 million at June of last year.

And accordingly, the notes payable were up at the quarter end to $172.5 million compared to $141.4 million in December and $137.6 million in June of last year. Rental activity and the amount of equipment on rent has increased in 2019. At the end of June, there was $67.7 million of equipment on rent compared to only $52.8 million at the beginning of the year and $41.6 million a year ago.

Looking ahead to our key markets. Conditions in Alberta continue to slowly improve, which should lead to increased activity, and there is optimism with the recent election of the new government. At the same time, due to persistent uncertainties, customers are opting for used construction equipment and rentals, and the market for large cranes remains depressed.

Moderate economic growth in Ontario is expected to continue throughout 2019, but customers remain hesitant to commit to purchase, leading to increased demand for rentals and used machines. While we saw some recovery in the crane market in the second quarter, overall demand is expected to remain soft in Ontario for the latter half of the year.

In Quebec, construction activity is expected to improve at a modest pace. However, overall demand for heavy equipment and cranes is expected to remain weak in the near term with no plans for significant government infrastructure projects. On the crane side, however, backlogs have formed leading to a stronger outlook for the balance of the year.

Atlantic Canada continues to experience weak demand for heavy equipment with little government infrastructure spending and a softer housing market in the near term.

With that, I will turn the call over to Oliver Nachevski, Strongco's Vice President and Chief Operating Officer. Oliver?

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Oliver Nachevski, Strongco Corporation - VP & COO [4]

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Thank you, David. While the first quarter of 2019 experienced weaker demand for heavy equipment, the second quarter saw the usual seasonal pickup in activity, albeit well below last year. Demand for heavy construction equipment in the regions, in which Strongco serves, was estimated to be down 12% overall year-over-year for both the quarter and the 6 months, and the markets for general purpose equipment or GPE, which make up the majority of our sales, were down more than 8% across the country. Nevertheless, the team at Strongco experienced some notable customer transactions in the second quarter. In Alberta, we completed the sale of 4 Volvo A60H and 10 Volvo 845 articulated dump trucks for progressive reclamation in earthmoving work in the northern regions of the province. And in Ontario, we finalized the sale of 14 Volvo H-Series wheel loaders to one of Canada's leading providers of innovative cement aggregate and concrete solutions. As David mentioned, RPO and rent-to-rent contracts have remained strong into 2019 with customers reluctant to commit to purchasing equipment given the current market uncertainty.

For the 6-month period, $67.7 million of inventory consisted of equipment on rent, up from $41.6 million at the same time last year. Fort McMurray in particular has become a significant rental hub for articulated truck business, and we continue to meet customer demand in other regions of the country.

In the area of product support, we're bearing the fruit from the last couple of years of populating the market, judiciously sourcing the right technicians and territory sales managers according to market demand, while diligently working to have a wider selection of parts available to our customers with minimal wait time.

As Robert noted, the rationalization of our branch network has allowed Strongco to realize a marked reduction in overall expenses. Earlier this year, our Grimsby, Ontario-based operations for Volvo and Case were consolidated with our existing Burlington facility. And effective July 8, 2019, Strongco sub-relocation to a newer, better building on Mumford Road, which we anticipate will result in a net benefit to the business both financially and operationally. And of course, the relocation of our Fort Mac branch is providing significant long-term savings as we reported in the past.

Overall, despite the air of cautious optimism that guides our market expectation for the balance of 2019, we remain extremely proud of where the team has come over the past several months as we continue to identify opportunities to promote growth and deliver value for all our stakeholders in the near and longer term. With that, I would ask the operator to open up the lines, and Robert, David and I will be pleased to answer your questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Chen Rivlin with Rubicon Partners.

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Chen Rivlin;Rubicon Asset Management LLC, [2]

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Great job on the -- on improvement of the cash flows. My question is about your expectations going forward. I noted that the inventory -- the equipment inventory, excluding the one on rent, increased by 8%, whereas the sales in the second quarter and the first half of the year are down like from 14.6% and the market is down 12%. When do you think the market is going to improve by at least, I guess, 8%? Or how do you guys view it? What are the indications that you see that make you so optimistic?

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Oliver Nachevski, Strongco Corporation - VP & COO [3]

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Chen, it's Oliver here. The indicators that we use are really the discussions that we have with our customer base through our territory managers, but also, in looking through our sales pipeline of opportunities. We have a pretty robust CRM system that provides us information on our quoting activity by region right down to the municipality and to the territory managers. Based on the level of quoting is what is giving us some optimism for the second half of the year. We find most of our customer had a late start getting into the season, and so we're cautiously optimistic that we'll get some uptick in the second half of the year.

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J. David Wood, Strongco Corporation - VP, CFO & Corporate Secretary [4]

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Chen, we also have, in our backlog today, a number of orders -- some significant crane orders in particular for the latter half of the year, so we feel confident that while the inventory looks high right now, it will come down through the balance of the year. Keep in mind that we -- a lot of our ordering is done early in the year to try to allow for the frost laws, so that we have equipment here available to sell. And so it normally peaks around now, and with the lead times as well, we have to order early in order to have the inventory. But we fully expect that it will come down. And I think as Robert mentioned, we're managing inventory very, very closely. We've curtailed our ordering, so we're not ordering a lot more new stuff now. So we expect to see what we have come down.

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Chen Rivlin;Rubicon Asset Management LLC, [5]

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On -- so I totally understand, it's a guessing game because of the long lead times. But the level of quoting that you see out there and the level of backlog, is that higher by let's say more than the 8% that we have in the inventory? Or is it that -- is that meaningfully higher than last year at this point?

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Oliver Nachevski, Strongco Corporation - VP & COO [6]

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It's really tough to judge. I mean the quoting level has obviously increased because of the slow start to the year, but Chen, I don't have that information in front of me to tell you if it's higher at this time than last year or not. I don't have that accessible at this time.

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J. David Wood, Strongco Corporation - VP, CFO & Corporate Secretary [7]

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Yes. I don't know compared to last year. I mean our backlog does fluctuate. It sits at its highest point right now in the year, but I don't know how that compared to last year.

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Operator [8]

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(Operator Instructions) There are no more questions registered at this time. I would like to turn the conference back over to Robert Beutel for any closing remarks.

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Robert Jonathan Beutel, Strongco Corporation - Executive Chairman [9]

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Thank you, Claudia. Thank you, everyone for joining us this morning. I think you've heard that we're pleased with the way the first half has gone. I wish the market were -- we all wish the market were more robust, but we do believe that there is certainly potential in the back half of the year, and we're addressing it, we're watching it and we're getting good feedback from our customers. So with that, we look forward to having you join us in October, late October when we will be reporting on our third quarter. And have a very, very good long weekend. So thank you all. Buh-bye. Thank you, Claudia.

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Operator [10]

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Thank you, sir. This concludes today's conference call. You made disconnect your lines. Thank you for participating, and have a pleasant day.