U.S. Markets closed

Edited Transcript of THR earnings conference call or presentation 8-Aug-19 3:00pm GMT

Q1 2020 Thermon Group Holdings Inc Earnings Call

SAN MARCOS Sep 6, 2019 (Thomson StreetEvents) -- Edited Transcript of Thermon Group Holdings Inc earnings conference call or presentation Thursday, August 8, 2019 at 3:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Bruce A. Thames

Thermon Group Holdings, Inc. - President, CEO & Director

* Jay C. Peterson

Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer

* Kevin Fox

Thermon Group Holdings, Inc. - VP of Corporate Development

================================================================================

Conference Call Participants

================================================================================

* Brian Paul Drab

William Blair & Company L.L.C., Research Division - Partner & Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Greetings, and welcome to the Thermon Group Holdings Inc. First Quarter Fiscal Year 2020 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Kevin Fox, Vice President, Corporate Development. Thank you. You may begin.

--------------------------------------------------------------------------------

Kevin Fox, Thermon Group Holdings, Inc. - VP of Corporate Development [2]

--------------------------------------------------------------------------------

Thank you, Donna. Good morning, and thank you for joining today's conference call. We issued an earnings press release this morning, which has been filed with the SEC on Form 8-K and is also available on the Investor Relations section of our website at ir.thermon.com. A replay of today's call will also be available via webcast after the conclusion of the call. This broadcast is the property of Thermon and any redistribution, retransmission or rebroadcast in any form without the expressed written consent of the company is prohibited.

During the call, we will also discuss some items that do not conform to generally accepted accounting principles. We have reconciled those items to the most comparable GAAP measures in the tables at the end of the earnings press release. These non-GAAP measures should be considered in addition to and not as a substitute for measures of financial performance reported in accordance with GAAP.

Before I turn this call over to Bruce and Jay, I'd like to remind you that during this call, we may make certain forward-looking statements regarding our company and business that are not historical facts because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes and circumstances that are difficult to predict. Please refer to our annual report and most recent quarterly report filed with the SEC for more information regarding our forward-looking statements, including the risks and uncertainties that could impact our future results.

Our actual results may differ materially from those contemplated by these forward-looking statements. We caution you, therefore, against relying on any of these forward-looking statements. They are neither statements of historical facts nor guarantees or assurances of future performance. Any forward-looking statement made by us during this call speak only as of the time at which it is made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update any forward-looking statement whether as a result of new information, future developments or otherwise, except as may be required by law.

And now it is my pleasure to introduce Bruce Thames, our President and Chief Executive Officer for his opening remarks.

--------------------------------------------------------------------------------

Bruce A. Thames, Thermon Group Holdings, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Thank you, Kevin, and good morning, everyone. Thank you for joining our conference call and for your continued interest in Thermon. Today, we have Jay Peterson, our CFO, joining me on the conference call. Jay will follow me and present the financial details of our fiscal year 2020 first quarter.

To begin with Q1 results. After an overachievement in revenue in Q4 of fiscal year 2019, we were pleased with the revenue generation the team delivered in Q1. We saw revenues of $91.7 million met our expectations for the quarter, an increase of 3.2% over prior year. Organically, this represented the sixth consecutive quarter of growth. While we anticipate the mix to shift toward a more historical distribution between Greenfield and MRO/UE, we continue to see a heavy mix of turnkey projects at lower gross margins that have been dilutive to the margin profile of the business. Although we did see an improvement of 111 basis points sequentially, gross margins declined by 419 basis points from the prior year quarter.

While we welcome the growth in the installed base, we are taking actions to drive margin improvements in the areas we control. First, we passed on a price increase in June that ranged from 3% to 5% and is anticipated to positively impact margins in the second half of the year by 100 to 150 basis points. Secondly, we have continuous improvement initiatives underway that we expect to reduce cost of goods sold by 1% in the fiscal year. Those actions have already begun to have an impact, but will be back-end loaded to the second half of the year.

In addition, our new product development efforts are focused upon creating differentiated value for our customers, while protecting and expanding the margin profile of the business. And finally, we're focused on serving the installed base to grow the MRO/UE segment of our business through our direct relationships with owners and operators and through our channel partners.

We did also see margins and backlog improve by 100 basis points for the second consecutive quarter on incoming order growth of 12% over prior year. This represents the second consecutive quarter of double-digit order growth. The book-to-bill was 90% for the quarter and backlog ended at $111.5 million.

The business delivered adjusted EBITDA of $13.1 million in the quarter, a decline of 26.7% from prior year. Adjusted EPS was $0.15 per share for the quarter, down $0.09 per share year-over-year.

Turning now to an overview of our markets and geographies. From a market perspective, upstream activity is flat to declining on lower oil prices. Both chemical and petrochemical sectors remain the most robust of our end markets as the outlook for global demand growth remains positive. The project pipeline continues to improve, led by opportunities in North America and the Middle East.

In midstream, we are well positioned to capitalize on an expanding pipeline of LNG investments that will increase global capacity by an estimated 100 million tons per annum valued at approximately $85 billion through 2028. This represents a compounded annual growth rate of 5% to 7% in the market. We've seen a few of these projects that could be awarded in fiscal year 2020, but will not begin to materialize until fiscal year 2021. We believe that this trend will provide a significant tailwind through 2025 and beyond.

Combined cycle power projects are trending positively, showing low single-digit growth, particularly in the U.S. and Latin America. The transportation sector in North America continues to create opportunities to diversify end markets for Thermon. We anticipate several large infrastructure projects in Eastern Canada and the U.S. will contribute to bookings in fiscal year '20. Our installed base and the associated approvals in the nuclear sector position us well to capitalize on a steady flow of refurbishments planned in the coming years.

Geographically, the Western Hemisphere shows continued strength in Q1, which we anticipate will continue through the balance of the year. In the Eastern Hemisphere, the outlook in Asia remains positive, but is offset by weakness in Europe, Middle East, Africa that we expect will continue through the balance of our fiscal year 2020.

Turning now to growth. Overall, we're pleased with how well the business is positioned for future growth. Since fiscal year 2015, our opportunity pipeline has virtually doubled in size consistent with our efforts to expand the addressable market. This is augmented by the recent stream of new product introductions, driven by advancements in smart technology and material science. These new product introductions are beginning to have a positive impact on results, and we are on track to announce 5 more new product launches in this fiscal year.

We remain committed to developing technology that differentiates Thermon in the marketplace to create sustainable value for both customers and shareholders over the long term. We're also investing in the globalization of the Thermon Heating Systems business line by leveraging our existing footprint. We have seen several examples where the initial thesis on delivering an expanded process heating solution is being validated by our customers. This expanded solution set and the associated increase in our addressable market is anticipated to provide opportunity for growth over the next several years.

Our M&A pipeline remains robust. We have some significant opportunities on the balance sheet to improve our cash position in the coming quarters that will create additional capacity for the right strategic opportunity.

Looking forward, we maintain our revenue forecast of 2% to 4% organic growth for fiscal year 2020.

I'd like to take this opportunity to thank our Thermon employees around the globe for their unwavering commitment to serving our customers and creating value for our shareholders.

I thank you, again, for joining us today. Jay Peterson, our CFO, will now address the details of our financial performance for Q1 fiscal year 2020. Jay?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [4]

--------------------------------------------------------------------------------

Thank you, Bruce. Good morning. First off, I'd like to start by discussing our Q1 financial results, then finish with guidance and a discussion on margin enhancements for the current fiscal year.

First off, revenue and orders. Our revenue this past quarter totaled $91.7 million, an increase of 3.2% over the prior year's quarter and a record start for Thermon. The legacy revenue mix between MRO/UE and Greenfield was 51% and 49%, respectively, with the Greenfield mix significantly higher than in the past. FX decreased total revenue by approximately 2% and in constant currency, our top line revenue grew by over 5%. And we continue to experience positive signs of a recovery with our legacy business revenues showing growth for the sixth conservative quarter.

Orders for the quarter totaled $82.8 million versus $73.8 million in the prior quarter for a growth rate of 12%. And our backlog of orders ended June at $111.5 million versus $144 million as of June of fiscal year '19 and that's a decrease of 23%. And margins and our backlog improved by 100 basis points over the last 90 days. And our book-to-bill for the quarter was negative at 0.90.

Turning to gross margins. Margins were 40.5% of revenue and gross profit declined by 490 basis points. The legacy mix shift to Greenfield revenues was the significant driver of the lower-than-typical corporate margins due to their higher content of engineering and construction labor and third-party buyout items. We believe it is important to win these lower-margin projects, understanding there is a near-term dilution to our gross margins due to the margin-rich maintenance business that will occur as soon as 36 months from now.

Margins from Thermon Heating Systems were accretive to our corporate margins, and we continue to be on track for this acquisition to provide a return on capital in excess of our weighted average cost of capital by fiscal year 2021.

Gross profit declined by $2.6 million or 6.5% versus the comparison period. And while we have experienced cost increases attributable to the tariffs, we have largely been able to pass these increases along to our customers, and we have not seen any material impact to our gross margins due to these tariffs.

Moving to operating expense. Core operating expenses for the quarter, that is SG&A, excluding depreciation and amortization of intangibles, totaled $25.1 million versus $23.4 million in the prior year and that's an increase of 7.3%. The drivers behind this increase included a 13% growth in research and development spending and other incremental personnel costs, specific to achieving our fiscal year '20 strategic initiatives.

Our operating expense as a percent of revenue was 27.4%, again, excluding D&A, and that's an increase of 100 basis points from the prior year level of 26.4%.

Turning to earnings. GAAP EPS for the quarter totaled $0.04 a share compared to the prior year quarter of $0.09, a decrease of $0.05 per share. Adjusted EPS, as defined by GAAP EPS, less amortization expense and any onetime charges, totaled $0.15 a share relative to $0.24 a share in the prior year quarter, and we will continue to communicate this adjusted EPS construct going forward due to the high level of noncash amortization expense running through our income statement. And at present, we are expensing $4.4 million per quarter or $0.09 per share or approximately $0.36 a share on an annual basis after-tax for noncash amortization. And note that the total amortization expense will decrease in May of fiscal year '21 to approximately $10.5 million per year due to the roll-off of certain assets related to the 2010 private equity acquisition of Thermon. And EBITDA declined by 27% versus the comparison period, and EBITDA as a percent of revenue was 14.3% and EBITDA totaled $13.1 million this past quarter.

Moving to the balance sheet and our capital allocation philosophy. Our cash and investments balance at the end of June improved to $35.3 million, and our CapEx spend for the first quarter totaled $1.7 million or 1.9% of revenue. Recall our net debt-to-EBITDA ratio was 3.4x at the time of the October 2017 CCI acquisition and it is presently at 2.4x with additional delevering anticipated this fiscal year.

And lastly, our capital allocation priority, in the absence of any near-term M&A transaction, is to continue to reduce our debt through optional debt repayment.

In terms of taxes, our tax rate for the first quarter was 3% and this was positively impacted by the release of a tax reserve relating to the CCI acquisition. And we continue to work with our tax advisers on potential strategies to optimize our income tax structure. And at the conclusion of this analysis, it is possible our tax rate will be exposed downward later this fiscal year.

And finally, fiscal year 2020 guidance. There are several guidance points I would like to discuss. First off, we are holding to our previous revenue guidance of 2% to 4% growth relative to our current margin performance, various activities are in process to improve our margins, including $4.5 million in cost reductions with an anticipated realization of $2.5 million in savings this current fiscal year, announced price list increases with an expected 2% margin impact for our maintenance-related products, and recent and planned product announcements that we anticipate will yield accretive gross margins. And lastly, as we head into the heating season, we typically see a seasonal uptick in margins due to the increased mix of MRO activity.

And in conclusion, due to growth in cash and trailing 12-month EBITDA, and continued reduction in our net debt, we expect to improve our net debt-to-EBITDA leverage to approximately 1.5x at the end of this year and that's excluding any M&A transaction.

I would like to now turn the call over to Donna to moderate our Q&A session. Donna?

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question is coming from Brian Drab of William Blair.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [2]

--------------------------------------------------------------------------------

So first, just to clarify a couple of things. So when you give the Greenfield-MRO legacy, that's excluding THS, right?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [3]

--------------------------------------------------------------------------------

That is correct, Brian.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [4]

--------------------------------------------------------------------------------

Okay. And so, what is -- what was the growth or decline year-over-year in MRO/UE business on an apples-to-apples basis, I guess, just for the legacy business?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [5]

--------------------------------------------------------------------------------

Yes. 1.3% versus the comp period, excluding THS.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [6]

--------------------------------------------------------------------------------

So up 1.3%?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [7]

--------------------------------------------------------------------------------

No, down 1.3%.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [8]

--------------------------------------------------------------------------------

Down 1.3%. And so that's -- I think that you're expecting -- release as of the last report, you're expecting pretty solid, even double-digit, growth in MRO/UE for the year. Is that -- is my memory correct on that? And then, if so, why is -- what happened in this quarter? And then for the full year, do still expect MRO/UE to be up?

--------------------------------------------------------------------------------

Bruce A. Thames, Thermon Group Holdings, Inc. - President, CEO & Director [9]

--------------------------------------------------------------------------------

Yes. So Brian, this is Bruce. We do expect to see MRO/UE growth during this year. As you know, the first quarter -- our first quarter of the year is off-heating season. It's probably the most unpredictable as it relates to our MRO/UE business and it is the first quarter where we actually did see some decline in MRO/UE business. We haven't seen or heard anything from our customers that would indicate any change in behaviors. And so we remain -- we continue to believe that we'll see some -- and I didn't say -- I don't think we implied double-digit growth, but we'll see some solid mid-single-digit -- low to mid-single-digit growth in our MRO/UE business this year.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [10]

--------------------------------------------------------------------------------

Okay. Got it. And can you be any more specific on where you think gross margin should be modeled for the balance of the year? It sounds like, clearly, some initiatives here will bring it up. But, I mean, could it be mid 40s again for the balance of the year or will we not get back to that level?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [11]

--------------------------------------------------------------------------------

Yes. Brian, we've got a confluence of positive factors in our favor. However, if we have an inordinately large Greenfield mix, again, which is customer dependent, that could mitigate the cost reductions, pricing action and the seasonality that we see. So it's really hard to give quarterly guidance.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [12]

--------------------------------------------------------------------------------

Even directionally, Jay? I mean, should I model 40% or 45%, is what I'm wondering. Like, I don't -- closer to 40% or closer to 45% or can't say? Even directionally up from this quarter?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [13]

--------------------------------------------------------------------------------

Yes. I don't want to give you an exact number, but sequentially we are moving into the primetime for our legacy business.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [14]

--------------------------------------------------------------------------------

Okay. And then, is there any way that you can give any sense for the Greenfield activity and -- just the proportion because you just kind of said, if Greenfield activity remains elevated then gross margin will be under pressure, of course. But I -- what kind of visibility do you have to that ratio for the balance of the year?

--------------------------------------------------------------------------------

Bruce A. Thames, Thermon Group Holdings, Inc. - President, CEO & Director [15]

--------------------------------------------------------------------------------

The dynamic we are seeing now and kind of what we expected coming into this year, even though we had strong order growth 12%, double-digit for the second -- it was double-digit order growth for the second consecutive quarter, we are seeing a decrease in our backlog, so we're shifting a lot of those larger products -- projects that are flushing out. And so as we go through the balance of the year, we would expect that mix to shift more towards what we've seen historically in the MRO/UE versus Greenfield mix. And so that's kind of an indicator, and I think a couple other things to note is aside from some of the initiatives we have underway to improve the gross margins within the existing business we are seeing for the second or third consecutive quarter, we've seen improvement in margins and backlog. In this past quarter, it was 100 basis points, so.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [16]

--------------------------------------------------------------------------------

Okay. And then, Bruce, you mentioned the 90% book-to-bill. Does that imply a sequential decline in revenue in the second quarter?

--------------------------------------------------------------------------------

Bruce A. Thames, Thermon Group Holdings, Inc. - President, CEO & Director [17]

--------------------------------------------------------------------------------

No, a sequential decline -- no, we don't think so. No.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [18]

--------------------------------------------------------------------------------

Can you talk a little bit more about it? I mean, you booked less than your billing. I guess, it's just that the backlog -- the point, I guess, is that backlog is at a healthy level that's going -- a lot of that will...

--------------------------------------------------------------------------------

Bruce A. Thames, Thermon Group Holdings, Inc. - President, CEO & Director [19]

--------------------------------------------------------------------------------

The backlog is healthy to support our revenue forecast, that's what I would say, for the balance of the year, which we projected 2% to 4% growth. We're right in the middle of that in the first quarter. I don't see anything going forward that would make us believe differently.

--------------------------------------------------------------------------------

Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [20]

--------------------------------------------------------------------------------

Got it. And then, just to clarify. You didn't change, Jay, how you're reporting adjusted EPS, right? You're just reminding us that, that's how you're reporting your adjusted EPS, correct?

--------------------------------------------------------------------------------

Jay C. Peterson, Thermon Group Holdings, Inc. - CFO, Senior VP of Finance, Assistant Secretary & Assistant Treasurer [21]

--------------------------------------------------------------------------------

That is correct, Brian.

--------------------------------------------------------------------------------

Operator [22]

--------------------------------------------------------------------------------

(Operator Instructions) We are showing no additional questions in queue at this time. I would like to turn the floor back over to management for any additional or closing comments.

--------------------------------------------------------------------------------

Bruce A. Thames, Thermon Group Holdings, Inc. - President, CEO & Director [23]

--------------------------------------------------------------------------------

All right. Thank you, Donna. Again, I would like to thank everyone for joining the call today, and for your interest in Thermon. Enjoy the rest of your day.

--------------------------------------------------------------------------------

Operator [24]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for your participation. This concludes today's event. You may disconnect or log off at this time, and have a wonderful day.