Q2 2023 Limbach Holdings Inc Earnings Call
Participants
Jayme L. Brooks; Executive VP & CFO; Limbach Holdings, Inc.
Michael M. McCann; President, CEO & Director; Limbach Holdings, Inc.
Robert Duncan Brown; Senior Research Analyst; Lake Street Capital Markets, LLC, Research Division
Jeremy Hellman; VP; The Equity Group, Inc.
Presentation
Operator
Greetings, and welcome to the Limbach Holdings Second Quarter 2023 Earnings Conference Call and Webcast. (Operator Instructions) As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host, Jeremy Hellman of the Equity Group. Thank you. Please go ahead.
Jeremy Hellman
Thank you very much, and good morning, everyone. Yesterday, Limbach Holdings announced its second quarter 2023 results and filed its Form 10-Q for the period ended June 30, 2023. The company would also like to note that an updated investor presentation is available on the Investors section of the company website at www.limbachinc.com. Management will refer to select slides during today's call and encourages investors to review the presentation in its entirety.
During this call, the company will be reviewing its financial results and providing an update on current market conditions. This discussion may contain forward-looking statements and actual results may differ from any forecasts, projections or similar statements made during the earnings call.
Listeners are reminded to review the company's annual report on 10-K and quarterly reports on Form 10-Q for risk factors that may cause the actual results to differ from forward-looking statements made during the earnings call. Also, please note that during the question-and-answer session at the end of the call, we will only be taking questions from our analysts. With that, I'll turn the call over to Mike McCann, the President and Chief Executive Officer of Limbach Holdings. Please go ahead, Mike.
Michael M. McCann
Good morning. Welcome, everyone, and thanks for joining us. Joining me this morning is Jayme Brooks, our Executive Vice President and Chief Financial Officer.
During the second quarter, we continued to execute our strategy and produce improved quality of earnings. Our strategic plan continues to center on 3 primary value drivers, each of which is capable of positive results, but when combined, they really provide a high growth pathway for our company. The first drivers are segment mix. We continue to aggressively shift our revenue mix towards a higher percentage of our work coming from our ODR segment.
While our GCR segment continues to make solid progress in improving its margin profile, ODR continues to be our main focus due to the improvement in margin profile, the more favorable risk profile and the opportunity to strengthen relationships with long-term customers. By increasing the proportion of revenues attributed to ODR, there's a natural lift in our consolidated gross margin.
In managing the business, we are constantly reinforcing this message to our local leadership. They should always be looking to deliver value to our customers while targeting high-quality work that provides high margins rather than large projects, which typically sell at lower margins. Any time they can achieve a gross margin of 29% instead of 17%, as was the case in our respective segments this quarter, they should pursue the 29% opportunity.
That's really the biggest driver of our segment mix shift. The second driver is providing evolved offerings for our customers. We are intensely focused on developing and delivering value-added solutions to our customers. We want to be their trusted partner for all the facility needs, especially when it comes to making proactive recommendations that enable them to drive long-term benefits and maximize the return on their physical asset investments.
As we do that, we expect to earn higher margins on the work we do. The third driver is our strategic acquisition plan. We continue to tuck-in acquisitions to expand market share and relatively large acquisitions to bring Limbach into new geographies. Properly executed acquisitions allow us to scale the business, bolt-on new service offerings and better serve larger regional customers that want a single partner across their footprint.
Following the quarter end, we announced the acquisition of ACME Industrial, which is based in Chattanooga, Tennessee, and is right down the road from our Jake Marshalls subsidiary. ACME brings us several new customer relationships.
We are very excited about their leadership position in the hydroelectric end market, which includes Tennessee Valley Authority, or TVA, which is a large federally-owned utility with significant hydroelectric assets. This represents a new end market for Limbach, and we'll be looking to leverage that positioning. Combine with Jake Marshall and Chattanooga, we've been able to tack on acquisitions to the new geography and have additional market share. I'll now pass it off to Jayme to provide financial highlights, and I'll return with a few final comments on market conditions before we take your questions. Jayme?
Jayme L. Brooks
Thanks, Mike. Yesterday, we filed our earnings press release and Form 10-Q, which provide extensive detail of our financials, so I will focus on some key highlights. Starting with the income statement. During the second quarter, the ODR segment accounted for 47.1% of total consolidated revenue, up from 42.9% last year. ODR revenue during the quarter was up 18.1% from a year ago, while GCR revenue was essentially flat, resulting in consolidated top line growth of 7.5%.
We continue to see solid execution in the quarter. Consolidated gross margin during the second quarter was 22.8%, primarily due to increasing contribution from our higher-margin ODR segment and strong overall margin performance in both segments. For the quarter, GCR gross margin was 17.1%, while ODR margin was 29.3%. SG&A expense of $20.4 million during the quarter was down modestly from $21.1 million in the first quarter and up from $18.7 million in the year ago period.
The increase in SG&A expense from the year ago period was primarily related to increases in pay related expenses of $1.3 million and a $500,000 increase in stock-based compensation expense. These increases were partially offset by a $400,000 decrease in rent-related expenses. As noted on our call last quarter, we expect full year 2023 SG&A expense as a percentage of total revenue to have a similar annual run rate in 2022.
Now turning to cash flow. We continue to have a strong balance sheet. At quarter end, our cash and cash equivalents balance was $45.9 million, and we had $10 million outstanding on our revolver. We ended the quarter in a net cash position of $23.6 million compared to a net cash position of $4.2 million at the end of December.
As we have previously noted, our ODR focus and tightened GCR project selection process are expected to provide better operating cash flow profile. Our strong execution during the second quarter contributed to operating cash flow of $16.9 million compared with $15.6 million a year ago. Changes in working capital account had a positive impact of $7.6 million on operating cash flow and accounts receivable provided cash of $12.5 million as a result of strong collections in the quarter.
Offsetting some of the increase, we used $6.8 million of cash and accounts payable. The remaining $9.3 million of operating cash flow was a nonworking capital component. As we've noted previously, our free cash flow can be calculated by taking this figure and then subtracting CapEx, which totaled $576,000 in the quarter. That leaves free cash flow at $8.8 million or around 74% of our adjusted EBITDA.
Though cash conversion for the quarter came in better than the 70% annual target level. Our primary use of the cash we generate continues to be the reduction of debt and the funding of our acquisition program. With our current cash balances and our expected free cash flow, we believe we have ample capital to pursue our acquisition program without needing any equity financing.
Subsequent to quarter end, we utilized just over $5 million of cash on hand to finance the acquisition of ACME. Lastly, during the second quarter, all $600,000 of the $15 exercise price sponsor warrants were exercised on a cashless basis, resulting in the issuance of approximately 168,000 shares of our common stock. In addition, of the roughly 630,000, $12.50 exercise price merger warrant, approximately 153,000 were exercised on a cashless basis during the quarter, resulting in the issuance of approximately 46,000 shares of our common stock.
In total, nearly 213,000 shares of common stock were issued during the second quarter as a result of warrant exercises. Of the remaining merger warrants outstanding at June 30, approximately 443,000 of those warrants were exercised prior to their expiration on July 20, resulting in the additional issuance of approximately 229,000 shares of our common stock in July.
As of August 7, we had approximately 11 million shares outstanding, inclusive of all of the warrant exercises. This share count can be located on the cover of our Form 10-Q. I'll now hand it back to Mike.
Michael M. McCann
Thank you, Jayme. Our first half adjusted EBITDA benefited from gross margin in both segments coming ahead of our guided ranges, and we continue to remind investors that margins can vary quarter-to-quarter based on project mix, timing and execution. As we have noted, our longer-range strategy business continues to push for higher margins.
But at the same time, I want to remind everyone that the path will not necessarily be a straight one, nor will it necessarily be a rapid change. With those factors in mind, as noted in our press release, we are increasing our adjusted EBITDA guidance for 2023 to a range of $38 million to $41 million, up from $33 million to $37 million previously. The upward revision to our adjusted EBITDA guidance is a function of our strong performance for the first half of the year, along with a very small contribution from the recently acquired ACME Industrial business during the second half.
We expect ACME will gradually start to become a more meaningful contributor to the bottom line once it's been integrated in Limbach and the way we do business. I also want to point out that our business appears to have entered a new normal when it comes to supply chain and equipment availability. Given this dynamic, we are reiterating our revenue guidance for 2023, which consists of total revenue for the year in the range of $490 million to $520 million.
Summarizing our guidance for 2023 then, we are reiterating our expectation that revenue will be between $490 million and $520 million, while adjusted EBITDA between $38 million and $41 million. I also want to remind everyone that Slide 25 in our investor presentation includes additional modeling considerations. Recapping business conditions, the demand in our mission-critical vertical markets continues to be very strong.
As we have shifted our focus to fewer customers, we've seen an even greater opportunity to improve our market position with these customers. We have a slide in our investor deck to highlight the industry trends per segment and emphasizes the opportunity we have within these verticals. In order to take advantage of that demand, we continue to shift our internal staff to account management positions that are stationed daily at our key customers.
Our staff is aligned to our strategy and adaptable to the ever-evolving needs of the business. One of the key reasons we've been able to shift so quickly is due to our amazing people that are both talented and dedicated to the overall company's success. In regards to larger capital projects, we are very focused on working directly to building owners to understanding their needs and helping get these infrastructure projects across the finish line.
We are focused on utilizing our engineering group to provide engineering analysis and designed solutions that have an appropriate return on investment. Most of these large capital projects include equipment switch outs. Lead times continue to be a challenge, but the entire industry has adjusted to the new norm. As long as demand remains strong, it will take some time for supply conditions to ease since the supply side of the equation is not fixed.
In certain cases, building owners may decide to defer capital projects due to another funding needs in their business. Due to the fact we have dedicated personnel to a select group of customers were able to continue to provide emergency and on-demand services.
Building owners, especially those with mission-critical assets need to keep those facilities operational. That represents a certain baseline of durable demand, and we continue to work closely with these owners to develop both short-term OpEx and long-term CapEx plan. All of this results in keeping demand strong and supply chains tight, which ultimately we believe is good for Limbach.
Before moving on to questions by analysts, I want to highlight a page we've added toward the end of our investment presentation regarding our social media channels. Because we are not a retail customer-facing business, sometimes it's hard to see what we do. Our marketing team has been hard at work building up our social media presence in an effort to showcase our projects and services, and we encourage everyone to take a look, follow us and share our content. With that, operator, please open the Q&A session.
Question and Answer Session
Operator
(Operator Instructions)
Our first question is coming from Rob Brown of Lake Street Capital Markets.
Robert Duncan Brown
Congrats on a nice quarter. Just wondering if you could give a little more color on the ODR business. Are you seeing kind of the demand growth in -- I'm sure it's both, but is it the direct projects or is it maintenance and repair business? And what sort of the areas you're seeing the most demand and growth?
Michael M. McCann
Rob, thanks for the question. The short answer is we're definitely seeing on both sides of it. There's a tremendous deferred maintenance opportunity right now. A lot of our customers are continuing to try to balance their needs between short-term systems up and running and long-term planning. So as an example, I met with 4 different hospitals this week or health care groups and -- it's interesting because they've got their clients that they have to take care of their patients.
And there's definitely a balance. I'm really working with them in a consultive manner to make sure that we take short-term needs, but we're also telling them to make sure that there's ways to avoid these long-term issues, and we need to work proactively as a partner. So it's definitely a mix between both.
It depends where the client is at in their own particular journey and their needs of their business, but definitely an opportunity in both.
Robert Duncan Brown
Okay. Great. And then you made some pretty strong progress on, I guess, EBITDA margins. Where do you see that sort of going over time? Or do you feel like you've gotten where you need to be and you'll see growth with growth in revenue? Or just a sense of where you're at in terms of getting EBITDA margins toward your targets?
Michael M. McCann
Yes, we're very focused on quality right now. So the demand environment is super strong. And to us right now, it's a super disciplined strategy. And working within our 6 core vertical markets where the customers and the clients are mission-critical, where they have that durable demand and there's brilliance.
At the same time, we've been really focused on each 1 of our locations of working for the top 5 to 10 customers. So there's a tremendous amount of demand out there, but we're super focused on the quality. And I think the other thing, too, is we're just trying to make sure that we staff accordingly to make sure that we can take advantage of the short term OpEx and the long term. So it's -- we're very early in our journey. We're very focused on quality, and making sure we're setting ourselves up for durable demand for these customers.
Operator
At this time, I'd like to turn it back over to Mr. McCann for closing comments.
Michael M. McCann
Thank you, everybody, for your continued interest in Limbach. If you have any additional questions, please reach out to Jeremy Hellman of the Equity Group. Thank you, everybody.
Operator
Ladies and gentlemen, this concludes today's event. You may disconnect your lines and log off the webcast at this time, and enjoy the rest of your day.
