Heritage-Crystal Clean Inc (HCCI) 2012 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Heritage-Crystal Clean Inc. first-quarter 2012 earnings conference call. Today's call is being recorded. At this time, all callers' microphones are muted and you will have an opportunity at the end of the presentation to ask questions. Instructions will be provided at that time for you to queue up your questions. We ask that all callers limit themselves to one or two questions.

Some of the comments we will make today are forward-looking. Generally the words aim, anticipate, believe, could, estimate, expect, intend, may, plan, project, should, will be, will continue, will likely result, would and similar expressions identify forward-looking statements.

These statements involve a number of other risks and uncertainties that could cause actual results to differ materially from those anticipated by these forward-looking statements. These risks and uncertainties include a variety of factors some of which are beyond our control. These forward-looking statements speak as of today and you should not rely on them as representing our views in the future. We undertake no obligation to update these statements after this call.

Please refer to our SEC filings including our annual report on Form 10-K as well as our earnings release posted on our website for a more detailed description of the risk factors that may affect our results. Copies of these documents may be obtained from the SEC or by visiting the investor relations section of our website.

Also please note that certain financial measures we may use on this call such as earnings before interest, taxes, depreciation, and amortization or EBITDA are non-GAAP measures. Please see our website for reconciliation of these non-GAAP financial measures to GAAP.

For more information about our Company, please visit our website at www.CrystalClean.com.

With us today from the Company are the Founder, President, and Chief Executive Officer, Mr. Joseph Chalhoub; the Chief Operating Officer, Mr. Greg Ray; and the Chief Financial Officer, Mr. Mark DeVita. At this time, I would like to turn the call over to Joe Chalhoub. Please go ahead, sir.

Thank you and welcome to our conference call. Last night we issued our first-quarter 2012 press release and posted it on the investor relations page of our website for your review.

This morning we will discuss the financial statements and our operations in the first quarter. We will respond to questions you may have relating to our business.

We are pleased to report that our first-quarter sales were $50.5 million compared to $28.7 million in the first quarter of 2011, reflecting a growth rate of 75.8%. This growth was achieved by strong topline performance in both our environmental service and our business segments. This growth was made possible by our ability to continue to expand geographically and add new customers.

At the end of the first quarter, we served over 65,000 individual customer sites, a substantial increase compared to 44,000 one year ago. We served those customers from 71 Company branch notations compared to 66 branches a year ago.

In the first quarter of fiscal 2012, we began operation of the hydrotreater portion of our used oil re-refinery and we began to produce and sell lubricant-based oil. I am pleased with our operations during the first quarter, which allowed us to produce 3.9 million gallons of re-refined base oil and sell 2.7 million gallons of this product.

I am also happy to report good progress with our used oil collection growth including the acceleration in our truck deployment and related investments to support this initiative. We were able to raise our run rate from internally collected used oil to approximately 31 million gallons per year during the last four-week period of the quarter.

Throughout the first quarter, we continued to add additional oil collection trucks and by the end of the quarter, we had 117 oil collection trucks in service. At this point, we expect to continue to add new trucks at an accelerated pace throughout the remainder of 2012.

Our continued rollout of oil collection trucks allows us to further leverage our established branch network. Without our existing branch network, the incremental cost of our aggressive oil collection rollout would be much higher. Investments we have made over the last decade to develop these locations and the teams of dedicated professionals who manage them have created this opportunity to grow the used oil collection volume that is critical to our success in the oil business.

In the environmental service segment, we are pleased with our double-digit same branch sales growth and we continue to invest in new resources which we believe will allow us to continue to meet our growth goals for this segment.

These are exciting times in our organization and both the environmental services and oil business teams are engaged and look forward to the opportunities ahead of us.

Our Chief Operating Officer, Mr. Greg Ray, will now further discuss the financial results, and then we will open the call for your questions.

Thank you, Joe. It's good to be with our investors today for HCCI's first-quarter 2012 conference call.

I am pleased with our first-quarter revenue growth as outlined in last evening's press release. Revenues continued to grow at double-digit rates in both of our segments. In the environmental services segment, sales grew $4.4 million or 16.9% in the first quarter. Of the 66 branches that were in operation throughout both the first quarters of 2012 and 2011, the growth in same branch sales was 13.7%.

Our average sales per working day in the environmental services segment increased to approximately $515,000 compared to $495,000 in the fourth quarter of 2011 and compared to $435,000 in the first quarter one year ago.

Operating costs in the environmental services segment increased approximately $5.2 million compared to the first quarter of 2011. The cost increase compared to the year-ago quarter was primarily due to higher energy prices, specifically higher prices for fuel, transportation, and solvent. In a contrast to the year-ago quarter, these costs were not partially offset by a corresponding inventory valuation benefit.

The margin results also reflect the cost of investment in additional personnel and related equipment deployed to support the continued growth of this segment. This is the result of initiatives we began in the second half of fiscal 2011.

As indicated in our press release, we recognize that our environmental services margins have declined and we are currently working on strategies to address this.

In our Oil Business segment, sales for the first quarter grew $17.4 million as a result of our initial sales of base oil products and byproducts from the re-refinery. Our oil business recorded a profit before corporate SG&A of $1.4 million compared to a loss of $0.8 million in the year-ago quarter.

We continue to roll out additional used oil route trucks to increase the collection volume of used oil to feed the re-refinery. As we have noted previously, this rollout puts pressure on our margins. The aggressive steps we have taken to add sales and training resources in this segment have added about $4 million in annual costs, a big investment but one which we calculate to be more efficient than the typical acquisitions in this space.

Additionally in this segment, higher energy-related costs for fuel transportation and used oil were partially mitigated by the increased value of used oil inventory and higher margins on base oil product sales.

We are pleased with our results with respect to leveraging our corporate SG&A. Our revenue growth allowed us to reduce this cost as a percentage of sales, which is down to 11.4% for the first quarter of 2012 compared to 15.8% in the year-ago quarter.

At the end of the quarter, we had $32 million of bank debt, which consisted of a $20 million Term A loan and $12 million in a revolving loan. And there was also on the book $700,000 of cash. Following the end of the first quarter, we paid down the revolving loan as I will explain further in just a minute.

We incurred $187,000 of interest expense for the first quarter of 2012 compared to just $4000 of interest in the year-ago quarter. For the first quarter, we experienced after-tax income of $0.3 million, the same as we reported in the first quarter of 2011. Our basic and fully diluted earnings per share were $0.02, also the same as the year-ago quarter.

After the end of the first quarter, we completed a follow-on equity offering of approximately 3 million shares, which raised about $57 million for the Company net of offering costs. The offering was well-received by current and new investors, which enabled us to increase the size of the transaction and even at that, we were still significantly oversubscribed.

The initial use of proceeds included the pay down on our revolving bank credit facility with the remainder available for general corporate purposes including further growth of our oil business.

The first quarter included some important successes. The operation of our re-refinery went well with production of on-spec Group 2 base oil and this is a credit to the continuing good work of our engineering team and our plant operations staff.

We expect to continue to gradually increase our operating rate for the re-refinery as we ramp up our collection of used oil and increase our production and sales of base oil over the next three quarters. This growth in our oil business will complement our continued growth plans for our Environmental Services business.

The motivation of our team to expand our business remains strong and we have confidence in our ability to take advantage of the exciting opportunities we see before us. Thank you for your continuing interest in Heritage-Crystal Clean.

At this time, I will turn control of the call over to our operator and she will advise you of the procedure to submit your questions.

(Operator Instructions). David Mandell, William Blair.

Good morning. In the Environmental Services business, can you discuss any pricing action you guys might've took and if it has been sticking so far?

Yes, we did implement what we think of as for us a fairly normal price increase on our parts cleaning business at the end of 2011 and the goal for that was to accomplish a 6% to 7% price increase. That seems to be sticking fairly well.

In our Environmental Services segment, historically we have not done as much in price increase with the other services, the non-parts cleaning services, and we're working on that really in the second quarter now to try and see if we can do a little better in that area than we have historically because we feel we need to make up some ground there as well.

I mentioned in my part of the script we also realize that we experienced margin erosion in Environmental Services which to the greatest degree stems from higher energy costs and our price increase over the last couple of years, our price increasing strategy really hasn't kept pace with some of these rising costs. And so we are now evaluating more carefully some of the existing fuel surcharges that we have to see if those need to be expanded and we're thinking about being more aggressive with our pricing in the coming year.

All right. And then in the oil business, are you willing to quantify how much sales came from intermediate products during the quarter?

We did sell some vacuum gas oil during the quarter. I guess we think that there is likely to be some small amount of continuing activity in that area. It's not terribly material to the overall business results. We will look into that and see if we want to put that out.

Yes, I would like to add basically our operating philosophy has been to continue to run the plant at a higher rate although we did have the hydrotreaters -- the hydro treating unit starting up in the quarter. We kept the used oil processing at the higher rate than what we have been producing and selling lube oil and we intend to do that.

The production of vacuum gas oil will, over a period of time, will decline and all of the output will come out at -- as lube oil through the hydrotreater.

All right. Thank you.

David Manthey, Robert W. Baird.

Thank you, good morning. First off, I am wondering about the price increases. Is there some sort of a benefit lag there and how soon do you see the benefits from that? Because of course, we were assuming better profitability in the first quarter in the ES segment.

And then just in relation to that I think, Greg, you might have mentioned something about some investments there and I'm wondering if it's a mix issue of parts cleaning versus everything else. I'm just trying to get underneath the lower profitability here and see if there's something that we can expect will resolve itself as we move through the year.

It's Joe here. We have had this higher cost -- increasing cost in the Environmental segment led by -- no question led by energy, solvent costs and fuel costs, fuel for our own service trucks and also what we call over the road transportation between the branches and the hubs and the disposal of our waste streams.

And in the first half of last year, these margins were -- this erosion in margin was somehow camouflaged by the benefit that we had of our increase in value of inventory and so at the last price increase that is now after the fact, we feel it wasn't sufficient to get -- to cover our increased costs and maintain our margins.

We are committed to, as Greg said earlier, to do two things. One is a fuel surcharge. We have one and we need to revisit that and see how much more we are going to have. And the other one is a more aggressive price increase later on this year. We're not going to benefit the fuel surcharge is something we are in the process of evaluating and we will be doing shortly. We don't like to go twice a year with price increases, so we are going to defer the price increase until later on this year.

There is a component but it's not a major piece of the cost and we talked about here in our discussion is we have added starting in the second half of last year, we had added additional sales resources of the branches to ensure that we continue to grow our Environmental Service business at a good clip past 2012.

And these -- that headcount takes a little bit of time before they start producing so we have -- this represents a small impact but still an impact on our margin erosion.

Greg, I don't know whether you what to add anything more.

Well, I just -- going back to Dave's sort of original question about the timing of the late 2011 price increase, it is probably in Q1 almost fully reflected on the parts cleaning side. Typically we implement it at the end of the year and the first quarter sometimes we might only get 80% to 90% of what we get in subsequent quarters, but it's mostly picked up in the first quarter of the year. That is true for parts cleaning.

For the other services that I mentioned we were working on, we really didn't see much there. We don't have as much flexibility in our judgment to get the same kinds of price increases on our drum program or our vacuum programmed that we have historically had on our parts cleaning service. But we think we can do better than we have been doing and we really didn't see any of that materialize in Q1.

So that would be one place where we had hoped to pick up some improvement in the next couple of quarters would be on the non-parts cleaning Environmental Services.

Okay, but from the sound of it as you said, you typically go out with this one price increase at the beginning of the year or at the end of the year, one price increase which we probably would see at the end of this year and then with fuel surcharges not doing much, you still have some increased costs because of growth investments. It doesn't sound like we are going to see a snap back above 20 next quarter. It sounds like we are sort of going to be in this range until the volumes pick up and you maybe get to the end of the year and you can sort of start to eclipse some of these higher costs that you are dealing with right now. Is that fair?

Yes.

Yes.

All right, in terms of any other efforts, I think you mentioned you're looking at other things. That might have been the price increases you are talking about in the non-parts cleaning. Is there anything else in terms of costs that you can take out?

I am also curious as you are now -- the oil, used oil collection business is a separate segment. Was there any change in the allocation of corporate costs or anything that would permanently change the profitability of the ES segment?

On the last point, since we are typically focused on the line of profit before corporate SG&A, we do internally look at sort of all the way down to a bottom line for each segment with allocated SG&A costs, but we are not reporting those and so you wouldn't see those allocations in any event. In terms of -- (multiple speakers)

Okay, right.

In terms of the internal costs, the things that might affect operating income or stuff like that, I don't think there is any major changes, but --

Nothing material.

Yes.

So the only thing we have done is as our branch manager oversees both the Environmental Service and the Oil Collection business, some of the costs of these branch management is being allocated to the oil. And so really nothing that will impact the Environmental Service negatively.

Okay, I will get back in line. Thank you.

(Operator Instructions) Sean Hannan, Needham & Co.

Thank you, good morning. So switching over to the oil business side, when you look at your current process and where you are in kind of that [managing] efforts clearly there are numbers and efficiencies that you have -- that you are working through. You have addressed this as a topic in the past.

Can you help to elaborate for us what specific processes or hurdles or issues that are most critical to you to get your yields up to more efficient levels and how are you addressing those right now?

Yes, well, the yield, I'm going to talk a little bit about the business approach for the Oil business. These yields have not been an issue for us. We were quite happy with the yields compared to the design of the plant and previous operating plants, operating process is the ramp up of the production from higher rates to the plans and maximize a little production versus vacuum gas oil. So the factors that -- and we said we're going to start roughly about 50% of the plant capacity and by the end of the year, we should be pretty close to the plant capacity.

Internally we are doing everything we can to meet this and where we can accelerate this. And so the kind of steps that affect -- or the issues that affect this ramp up is A, the supply issue, which is today is no longer a factor. And the other thing is production on a consistent basis out of the new plants. And also the sale of the product again on a consistent basis. That's why we said it's going to take up to a year to get us there.

We are really quite happy with the progress. There's no bottleneck. There's typical issues with starting up a new plant including other factors I'd like to add logistics, the physical logistics of not collecting the oil but getting the railroad to bring it in on a consistent basis and ship it out to our customers.

The other thing which I think we've shared with you in the past when you start one of these plants, you need to go through an approval process to qualify the lube oil, whether it's a re-refining plant or if you are running crude oil through a new lubricant manufacturing plant. You still have to go through that process and we are working with our additive suppliers to get all the approvals.

Fortunately we have been able to sell significant volumes of oil without having that in our pocket but we need to get that wrapped up here in the next quarter or two.

Thank you, I probably should have chosen efficiency versus yields but I think you addressed that succinctly, so thank you. When you look at your collection, you seem to be -- still seem to be on track for reaching 50 million gallons organically. Do you support this at this point or how do you think about your collections as you track for the year?

We are quite happy with the process. We are really very enthusiastic about our ability to tap, if I can define it, the wealth in our own collection and we have a tremendous branch motivated and effective and experienced branch network. We have been very pleased and to grow as much organically, a lot of other players are -- and we have in the past in our former lives, have done quite a bit of acquisition. This time around, we said how about growing more organically? And we are very pleased to see our rate of growth and our ability to deliver.

Yes, there is inefficiencies in starting up any route but we are picking up the oil and we are quite happy at the rate we are growing and at the cost that we are procuring this used oil.

So we feel we should -- we will be able to satisfy our total plant requirements as we go down the road.

That's very helpful. Thanks so much, Joe.

David Manthey, Robert W. Baird.

Thank you. It looks like you bought just under 2 million gallons of used oil from third parties this quarter. And so if you are collecting at about an 8 million gallon rate and you are buying a couple million, that puts you at about 40 million of input coming out of the first quarter.

As you look to next quarter and you get -- you sort of just covered this in terms of the trajectory to get to 50 million. It seems like you will get there sooner than year-end and the only question I would have related to that would be, is your ability to collect used oil fairly linear, meaning if you are exiting the quarter at 31, is it reasonable to assume it will go up from there? Or based on the collection schedules, could it actually go down if you signed a bunch of customers, collected the oil, and then sort of didn't have other customers that were ready to be collected until a couple months later?

So I'm wondering is the oil collection capacity fairly linear as you add trucks?

Relatively. There is a seasonal impact in the spring and in the fall with historically more oil changes in our industry. So there's a bit of an uptick and a typical slowdown in December and January. But nothing major and -- but our ability to grow is going -- it will be a function of the additional number of trucks, additional route trucks we are adding and at this time, we -- our plan is to keep adding at the same rate as what we have done earlier this year.

And so back to the processing rate, your math indicates that we've run at 40 million and actually in the quarter, we have ramped up much lower level in Tier number one and much -- higher level it's in Tier number 3 in that first quarter.

As we said earlier, we still moved quite a bit of oil as vacuum gas oil and that does not have the margins that we see in the lube. The economics are quite different and that's not -- vacuum gas oil allows us to continue to build our oil collection business but it doesn't really do much as far as margins.

Okay, but given how far you are from the whole startup and shakedown period, if you had enough input theoretically at this point, there's no real reason why you'd generate much more VGO, it would primarily be lube oil, right?

That's right. And it's going to be a function of how fast we bring the customers on and our customers are blenders and compounders and they like the product but they need to formulate with the product and they need to displace other volumes that buy from third parties, so that process takes a bit of time.

Since it's a formulation process and that's why we had planned to do it over a period of the year. Obviously our pedal is -- I mean, our foot is on the pedal and pushing hard as an enterprise and we're not going to slow it down.

If salespeople are going stronger, we will get there faster, but I think it's prudent for us to say it's going to take us until the end of the year.

Okay, then last question from me in terms of as you ramp up here, how many trucks can a branch support? I guess it's easy to look at the number of locations and think that it's much higher than it is right now, but I'm wondering if there's any concentration issues or if there's any areas where you have much stronger customer relationships and there's some sort of a bottleneck there.

Is there a limit to how many used oil collection trucks you can have at a given location?

At some point in time everything has a limit. But we are so far away from that. We are just touching the market, 50 million gallons represents 5% of the oil being -- roughly 5% of the oil being collected in the United States and we got general broad coverage. Greg, do you want to add?

Well, one way to answer it in an abstract way, maybe this was -- you are thinking about total market size. Probably our typical branch serves a market area where competitors are operating as a rule of thumb maybe 20 or 25 regular used oil trucks in the market area served by our branch. And so if we are trying to get to where we had four or five trucks penetrating that area, we don't have to take the majority of the market. We are still to some extent skimming and able to focus on the customers that value the broader menu of service offerings that we have.

If you are thinking about it logistically, at some point, we would have to -- if we grew to where we were dominating a market, we might have to get more space at some of our branches or establish larger rail facilities or things like that. But where we are starting from zero in all these markets and right now in most of our branches just adding a second truck or maybe a third truck, we have still got a long way to go before we are a significant player in any single market that we are operating in. And we still have a lot of room. Does that answer the question?

Yes, it does. Thank you.

I am showing no further questions at this time. Ladies and gentlemen, thank you for your time and interest. We are grateful for your support. We invite you to join us for our next conference call.