Heritage-Crystal Clean Inc (HCCI) 2015 Q2 法說會逐字稿

Good morning ladies and gentlemen and welcome to the Heritage-Crystal Clean Incorporated second quarter 2015 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 question. 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 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 Web site 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 Web site.

Also, please note that certain financial measures we may use on this call such as earnings before interest, taxes, depreciation and amortization or EBITDA and adjusted EBITDA are non-GAAP measures. Please see our Web site for reconciliations of these non-GAAP financial measures to GAAP. For more information about our company, please visit our Web site at www.crystal-clean.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 second quarter 2015 press release and posted it on the investor relations page of our Web site for your review. This morning we will discuss the financial statements and our operations in the second quarter and we will respond to questions you may have relating to our business.

Our second quarter revenues were $82.9 million compared to $78.1 million in the second quarter of 2014, an increase of 6.2%. Year-to-date revenues increased 15.9% to $167 million from $144 million in the first half of 2014. This increase was primarily the result of revenues from the acquisition of FCC Environment, FCCE, as well as from organic growth in the environmental services segment and partially offset by decreased revenue in the oil business segment due to lower oil product pricing.

Our 2015 second quarter EBITDA was $8.1 million which presents a 35% increase over the year early quarter. For the first half of fiscal 2015 EBITDA increased 97% to $11.5 million compared to the first half of 2014. Adjusted EBITDA was $10.5 million for the second quarter of 2015, an increase of 51% compared to the second quarter of 2014.

In our environmental services segment, revenues increased 27.2% compared to the second quarter of 2014 and 31.4% compared to the first half of 2014 from additional sales of legacy FCCE customers in all of our environmental services lines of business.

Revenues in our vacuum services line of business doubled from the first half of 2014 to the first half of 2015 due to the volume added from FCCE acquisitions. We also experienced strong organic growth in this business. In our branches that were not affected by the acquisition, environmental services, same branch revenues increased by approximately 12% during the quarter. We are also very excited that we're able to improve our operating margins in this segment by over 100 basis points in the second quarter on the year-over-year basis.

In our oil business segment revenues were pressured by lower pricing of our oil products. Revenues decreased 3.7% from the first half of fiscal 2014 to the first half of fiscal 2015. During the first half of fiscal 2015 the average spot market price for the Group II base oil we produced declined by over 35% compared to the first half of fiscal 2014.

The decrease in revenue due to pricing pressures was partially offset by sales of recycled fuel oil or RFO. We continue to respond to the unfavorable market conditions and work to maximize efficiencies in the oil business. By tightening controls over our costs we're able to partially offset the negative impact of the non-cash lower of cost market write-down of our oil inventory by $1.6 million during the second quarter. This inventory write-down was due to the improved efficiency of our used oil collection routes as a result of route consolidation during the integration of FCC Environmental.

We are also very pleased with the performance of our environmental service segment which has delivered margin improvements compared to the second quarter of 2014 despite the addition of legacy FCCE sales volumes which has historically had a lower margin than our legacy FCC business. In addition to increased synergies, we believe we can continue to deliver growth and increase profit from this segment; the environmental services segment now generates about two-thirds of the total company revenue.

Our Chief Financial Officer Mr. Mark DeVita will now further discuss the financial results and then we will open the call for your questions.

Thanks Joe, I appreciate the opportunity to discuss HCCI's second quarter 2015 results with our investors today. We continue to realize synergies from the FCC Environmental acquisition during this past quarter. During the second quarter, we estimate that we generated approximately $4.3 million in cost saving synergies and $0.6 million in business improvement synergies for a total of $4.9 million of growth synergies. We also incurred $0.2 million in costs to achieve synergies, which resulted in an estimated total net synergies of $4.7 million during the second quarter of fiscal 2015.

We ended the quarter generating synergies at an annualized rate of approximately $22 million. In the Environmental Services segment, revenues grew $11.3 million in the second quarter compared to the second quarter 2014. Of the 72 branches that were in operation throughout both the second quarter of 2015 and 2014, the growth in-same branch revenues was 19.2%.

For the first half of the year, revenues increased $25.3 million, or 31.4% in the segment. Same-branch revenues for the first half of fiscal 2015 grew 21.4% compared to the first half of fiscal 2014. For the second quarter, our average revenues per working day in the Environmental Services segment increased to approximately $900,000 compared to $700,000 in the second quarter of 2014.

In the Oil Business segment, revenues for the second quarter were down $6.5 million from the second quarter of 2014 mostly as a result of decreased product prices. The first half of fiscal 2015 revenues were down $2.4 million compared to the first half of fiscal 2014.

We are pleased that the margins improved in our Environmental Services segment compared to the second quarter of 2014 even considering the impact of adding FCCE volume, which was traditionally lower margin than our legacy business, our profit before corporate SG&A in the Environmental Services segment increased to 29.7%, during the second quarter of 2015 compared to 28.4% in the second quarter of 2014 and to 26.6% in the first half of fiscal 2015 compared to 25.6% in the first half of fiscal 2014.

Our Environmental Services segment benefited from lower solvent costs as a result of low crude pricing. In the second quarter, our Oil Business experienced the loss before corporate SG&A of $0.6 million compared to income before corporate SG&A of $0.6 million in the second quarter of 2014. For the first half of fiscal 2015, the oil business experienced the loss before corporate SG&A of $2.4 million compared to a loss of $1.7 million in the first half of fiscal 2014. The operating margin in our oil business was negatively impacted by the continued low prices for our oil products and by write-down of the value of our inventory during the second quarter.

As Joe mentioned earlier, we wrote down the value of our oil inventory by approximately $1.6 million during the quarter, without this write-down, our profit before corporate SG&A in the Oil Business segment would have 3.3%. Corporate SG&A was 12.8% of second quarter revenues up from 10.6% in the year ago quarter. In the first half of the year, SG&A was 13% of revenues compared to 11.9% in the first half of 2014. SG&A declined $0.5 million from the first quarter to the second quarter of fiscal 2015. SG&A as a percentage of revenues decreased from 13.2% in the first quarter of fiscal 2015 to 12.8% in the second quarter of fiscal 2015 despite a decline in revenue.

During the second quarter, we incurred an additional $0.2 million in integration costs for FCC Environmental bringing our total for the first half of fiscal 2015 to $1.6 million. At the end of the quarter, we had $77.8 million of total debt and $19.4 million of cash on hand. We generated $9.4 million in cash flow from operations during the first half of fiscal 2015, which represents an increase of 36.2% compared to the first half of fiscal 2014. We incurred $408,000 of interest expense for the second quarter of 2015, compared to interest expense of $33,000 in the year ago quarter.

For the first half of fiscal 2015, we incurred $962,000 in interest expense compared to $86,000 in the first half of fiscal 2014. The increase in interest expense was a result of increased debt used to finance the FCC Environmental acquisition during the fourth quarter of fiscal 2014.

For the second quarter, we experienced income of $2 million, which was the same income experience in the second quarter of 2014. Our basic and fully diluted income per share for the quarter was $0.09 compared to $0.10 in the year ago quarter. Our year-to-date income is $1 million compared to $0.3 million for the first half of fiscal 2014. Earnings per share for the first half of the year are $0.05 compared to $0.01 in the first half of fiscal 2014.

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 advice of the procedure to submit your questions.

(Operator instructions.) Our first question comes from the line of David Mandell.

Good morning guys. In the Environmental Services business, a strong operating margin result there. How much of that is kind of sustainable or is there a boost there from the inventory write-downs you had in the first quarter?

Well, when you look at -- this is, David, we had an additional, much more minor write-down, in Q2 versus what we had in Q1 if you recall it was over $1.5 million in Q1. There is only $0.2 million of our total lower cost to market write-down was attributable to solvent in the ES segment. So quarter-over-quarter, the percentage increase is there, but that's sustainable because that's really as opposed to the spread business, where you could have impact on the back end of the selling price. Our selling prices, as you know, are not really commodity or affected by commodity changes in general, over the long-term, they are of course, but with this lowering of our cost base, we consider that to be as long as the commodity conditions are where they're at to be sustainable and we should continue to gain in other areas like labor and benefits. We traditionally gain versus Q1. We have some other improvements, but in general we'll gain more and more efficiency and leverage the fixed costs of our network as we grow our top line. So given the current conditions, we think that what we have now is sustainable and we should look to as we add more volume to incrementally improvement it.

All right. And then what's going on in the PFO front?

For PFO for this quarter versus last quarter, we actually [picked] up a penny or two and we had talked about that in the earnings call last quarter, even though we experienced in the Q1 results the movement was pretty favorable that we had seen, started to see headwinds in that area. Obviously, crude has come down and if you've been watching it the last several weeks. So, this is something where the markets at a point where it's one where we're being cautious. We lost a fair amount of volume as we've told the market several times because we are so aggressive in our move downward initially. So we want to strike that balance that we've been trying to strike between being efficient in our routes and gaining route efficiency, like we did a good job of this quarter, and also collecting at a prudent rate because overall those both go into our overall cost of collection. So we're taking as balanced an approach as possible. I don't if Greg or Joe wanted to add anything.

No, it's fine.

Thank you for taking my questions.

Thanks David.

Thanks David.

Thank you. Our next question comes from the line of Kevin Steinke with Barrington Research.

Good morning everyone, just wanted to follow-up on the Environmental Services margin. How much, I don't know you could quantify it, but how much of a benefit were lower fuel prices and lower solvent prices to the ES margin.

It was probably a 200, 300 basis points benefit there.

Okay, and aside from that benefit, seem to be doing a good job with the integration here and I think you were optimistic about getting FFC's Environmental Services margins up. Just wondering how much progress you've made there and what sort of benefit that had in the quarter?

Well, we actually, and we hadn't really got this granular in previous quarters, but we talked about our business improvement synergies and a lot of those relate to trying to get the margins for the legacy FCC Environmental business in line, over time that is, with the FCC legacy margins. So really if you strip away to 200, 300 basis points from the improvement for let's say, solvent and diesel that we just talked about, you see what we expected initially when we talked even a couple of quarters back, which is the overall margins would have without that benefit, the margins from the legacy FCCE business would have had a damping effect or headwind to our overall margins and pull them down. We're starting to when we cited $0.6 million in business improvement synergies that we had. So a lot of those relate to our progress in trying to get those, get the pricing, for those or get the margins I should say, for that business more in line with what we've traditionally done. And we'll continue to do that. That's not something where we can flip a switch and we fixed it in one or two quarters, this is probably a multiyear project.

Okay. And would you say at this point that the FCC synergies are in line with your target or are you slightly exceeding that at this point?

Yeah we're exceeding we had talked about for long time the 20 and we do have additional upside, I don't know if we can quantify it, all that exactly here. But we're at 22 now on a run rate exiting the second quarter and there's still some potential for incremental improvement.

I think we clearly have more than achieved our target. We had forecasted before the acquisition $20 million and we delivered $22 million, there's a little bit less here but it's going to take us longer and it's not as meaningful as what we've delivered. On the pricing side we have made many chances to improve the pricing, but I think we will, outside of this, we're going to be benefiting over the next few quarters for further improvement in the pricing for the services of FCC.

Okay, good. Can you just give us an update too on your cross-selling efforts in Environmental Services? You have been talking about maybe formalizing that effort a little bit more?

Yeah, this is Greg speaking, Kevin. We have done more to develop systems to support our aims to cross-sell. We started to develop some internal metrics and to create incentives in our field organization to get people to focus on cross-selling. I would tell you its too early for us to start sort of talking with any specificity about results for that with the investors yet, but it is a focus for us, it has been for the last several months. Really since we got the heavy lifting of the integration effort completed that was the point when we first felt sort of free to start focusing on sales growth or the resumption of sales growth. And so we've been working on it and we hope to have more to talk about in the next couple of quarters as see start to see how that's working but we remain excited about the opportunity.

We know that the vast majority of the accounts that we added in the FCCE acquisition were primarily customers of the used oil service that FCCE was focused on. And with relatively little cross penetration to the other types of services, either those that FCCE had where they were underpenetrated or the broader menu of services that Heritage-Crystal Clean offers.

So we see it as a great target, it's something that we're developing and we will be back in front of you I suspect in the next year to talk more about what we were able to accomplish in that vein.

Okay, good. I'm just going to sneak a couple more in here. In terms of corporate SG&A cost, do you expect to continue to see that get leverage in terms of percentage of revenue and flatten out here on an absolute dollar basis.

Yeah, we think there is more, some more, improvements to be had. It's hard to predict for sure as a percentage of revenue due to the potential commodity impact in the Oil Business segment and on those revenues but we do have initiatives we're working on to help improve EBITDA beyond our synergies and part of those involve SG&A and that's part of the reason you did see some improvement.

So --

Yeah, I think we need to remember here that between Heritage-Crystal Clean business and FFC business the combined entity we're dealing with about 100 million gallon of oil and whether it's RFO or lube oil or light oils and this dropped by over $1 again. So you got $100 million of reduction in revenue to conduct the same business and that's why we're also seen an increase from a year ago in our SG&A and that's a big factor. I think we're pretty happy if we're able to maintain this lower level of SG&A. But there's always room to improve.

Oh sure, yeah, I was -- I think the SG&A is trending fine and you're doing a good job on that front. Even in light of the revenue pressures you mentioned. So just lastly, I don't know, did I miss -- did you give just what the utilization of the re-refinery was and how many gallons of base oil you sold in the quarter?

We didn't give that we are ran it at about 98% and our base oil was 8.8 million, I think.

That was gallons sold.

And that's what you wanted, right?

Produced --

Correct.

Yeah, very close.

Okay, great, thanks for taking my questions.

Thank you Kevin.

(Operator instructions.) Our next question comes from the line of Michael Hoffman with Stifel.

Hi, thanks Joe, Greg and Mark for taking my questions. Mark, in December the company published, I forget what document it was in, but if was a very formal sort of outlook about guidance in 2015. Could you refresh that table sitting here at the midyear?

Well, basically we don't have any that had -- I know what table you're talking about, that had revenue, then it had EBITDA in there for 20 -- well it had it for I believe for the quarter or remainder of 2014 but then it also had full year 2015 revenue range, it had EBITDA range and then it had adjusted EBITDA. And there's really no change similar to what we said the last couple of quarters. There's really no change to what we have put in there except for as I said for the last two quarters, we would expect that the adjusted EBITDA would be lower by a couple of million dollars, simply because we had shifted into 2014, some of our cost to achieve and thus they wouldn't be an add back in 2015, it wouldn't be an adjustment.

So simply put, the 42 to 53 becomes 40 to 51?

Yeah.

Right, okay. And then in the end of -- at the second quarter on the conference call you all said you were below a dime per gallon in PFO. I guess it would be helpful to the market to understand, I get that oil prices rise and some of the customers push back a little bit and all that and it walks up a little bit but are you below a nickel, having absorbed more - a couple pennies?

We remain below a dime Mike, this is Greg speaking, and I think that, you know how much we've sort of talked about it. There was a lot of noise in the industry a quarter or two ago about pushing through the zero point and getting to charge in. We made our endeavors to try and do that and we did charge customers for a while. But it's very difficult to be out all alone doing that kind of thing.

As I think we've talked about before, there's sort of a non-symmetry or nonlinearity in customer's perception about price. And if one company is paying $0.10 and another company pays $0.05, that $0.05 a gallon difference doesn't seem huge in the mind of a customer.

When one company is paying $0.02 and another company is charging $0.03 that same $0.05 is very large in the mind of the customers. They shift from getting paid for this commodity to having to pay entirely for the service of getting rid of the waste. And it's very difficult for us as a small player to be out in front on that and being the only one taking the plunge to charge. And so, we remain interested in doing that, we think that that's what's needed to restore our margins in the current situation to something that we'd be more comfortable with but we've been unsuccessful in moving past that zero point in the face of reluctance by most other competitors. So we're going to keep watching that keep testing the waters.

So okay, fair enough. So would you expect to in this dollar range of oil up to 60 that you should get closer to zero than you are now? Forget --

Michael, this is Joe here.

Hey, Joe.

Hi. If you go back to the beginning of the year, we've had crude drop in January and then picked up the close to $15 from the low point $13 to $15 a barrel and it stayed there. And we track Brent versus WTI and Brent for us reflects better value of the product produced not only with -- from us but also in the oil industry and then it stays there for a while and what happened in the market, and I think Greg covered this enough, but there was quite a bit of drive to lower, initially to lower, the price we pay for the used oil and generally speaking the market, but then when crude went up, people started coming out and competing fiercely. So we've had to make some changes.

And now recently crude has dropped to almost to the level it was back in January. And so I would tell you for the industry, the whole industry if oil stays where it is, there should be a measurable fee for the service in today's cost structure and collecting and processing whether you are making RFO or lube oil.

Now the recent drop in crude has not affected the price of lube. In the same way as when crude went up earlier in the year, every other product RFO went up, the light oil went up but lube oil didn't go up and so my view is on under today's group, there should be a measurable service fee so that the spread would be restored to where we've seen it three, four years ago.

And certainly with the trend in crude in the last month being down by $10 a barrel we think that we're attempting to get our pay-for-oil down in the short-term from where it was, a month or two ago.

Okay. And I get the analogy of $0.10 going to a $0.05 easier to do than $0.03, $0.02 going to being paid $0.03, but is zero a practical objective in the near-term?

Zero is a practical. I mean, whether it's -- Michael whether we were $0.03 or $0.05 or zero, it doesn't swing the economics in a big way. What I was trying to say earlier, I mean, there should be, today, there should be a fee for the service about $0.15. Again, we're not talking about the swing of $0.05.

To piggyback on Greg's comment, I don't think any of us believes there's a difference in the psychology of the generator or the customer's mind between getting paid zero but not being charged or getting a couple of cents. It's when you go to charge where it becomes that much harder.

And we have been historically, I think we've mentioned this in the past, we have been there. The industry stayed with the chart for a long time, but it's important for the leader of the industry to take the initial steps. We have a reasonable balance in our volume and we're waiting to see what's happening.

And it is obviously a customer specific sort of calculus. So where we are today we have many customers at $0.03 right now. And we have some that are on different indexes where we have to pay them a little bit right now. And you know so if we're not able to push through in a big way to charging people then we'll get a lot more customers to free but there will still be some on indexes that will get paid $0.01 or $0.03 and that will perhaps keep us just marginally above the free line if we drive as much as we can to free.

Fair enough. Yep, absolutely and thank you for that added color. Mark thanks for the gallons on processed and sold. Could you -- you shared last quarter RFO's sold, could you share what that -- what the RFO gallons were?

Yeah, it was about $6.2 million.

Okay and are you -- I think when we were together in the middle of June you shared that because of what was happening in your efforts to lower price and ultimately get charged for it, that kind of run rate legacy company at $45 million plus the $55 million from FCCE. You're not at $100 million collection rate now, you're probably more like an $80 million and $90 million. Is still a truism?

Yeah we're probably in the range. Again until we get through a full season or not season, a full year, with the combined companies, there is obviously some play in those numbers but we had set that last quarter we figured we were $80 million to $90 million that's where at least I've been telling investors and analysts and I think that's still the range.

Okay. And then I just want to make sure I understood the solvent fuel comment. So 29.7 margins I take may point out, take 250 that puts me at sort of what is that 27.2. Is the 250, kind of at this current environment a consistent benefit in 3Q and 4Q? Is that the way to think about it and therefore the underlying is somewhere in that 29.5 to 30 kind of range, is where you are as you make incremental progress in your synergies.

I think, so yeah.

Okay. That's the way I think about it. Okay and then -- go ahead.

Yeah, sorry Michael, the synergies are pretty well down, but still a little bit but not much. I think the biggest factor here in the future is going to be our continued growth into the existing branches by adding further volume on the footprint that we have. And also it depends how much we invest into resources to expand headcount to add more business.

Okay. So we should look at this now as a sales per branch average that trend should start to improve as you drive the operating performance of cross-selling and full utilization of underutilized assets and the acquired companies, things like that.

Yeah, exactly.

Okay.

Yeah, that's how we're going to continue to get even -- once we get one year through the FCCE deal, the double-digit top line growth in that segment.

And we -- that underlying structure organic growth has been 10% or better, it's been much better but 10% or better on a historic company, should carry through going once we anniversary. That's sort of --

(Inaudible).

Okay and then G&A, just so I'm clear, should we be thinking about G&A somewhere between $10.5 million and $11 million a quarter for three and four.

Well, how four --

Well, yeah, right, right. That's my favorite subject, Joe we have to talk about this.

But that rate for a 12 week quarter, it's probably in that same range.

Right. Okay, so take 10, 11.5 divide by 12 and its 16, is this year, right, 16 weeks.

That's right.

Yes, go only once every - 16.

Yes, it's going to make the little hair I have left all fall out I'm sure. And then last thing on the synergies maybe Joe, you kind of answered it, I kiddingly always keep saying, so this is going to be 30, but in practical reality, what really talking is to maybe 22 ends up around 25 and that's sort of the way to think about it, is there might squeeze a little bit more out, but that's it.

Yeah, on some of stuff that we have left, you know some of it like consolidation of some branches, we got to get off leases and there are permit issues and they're going to pick -- the bulk of this stuff is [done] and the rest is going to be noise over the next year or so.

Okay. So now I have the sort of this [firm oil] question I'm going to ask because I missed the very beginning. Are you all happy about the quarter because I was on another call? So are you pleased with the state of business?

Yeah, I'm very happy with the quarter and the thing that gets me -- first we've achieved and better than achieved our synergies and that we had forecasted. The FCCE acquisition, we confirm that was a very good acquisition, basically four times EBITDA and gives us 30,000 customers we can keep building our ES business on and that's going to take us quarters, I mean, it's going to take long-term. It's hard to develop 30,000 customers. And so we're very happy with that. We're not -- and the oil business we're happy that we were able to deliver the productivity that we had planned without the FCCE acquisition it would have taken us three to five years. We did it quickly because of the acquisition.

We got more supply, we got into the RFO market, FCCE gave us terrific logistics, so now half of our oil sales are into the lube business and the other half I include the by-products of refinery that is not lube that are related to the fuel in the RFO market. So we're almost half-half. So if especially in lube, and crude goes up, we get the benefit of the RFO sales in the spread there. So and we got great logistics. So the only thing short-term is stability of oil, but we are where we are and we see, when we -- where the oil would be here for the balance of the quarter.

I'd add to Joe's comment that one of the things that I think we're also pleased about is that we were able to do multiple things, execute well simultaneously. So we have this huge task of this acquisition integration and achieving synergies, which we think we did well, but we didn't lose sight of maintaining ES growth. And as Joe commented on, in the branches where we did not gain business through the acquisition, we still booked 12% annual growth in Environmental Service revenue which is a pretty exciting indicator for us that we're still in the field, able to go out and deliver new customers and cross-selling and price increases and all the things that we've historically done that it made ES such a great business for us.

Oil remains a challenging situation. I think that we've managed a dramatic downturn in values pretty well. You know, we bought FCCE at a time when oil prices were collapsing around us and what we had inventory charges the business has sort of been stable. We've done okay in retaining customers and volumes and keeping that from being something that punished us as we're continuing to grow the ES business, which we point out today our ES business really is two-thirds of our revenue and of the business focus. And so it's something that continues to be the driving force for the company going forward.

Okay. And the last set of questions is on oil specifically. You are still planning on phasing in the incremental 10 million gallons? There's some equipment tie-in so should we -- we should we mindful of that in thinking about what our capacity utilization looks like through the second half? That's sort of the opening part of that question and would you have us err towards that being in 3Q or 4Q?

Well there's two pieces to the -- what remained in the expansion. There's two -- I don't want to get too technical, Michael, but there is a hydrotreating unit and there is a vacuum distillation. We have just here recently, this quarter we have commission the new hydrotreating equipment, the expanded one and -- in the last quarter. We're going to commission, the front end of the plan, the vacuum distillation, and when the second piece will be done then we'll get the full 75 million gallon capacity. But with the hydrotreater being extended, we may get a little bit more in here. And, so we'll review it with you when we finish the quarter.

Okay. So just so I am clear you have already rolled -- interfaced the upgraded hydrotreater. You still have to put the distillation column in and there's -- so I might say a little bit more volume. But more importantly, you've got one phase left to finish the capacity expansion?

That's right and that will be done somewhere between now and end of the year we're going to gradually get up and definitely after we do the distillation unit in the fourth quarter, we'll get up to 75 million gallon. So as we enter the new year, we will have another 10 million gallons of throughput.

Okay. So just again back to my question about for phasing and capacity utilization. 3Q could be better capacity utilization than 2Q because you did the installation of the hydrotreater in 2Q and 4Q could dip again because you're going to be installation of the distillation column in?

We, you know, if we do it early enough in the quarter, we'll catch up.

Okay, okay. Fair enough.

Didn't we do the HT in Q3?

Yeah, this quarter here.

Yeah, so the hydrotreater connections in Q3, Mike.

Oh okay.

We did have in Q2 we had an extended shutdown because of that.

Yeah, that's why we weren't at 100% probably, we're at 98% in Q2 because our shutdown in our fifth period was a little longer.

Yeah, and then -- there's still some work and it depends on when do you tie certain things in and we always don't want to disrupt the regular operation in any big way and so we're doing incrementally.

Okay. Fair enough. Thank you for taking my questions.

Thank you.

All right.

Thank you. Our next question comes from the line of Sean Hannan with Needham & Co.

Can you folks hear me?

Yes, we can hear you.

Okay, great. Good morning, thanks for taking my questions. So I think a number of mine have already been answered. Maybe if I go back and address some topics that I think that have been hit on just for additional clarification. Specifically, the PFO, it sounds like obviously breaking over to a, or moving over to, a charge model, there's plenty resistance there, a lot of, I think other folks in the industry have talked about it, but it sounds like there's just too much resistance to get there. But then when I think about on the pay side, you know where you're paying and then in the context of the -- what your sales force is seeing out there in the field, can we get some color in terms of what you're seeing or witnessing as a general range? Is there a rational behavior in terms of the prices that are being paid or is there a widespread or are there wildcards that are affecting some of those dynamics? Can you provide some color around that?

Yes, I don't want to, the word wild is very, very strong, Sean but I think generally speaking I would say there is a rational behavior, generally speaking. But there's still a range and I'd tell you we haven't done a lot of acquisitions, but we have done some acquisitions, one of the big one is FCC. We had done a couple of other smaller acquisitions and every time we do an acquisition we find that we're the lowest price on the block. And it was $0.10 a gallon difference between us and FCC when we acquired FCC and -- so we don't see charges, and -- but it's still rational because the price has dropped from close to $1 a gallon to where it is now.

So the bulk of the stuff is the spread people couldn't sustain, the industry couldn't sustain itself, with this wide, the reduction of the price of oil. But I think the industry is pretty weak as far as its performance and margin. And we can't, you know we don't dictate what the price of oil is, but we provide a service and you know we think that there should be a service fee at today's price of oil.

I wanted to also comment on your remark about sort of reluctance or resistance to move to a charge because I think you understand it pretty well. But the sort of a hump that the industry needs to get over. There's not an intrinsic price at which consumers, or generators if you will, are going to say, now I won't give you my oil anymore. It's all based on what the competitive offers are that they see and where crude oil has been in the last few months, we still have competitors who think that they're surviving if they pay a little better at [3]. Crude moving down another $10 or $15 of barrel might be what it would take to get all the collectors to say we can't survive in a free price environment anymore and we have to charge. And as soon as that happens I think you'll see the industry sort of get over the hump and everybody start to charge and implement that sort of that's the new normal for generators.

So, you know, we can't control when that will happen but that or more disciplined behavior by industry leaders to say that they're ready to restore margins or the things that are going to get the industry there.

Yeah, well, obviously we've, and I think you had alluded to this earlier, seen some pressures around crude very recently and I think there's a lot of conversation around striking a deal with Iran, they're having some impacts there. And so I guess it would seem that there should be you know incremental behavior changes at least in the field today or [recently] or developing real-time that we might be able to ask for observations on, we just feel that that's fair.

If oil stays, you know, where it is now the answer is yes. I mean, the oil has moved up a little bit. I haven't looked at the numbers this morning but the last couple of days it's went up a little bit and -- but if it stays where it is, yes, the answer is yes. If it goes back to where it was four to six weeks, even four weeks ago, then the pressure to move down won't be as strong. Sorry go ahead. So go ahead.

Yeah, I know that's -- I'm sorry go ahead and please do finish.

Yeah, I mean, Greg, I think Greg articulated this pretty good, if crude drops further, by another $10, $15 that will make our life a lot easier quite frankly. And the issue we have if you are at the stage where it doesn't - branches at $60 or $65 a barrel and it's pretty hard to go into a sustained charge in today's environment and because then you say, well if crude goes up to $75, I'm going to be making, you know pretty nice margins. But if you're down to $35 a barrel then, it's pretty clear. If you want to stay in business you got to charge. Once we get into a charge, the cycle for the customers, whether, it's getting, a charge of $50 every quarter or $25 a quarter you're getting -- he's got to pay. But right now, the customer doesn't want to pay when somebody is picking [that] for free. And that's a big -- it's an important step, a logical step, for the customers.

The other thing we see and I'll try and describe this, we've been through this several times before in our collective experience in the industry. There is a small amount of storage capacity that all these generators have. And -- so when the market initially switches, the crude would have drop $10 tomorrow and we all as an industry said, we're going to start charging customers. Its rational customer behavior to say well let me wait two more weeks and see what happens next. Because their mindset is oil as a commodity, has got value that's been ingrained in them for the last decade and they're not willing to start paying for it yet. And so when we move to a charge, we not only have to be prepared to move to a charge, but be prepared to outwait the customer's capacity to hold their inventory.

And that means waiting two months or three months with slightly reduced collection volumes. When I've seen this before, volumes drop off by 15% or 20% in the first couple of months before they recover and if the industry blinks, the little collectors say, oh my God, I see my volumes going down, I'm in an awful bind, I guess I better go back to free or start paying again, then that's what happens. And so you know again, I've been through this, our teams been through it. We know that when we start charging some generators will outwait us, they'll effectively let our truck show up and say we're here to pick up your oil today and the charge is $0.10 and I'll say, well, if that's the price, come back in a month and I'll see if it's still your price.

Yeah, in reality between 1986, 1987 to -- past 1998 these are 12 years, there were charges. We were charging $0.25 to $0.40 a gallon for the oil. And so it's not a new thing for the industry and -- but we have to be careful we don't lose significant volume to the competitive market force and take a lead at that this, and effect us in our truck productivity.

Sure. That's helpful, thank you. And then two last questions here. If we were to assume a steady state in terms of where crude is today, first, part of the question is, what would we be looking at in terms of on inventory breakdown, say for next quarter. I'd assume it would be fairly small? And then number two, how we're operating today in kind of a steady state? What should we consider as kind of a normalized margin range? I think this has been previously viewed as kind of a 5% to 10% pre-SG&A, maybe towards the lower end of that. So if we can get some clarification around that that will be helpful. Thanks.

Well, as far as the inventory adjustments for Q3 I wouldn't expect a ton. First of all, you know there are lags in the business and we're talking - Greg had mentioned earlier in the call as far as our movement on PFO and it's not as if there's $10 to $12 a barrel price decline that's been here for three to four weeks. The minute after the market in general sees that there is an adjustment immediately in pay-for-oil and we're already one period or one four week cycle into our quarter.

So our route efficiency, we don't expect to have -- you expect over quarters and it would be very incrementally. We expect to with seasonal adjustments, grow our volume, but in general we shouldn't see that, which was the big driver in the Oil Business segment in Q2. So I wouldn't expect much. And what was the second part of your question?

The margins --

The margins you know, I still think the lower end of that range is what we can expect. You know we're kind of in a period of transition based on the factors we were just talking about. But that would be my guess, not at the high end of that range, but near the lower end.

Okay. That's helpful. Thanks very much for taking my questions.

Thank you Sean.

Thank you for your time and interest. We are all grateful for your support. We do invite you to join us for our conference call. Ladies and gentlemen, you may all disconnect. Have a great day.