Stericycle Inc (SRCL) 2005 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Stericycle Second Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. If anyone should require assistance during the conference, please press star then zero on your touchtone telephone.

As a reminder, this conference is being recorded. I would now like to introduce your host for today’s conference, Ms. Liz Brandel, Vice President of Finance. Ms. Brandel, you may begin.

Thank you. I will be reading the Safe Harbor Statement. Statements by Stericycle in this conference call which are not historical are forward-looking. Forward-looking statements involve known and unknown risks and should be viewed with caution. factorsdescribed in the Company’s Form 10-K, 10-Q, as well as its other filings with the SEC, could affect the Company’s actual results and could cause the Company’s actual results to differ materially from expected results. The Company makes no commitment to disclose any revisions to forward-looking statements or any facts, events, or circumstances after this date that may bear upon forward-looking statements.

During the conference call, we may refer to our total debt to capitalization percentage. This is calculated by using the total debt as the numerator and the total debt plus shareholder equity in the denominator. We consider this ratio to be a good indicator of the strength of a company’s balance sheet. It is not a measure in accordance with GAAP accounting principles and is not a measure of net income, cash flow, or liquidity.

And with that, I’d like to pass the call to Mark Miller.

Thank you, Liz. Well, good afternoon and welcome to our second quarter conference call. With me today are Frank ten Brink our Chief Financial Officer, Rich Kogler our Chief Operating Officer, and Liz Brandel, Vice President of Finance.

Once again, we are pleased with the results achieved by our team in the second quarter. Net income in the second quarter was $23 million and EPS was $0.51. For 36 consecutive quarters since our IPO in 1996, we have either met or exceeded expectations for our Company’s performance.

For a brief overview, I’ll turn the call over to Frank.

Thanks, Mark. Revenues grew $25.4 million in the quarter to $149.1 million, up 20.5% from $123.8 million in the second quarter of ’04. Contributing to the $25.4 million of growth, small quantity, our most profitable sector, was up approximately $6.3 million or over 9%. Large quantity revenues were up approximately $2.5 million or 6%. International equipment sales were down by approximately $2.9 million in the quarter versus the prior year.

Acquisitions less than 12 months old contributed approximately $17.2 million to the growth in the quarter. Excluding international equipment sales and acquisitions, the internal growth was over 8%. Customer revenue mix was approximately 63% in small and 37% in large customers. As in the past, this mix is calculated excluding international operations, 3CI, and acquisitions.

Year-over-year gross profit as a percent of revenue was 43.8% in the quarter versus 44.7% last year, due to the mix effect of the White Rose acquisition in June of ’04 and lower equipment sales. Gross margins were sequentially up by 42 basis points as the result of continued improvement in our base business, both domestically and internationally, partially offset by lower margins on the new acquisitions and continued operating costs headwinds.

SG&A excluding amortization was 15.2% of revenues or $22.7 million in the quarter. Income from operations in the quarter was $42 million or 28.1% of revenues. Net interest expense in the second quarter was $3.1 million versus $2.5 million in 2004 due to higher borrowings.

As previously reported, on July 5th, during the second quarter, we obtained a new $400 million senior unsecured revolving credit facility. As a result of the new credit facility, we had a one-time charge in the second quarter of $0.2 million from unamortized finance fees related to our prior credit agreements.

Other expense in the quarter was $0.9 million versus $0.5 million in the prior year, due to the non-cash mark to market on the inter-company loan with our U.K. subsidiary.

Net income for the second quarter was $23 million and EPS was $0.51 for the quarter versus $0.41 last year.

Now the balance sheet-- Our debt to book capitalization at the end of the quarter was 33.3%. At the end of the second quarter, the revolver was $199 million. As a result of our new credit line, we no longer have a Term A loan. The unused portion of our new line is approximately $158 million.

During the quarter, we repurchased 117,600 shares of common stock on the open market in an amount of approximately $5.2 million. This difference from the cash flow is due to funds going out in early April for the end of March repurchases. Cumulative we have now bought back 1,997,630 shares.

In the quarter, our CapEx was $7.4 million. The DSO in the quarter was 51 days versus 47 days a year ago, due to some of the new acquisitions, which did not include working capital and invoice timing.

Now some balance sheet numbers-- Cash and equivalents, $11.2 million. Accounts receivable, $86.2 million. Current assets, $139 million. Total assets, $910.5 million. Short-term debt, $8.3 million. Long-term debt, $245.8 million, with a total debt of $254.1 million. Net worth, $508.7 million. Depreciation in the quarter was $4.8 million, with amortization of $0.4 million and, as mentioned, total debt to cap was 33.3%.

Now a brief recap of the 6-month numbers-- For the 6 months ended June 30th, revenues increased to $289.7 million, an increase of 20% from the same period a year ago. Gross profit as a percent of revenue was 43.6% for the 6 months ended June 30, 2005, versus 45% for the 6 months ended June 30, 2004.

EPS increased 20.7% to $0.99 per share from $0.82 per diluted share in the same period a year ago. Cash provided from operations for the 6 months was $57.1 million in ’05.

This concludes the financial picture. I will now turn it over to Rich Kogler.

Thanks, Frank. I want to begin by recognizing the operating team for their strong performance this quarter. In spite of continued operating costs headwinds, they once again delivered solid gross margins.

During the quarter, all of our operating locations stayed focused on their individual productivity and cost containment strategies. We’re particularly pleased that we have nearly completed the internalization of our volume into the new Baltimore plant. This will eliminate long-haul transportation and third-party treatment costs in that district. A special thanks to the Baltimore operating team who worked continuously throughout the quarter to ramp up the new plant.

We also thank the sales team for their performance in the quarter. Because of their hard work, we saw growth in all areas with increased SteriSafe and LQG revenues. During the quarter, we focused the SQG team on up-selling of new and existing accounts into the higher level Steri-Safe programs. In Q2, over 36% of the new SteriSafe customers chose select and preferred. And versus the prior quarter, we increased the percentage of total accounts on the premium level from 10.5 to 11.5%. Because the higher level programs offer significant benefits to us and our customers, we will focus more attention and resources in the future to drive this area of our sales program.

Equally important, we are pleased that approximately 41% of the SQ revenues in the quarter came from SteriSafe. Based on the results at the mid-point of the year, we remain comfortable with our previously announced 2005 goal of 42 to 43% of SQ revenues coming from the higher margin SteriSafe program by year end.

In the quarter, our large account team secured 52 new LQG Medwaste contracts, and they signed 62 new Bio Systems accounts. Based on their year-to-date results, we are comfortable that they will achieve now between 240 and 300 new Bio Systems accounts.

In summary, we ended Q2 with approximately 328,600 accounts, of which 321,000 were small and the remainder were large. And I’ll turn it back over to Mark.

Thank you, Rich. Well, clearly, we had another exceptional quarter. I’d now like to provide some fine tuning to our 2005 guidance. Please keep in mind that these are forward-looking statements.

In addition to the 4 acquisitions that we previously announced, we have since closed 6 more acquisitions in the second quarter. These consist of 2 in Mexico and 4 in the United States, of which 1 was in the pharma returns business and 3 were medical waste services tuck-ins. The incremental revenue impact in 2005 for these latest acquisitions will be over $7 million.

During the quarter, the dollar strengthened versus the prior guidance assumptions. Our advised guidance assumes current exchange rates.

We anticipate gross margins for the balance of 2005 to expand quarterly by 30 to 50 basis points, even with the impact of blending in these new acquisitions at lower initial margins and the international mix effect. Interest expense will be higher as a result of the acquisitions and the higher interest rates expected in the second half of 2005, partially offset by the effects of the new credit facility.

Keeping these in mind, we believe that analysts may revise their estimates for EPS to a range of $2.07 to $2.09. This assumes an average share count of approximately 45.3 to 45.5 million shares for the year. We believe that analysts may raise their revenue estimates for 2005 to a range of approximately $591 to $596 million, with modest variations depending on assumptions of growth rates and foreign exchange rates.

These estimates would include growth rates on small accounts of 8 to 10%, up 4 to 6% on large accounts, which includes the additional 240 to 300 new Bio Systems accounts and $0 to $1 million on international equipment revenues, all consistent with our prior guidance. We believe analysts’ estimates will have estimates for net income between $93.4 and $94.5 million, and analysts may adjust their free cash flow estimates to a range of $106 to $112 million.

In closing, we are very excited about the tremendous opportunities in 2005 and beyond. We continue to grow our business on multiple fronts with success in SteriSafe, Bio Systems, and internationally, and collectively they will drive revenues, margins, cash flow, and create significant shareholder value.

We thank you for your time. That’s the end of our prepared comments and, operator, we’re now open for question-and-answer.

Thank you, Sir. [CALLER INSTRUCTIONS]. Our first question is from Amanda Tepper from JP Morgan. Your question please?

Hi. This is Scott Levine for Amanda. Quick question on the White Rose business and cross-selling opportunities there. I think you talked last quarter a little bit about opportunities to cross-sell into that market or cross-sell similar type programs into that market. I was wondering how things are proceeding on that front.

White Rose has done very well. As you know, we did the initial acquisition in June of last year. The business has continued to progress and they had a very solid quarter. We do see their mix starting to move a little bit. The original mix was about 90% large quantity/10% small, and now with our activities, small is up to about 12%. And we’ll continue that as our primary focus through both internal growth and selective acquisition activity as well as looking at cross-selling. And, as we mentioned in the last call, we also have a reusable Sharps program in that market as well.

Okay. And with regards to the buyback, third quarter we’re seeing some increased activity there. And I know you’ve mentioned that you’re going to look at it more from an opportunistic perspective than putting definitive parameters on that. But I was wondering how you’re going to be looking at that the next couple of quarters. Obviously, the stock has gone up considerably in the last quarter.

Well, for us, buyback is one of the uses of cash proceeds. We, as you know, in June upped our capacity and our debt because we see a very target-rich environment on acquisitions and also investment opportunities in our core businesses and, as well, opportunistic. We’re looking at stock repurchases, but our priority would be 1) invest in our business, 2) look at acquisitions, and third would be stock repurchase. We’ve done, as mentioned in the call, 10 acquisitions in the second quarter. The pool remains very robust and has actually expanded.

Okay. Thank you very much. I’ll get in line.

Thank you. Our next question is from Kevin Monroe from Thomas Weisel and Partners. Your question please?

Good afternoon. I’m just wondering if you could give us a little detail on your efforts to--in terms of the SteriSafe program, are the bulk of your new customers in SteriSafe coming from new customers coming in or are you converting non-SteriSafe small customers on to SteriSafe, and kind of what are your efforts in converting those non-SteriSafe people?

It’s coming from both. We’re capturing conversions from existing transactional into SteriSafe, and I think that’s really exciting to us, although early in the learning curve is the fact that on our conversions, as Rich had mentioned, we had 36% of what we captured were in the higher level programs.

And, Kevin you’re aware of this, but for others on the call who may not be, that is very important to us because essentially 1 customer at a preferred level is equivalent of 10 at the smaller entry level in terms of its incremental impact. So a key focus for us, but we have a long way to go. We’re only at about 11.5% of our SteriSafe in the higher level programs right now.

Okay and another question on it-- you mentioned you did a pharma return acquisition. Can you give us maybe a little more color on that?

Yes. As we had originally talked about, our pharma returns business as we began this year, our expectations were originally to achieve $1 to $2 million in revenues as we launched in 2005. The business that we bought has an estimated run rate of over $4 million. We’ll get about $3 million impact in ’05. So our new expectation level for 2005 would be a $4 to $5 million revenue contribution.

I think the-- probably the more important parts as we look further into this business and we look at the toolbox that we have, a) we believe this is a very robust business in terms of being able to service the customers in each of the segments, that it has solid margins, and that it’s something that we’re going to be investing in not only in internal growth but also in expansion through acquisitions.

Great. Thank you.

Thank you. Our next question is from Greg Halter from Great Lakes Review. Your question please?

Hi guys. Relative to energy costs, Frank, I didn’t hear a specific reference to what kind of headwinds or challenge you have there. But if you could elaborate a little more, I would appreciate it, and if you see any abatement in that or just what the current environment is.

Yeah, I think the energy still keeps going up. I mean, obviously, Q2 to Q1 energy was a higher factor. And if you look at it from a dollar point of view, definitely probably about $300,000 and in total about 30 basis points from a point of view and the [view] on the energy side. So it is a factor. We are, obviously, trying to counter it through the pass-through mechanism. At the same time, obviously, productivity and a lot of factors play in on that. And, as we said, our margins did increase from that point of view and then we were able to counter those headwinds.

Okay. And on the international equipment revenue side, obviously, you’re indicating I think $0 to $1 million and it has been higher than that in the past. Is that a function more that you’re actually making acquisitions internationally or what’s really going on there?

The reason that we took the guidance down in 2005 for the equipment sales is just timing of various permits and build-outs. This is the completion of the third facility in Japan, which we had spoken about before. And as we look at more marketplaces, such as Mexico expansion or the U.K., we’re actually going in with full ownership as opposed to the straight licensing structure. So there is less in terms of the equipment sales in our current geographies we’re working in on our business model.

But that could change as the permitting comes into play and so forth?

Yes. For example, if we were to look at either a new geographic area or a new permit coming forward, that could expand on the international equivalent. But for 2005, based on timing, I wouldn’t expect anything in the latter half at this point.

Okay. And relative to competition, I just wondered what you’re seeing there in terms of the level and also the whole situation with Waste Management, which came up several months ago, with what you’re seeing relative to that company as well.

Well, first of all, in terms of what we see in the field, I haven’t seen any meaningful change in activity. As we talked about in the last call, they have the on site offering in their relationship with Sanipac. They have the mail-back program. But we have not seen any meaningful change in their focus of activity in that space.

Okay. That’s good, good to hear. And, finally, relative to the suit you have out West, anything new to reveal there?

No. There is really no change and our position is still as it’s always been, which is that we are strongly defending ourselves and, besides that, we really don’t comment on pending litigation.

Okay, great. Thank you and congratulations on very good results.

Thank you. Our next question is from Lorraine Maikis from Merrill Lynch. Your question please?

Hi. This is [Julie Shopshear] calling in for Lorraine Maikis. I was wondering if you could give us an update on progress on any new client wins for the pharmaceutical direct returns business.

Yes. The client capture during the quarter, we were able to win accounts in all of the various sectors, in hospital customers, the retail space and manufacturing space. It’s one where we have seen the value of the software toolbox, which has the ability to give them better information, better capture. We’re also in the process of going through a number of proposal dynamics with other customers as well.

So I think we’ve convinced ourselves that the offering that we have has a great value proposition to our customers. It has value in each of the spaces, and now it’s a matter of we’ve got to go out and take them one at a time and capture a base of business, and it will take them time to make their decisions as they go through their evaluation process.

Great. And coming now to your Bio Systems program, when you’ve pitched the program and not been awarded the business, what have been the reasons the clients have given you?

In terms of reasons of not being awarded, I can’t think of too many where we’ve had that scenario. I think typically if it comes to a point of somebody saying, “I don’t want to proceed,” it’s really more of a timing factor of when they’re saying, “Right now given everything we have on our platter, we don’t want to tackle it.” And sometimes they may have an internal program or they’re trying to revamp a clinical service. They may have a full task team effort on preparedness evaluations, but it’s usually more of a timing or prioritization as opposed to, “We don’t like the idea and we don’t think the concept can work for us in the future.”

Great. Great. Now what is the gross margin run rate for customers that you have signed on?

With the large quantity space, we’re running [north] of 28% gross margins.

Great. And your goal for margin expansion for the next two years, what are you aiming for?

In terms of our goal on margin expansion, we haven’t quantified it by a timeframe. But, for us, we’re looking to go from where we are in the high 20’s to the mid 30’s over time, and, obviously, that takes a lot of time with the number of customers we have, but clearly see that there’s a tremendous value proposition to our customers in that space.

Great. Thank you very much.

Thank you. Our next question is from Alina Cellura from Citigroup. Your question please?

Hi. Citibank. I know you were talking about fuel and energy costs, but I was just curious what percentage of revenues that was for the quarter.

I think if you look at the total energy between the two, it’s a little over 5% of revenue.

Also, has there been any change in the acquisition pipeline in the U.S. or maybe in the U.K.?

Well, as Mark indicated, the pipeline is robust. It is right now slightly over $50 million, despite the ones that we’ve done, so it’s an active environment.

Also, just more specifically in the U.K. I mean are you seeing potential small customer acquisitions or small quantity generator acquisitions in the U.K. in order to increase the percentage of the White Rose acquisition?

Yeah. If you look again, we normally don’t include in the pool the international environment like the U.K. because those markets are too small and it would be too obvious, but there is activity all through as you’ve seen. We’ve done one in the United Kingdom. We will grow in that country, both geographically and specifically, and also in Mexico we see opportunities continuing. In both countries we try to focus on growing the small quantity generator business, and that can be done both internal as well as through acquisitions. So people there look at both sides of the fence and that’s a good way for them to grow that profitable sector.

Okay, and then just lastly, just curious what is your blended cost of debt?

Cost of debt right now, let me look at cost of capital overall, but we’re probably in the somewhere between 10 to 10.5 weighted average cost of capital, but the LIBOR right now for us is sitting on a 1-month at about 3.7 under revolver. As we have right now, we’re 75 basis points over that, so we’re at about a 4.5 kind of on the debt rate. That is expected to go up, clearly, over the next quarter still. We anticipate there will probably be at least one or two steps up still in that environment in the remainder of the year. We do have some other debt outstanding to people that we bought businesses from and those range around the same kind of rates as the LIBOR plus rates.

Okay. Thank you.

Thank you. Our next question is from Robert Willoughby from Banc of America. Your question please?

Yes. This is [Ed Jackson] in for Bob. Most of my questions were answered, and I’m not sure if you got this one, but do you expect the share repurchases to pick up in the second half of ’05 after the sequential decline this quarter?

On share repurchase, we don’t give a forward projection in terms of quantities because we’re a little bit at odds with the buy set. Obviously, it’s our interests and all of our shareholders’ interests to try to buy them at the best price as we see fit at the appropriate time. So we specifically don’t give a forward outlook as to quantities or trigger factors, but there are a number of things that we look at in terms of how we’re applying our capital and returns, but, unfortunately, we can’t give you a forward look.

Would you say the acquisition spending comes ahead of the share repurchase in the two you’re prioritizing?

If we’re faced with a situation of having to decide either/or, we would put acquisitions, obviously, in front. But in terms of the capacity, one of the reasons we expanded our capacity is so that we have more degrees of freedom to take advantage of robust acquisition opportunities, investing in our base business, as well as being able to [restock repo].

All right. Thanks. That’s it.

Thank you. Our next question is from Matt Litfin from William Blair & Company. Your question, Sir?

I wondered if you could talk about timing of acquisitions. First of all, just as a clean-up, can you confirm that the 6 acquisitions were done in the June quarter? And I guess the second part of that question is can you give us some thoughts on number of accounts brought on revenue from non-pharma return acquisitions, etcetera?

Yes. I’ll try to give you a breakdown. Of the incremental revenues where it said $7 million more of revenues than our guidance revision, those were of the 6 acquisitions done in the June quarter on top of the 4 acquisitions that we had talked about in our last call, so in total during the quarter, 10 acquisitions. If you look at those 10 combined, the annualized revenue stream of those 10 is about $25 million annualized and, of that, as I mentioned earlier, the pharma returns portion, a little over $4 on an annualized basis. So you got about $21 of the $25 that was Medwaste.

Okay. And can you guys parse out the LQG revenue growth rate by the Medwaste’straditional business versus Bio Systems? How did those two contribute to that growth rate?

In Q2 if you were to back out Bio, the large quantity was up a little over 1%.

Okay. And then, lastly, Mark, what can you tell us about the sales cycles at Bio Systems and what you’re doing with your sales force there as that business ramps up?

Actually, Matt, I’ll talk to you about that if I can. What we’re kind of seeing is that it’s still a committee sell, and so it’s still a measured process and it takes time. I think what we are seeing now in certain geographies is there is some shortening of it as it becomes more of a referral, or when you get established in one or two hospitals within the group, then the cycle moves quickly or quicker. But it’s still a process where you need to kind of bring together everybody in the hospital to make the decision and it’s not something that you could ever do in a matter of a couple weeks. On the other hand, once the business is established, it’s incredibly sticky. And people that have it enjoy it and they keep it for years and years, which is a benefit to us.

Great. Thank you.

Thank you. Our next question is from [Mark Epalinsey] from Alliance Capital. Your question please?

Hi. Good afternoon. On the fuel, how much of the fuel increase could not be passed on in the form of surcharge? How much would you have to eat?

I think the fuel, again, there is only a slight delay in that, [Mark], but we have been able to pass it on with just a slight delay. So it’s a matter of time, but it is definitely from that point. You’re talking the delay factor on 15 to 20% of it [maxed out].

And the margin impact from Baltimore being online now, is that meaningful? Is that noticeable in results going forward?

Yes. I think if you look, Q2 over Q1, we probably improved roughly $100,000 as a result of the internalization and the completion, and anticipate that that will obviously carry through the second half with a little bit more. Over the whole second half, $90 to $100 more, and that’s thousand dollars.

And the acquisition pricing, what is pricing doing? And I guess these are smaller ones you’ve been doing. Are you looking at larger acquisitions as well?

First the pricing question-- I mean, again, the range that we’re having is very similar to the past, anywhere from ranging 3.5 to 6.5 kind of range. And so, from that point, we still get synergies obviously, and that historically has again been about a half to full-time multiple of those. So, again, all in the right range.

Did we look at larger ones? Again, we look at opportunistically at all kinds of deals, and I think that the spectrum is growing with the businesses that we look at. We did the pharma return business. Obviously, we continue to look for the strong tuck-in acquisitions, and that’s done both domestically as well as in the U.K. and Mexico. But many of the ones in the pool right now remain I would say from a definitional point small. But as a result, a small one can be more creative, than a big one.

And have you given guidance yet on pharma returns say this year or next year what you expect from it?

Well, as Mark indicated, this year because of the acquisition, we had previously said about $1 to $2 million for the year, but that now is increasing to $4 to $5 million for ’05. We will give more guidance later in the year when it comes to ’06.

And, lastly, on outsourcing, how much tonnage is still handled on the large quantity side in-house and could still be outsourced one day, and do you think will be outsourced one day?

As far as the outsourcing dynamic, you still have roughly a third domestically, and most of North America about a third. We’ve seen that continue to move slowly but surely towards outsourcing. I wouldn’t expect it to move at any rapid rate because it’s a hospital-by-hospital decision. But we’re seeing at least in the last several quarters that hospitals are really scrubbing their numbers and trying to figure out how do they compete given the pressures they’re under. Again, this is one of the many things that goes on the list, whether it be shutting down onsite operations and outsourcing or whether it be looking for ways to just become more efficient. And we think we’ve got ways to help them both with Bio Systems and with the red bag service.

Have RFP’s picked up in large quantity?

I think-- I don’t think it would be material in terms of it picked up. We have seen more increase. We’ve seen some pick-up in terms of backup work and people have had mechanical troubles with running their onsite systems and looking at alternatives, which is good for us and creates opportunity. But I wouldn’t say it’s of a quantity that it was moving from capturing 52 accounts to moving to capturing 150 in a quarter. It’s not quite at those big of numbers.

Thank you very much.

[CALLER INSTRUCTIONS]. Our next question is from [Boris Bochek] from [Finesse Capital]. Your question, Sir?

Good afternoon. Most of my questions have been answered. I just wanted to clarify, understand a little bit on the balance sheet. Goodwill went up about over $65 million and your acquisitions were about $34. Did you reclassify some of these previous acquisitions?

No. I think if you look at that, the total amount of acquisitions between notes and [alike] that are added into that were roughly $52.2 million, and then there was a re-class on the assets that we purchased as part of White Rose. We did a further evaluation of the incinerator acid base there and that was a [re-val] from fixed assets into goodwill.

Okay. So that had the effect on PP&E?

That is correct. That’s the counter effect is on the PP&E.

Very good. Thank you very much.

Thank you. I’m showing no further questions at this time. Sir, you may proceed.

We thank everyone for your time and attention. We’re moving along and tracking to our number and we look forward to giving you new news and good news in the quarters to come. Thanks so much everyone.

Ladies and gentlemen, thank you for your participation in today’s program. This concludes the conference. You may disconnect, and have a wonderful day.