Enviva Inc. (NYSE:EVA) Q1 2023 Earnings Call Transcript

Enviva Inc. (NYSE:EVA) Q1 2023 Earnings Call Transcript May 4, 2023

Operator: Good morning, and welcome to Enviva Inc.’s First Quarter 2023 Earnings Conference Call. Please note, this event is being recorded. I would now like to turn the conference over to Kate Walsh, Vice President of Investor Relations. Please go ahead.

Kate Walsh: Thank you. Good morning, everyone, and welcome to Enviva’s First Quarter of 2023 Earnings Conference Call. We appreciate your interest in and support of Enviva, and thank you for your participation today. On this morning’s call, we have John Keppler, Executive Chairman of the Board; Thomas Meth, President and Chief Executive Officer; and Shai Even, Executive Vice President and Chief Financial Officer. Our agenda will be for John, Thomas and Shai to discuss our financial and operating results and to provide an update on our current business outlook and operations. Then we will open up the call for questions. During the course of our remarks and the subsequent Q&A session, we will be making forward-looking statements, which are subject to a variety of risks.

Information concerning the risks and uncertainties that could cause our actual results to differ materially from those in our forward-looking statements can be found in our earnings release as well as in our other SEC filings. We assume no obligation to update any forward-looking statements to reflect new or changed events or circumstances. In addition to presenting our financial results in accordance with GAAP, we will also be discussing adjusted EBITDA and certain other non-GAAP financial measures pertaining to completed reporting periods as well as our forecast. Information concerning the reconciliations of these non-GAAP measures to their most directly comparable GAAP measures and other relevant disclosures is included in our earnings release.

Our SEC reports, earnings release and most recent investor presentation, which contain reconciliations of non-GAAP financial measures we use can be found on our website at envivabiomass.com. I would now like to turn the call over to John.

John Keppler: Good morning. Thank you for joining us. It’s clear from our earnings release and 10-Q filed yesterday that the cost and productivity challenges of the first quarter that the team outlined a month ago are deeper and more significant than understood at the time. And that the positive effects of the improvement initiatives are taking longer than expected, with the benefits expected to be realized still ahead. The poor operating performance at the end of last year, combined with limited progress in a very disappointing first quarter is a reality that the team has internalized. And as a result, the company is resetting guidance this morning. Thomas will walk through that guide given our revised expectations about what the company can accomplish in the near term, as well as highlight some important changes he has made to the operations leadership in the company to get the team better aligned on how to reliably deliver the productivity and cost position we have demonstrated possible.

With that reset and the quarterly guidance provided, you can expect the team to report on our progress clearly and consistently throughout the year, describing where we have engineered improvement and where we have more work to do. Also as part of this reset, our Board of Directors, in consultation with management undertook a process to reconsider Enviva’s capital allocation policy. After a careful review of potential alternative uses of cash flow, the Board has decided to revise Enviva’s capital allocation framework by eliminating the company’s quarterly dividend, in order to prioritize maintaining strong liquidity and a conservative leverage profile, maintaining our investment plans to increase the efficiency and cost position of our existing plants, generating internal funding and timing flexibility for our current investment plans in new, fully contracted plant and port assets and authorizing an opportunistic share repurchase program.

This shift in capital allocation also gives us flexibility to potentially accelerate organic and inorganic growth in the future, with less reliance on accessing the capital markets. We firmly believe this revision to our capital allocation framework is the best way to create durable value for all of Enviva shareholders. These changes reposition Enviva from a yield and growth company, to a pure-play growth company, something I think the market has been telling us for some time. And given the robust opportunity set in front of us, we are improving our ability to take full advantage of the highly visible long-term growth ahead. As many of you know, I stepped down from Enviva last year to deal with some difficult medical issues. I’m very fortunate to have those largely behind me now.

But I’m also privileged to have the opportunity to be back at Enviva in a different role than before, but no less committed to the company’s success. And like the other members of the Board, no less convinced in our ability to return to the high levels of financial performance you have seen from us historically. Now I’d like to turn the call over to Thomas.

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Thomas Meth: Thank you, John, and good morning, everyone. I’m going to take some time to walk through our first quarter results and our 2023 guidance update as it is a significant change to our expectations. Let’s start with first quarter results. When we held our Investor Day discussions a little over a month ago, we knew we would have a soft first quarter, but it was only when we completed closing the March books and had a view on preliminary results for April that we fully understood the depth and extent of the softness. We reported $3.4 million of adjusted EBITDA for the first quarter of 2023. This is a significant departure from our original expectations of approximately $40 million to $50 million. There are 4 main drivers of the difference between actual results and expectations.

First, as we discussed at Investor Day, we have customer mix impacting our results. This is a straightforward shift of higher-priced deliveries with lower cost from the first quarter to the second half of this year but it accounts for about $16 million of that difference. Second, we had approximately $10 million of unplanned repairs and maintenance expenses during the quarter. This is very high. Unpacking this a bit in select plants, operations leadership and prioritized production over cost management, and we saw cost overages as a result. I call these tonnes at any cost and that isn’t the way to run a plant. To address this, we’re actively changing our culture, discipline and controls around cost management. And to that end, we have made some operational leadership changes exceeding 2 of our senior operations executives, elevating leaders and general managers in the company that have demonstrated strong commitments to both cost and operational discipline, especially safety.

The third area of pressure on our results this quarter relates to approximately $5 million of costs incurred related to professional fees, some tied to plant optimization initiatives. We have one plant that is significantly underperforming our expectations, and we have a highly specialist firm engaged to help us turn it around. And those isolated costs are reported in the first quarter. We also incurred extra accounting and financing fees during the quarter, in part due to the complicated fourth quarter and year-end we went through. Fourth and final, we did have some shipments that were subject to the deferred gross margin transactions accounting with similar treatment to what we saw at year-end. This accounted for approximately $4.6 million, and we expect the deferral to reverse in 2024 and 2025.

All that adds up to a $36 million decrease from what we’re expecting at the beginning of the year. It’s a very difficult start to the year. And while production and costs in the first quarter are generally our seasonally most difficult. The improvement in cost and productivity are not materializing at the rate we expected when we enter 2023. Based on results from the first 4 months of the year, we’ve taken a more conservative view on what this business will deliver in the short term and we are reducing our adjusted EBITDA expectations for 2023 from $305 million to $335 million to $200 million to $250 million. Let me unpack the 2 main drivers of the step down in guidance. Approximately $30 million of the decrease between the previous guidance midpoint of $320 million and the revised midpoint of $225 million is related to the weakness in the first quarter of 2023.

The remaining $65 million is related to shift in timing expectations as to when productivity and cost improvements are fully realized. To break down the revised guidance further, we are providing quarterly expectations for the next 3 quarters to improve transparency around our realistic expectations for the remainder of the year. For the second quarter, we are forecasting adjusted EBITDA to be in the range of $20 million to $30 million. For the third quarter, we’re forecasting adjusted EBITDA of between $70 million to $90 million. For the fourth quarter of 2023, we are forecasting adjusted EBITDA of between $110 million and $130 million. The ranges are primarily driven by our assumptions around production levels and our ability to drive costs out of the business.

I am personally overseeing our operations team now. I know there is a lot of ground we can make up in the near term to get back on track. And it’s my responsibility to do just that. As I’ve said, we are making progress. For instance, from December to March, we reduced the delivered cost of raw material to the company by approximately $3 per ton and drove fixed cost per tonne across our total plants down approximately $6 per ton. While it’s clearly not been as fast as we expected. It’s also not as hard as it sounds. It does, however, require diligent day-to-day management and alignment of the team in how we execute the strategy. We have a portfolio of 10 plants, 3 of which those in Lucedale, Cottondale and Waycross are consistently capable of outperforming expectations on both volume and cost.

They are also our largest plants. Four of our plants performed reliably, but in production rates or costs that are off from the demonstrated performance. 2 of our plants, Greenwood and South Hampton are what we call dryer limited meaning that we’re either bottlenecked at the drive because of its inherent evaporative limitations to reduce the moisture content in the raw material, which is the case at Greenwood or on a reliability or operability basis which is the case at South Hampton, where the original needs refurbishment. With plans in place for each of these challenges and opportunities built around the general management philosophy of staff in our facilities with well-trained operators who skillfully and safely deliver reliable output, continuously improved over time, led by effective managers within understood and controlled cost position.

It’s manufacturing 101, the blocking and tackling of standard work, known and managed equipment set points and eliminating unplanned downtime. This is what we call operational discipline. We have that in spades at Waycross, Cottondale and Lucedale and have much of that in place at each of our other facilities. The exception is South Hampton, where in addition to the technical challenges with staffing and turnover issues that are also staining in the way of progress. That’s also a big reason why we have brought in a third-party operational improvement consultant to assist. When we successfully execute this year and make up the lost ground like I know we can. We will exit this year roughly at the run rate we expected when we started 2023.

I’ll now turn it over to Shai to take us through a deeper dive of our finances.

Shai Even: Thank you, Thomas, and good morning, everyone. Let’s start with first quarter results. We generated net revenue of $269.1 million for the first quarter of 2023, as compared to $233 million for the first quarter of 2022. Net loss for the first quarter of 2023 was $116.9 million, as compared to a net loss of $45.3 million for the first quarter 2022. Net loss for the first quarter of 2023 included noncash interest expense associated with the deferred gross margin transaction of $40.4 million. Adjusted gross margin for first quarter 2023 was $21.3 million as compared to $50.7 million for the first quarter 2022. The decrease year-over-year is attributable to the cost and volume challenges Thomas discussed earlier. Adjusted gross margin per metric ton was $17.93 for the first quarter 2023 compared to $46.27 for first quarter 2022.

Adjusted EBITDA for first quarter 2023, was $3.4 million as compared to $36.6 million for first quarter 2022. Enviva’s liquidity, as of March 31, 2023, was $634.4 million, which includes cash on hand, including cash generally restricted to funding a portion of the cost of our Epes, Alabama plant and Bond, Mississippi plant and availability under our senior secured revolving credit facility. Our growth plan for 2023 is not changed and we expect to invest in total capital expenditures in the range of $365 million to $415 million, with the majority of the spend on our greenfield developments. We expect to invest approximately $310 million at the midpoint of our expectation in the build-out of our apps and bond plans with approximately $60 million being invested in projects across our fleet to improve volume and cost profiles, primarily directed to our underperforming plans.

Similar to prior years, our CapEx spend is scheduled to be back-end weighted. We continue to expect to spend approximately $20 million during 2023 and on maintenance CapEx. Our commitment to conservatively managing Enviva’s balance sheet remains unchanged, and we continue to target a leverage ratio of 3.5x to 4x as defined in our credit agreement. We expect to exit 2023 a little above that, but it will be temporary, and we expect to get back to our target range early in 2024. As a reminder, our covenant threshold under the credit agreement is 5.75x. With that, I would now like to turn it back to Thomas.

Thomas Meth: Thank you, Shai. Look, disappointing start to the year, no question. March and April is certainly starting to look better, but improvements are not as fast as we needed and as we expected. Our short-term focus has to be on improving productivity and reducing costs as quickly and durably as we can. Although our near-term outlook has changed, the long-term growth profile of our business and industry, it has never been stronger. Worldwide demand for our product continues unabated. Yesterday, we announced a new sizable take-or-pay contract with an existing Japanese customer for 300,000 metric tons per year with deliveries starting in tandem with the new capacity we have coming online. In Europe, the European Union will finalize the text related to its Renewable Energy Directive, 3 over the next month which we expect will continue to provide demand tailwinds to woody biomass, given how important this renewable resource is to the net-zero targets of the EU member nations.

Our industry continues to be persistently, structurally short supply. So signing new contracts like the one we just announced, means new production capacity must get built. And therefore, these new contracts are underwriting our large-scale fully contracted capacity expansions. As a reminder, our new capacity is modeled of the Lucedale, Cottondale and Waycross, which are, as I’ve said, our best performing plants. Currently, our Epes, Alabama plant is under construction and progressing well. Epes is expected to be operational mid-2024. For our Bond, Mississippi plant, we’re moving forward with partnering with an EPC firm, which will help provide cost and construction certainty, and we plan to construct at least 2 new greenfield plants of the Bond under this approach as well.

Before we open the call for questions, I’ll give a quick recap of what we’ve discussed this morning. To start off, our results this quarter were much softer than we expected, mainly driven by cost position that is not acceptable, but we believe it can be remedied in the short term. We do know what the problems are, and we’re taking the necessary steps to fix them, but we are recalibrating our forecast as to when we will realize the full benefits of our actions and that has led us to reduce our 2023 guidance expectations. We also have taken a very hard look at our capital allocation priorities and in lieu of maintaining a dividend. We have revised our policies to focus first and foremost on liquidity and leverage with improving our operating cost position and asset productivity, a very close second priority.

Our third priority is to opportunistically return capital to shareholders through share repurchases. And fourth, to the extent it is appropriate, we will accelerate our greenfield developments. We have a lot of work to do to rebuild the strength of this company and regain the ground we have lost. We know what needs to be done. And those fixes are exactly what you will see us execute over the coming months and quarters. Now let’s open the call for questions.

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Q&A Session

Operator: Our first question comes from Elvira Scotto with RBC Capital Markets.

Elvira Scotto: Thanks for the detail that you provided. But I guess I have a few questions. First, I mean, what — maybe a little more detail here on what changed materially from the Analyst Day on April 3 when your first quarter was already done, and you kind of affirm the guidance and now to cause such a big downward revision to EBITDA? And then you mentioned that you believe you can remedy these issues, but why do you believe you can remedy these issues in the short term?

Thomas Meth: Elvira, great question. Let me walk you back a little bit to how we got to where we are. As we prepare the plan for 2023, we were benefiting from the productivity and cost profile of September and November — October — September, October, November. And we made great progress. The plants were running well, cost position was good. That gives us a lot of confidence for where we’re going into 2023. We — and as we then moved into December, as we previously thought — talked about, polar vortex set us back and created certainly a little bit of noise into Q1. When we went to Investor Day, we thought they were behind us. Volumes had recovered. We do not have March results or April results yet. And what we realized was that January and February that the polar vortex our operational challenges.

The cost position that we then realized in March and April, was substantially higher than we had thought. We thought we were going to be $20 lower than we ended up. We drove some costs out, but certainly nowhere near what we actually expected. And so all in all, when we were at the Investor Day, we knew we had pressure of about $15 million in our cost position, but it ended up being closer to $30 million in that cost position. And so when you think about what that left us in April, still challenging better again than March, but again, not where we need to be. And so with that in mind, we have to reset expectations here and just provide a much more realistic cost profile. So your second question is how do we drive cost down, right? We’ve actually made really good progress on the volume, still not quite where we wanted volume to be in February, March, but we never made more tons as an enterprise than in February and March.

And so it’s really primarily a cost position issue. Our R&M, repairs and maintenance costs, way exceeded our expectations. But we know how to manage that on an ongoing basis. Our contract labor was way higher. We just lack discipline there. And then as we talked about in the prepared remarks, throughout the last couple of weeks, we took a deep dive into the South Hampton plant that was really disappointing. And we realized that it’s going to take us just more time and more effort to get that plant to the potential that it is going to have. So when you think about what does that mean for the guidance going forward, right? We’re going to drive another $10 out of our cost position in the second quarter. But compared to where we thought we were going to be, it’s not — again, it’s not a revenue question.

It’s a cost question. We do think we’re going to be about $30 million below what we thought coming into this year. But from March to June, $10, $12 will come out of the cost tower. One of the things that we see as a real tailwind at the moment is the cost of delivered wood has come down substantially. What we’ve bought the last couple of weeks is lower than any wood we’ve bought over the course of 2022. So making really good progress there. And the cost discipline that we have now very aggressively instilled with the changes in operational leadership will show substantial improvement in debt discipline and contract labor, repairs and maintenance because the plants don’t need to spend some of those cost pockets, it’s a matter of discipline.

As I’ve said, I am much closer to the plants now than I’ve ever been. I’m personally managing the operational — from an operational leadership perspective, what we need to do. Some of the plants run exceptionally well, day in and day out. Lucedale, Waycross, Cottondale are prime examples of what we can do. We have certainly elevated the leadership of those plants in our operations to make sure that all plants adhere to the discipline to get to the reliability, the volumes, the cost position that we know we do every day at some of our best-performing plants. Let me just add one last piece before I’ll let you ask more questions if you want. All of our plants have proven that they can hit the volumes and the cost position. This is not something that you have to believe that we’re going to step change into something that we have not seen before.

We have seen this before. At every single one of our plant, both from a volume perspective and from a cost perspective and the discipline that we’re instilling personally led by me, will get us back on track. It’s going to take us a little bit longer than we had thought. And so with that, we felt it’s just prudent to provide a more conservative view that we know we can achieve.

Elvira Scotto: Okay. So I guess, just as a follow-up to that, if I look at your 2023 guidance, it’s a pretty wide range between the low end and the high end of your EBITDA guidance. I guess maybe talk a little bit about what drives the low end versus the high end? And then I guess the bigger question is, what’s the potential that you don’t make the low end? Like what would have you actually even missed the low end of your guidance?

Thomas Meth: So Elvira, I’ll go back to — we wanted to provide a guidance that is conservative . We don’t have to — I believe a whole lot. But it comes down to cost position. And the guidance range comes down to how fast can we drive costs down, right? If we actually increase the reliability faster than the midpoint of the range and create more reliability faster, we’re certainly going to come out at the higher end of the range, right? None of that is dependent on spot markets or revenue lift. This is all around how fast can we reduce our cost per ton? Will we maintain the cost improvement that we have seen in the wood fiber, the fundamentals, the macroeconomic fundamentals, which certainly suggests that we’re on a very good path there.

And when we see the weekly cost of the wood costs that are running over our scale, that gives us good confidence that we’re on a very good track. The cost discipline that we’ve reimplemented will certainly drive to the range. And so I feel very confident that this is a conservative estimate. If we increase volume like we had anticipated initially, a little faster than our conservative view, we certainly have a shot at getting to the higher end of the range.

Elvira Scotto: Okay. Got it. And then I guess just my final question here. I appreciate like how difficult it was for you to eliminate the dividend. I do think from a financial perspective, it does appear to be the prudent thing to do. But given that, and what’s going on, what’s the rationale for announcing a buyback authorization at this time?

Thomas Meth: No. Thank you, Elvira. I appreciate your comment, that is a prudent thing. Look, I mean, we’ve thought for a long time that our share price is on the — I mean, our company is undervalued. And certainly, where we are today, it is certainly — when you rethink capital allocation, at share price that we see today, it’s certainly an obvious way to create total shareholder value here by creating a share-backed buyback program. And so it’s certainly to — as part of — even before today, we thought our valuation was way too low. And so that is just a logical consequence of that, that the Board considered and has given us the authorization.

Operator: Our next question comes from Mark Strouse with JPMorgan.