MRC Global Inc. (NYSE:MRC) Q3 2023 Earnings Call Transcript

MRC Global Inc. (NYSE:MRC) Q3 2023 Earnings Call Transcript November 8, 2023

Operator: Greetings, and welcome to MRC Global’s Third Quarter 2023 Earnings Conference Call. [Operator Instructions]. As a reminder, this conference is being recorded. It is now my pleasure to introduce Monica Broughton, Vice President, Investor Relations and Treasury. Thank you. You may begin.

Monica Broughton: Thank you, and good morning. Welcome to the MRC Global third quarter 2023 earnings conference call and webcast. We appreciate you joining us. On the call today, we have Rob Saltiel, President and CEO; and Kelly Youngblood, Executive Vice President and CFO. There will be a replay of today’s call available by webcast on our website, mrcglobal.com as well as by phone until November 22, 2023. The dial-in information is in yesterday’s release. We expect to file our quarterly report on Form 10-Q later today, and it will also be available on our website. Please note that the information reported on this call speaks only as of today, November 8, 2023, and therefore, you are advised that information may no longer be accurate as of the time of replay.

In our call today, we will discuss various non-GAAP measures. You are encouraged to read our earnings release and securities filings to learn more about our use of these non-GAAP measures and to see a reconciliation of these measures to the related GAAP items, all of which can be found on our website. Unless we specifically state otherwise, references in this call to EBITDA refer to adjusted EBITDA. In addition, the comments made by the management of MRC Global during this call may contain forward-looking statements within the meaning of the United States federal securities laws. These forward-looking statements reflect the current views of the management of MRC Global. However, actual results could differ materially from those expressed today.

You are encouraged to read the company’s SEC filings for a more in-depth review of the risk factors concerning these forward-looking statements. And now I’d like to call over to our CEO, Mr. Rob Saltiel.

Rob Saltiel: Thank you, Monica. Good morning, and welcome to everyone joining today’s call. I will begin with a high-level overview of our third quarter results and sector performance and then provide some preliminary thoughts about 2024. Kelly will provide a detailed review of the third quarter financial results before I end our prepared remarks with a brief recap. We continue to execute well for our customers in the third quarter despite the fact that our rate of top line growth slowed a bit. Revenue for the third quarter was $888 million, up 2% sequentially over the second quarter. We generated $70 million of adjusted EBITDA, up 11% sequentially, resulting in an EBITDA margin of 7.9%. This marked the sixth consecutive quarter for our EBITDA margin to exceed 7% as well as our sixth consecutive quarter for adjusted gross profit margin to exceed 21%.

We also realized $102 million of cash flow from operations in the quarter, bringing our year-to-date cash flow to $92 million, exceeding our guidance for the full year. The strong cash flow result was a fee through excellent work by our supply chain and operations teams in managing our inventory levels and our finance team in managing our working capital components effectively. Cash flow generation across the business cycle, even in growth periods when more working capital is required, is imperative for our company and our shareholders, and we are pleased with this result. Turning now to our sectors. Our DIET sector experienced a strong 14% sequential growth in the third quarter that would have been even higher had not some of our larger orders for chemical and refining customers slipped into the fourth quarter due to project delays.

We also made two significant announcements involving our DIET sector since our last earnings call. The first was the 5-year extension of our Enterprise Frame Agreement with our long-time customer, Shell. Much of our future activity with Shell is expected to involve energy transition and chemical projects with a large international component. We also announced our role as a major supplier of valves to Preem’s biofuel project in Sweden, further demonstrating the opportunities that our energy transition business brings as well as the benefits of our global footprint. PTI revenue declined by 3% in the third quarter sequentially as we experienced a general drop in North American oilfield activity. We continue to perform well in our biggest PTI region, the Permian Basin, as the large publicly traded customers there continue to provide us steady work.

We believe that recent announcements of acquisitions of major producers in the Permian Basin and Rockies have the potential to be beneficial to MRC Global once completed. We work more extensively with the acquirers today than we do the targets and we are built for customers who value high quality, longer life products that we purchase consistently through their enterprise agreements. In contrast to the exciting growth in the Permian Basin, our customers operating in the California oilfield have faced a difficult regulatory environment that has inhibited investment and production growth. Decreased activity in California contributed to our lower PTI revenue in the third quarter. In our Gas Utilities sector, we also experienced a slight sequential revenue decline.

As we discussed on our last call, the normalization of product supply chains has led our customers to focus on destocking their own inventories as a near-term priority. We expect this destocking to continue for 1 or 2 quarters longer. In addition, higher interest rates have raised the bar for new projects, while higher labor and construction costs have reduced the share of CapEx that is available for product purchases. It is noteworthy that most of our various product line sales this year within the Gas Utilities sector are in line or higher than last year, with the exception of line pipe. In this product group, we have experienced significant deflation over the past year and increasing competition leading to approximately 20% lower line pipe revenue this year in our Gas Utilities sector.

In particular, some of our major customers have significantly reduced spending in the line pipe product group, but we expect these customers to return to previous spending levels as we move through next year. Additionally, we have avoided chasing low-margin sales with our line pipe inventory, which has allowed us to preserve an adjusted gross profit percentage in excess of 21%, but at the cost of a lower top line. The good news is we expect that line pipe prices have likely bottomed so this headwind should diminish over the next year. Despite the temporary pause in the growth of our Gas Utilities sector, the fundamentals of this business remain very strong. We maintain a leading market position, and we have served many of our customers for more than a decade.

We are integral supply chain partners for these utilities, and we have been entrusted with the responsibilities previously under the purview of the utility that would, in many cases, require significant cost and effort to migrate back in-house. These utilities have recognized that MRC Global’s ability to purchase at scale and to provide value-added services provide significant cost savings and a better quality supply chain result. Additionally, this sector has historically been less susceptible to a major slowdown due to its reduced dependency on energy demand and commodity prices. Kelly will provide more detail in his section about our outlook for the fourth quarter, but a big positive that I want to mention is that we now expect to generate approximately $110 million in cash from operations this year, exceeding our previous guidance of $90 million.

Looking ahead to 2024, we are not quite ready to provide specific revenue guidance as many of our customers are still determining their capital budgets for next year. However, I will offer some perspectives on the key drivers. We expect that the PTI sector will benefit from generally high oil prices supported by OPEC Plus and increased capital spending by producers in North America and international markets. We expect our Gas Utilities customers to grow capital spending at a more muted pace with the majority of their activity concentrated in the second half of the year when the bulk of the destocking is concluded. We expect the DIET sector to benefit from robust refinery and chemical plant maintenance activities, supplemented by a strong and growing slate of projects.

In summary, we remain optimistic about the underlying fundamentals of all three sectors and their longer-term outlook. I will now hand it over to Kelly.

Kelly Youngblood : Thanks, Rob, and good morning, everyone. My comments today will primarily be focused on sequential results comparing the third quarter of 2023 to the second quarter of 2023, unless otherwise stated. Total company sales for the third quarter were $888 billion, a 2% sequential improvement. From a sector perspective, Gas Utilities sales were $314 million in the third quarter a $9 million or 3% decrease due to the reasons Rob mentioned earlier. The DIET sector third quarter revenue was $279 million, an increase of $34 million or 14% primarily due to increased turnaround project activity. But as expected, this sector had a rebound in sales compared to the second quarter, but some deliveries that were originally expected in the third quarter slipped into the fourth quarter.

As we have mentioned before, this sector has a significant amount of project activity, which can create substantial variability between quarters. The PTI sector revenue for the third quarter was $295 million, a decrease of $8 million or 3% sequentially, primarily due to the timing of shipments and project activity. Compared to the third quarter of 2022, PTI sales are up 10% and backlog is up 12%, and driven by growth in the International segment. From a geographic segment perspective, U.S. revenue was $745 million in the third quarter and $18 million or a 2% increase from the previous quarter driven by the DIET sector, which was up $31 million or 17%, partially offset by declines in our Gas Utilities and PTI sectors, which were down $10 million and $3 million, respectively.

Canada revenue was $38 million in the third quarter, flat compared to the prior quarter. International revenue was $105 million in the third quarter, down $1 million or 1%, essentially flat. We remain very optimistic about the outlook for our International segment, which has experienced a 35% increase in backlog since the beginning of the year with double-digit growth in both the PTI and DIET sectors. Now turning to margins. Adjusted gross profit for the third quarter was $189 million or 21.3%, a 20 basis point decline from the second quarter. Although we have experienced deflation in our line pipe business this year, along with inflation stabilization across most other product lines, we have been successful maintaining adjusted gross margins in excess of 21% of sales due to a higher margin product mix, improved contract terms and a higher contribution of revenue from our international segment, which is accretive to overall company gross margins.

This makes the sixth consecutive quarter with adjusted gross margins exceeding 21%. Reported SG&A for the third quarter was $126 million or 14.2% of sales as compared to $130 million or 14.9% for the second quarter. This quarter includes $3 million of pretax charges related to a customer settlement in our U.S. segment, offset by a $4 million favorable adjustment for insurance. Due to the nonrecurring nature of the customer settlement expense, we have excluded it from our SG&A expense this quarter to arrive at a net adjusted SG&A expense for the third quarter of $123 million. Adjusted EBITDA for the third quarter was $70 million or 7.9% of sales, a 70 basis point improvement from the second quarter. This makes the sixth consecutive quarter with adjusted EBITDA margins exceeding 7%, significantly stronger than our historic results.

Tax expense in the third quarter was $14 million with an effective tax rate of 29% as compared to $10 million of expense in the second half. The difference in the effective rate and the statutory rate is due to state income taxes, nondeductible expenses and differing foreign income tax rates. For the third quarter, we have net income attributable to common stockholders of $29 million or $0.33 per diluted share our adjusted net income attributable to common shareholders on an average cost basis, normalizing for LIFO adjustments and other items, was $28 million or $0.32 per diluted share. In the third quarter, we generated $102 million in cash from operations and a net $92 million year-to-date. As Rob noted, the performance this quarter allowed us to achieve our full year cash flow target a quarter early due to strong working capital efficiencies, and we expect to generate additional cash flow from operations in the fourth quarter, enabling a full year cash from operations of approximately $110 million.

This is an increase of the $90 million target we mentioned last quarter. Turning to liquidity and capital structure. Our current availability on the ABL is $696 million and including cash our total liquidity is $748 million. Our leverage ratio based on net debt of $251 million was 0.9x, dropping below the 1x hurdle a quarter earlier than expected. With the cash we expect to generate in the coming year, we believe liquidity and the leverage ratio will continue to show improvement. And if we do not refinance our term loan B that matures in September of 2024. We expect to have plenty of capacity under our ABL to use, if needed, to address payment of the balance before maturity. As noted in our earnings call last quarter, given our ability to repay the term loan using the ABL with no impact to current assets, we have continued to classify the term loan as long-term debt despite the term loan technically maturing within one year.

This designation on the balance sheet will continue throughout 2024 as long as the existing term loan remains outstanding. Turning now to the fourth quarter. We currently expect a seasonal sequential revenue decline of 5% to 10%, and this year could be at the higher end of the range due to the factors already discussed related to the Gas Utilities sector. For the full year, our International segment is expected to approach a mid-teens percentage level of growth, followed by our U.S. segment with a low single-digit increase in Canada with an upper single-digit decline. From a sector perspective, we expect our highest full year growth percentages to be in the PTI and DIET sectors with upper single-digit percentage growth. And Gas Utilities, as explained earlier, has experienced some near-term headwinds and as a result, is expected to have a mid-single-digit decline for the full year.

Also for the full year, we expect to maintain adjusted gross margins in the 21% range and adjusted EBITDA margin in excess of 7%. We intend to provide 2024 guidance on our fourth quarter call. And with that, I would like to turn it back to Rob for closing comments.

Rob Saltiel: Thanks, Kelly. These are some of the key highlights I want to summarize before opening for Q&A. Cash flow generation remains a top priority across the business cycle. We generated $102 million of cash from operations in the third quarter, even as we grew our revenue sequentially. We now expect to exceed our prior guidance of $90 million for full year 2023. We expect adjusted gross profit to remain in the 21% range and adjusted EBITDA margins to be in excess of 7% for the full year 2023. Our diversification strategy is paying off with each of our three sectors providing approximately 1/3 of our revenues with largely uncorrelated business drivers. We anticipate positive drivers for our PTI and DIET sectors in 2024 that should compensate for any first half potential weakness in Gas Utilities.

And lastly, before we open up the call for Q&A, I do want to acknowledge that there have been articles in the media relating to an activist investor in our stock. As I’m sure you can appreciate, we don’t discuss the specifics of our interactions with any of our existing or potential shareholders, and we won’t be able to comment on this situation. As such, we ask that you keep your questions in the Q&A session focused on our quarterly results. And with that, we will now take your questions. Operator?

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Q&A Session

Operator: [Operator Instructions]. Our first question comes from the line of Tommy Moll with Stephens.

Tommy Moll : I wanted to start on Gas Utilities. It’s a 2-part question, just to follow up on some of the things you laid out, Rob. First on the destocking. Anything you could point to that gives you visibility on the timing of that cycle? And then maybe a newer topic to hit on today. You called out interest rates and inflation as impacting the rate of customer spend and the real underlying demand. How much visibility do you have there? And could those factors get worse before they get better?

Rob Saltiel: Yes. Thanks, Tommy. As far as the destocking is concerned, our team maintains a regular dialogue with all of our significant customers to really understand what their plans are for the remainder of this year and into next year. And as we talked about on the last call, it’s very clear that a lot of our major customers really are reducing their inventory levels, having kind of seen the normalization of the supply chains and realized that they were holding too much inventory and too many different piles. And some of that inventory that we’re holding, they’re not pulling on as much as they would because they’ve got some of their own inventory to work themselves through. As we’ve said on a number of occasions, we think that this is a shorter-term phenomenon, probably a two-quarter or so phenomenon.

And as we continue to have dialogue with customers, they seem to reaffirm that. But we want to be clear that this is somewhat fluid in development because we really haven’t seen this for a while. And obviously, as we move ourselves into 2024, we’ll be able to check it in more detail. But again, if you look at the fundamentals of our business, there’s a tremendous amount of infrastructure out there that still needs to be replaced, updated, modernized the quote is basically that about 1/3 of the gas utility lines out there are over 40 years old. And so there’s tremendous modernization that needs to take place. We also have, obviously, a lot of demand for upgrading meters and some of those projects have been delayed, but we know that those projects are going to go through.

And then we also mentioned in the prepared comments that some of the decline that we’re seeing in the gas utility space has really been around curtailment of line pipe purchases. So that’s actually been concentrated among some of our bigger customers. And that’s been something that we think is going to be a transient effect. We’ve seen line pipe pricing bottom, and we expect that we’ll see more normal purchases to line pipe as we move through next year. And then finally, I do want to say a couple of things around our gaining a market share. We’ve added new customers. We’ve got more customers in the pipeline that we think we can add to our business as we move into ’24. And when we look at budgets, even though budgets haven’t really been announced across the board yet, the ones that are announcing seem to be increasing their budgets for next year.

And ultimately, even with the destocking, we think that we’re going to start to see a pickup next year in our revenues as these effects I’ve talked about kind of work themselves through. So destocking is a big part of it. But as you said in the second part of your question, interest rates, inflation, all these things sort of eat into product purchases. And in the discussions we’ve had with customers, they’ve indicated that, yes, the destocking is a big part of it, but they’ve got fixed CapEx budgets. And then with the cost of construction going up with the challenges of clearing hurdle rates for projects all these things sort of work to challenge the environment. We think that these factors are nearing a bottom or certainly are not going to get worse as we go past this for fourth quarter into next year.

But I think we’re really going to have to kind of see how that develops. And again, we’re more bullish on the second half of next year than we are in the first half as it relates to Gas Utilities, and we’ll see how this develops.