Quest Resource Holding Corporation (NASDAQ:QRHC) Q1 2023 Earnings Call Transcript May 15, 2023

Quest Resource Holding Corporation misses on earnings expectations. Reported EPS is $-0.1 EPS, expectations were $-0.08.

Operator: Thank you for standing by. This is the conference operator. Welcome to the Quest Resource Holding Corp. First Quarter 2023 Earnings Conference Call. [Operator Instructions] I would now like to turn the conference over to Dave Mossberg, Investor Relations representative. Please go ahead.

Dave Mossberg: Thank you, Asha and thanks everyone for joining us on the call today. Before we begin, I’d like to remind everyone that this call may contain predictions, estimates and other forward-looking statements regarding future events or future performance of Quest. Use of words like anticipate, project, estimate, expect, intend, believe and other similar expressions are intended to identify those forward-looking statements. Such forward-looking statements are based on Quest’s current expectations, estimates, projections, beliefs and assumptions and involve significant risks and uncertainties. Actual events or Quest results could differ materially from those discussed in the forward-looking statements as a result of various factors, which are discussed in greater detail in Quest’s filings with the Securities and Exchange Commission.

You are cautioned not to place undue reliance on such statements and to consult our SEC filings for additional risks and uncertainties. Quest’s forward-looking statements are presented as of the date made and we disclaim any duty to update such statements unless required to do so by law. In addition, in this call, we may include industry and other market data and other statistical information as well as Quest’s observations and views about industry conditions and developments. Today, the information are based on Quest’s estimates, independent publications, government publications and reports by market research firms and other sources. Although Quest believes these sources are reliable and the data and other information are accurate, we caution that Quest does not independently – has not independently verified the reliability of these sources or the accuracy of this information.

Certain non-GAAP financial measures will be discussed during this call. These non-GAAP measures are used by management to make strategic decisions, forecast future results and elevate company’s current performance. Management believes the presentation of these non-GAAP financial measures is useful to investors understanding the assessment of the company’s ongoing core operations and prospects for the future. Unless as otherwise stated, it should be assumed that any financials discussed in this call will be on a non-GAAP basis. Full reconciliations of non-GAAP to GAAP financial measures are included in today’s earnings release. With all that said, I will now turn the call over to Ray Hatch, President and CEO.

Ray Hatch: Thank you, Dave and thanks everyone for your interest in Quest. Overall, we had a solid start to the year with more than 12% growth in gross profit dollars. Most of the year-over-year growth came from ramping up new customers and adding new programs with existing customers. In addition, the improvements at RWS we discussed last quarter are on track, and we expect pricing initiatives will positively impact results for the next three quarters. We also generated significant cash flow during the quarter. On average, during the past two quarters, our average operating cash flow was $2 million. We feel good about our ability to continue to generate cash flow. And subsequent to the end of the quarter, we paid down $5 million on our Monroe line.

Our outlook for profitable growth in 2023 and beyond remains unchanged and we are executing well at all of our strategies. I will now turn the call over to our CFO, Brett Johnston for a financial overview and I’ll be back to discuss our strategies.

Brett Johnston: Thanks, Ray and good afternoon everyone. During the first quarter, gross profit dollars increased 12% year-over-year to $12.6 million. The year-over-year increase in gross profit dollars came from organic sources as we continue to ramp new customers and add new programs with existing ones. On a sequential basis, gross profit dollars increased 17% from the fourth quarter of 2022 due to a mix of organic growth, seasonal trends and improvements at RWS. As we discussed during last quarter’s call, RWS was previously not passing through costs and fuel surcharges that we normally take as part of our contracted agreements. As we stated previously, we have corrected this issue and we have just begun to see the benefits of implementing pass-through costs and fuel surcharges to RWS customers during the first quarter and expect to see continued incremental profit – incremental improvements in gross profit from this business throughout the year.

A quick note about the revenue comparisons. As discussed on previous calls, commodity price fluctuations may have an effect on revenue comparisons, but have not historically had significant effects on gross profit dollars. Our customer agreements produced consistent gross profit dollars based on volumes and are not tied to commodity price fluctuations. The value of the commodities we recycle on behalf of our clients simply passes through our P&L. I want to reiterate that this is why we use gross profit dollars as a key metric to measure our financial comparisons. Looking forward, our outlook for gross profit dollars for the year is robust and we remain confident in our ability to deliver double-digit growth in gross profit dollars during 2023.

Gross profit dollars should benefit from continued momentum in organic growth and continued improvements from our integration efforts. As you look at modeling out our business for the next several quarters, we would suggest that you model for continued sequential growth in gross profit throughout the year and adjust for normal fourth quarter seasonality. I want to point out that year-over-year gross profit dollar comparisons will be made difficult due to several acquisition-related adjustments we made during the second, third and fourth quarters of 2022. Moving on to SG&A expenses, which were $9.4 million during the first quarter compared to $9.3 million during the same period last year. We had lower M&A costs year-over-year, which were offset by increased costs for integration and continued investment in our platform.

During the second quarter of 2023, we expect SG&A costs will be about $9.5 million, which reflects the ongoing run-rate of our business, along with ongoing integration costs and increased investment in systems, processes and people to continuously improve our efficiency in the scalability of our platform. During the fourth quarter, depreciation and amortization was $2.4 million, flat in comparison with a year ago. We expect depreciation and amortization to be approximately $10 million for 2023. Moving on to a review of the cash flow and balance sheet, we are in good shape liquidity wise and continue to enhance our liquidity. Our cash balance was $9.8 million at the end of the first quarter and we recently increased the size of our operating borrowing line with P&C from $15 million to $25 million.

We also produced strong operating cash flow during the first quarter of $3.0 million, which came primarily from improvements in working capital. I will note that operating cash flow for the quarter included a $1.2 million acquisition-related earn-out payment. Without this payment, first quarter operating cash flow would have been in excess of $4 million. Our working capital demands will continue to fluctuate based on the pace of growth, which may cause fluctuations in operating cash flows from quarter-to-quarter. Nevertheless, we expect to be a strong cash flow generator during 2023. At the end of the quarter, we had $72.4 million in notes payable versus $74.9 million at the beginning of the year, which reflects normal principal payments and a lower borrowings on our asset-based line with P&C.

As Ray mentioned earlier, subsequent to the end of the quarter, we have paid down $5 million of our credit facility with Monroe Capital. At this time, I’ll turn the call back to Ray.

Ray Hatch: Thank you, Brett. It’s only been 7 weeks since our last call in late March and we see continued strength in our business and maintain our optimism for continued profitable growth. Regarding the economic environment in general, we continue to see stable activity levels across our end markets and our value proposition continues to resonate well with customers. I realize that we have said this before, but it bears repeating that our business model is positioned well to weather inflation and swings in commodity prices. Year-over-year price comparisons for most of the commodity recycle are still lower than the prior year. But as Brett mentioned earlier, we structured our agreement so that gross profit dollars are not affected by swings in commodity prices.

Also, in an inflationary environment, we were able to offset cost pressures with flexible contracts that allow us to pass through increases in many costs such as fuel surcharges. This structure is a key reason that we are able to deliver 12% growth in gross profit dollars on a relatively low growth in revenue. Now for an update on RWS. RWS is on schedule to be fully integrated by the end of the year. In addition, we began passing through contract costs at RWS. During Q1, and we expect the positive impact to be fully recognized throughout the year. As a reminder, we estimated that not passing through these increased costs at RWS last year, had a $1.5 million impact on gross profit. We remain excited about the potential for RWS and the contribution it can make as part of our company.

I also want to thank our team for the efforts and hard work to get RWS back on track. Moving on to a discussion about growth. I feel very good about the organic growth we have in front of us. We have multiple sources of growth that gave us confidence in our ability to post double-digit gains in gross profit this year. First, we continue to use the land and expand strategy to deliver organic growth. This strategy has consistently delivered a solid base of growth for the last 5 years. Another source of organic growth continues to come from new service capabilities gained through the acquired businesses. We added several new service offerings with our recent acquisitions, and we’re actively introducing these new services to existing clients.

Growth will also come from continuing to roll out services to several of the recent wins discussed during the prior 12 months. We started to ramp up two new customers in Q1 and are still onboarding these and other customers and expect them to ramp over the course of this next year. In addition, we continue to add new prospects across multiple end markets that are working their way through our pipeline. I also want to stress, we have a large opportunity to drive profitability by optimizing business that we have in hand. Over the last 3 years, we’ve more than doubled the size of our business, with about two-thirds of that growth coming from acquisitions and new customers. As we bring revenue onto our platform, we have opportunities to optimize the cost of services through vendor relations and procurement management.

This includes activities such as rightsizing and route optimization and leveraging the overall fixed cost base. We’re going to market with our vendors focused on a win-to-win contract provisions. By adding volume from the entire Quest footprint, vendors can benefit with a greater asset utilization and lower costs from route optimization, Quest benefits from lower costs, which has positive impact on pricing for our clients. Moving on to a discussion about M&A and M&A integration. We expect M&A will continue to be an important pillar for growth of the company. I want to reiterate that we will maintain discipline in making acquisitions and we will only execute those that fit our criteria. As such, depending on the availability of the right deals, there are likely to be periods when we have a lot of activity and periods where we don’t have any.

In 2020, we completed six acquisitions and continuing to develop our capabilities since evaluation, integration planning and execution. And as described earlier in the first quarter, we made steady progress with the integration of RWS and have completed the integration of all the other recently acquired businesses. RWE’s integration is on schedule to be completed by year-end. Before I move on to our outlook, I want to describe a recent example of how we’re able to move quickly and solve a pressing need. One of our clients had a warehouse full of commodity destroy identifier when these types of events happen, unfortunately, the usual course of action is to gather that material and take it to the landfill. Our client had very strict goals on sustainability, and our team was able to quickly find an alternative use for this material.

Because of the scale and scope of our service offering and the innovative approach of our team, we’re able to help the client avoid the landfill and actually save money on that disposal. This is a pure capability to think on our feet and to execute a solution that other companies just don’t have in their playbook. While this is a one-time project, it’s a great example of how we create incremental value and strong and trusted customer relationships. Regarding our outlook, Overall, our positive outlook for profitable growth has not changed. We expect to be a strong cash flow generator in 2023. We expect acquisition integration to provide incremental contribution from both increased efficiencies and cross-selling. We have multiple sources of organic growth, including doing more with existing clients, ramping recent wins and converting prospects into customers.

We will continue to drive operating efficiencies and invest in capabilities to continuously improve our customer value proposition while further improving the profitability and the scalability of our business. Pressure to improve sustainability, increasing regulation and increasing cost of landfills are lowering the bar for adoption of our recycling services. We are optimistic that we will continue with positive momentum for 2023 and the next several years. I look forward to keeping you updated on our progress. We would now like the operator to provide instructions on how listeners can queue up for questions. Operator?

Q&A Session

Operator: [Operator Instructions] The first question comes from Aaron Spychalla with Craig-Hallum. Please go ahead.

Operator: The next question comes from Gerry Sweeney with ROTH Capital. Please go ahead.

Operator: The next question comes from Chip Moore with EF Hutton. Please go ahead.

Operator: The next question comes from Greg Kitt with Pinnacle Fund. Please go ahead.

Operator: The next question comes from George Melas with MKH Management. Please go ahead.

Operator: This concludes the question-and-answer session. I would like to turn the conference back over to Ray Hatch for any closing remarks.

Ray Hatch: Thanks operator. I just want to reiterate our positive outlook for ‘23, really excited and thankful to the team for all their very, very hard work, and it’s going to continue to pay off for us. I also want to thank all of you for your interest in Quest. All our initiatives are working well. And we’re excited about where we are going to be through the balance of this year and into the next years. So, thank you everybody.

Operator: This concludes today’s conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.