Target Hospitality Corp. (NASDAQ:TH) Q4 2022 Earnings Call Transcript

Target Hospitality Corp. (NASDAQ:TH) Q4 2022 Earnings Call Transcript March 10, 2023

Operator: Good morning, and welcome to the Target Hospitality Fourth Quarter and Full Year 2022 Earnings Conference Call. All participants will be in listen-only mode. . After today’s presentation, there will be an opportunity to ask questions. . Please note this event is being recorded. I would now like to turn the conference over to Mark Schuck, Senior Vice President of Investor Relations. Please go ahead.

Mark Schuck: Thank you. Good morning everyone and welcome to Target Hospitality’s fourth quarter and full year 2022 earnings call. The press release we issued this morning outlining our fourth quarter and full year results can be found in the Investors section of our Web site. In addition, a replay of this call will be archived on our Web site for a limited time. Please note the cautionary language regarding forward-looking statements contained in this press release. This same language applies to statements made on today’s conference call. This call will contain time-sensitive information as well as forward-looking statements, which are only accurate as of today, March 10, 2023. Target Hospitality expressly disclaims any obligation to update or amend the information contained in this conference call to reflect events or circumstances that may arise after today’s date, except as required by applicable law.

For a complete list of risks and uncertainties that may affect future performance, please refer to Target Hospitality’s periodic filings with the SEC. We will discuss non-GAAP financial measures on today’s call. Please refer to the tables in our earnings release posted in the Investors section of our Web site to find a reconciliation of non-GAAP financial measures referenced in today’s call and their corresponding GAAP measures. Leading the call today will be Brad Archer, President and Chief Executive Officer; followed by Eric T. Kalamaras, Executive Vice President and Chief Financial Officer. After their prepared remarks, we will be joined by Troy Schrenk, Chief Commercial Officer and open the call for questions. I’ll now turn the call over to our Chief Executive Officer, Brad Archer.

Brad Archer: Thanks, Mark. Good morning everyone and thank you for joining us on the call today. Target’s record setting 2022 results are a direct reflection of our commitment to further solidify our strong financial standing while positioning the business to quickly respond to strategic growth opportunities. Throughout 2022, Target meaningfully increased its minimum revenue commitments, diversified its in-market customers, and increased discretionary cash flow by 215%. We achieved these accomplishments while serving a diverse customer base across 29 communities. We have remained focused on providing premium full service hospitality solutions to our world class HFS clients, many of whom have been customers for over a decade.

As a result, Target had consecutive quarterly HFS demand increases, resulting in a 17% year-over-year increase in utilization with consistent customer renewal rates of over 90%, which we have enjoyed for over seven years. Target’s reputation and our commitment to these customers supported numerous HFS contract renewals and extensions over the past year. We anticipate these contracts will add over 200 million of cumulative revenue through 2028. We are pleased with our current HFS utilization and its ability to meet our strong customer demand. However, we will thoughtfully evaluate select opportunities to add capacity in response to customer demand where appropriate, while also adequately expanding our significant market share. During 2022, we demonstrated Target’s superior operational flexibility that allowed us to match increasing HFS demand while simultaneously utilizing existing assets to expand our government segment by 60%.

The end result was a more fully optimized network and more valuable contracts. Regarding the Government segment, we have completed the enhancements to our expanded humanitarian community announced in July of 2022. With its completion, we have solidified this community as the only purpose-built campus with the sole mission of providing critical hospitality solutions in support of the government’s humanitarian aid efforts. We can say this one-of-a-kind all-inclusive community has exceeded the expectations of our partner and the U.S. government. Since its inception in 2021, it has been our belief this world class facility would be the premier community providing critical hospitality solutions to the government’s humanitarian aid missions. This belief has recently been affirmed with the U.S. government publicly announcing their intention to consolidate the remaining active influx care facilities.

Additionally, we’re pleased to announce that our non-profit partner has recently been awarded an indefinite delivery, indefinite quantity contract related to the extension of our humanitarian community in Vegas. This award, consisting of a base five-year term with an additional five-year option, established as the contracting vehicle required by the U.S. government to appropriately fund multiyear contract awards. The IDIQ award to our non-profit partner is one of the final steps in the government’s contract award process, prior to working through definitive agreements. We are highly pleased with the progress as the contracting vehicles come sooner than expected, and we anticipate working through additional contract specifications over the coming months.

Photo by Shalev Cohen on Unsplash

We look forward to solidifying the longevity of this community and the critical humanitarian mission it was purpose-built to provide. As a reminder, last year we entered into an exclusive 11-year partnership with our national non-profit partner. The long-term agreement solidified our joint commitment to continue providing critical humanitarian services to United States government at this highly customized campus. In summary, we have achieved our strategic objectives to materially strengthen Target’s financial position, while simultaneously diversifying our customer base and continuing to accelerate value creation for our shareholders. I’ll now turn the call over to Eric to discuss our fourth quarter financial results, 2023 financial outlook and capital allocation initiatives in more detail.

Eric Kalamaras: Thank you, Brad. In the fourth quarter, we experienced continued strong demand fundamentals and positive momentum in customer activity, predominantly driven by growth in our government segment and the materially expanded humanitarian community. Fourth quarter of 2022 total revenue was $152 million and adjusted EBITDA was approximately $91 million. Our Government segment produced quarterly revenue of approximately $150 million compared to $47 million in the same period last year. The significant increase was attributed to the expanded humanitarian community we announced in July. As a reminder, Target’s government segment, including the expanded humanitarian community, centre around annual minimum revenue commitments.

Additionally, the expanded humanitarian community includes variable service revenue that aligns with monthly changes to community population. This contract structure provides ideal flexibility for our customers, as their occupancy requirements fluctuate over time, while also providing meaningful minimum revenue commitments that create significant revenue and cash flow visibility for Target. We have found this structure as the optimal outcome for all parties, and it creates a sustainable structure, which we believe is the basis for contract longevity for years to come. Our HFS segments delivered fourth quarter revenue of $36 million compared to $34 million in the same period last year. This increase was driven by sustained momentum in customer demand for Target’s premium service offerings.

Recurring corporate expenses for the quarter were approximately $9 million, and we anticipate recurring corporate expenses will remain around 9 million to 10 million per quarter for the remainder of the year. Total capital expenditures for the quarter were approximately $27 million, or $23 million related to the substantial infrastructure enhancements required at the expanded humanitarian community. With the completion of community enhancements in 2022, we expect a more moderate pace of capital expenditures. We ended the quarter with $182 million of cash and over $305 million of liquidity with zero borrowings under the company’s $125 million revolving credit facility, and a net leverage ratio of 0.6x. From 2020 through 2022, Target has remained focused on reducing total indebtedness and maximize financial flexibility.

Over this time, we have reduced total cumulative debt by more than $225 million. Additionally, we recently announced a $125 million partial redemption of the 9.5% senior secured notes, further illustrating our commitment to a disciplined capital allocation strategy focused on high return initiatives. Inclusive of the $125 million note redemption, we will have reduced total indebtedness by over $350 million since 2020, and over $200 million in patent in the last 12 months alone. Over the past 12 months, we have increased the intrinsic value of the equity by over $2 per share just for these balance sheet initiatives. This highlights our commitment to allocating capital to high risk return initiatives, while continuing to maximize value creation for our shareholders.

Turning to our financial outlook and capital allocation objectives, Target’s enhanced end market portfolio and contract structure has supported increased minimum revenue commitment and provided greater visibility on long-term revenue and cash flow. Additionally, we are pleased with the progress of discussions relating to the multi-year term extensions for the expanded humanitarian community. We believe the government’s decision this week to issue an IDIQ contract award to our non-profit partner solidifies the sustainability of this purpose-built community by establishing the necessary mechanism to fund specific multi-year contract awards. We continue to work closely with our non-profit partner and anticipate additional contract specifics related to Target’s critical hospitality solutions to be finalized in the coming months.

Coupled with our ongoing business development efforts that have created the strongest project pipeline the company has seen in several years, the company is reiterating its preliminary 2023 financial outlook, which includes revenue of $525 million, maximum revenue of $710 million, with adjusted EBITDA of $365 million. Excluding acquisitions, 2023 capital spending should approach more normal levels between $20 million and $30 million per year, predominantly focused on organic growth capital. The range of preliminary 2023 revenue reflects the possible contribution of variable service revenue associated with expanded humanitarian community, along with other potential second half weighted revenue catalysts. As it relates to the expanded humanitarian community, Target expects the government to continue managing its community allotments based on a variety of factors, including seasonality, the regular use of smaller dispersed shelter capacity across the United States, and other variable demand dynamics.

For the quarter, the government’s nomination to our community have remained in line with expectations, which contemplate the range of variable demand dynamics, including typically lower seasonal census during the winter months. However, there are a variety of other potential catalysts that have shifted from our original expectations. For instance, the government delayed its previously anticipated lifting of Title 42 from December 2022 to May of 2023. As a result, the consolidation of remaining influx care facilities has taken longer than expected, resulting in delayed timing of additional variable service revenue. We expect an increase in variable service revenue weighted more towards the second half of 2023 as a result of this shift. Target’s enhanced balance sheet will allow the company to continue evaluating a range of high return capital allocation initiatives focused on maximizing long-term shareholder value, while simultaneously expanding long-term growth opportunities.

Target has identified and continues to pursue an active and expanding pipeline of strategic growth opportunities. These opportunities include expanding reach across government agencies in support of select National Defense projects as well as unique commercial diversification opportunities spanning a variety of domestic energy transition initiatives. Target is prepared to allocate over $500 million of net growth capital to these high return opportunities through 2027. As a result of the size and scale of these strategic projects, there’s inherently a longer program cycle prior to award announcement. While final outcomes are not 100% certain, we can say we are quite pleased with the progress of discussions and believe there are tangible milestones being achieved on these important large scale projects.

We look forward to providing additional updates in the coming quarters as the opportunities progress. With that, I will turn the call back over to Brad for his closing comments.

Brad Archer: Thanks, Eric. Our record setting 2022 results illustrate our commitment to enhance operational flexibility, maximize asset utilization, and provide unmatched value to our customers, which has supported the achievement of our strategic objectives. We are well positioned entering 2023 with an optimal balance sheet and over 300 million of liquidity. We will utilize this foundation and the tremendous momentum we have created to continue pursuing initiatives focused on accelerating value creation for our shareholders. I appreciate everyone joining us on the call today and thank you again for your interest in Target Hospitality.

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Q&A Session

Operator: We will now begin the question-and-answer session. . The first question comes from Scott Schneeberger with Oppenheimer. Please go ahead.

Scott Schneeberger: Thank you very much. Good morning, everyone. For my first question, I would like to kind of hone in on the development with your partner with regard to the IDIQ award. Could you just talk a little bit more another level of detail about what has occurred there? And if helpful, maybe compare and contrast this year’s negotiation period and process as opposed to last year? Thank you.

Eric Kalamaras: Hi, Scott. Good morning. It’s Eric. So it’s a great question. So let’s discuss last year first, and I think it’s a good segue to this current discussion. So recall last year when the awards were done, they were done in an emergency basis, right? And so they were done that way specifically in 2021. We redid that in 2022. And those emergency mechanisms by nature are effectively one year of funding structure, which determines the contract term. So with this IDIQ, I think the big change on this is the permanent shift into how the government is thinking through the infrastructure around their UC capacity. And this allows for the mechanism to be much longer, right, multi-year process. Now there are effectively two step functions here.

The first step function, which is this, which is to create the IDIQ funding mechanism, which in this case is a really super important point, because it establishes the five-year initial term, and then the one five-year option, which is what we’ve been talking about for many months. From that point forward, then there’s a discussion around what exactly the scope of services look like and any sort of economics out of that. Now last year, if you recall, and we don’t expect any changes, we have not made any changes in terms of the economics. So I think that’s important. We’ve had that experience for nine years with deli . We had that experience last year as well. Now last year also though the scope increased, right? So the only modifications we made were structurally to increase the scope, but no other economic terms effectively changed.

Now we would expect the same here going forward, as it stands today, which is why we have not made any changes to our outlook. And we’ll continue the discussion around with our government partner — with the government as well as our non-profit partner around that scope as the government releases that information over the next few months.

Brad Archer: Scott, maybe if I’ll just add. This is Brad. Good morning. But add a few things there, because I think it’s very important. Eric mentioned going from emergency to the ICS. And when you look at that, today there’s only two active ICS. And one of them we know was that Fort Bliss has been out publicly that at some point here in midyear of 2023 that they’re going to mothball that and not use it anymore. That’s there. They put that out publicly. So this has always been out there and the government moving into the more permanent type facilities longer term, but I think that bodes well for where we’re at. But that was a big distinction in this contract, move into the more permanent facility, the government rebalancing their portfolio as well. And this is allowing them to do that.

Scott Schneeberger: Okay. Thanks, guys. Very informative, some good points there. Let’s transition to kind of more near term that sounds like an excellent long-term development, but more near term. Eric, you highlighted it sounded like second half stronger than first half on seasonal utilization in West Texas. Could you just speak to, and as Brad just mentioned kind of the Fort Bliss wind down dynamic, how should we be thinking about your inflows at West Texas based on seasonality one and wind down at Fort Bliss? Thanks.