Montrose Environmental Group Q1 2023 Earnings Call Transcript

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May 10, 2023

There are 8 speakers on the call.

Operator

Hello, and welcome to the Montrose Environmental Group Inc. 1st Quarter 2023 Earnings Call. All participants will be in listen only mode. Please note, today's event is being recorded. I now would like to turn the conference over to your host today, Martin Lasser, Investor Relations.

Operator

Please go ahead, sir.

Speaker 1

Thank you, operator. Welcome to our Q1 2023 earnings call. Joining me on the call are Vijay Manthri Pregatta, Our President and Chief Executive Officer and Alan Dix, Chief Financial Officer. During our discussion today, we will be referring to our presentation, which is available on the Investors section of our website. Our earnings release is also available on the website.

Speaker 1

Moving to slide 2. I would like to remind everyone that today's call will include forward looking statements that are subject to the Safe Harbor provisions of the Private Securities Reform Act of 1995. Actual results may differ in a material way due to known and unknown risks and uncertainties That should be considered in evaluating our operating performance and financial outlook. We refer you to our recent SEC filings, including our Annual Report on Form 10 ks for the fiscal year ended December 31, 2022, which identify the principal risks and uncertainties that could affect any forward looking statements as well as future performance. We assume no obligation to update any forward looking statements.

Speaker 1

In addition, we will be discussing or providing certain non GAAP financial measures today, including consolidated adjusted EBITDA, Adjusted net income and adjusted net income per share. We provide these non GAAP results for informational purposes, and they should not be considered in isolation from the most Directly comparable GAAP measures. Please see the appendix to the earnings presentation or our earnings release for a discussion of why We believe these non GAAP measures are useful to investors, certain limitations of using these measures and the reconciliation thereof to their most directly comparable GAAP measure. With that, I would now like to turn the call over to Vijay, beginning on Slide 4.

Speaker 2

Thank you, Rodney, and welcome to all of you joining us today. I will provide you with business highlights, Alan will provide you with financial highlights, and we will then open it up to Q and A. I will speak generally to the Q1 earnings presentation shared on our website. But before I begin, I would like to reiterate that our business is best assessed On an annual basis, given the nature of demand for environmental services is not driven by quarterly patterns. This is how we manage our business I would like to start by highlighting several key themes from our Q1 2023 results.

Speaker 2

As I note, each quarter, Montrose's successes and our Q1 2023 successes Belong to our over 3,000 colleagues around the world. It is because of them that we collectively get to create and benefit from the value that's being created. The first theme is that regulatory tailwinds are substantive and sustained. Our business and integrated Our advisory services, our air measurement services and our environmental lab services all saw strong demand, particularly with greenhouse gas measurement and mitigation. And though there is some expected and planned moderation in our remediation and reuse segment given the incredible organic surge last year, We see sustained tailwinds for our ECT2 brand, our PFAS water treatment and renewable energy services, And we continue to believe their trajectory will be very attractive over the coming years.

Speaker 2

The second theme It's absolute EBITDA, which manifested via profitability and EBITDA margins. We will discuss why it is important to anchor on absolute EBITDA dollars, But given questions from our prior conversations with you, we will also highlight margins this morning. Our operating segment adjusted EBITDA margin increased Approximately 2% year over year. Our margin improvements include the benefits of pricing initiatives, which we highlighted for you last year. And despite continued and important investments in our business, like with research and development, our total consolidated EBITDA margins also increased even before adjusting for discontinued services and other factors.

Speaker 2

Including those factors, our consolidated adjusted EBITDA margins increased approximately 1.5%. The third theme is that the CTEH COVID-nineteen services, which were economically additive but difficult to explain to you, our investors, are effectively behind us. CTEH is back to providing various environmental response services and the team has been working hard to support our clients with several high profile responses this year. The 4th theme is acquisitions. We reduced our cadence of acquisitions last year given our 25 percent plus organic growth surge, but the M and A pipeline continued to build.

Speaker 2

So we expect to harvest that over the course of this year. The transactions remain very accretive strategically and financially. I'm thrilled with the caliber of the teams that have joined us so far with how they have already fit right in and with the opportunities they present. Finally, we always noted That we are largely insulated from political and economic swings and we continue to demonstrate that each year. Not only is our business strong as you can see from Q1 results, Our balance sheet and cash flow remain very strong as well.

Speaker 2

Our acquisitions to date have been funded largely through our cash from operations and our balance sheet remains hedged against rising interest rates, which gives us ample flexibility to continue consolidating our industry and investing in our environmental technology advantages. I will now discuss our Q1 performance by segment. Within our Assessment, Permitting and Response segment, we were pleased to see solid organic revenue growth as well as the positive contributions from our acquisitions. Margins in this segment were higher year over year for two reasons, organic growth in our advisory services And 2, CTEH's shift away from COVID-nineteen related revenues. We expect organic growth and acquisitions will be a meaningful part of this segment's narrative over the coming quarters.

Speaker 2

Within the Measurement and Analysis segment, demand for our testing services continues to be robust Due to public and shareholder interest and growing political will regarding environmental solutions with greenhouse gas measurement and mitigation, for example, We remain upbeat about continued organic growth in this segment. Annual margins in this segment are expected to remain in the high teens to 20 ish percent, which is where we've always expected them to be. Within our remediation and reuse segment, the year over year quarterly decline in revenues and therefore EBITDA This segment were expected given the initiation and conclusion of various large water or renewable energy projects. Quarterly trends are not a meaningful reflection of the trends With our water and renewable services within our ECT2 brand and we remain very bullish on the opportunity for ECT2 over the coming years. Many of our recent R and D successes and patent awards, which represent growing barriers to entry, Differentiation in the marketplace and exciting organic growth opportunities for Montrose and our shareholders are in this segment.

Speaker 2

We look forward to what we believe will be a very exciting trajectory for this segment over the coming quarters. I will now discuss a few recent regulatory updates and industry trends that support our long term growth outlook. The U. S. EPA continues to focus on PFAS and recently issued an advanced notice of their intent to designate 7 more PFAS chemicals to the list of hazardous substances, which triggers reporting and remediation needs, including potential Superfund cleanup status.

Speaker 2

We expect this action will drive demand across the Montrose portfolio. With regards to methane emissions, The EPA is pursuing high profile enforcement actions against some of the largest players in the energy industry to reduce releases and increase leak detection frequency. We are working with our clients across our emissions measuring, monitoring and assessment services. Regarding demand for our environmental consulting services, in April, President Biden signed a new executive order to better protect certain communities from pollution And environmental harm. The EPA has been stepping up enforcement of environmental justice matters and we anticipate this will drive increased demand for our advisory and testing services with a primary emphasis on air quality testing.

Speaker 2

As evident in these recent actions and those we've discussed over the past several quarters, Momentum for environmental protection continues to grow. The needs of our clients due to these announcements are very complementary to our existing service offerings And we believe MonTrust is exceptionally well positioned to assist our clients in navigating the rapidly evolving regulatory landscape. So in summary, I want to thank my colleagues around the world for all they've contributed to our business and for the exceptional work they do for our clients each and every day. I remain incredibly grateful to all of you and thank you. As a result of our Q1 2023 results and the momentum in our business into the 2nd quarter, We are increasing our full year 2023 EBITDA outlook, which Alan will expand upon shortly.

Speaker 2

We remain as optimistic as ever in our ability to solve environmental challenges and problems and create value for our shareholders and all of our stakeholders. With that, let me hand it over to Alan. Thank you. Thanks, Vijay.

Speaker 3

Our solid overall Q1 performance reflects the strength of our business model and ongoing demand for our environmental solutions. As Vijay mentioned, we are especially pleased with our strong year over year margin performance at an operating segment level as a result of the favorable business mix, the in demand nature of our services and the early returns from our pricing actions. We also benefited from M and A, which we expect to be more meaningful this year given the resumption of our typical M and A cadence as demonstrated by our recent acquisitions since the beginning of the year. Moving to our Q1 performance on Slide 8. Total revenue for the Q1 was $131,400,000 compared to $134,700,000 in the prior year quarter, primarily due to lower demand for COVID-nineteen related services provided by CTEH, lower revenues in a discontinued lab and the timing of projects in our remediation and reuse segment.

Speaker 3

Excluding revenue from COVID-nineteen related services And discontinued businesses, revenue was up 17.2% year over year given strong organic growth in our Assessment Permitting and Response And Measurement and Analysis segments, an increase in CTH environmental response revenues and the contribution of acquisitions. 1st quarter consolidated adjusted EBITDA was $16,600,000 and represented 12.6 percent of revenue. Excluding discontinued businesses and including start up losses, which we no longer add back, consolidated adjusted EBITDA of 16,600,000 compared to $14,400,000 in the prior year, an increase of 15.2% and consolidated adjusted EBITDA margins improved From 11.2% in Q1 2022 to 12.8% in the current year. As we've highlighted on prior calls, Montrose's performance needs to be assessed annually. This is how we evaluate the business due to the stronger predictability of the business on an annual basis.

Speaker 3

This is consistent with how we hire staff, allocate resources and manage the company. Turning to our business segments on Slides 910. We are primarily focused on meeting or exceeding our targets for adjusted EBITDA dollars and cash flow conversion and we remain pleased with our results. We also continue to drive margin improvement at the operating level And we were pleased to see operating segments adjusted EBITDA margin increase 190 basis points to 19.7% compared to 17.8% in the prior year quarter, mainly due to the transition of CGH away from COVID-nineteen services, Strong demand for our environmental testing services and the benefit of pricing, which more than offset the expected decline in remediation and reuse revenue. Excluding results from discontinued businesses and including start up losses in the prior year, operating segments adjusted EBITDA margin Increased 2 90 basis points year over year.

Speaker 3

Beginning this year, organic revenue growth for total revenue And for the Assessment, Permitting and Response segment, exclude CTH, to provide a better sense of underlying performance for that segment and our business without CTH variability. In our Assessment, Permitting and Response segment, Revenue increased 14.5 percent year over year to $52,200,000 The year over year increase was driven primarily by organic growth and to a lesser extent, the positive contributions from acquisitions. Within CTH, a significant increase in environmental response revenues Fully offset the anticipated steep decline in COVID-nineteen related services. AP and R segment adjusted EBITDA increased 48.2% year over year to $14,300,000 or 27.3 percent of revenue, up from 21.1% in the prior year quarter, Reflecting the benefits of organic growth and the favorable TTH revenue mix given environmental response revenues generate higher margins and COVID-nineteen related revenues and higher aggregate margins across our other businesses within this segment. In our Measurement and Analysis segment, revenue increased 7% to $42,500,000 primarily attributable to strong organic growth.

Speaker 3

While M and A segment adjusted EBITDA increased slightly, the decline as a percent of revenue was mainly due to a decrease in revenues and adjusted EBITDA from a discontinued lab. Excluding the impact of the discontinued lab And including start up losses in the prior year, segment adjusted EBITDA margins increased to 15.6% from 13.7% in the prior year, reflecting strong demand for our testing services and the benefits from our pricing actions. In our remediation and reuse segment, revenues were $36,700,000 compared to $49,300,000 In the prior year quarter as a result of the winding down of certain high dollar value projects, the decrease was partially offset by revenues from acquisitions. The decrease in R and R segment adjusted EBITDA as a percentage of revenue was a result of lower revenues. Moving to our capital structure on Slide 11.

Speaker 3

1st quarter cash flow from operating activities was 3,000,000 compared to cash used in operations of $18,300,000 in the prior year quarter. Cash used in operations in the prior year Includes payment of acquisition related consideration of $19,500,000 Excluding this acquisition related payment, Cash provided by operating activities increased by $1,800,000 year over year compared to adjusted cash from operating activities of $1,200,000 in the prior year quarter. This year over year increase was primarily due to an increase in working capital in the current period of 9,700,000 versus an increase in working capital in the prior year period of $12,500,000 partially offset by lower earnings before non cash items of $900,000 These strong operating cash flows reflect our ongoing focus on balancing the generation of cash With investments in technology, R and D and corporate infrastructure to ensure continued scalability. Our leverage ratio as of March 31, 2023, which includes the impact of recent acquisitions and the acquisition related contingent earn out obligations Payable in cash was at 1.4 times. The cash we have on the balance sheet and the interest rate swap we put in place in January 2022 Have resulted in almost no exposure to rising interest rates at current borrowing levels.

Speaker 3

Our Series A2 preferred stock has no maturity date. We have the option, but not an obligation to redeem the preferred shares at any time for cash. The prepayment penalty expired in April of this year. We view this preferred equity instrument as favorable to the value creation potential in the business given its flexible dynamics and the fixed nature of the dividends in a rising interest rate environment. If you include the $182,000,000 balance

Speaker 2

of the

Speaker 3

Series A2 equity in our market cap, Our total equity capitalization stands at approximately $1,300,000,000 Moving to our improved full year outlook on Slide 13. We have had a strong start to the year. Based on EBITDA performance in the Q1 and momentum in our overall business, We are raising our full year growth outlook for consolidated adjusted EBITDA to be in the range of $70,000,000 to $76,000,000 compared to the prior range of $68,000,000 to $74,000,000 Our higher consolidated adjusted EBITDA outlook Represents low double digit growth and margin expansion over the prior year. Our expectation for revenue is unchanged In the range of $550,000,000 to $600,000,000 representing mid to high single digit growth for the full year. Our revenue and consolidated adjusted EBITDA outlook does not include any benefit from future acquisitions that have not been completed.

Speaker 3

In conclusion, our improved 2023 outlook reflects our confidence in our ability to execute against our growth strategy. The Intermod nature of our unique environmental solutions, expanding customer relationships, solid customer retention And cross selling success all position us well to expand our market share as a leader in the environmental services space. Over the longer term, our investments in R and D are expected to generate significant returns as we look to capture end market and regulatory tailwinds in the Greenhouse Gas Measurement and Mitigation, PFAS Remediation, Renewable Energy and Carbon Capture Spaces. Thank you all for joining us today and for your continued interest in Montrose. We look forward to the opportunities we see ahead and updating you on our progress next quarter.

Speaker 3

Operator, we are ready to open the lines to questions.

Operator

Yes. Thank you. And the first question comes from Tim Mulrooney with William Blair.

Speaker 4

Hey, this is Sam A format for Tim, Vijay, Allen. Hope you guys are both doing well. Hey, how are you? Doing good. Doing good.

Speaker 4

I guess I'll focus my questions more on the Matrix Solutions acquisition. I guess to start, can you give

Speaker 2

us a sense The size of

Speaker 4

this acquisition, we noticed Matrix had, I think, 5 70 employees and CTH had

Speaker 2

Hey, Dan. This is Vijay. That acquisition is in the process of shareholder vote and per Canadian law is expected Close kind of in the back half of the second quarter. So I'm not going to say too much about it. But The aggregate size of that business will not materially move our overall profile in the way CTH It is a lot of people, but it is not as impactful from an EBITDA perspective.

Speaker 4

Got you. Okay. Well, maybe more of a broad question then. I think your last two acquisitions, we noticed they're both headquartered in Canada. Maybe you could just share your thoughts, I guess, on the market opportunity in Canada and how you characterize that relative to the United States?

Speaker 2

Yes. It's a great question. We are still heavily oriented towards North America and a lot of our clients are have presence in the Canadian market and for all the reasons we've talked about before as it relates to environmental policy, On methane measurement mitigation, both the provincial governments in Alberta in particular and the broader Canadian federal government We're very forward leaning. And so we've been bullish on that market in aggregate for a long time now and this is just an extension Same policy. So we think there's going to be a lot of client based opportunity across those geographies.

Speaker 2

And we're also really excited about what the Canadian market until itself presents once these teams join us.

Speaker 4

Good. It's good to hear. Maybe one last one for me then, really is more of the guidance, I guess. Can you maybe share what do you expect GreenPath to generate revenue from a major in 2023 and its approximate EBITDA margin. I guess we're trying to figure out How much of the EBITDA guidance raised today was attributable to that acquisition?

Speaker 2

Yes. I'd say it's about I would Think of that business as kind of around $1,000,000 in terms of contribution this year. So little under about a half little under a half Of the guidance rate is due to the GreenPath acquisition and the rest is due to the organic performance of the business.

Speaker 3

Got you. Thanks guys.

Operator

Thank you. And the next question comes from Jim Ricchiuti with Needham.

Speaker 5

Hi, good morning. This is Chris Graigong for Jim.

Speaker 1

Hey, Chris.

Speaker 5

Hey. You had mentioned that the Assessment and Permitting segment Segment margin benefited from mix and pricing. I just how are you thinking about that margin level improvement on a go forward basis? And How should we be thinking about the durability of that margin?

Speaker 2

That segment comprises both of our Classic Consulting business, Chris, as well as our CTH business. The CTH business, as Alan noted in his comments, And shifted away from COVID-nineteen towards the more traditional environmental response. And so that margin is run rate and durable as we've I highlighted for you before kind of as you think about that business, I would continue to think about that as a $75,000,000 to $95,000,000 top line, 25 ish percent EBITDA margins. And then the other part of that business is our more traditional environmental consulting practices. And they have just been benefiting from incredibly strong organic growth and pricing efforts that we've undertaken over the course of the Couple of quarters.

Speaker 2

And so I would say in aggregate, that margin profile is quite durable.

Speaker 5

Great. And could you maybe perhaps expand on what end markets you're Seeing the most activity from it sounded like oil and gas is we're We're seeing a lot of activity. Are there any other areas that are worth highlighting, in terms of the activity level?

Speaker 2

I would say the it's a good question. The activity level is not just oil and gas. That's comprises it fluctuates year on year around 10% to 15% of our revenue. And as you can see, our broader profile and portfolio across our services is just in a fantastic cadence. And so we're seeing broad demand cycles across our testing business.

Speaker 2

So that's our field testing and our lab business. We're seeing a really nice demand cycle across our advisory services, which span all the different industries, Both of which span all the different industries. And then as you know, we're incredibly excited about our long term Water and Biogas Technology practice as well. So we're I would not say that this is anchored on one industry. This really is Not only in terms of our end markets, but also in terms of our own internal segment definitions.

Speaker 5

Great. Thanks very much.

Speaker 2

Does that make sense, Chris? Yes. Great. Thank you.

Operator

Thank you. And the next question comes from Andrew Obin with Bank of America Merrill Lynch.

Speaker 6

Hi, this is David Ridley Lane on for Andrew. Good morning. I understand project timing and remediation reuse Can lead to kind of quarter to quarter volatility, but based on the project pipelines and current project timelines, Should we expect growth in the remediation reuse revenue for the full year to be kind of in line with the aggregate Revenue guidance for 2023?

Speaker 2

Yes. It's a great question, Dave. I wouldn't read too much into the quarters. Our let me just step back and give you kind of my broader perspective on this. Our water and biogas business grew triple digits organically last year.

Speaker 2

So as we've talked about with you and Andrew and others, we expected this year to be moderated. So we kind of plan for 2023 to be kind of flat to 2022, Knowing that the 2023 to 2025 outlook remains incredibly strong for us. And And despite that, right, despite the way we thought about it leading into this year, our overall business will remain at elevated organic growth levels. So this again speaks to the Underlying strength of the broader portfolio that we just talked about with Chris. So, no, I would not think of that segment's growth in the same way that I would think about the aggregate business.

Speaker 2

Because of the incredible cadence And trajectory last year, we want to make sure we reset anchor on quality and performance and make sure that team which tripled in size It's feeling good as the new opportunities continue to build on a global level for us. Does that answer your question, Dave?

Speaker 6

Absolutely, yes. And then, I know that Montrose's services are highly insulated from kind of broader economic trends. But is there any sensitivity around CapEx projects maybe in the assessment and permitting area? Any sort of way you're thinking about potential slowdown in say construction activity And how that would influence your business?

Speaker 2

No, we don't have a lot of exposure to discretionary spend, Dave. And so we're always attuned to that and we're staying very close to our clients on this. But as you can see in

Speaker 3

the way we've come out of

Speaker 2

the gates this year And in our outlook for the rest of the year, despite the broader macroeconomic uncertainty, a lot of the work that we do is fundamental And in many ways necessary for our clients, and so we're not as exposed to it nor are we as worried about it.

Speaker 6

Understood. Thank you very much.

Speaker 2

Thanks, Dave. Thank you.

Operator

And the next question comes from Wade Suki with Capital One.

Speaker 7

Good morning, everyone. Thank you for taking my questions.

Speaker 4

Hi, Wade.

Speaker 7

Great to see results today. I'm wondering if you could expand a little bit on The greenhouse gas methane management side of the house, obviously, very deliberate moves here with GreenPath And I think last month's agreement with Sensors, can you talk about how these businesses are sort of integrating synergistic? And Where do you see this? How big can you see this business for you all in 2, 3, 5 years?

Speaker 2

Hey, Wade. This is Vijay. Thank you for that. This is a as we think about kind of our multiyear outlook, Wade, and We've highlighted this briefly in the past. The greenhouse gas measurement and mitigation is a key part of our thesis.

Speaker 2

The questions our clients are dealing with both from a regulatory perspective as well As their commitments related to net 0 are substantive and they span across Our industrial end market base, those questions often necessitate testing and our capabilities as one of the leading air testing Firms in the world and one of the biggest in North America puts us in a really unique position to enable testing across multiple sources, The fence line of the facility, the source of emissions, leaks across our portfolio. And so we're able to couple our And as we will continue to share more As this progresses, but our technology team out of ETT2 has developed some really compelling patents. Again, this is early stage. It may not Work out that they're entering pilot phase with our clients that actually remove the CO2 from the industrial production process. And so like PFOS, As an example that we've talked about historically, Wade, we think there's a broader greenhouse gas measurement opportunity is very substantive for us over the coming years.

Speaker 2

To kind of anchor you on the numbers, in Q1, you saw the management analysis Revenue growth kind of quarter on quarter, look very strong. That's mostly organic and the substantive part of that organic surge was due to our greenhouse gas Measurement business in particular. So we are, even with the moderation on the water side and the biogas Which we again plan for to give that team a little bit of a break. We remain pretty excited about what the organic growth

Speaker 7

Fantastic. Thank you. Just to dovetail on one of the Maybe prior questions on AT and R. Margins are obviously very strong in the quarter. Can you give us a sense for how this might play out for The rest of the year, any color you can give us on what more directly contributed to those margins would be very helpful.

Speaker 7

Thank you so much. Yes.

Speaker 3

Let me take that. This is Alan. What we've said historically is that segment should run 25% to 30% margins. And we expect for the full year, it should be right in that the post. So strong Q1, we expect something similar

Speaker 7

Great. Thank you.

Speaker 2

Thanks, Wade.

Operator

Thank you. And this concludes our question and answer session. I would like to turn the floor to Vijay Montef Quadrada for any closing comments.

Speaker 2

Thank you all for your time and thank you again for your interest in Montrose. We look forward to engaging with you through the course of this year. Thank you and take care.

Operator

Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.

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Montrose Environmental Group Q1 2023
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