Innospec Q2 2023 Earnings Call Transcript

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August 9, 2023

There are 3 speakers on the call.

Operator

Good day and thank you for standing by. Welcome to the Innospec's Second Quarter 2023 Earnings Release and Conference Call. At this time, all participants are in listen only mode. After the speakers' presentation, there will be the question and answer Please be advised that today's conference is being recorded. I would now like to hand the conference over to our speaker today, David Jones, please go ahead.

Speaker 1

Thank you. Welcome to Innospec's 2nd quarter earnings call. This is David Jones and I'm Innospec's General Counsel and Chief Compliance Officer. The earnings release for the quarter and this presentation are posted on the company's website. During this call, we will make forward looking statements, which are predictions, projections and other statements about future events.

Speaker 1

These statements are based on current expectations and assumptions that are subject to risks and uncertainties It could cause actual results to differ materially from anticipated results implied by such forward looking statements. The risks and uncertainties In our discussions today, we've also included non GAAP financial measures. A reconciliation to the most directly comparable GAAP financial measure is contained in the earnings release. The non GAAP financial measures should not be considered as a substitute for or prepared to those prepared in accordance with GAAP. They are included as additional items to aid understanding of the company's performance in addition to the impact that these items and events had on financial results.

Speaker 1

With me today from Innospec are Patrick Williams, President and Chief Executive Officer and Ian Thommerson, Executive Vice President and Chief Financial Officer. And with that, I'll turn it over to you, Patrick. Thank you, David, and welcome everyone to Innospec's Q2 2023 conference call. Overall, this was another good quarter for Innospec. Excellent results in Oilfield Services continued to offset weaker activity in Performance Chemicals.

Speaker 1

In Fuel Specialties, we have taken a further charge to exit our trading relationship in Brazil, where inventory was misappropriated in the Q1. Excluding this $8,000,000 charge, which reduced our EPS by $0.21 Our sales and EBITDA grew and gross margins improved over the prior year. As expected, Performance Chemicals was again impacted by customer destocking and high cost inventory, which drove volumes, margins and mix lower in the quarter. While these headwinds will likely carry into the second half of the year, we expect our new personal care contracts to drive sequential sales, Operating income and margin improvement. Our priority should remain focused on executing sequential sales and margin improvement in order to return to our operating income run rate to 2022 levels.

Speaker 1

In Fuel Specialties, Continued price action and slowing inflation partially offset lower volumes in the quarter. As noted in our earnings release, Adjusting for the $8,000,000 bazero charge, gross margins were unchanged versus the same quarter last year and remain in our target range of 32 35%. We do not expect any further charges related to Brazil and we expect gross margins to remain in this range for the balance of 2023. In terms of operating margins, our target continues to be 19% to 21%. We remain focused on growing sales, while maintaining margins as a key focus and opportunity for the Global Fuel Specialties team.

Speaker 1

Oilfield Services had another very impressive quarter. Continued strong activity in Production Chemicals combined with further sequential improvement And our other oilfield segments drove significant organic growth. Operating income was over 6 times the prior year And gross margin expanded by 9.9 percentage points. In the quarter, we anticipate that sequential operating income will moderate on lower production chemicals activity, but we remain on track for significant full year growth in 2023. We continue to pursue top line and margin expansion opportunities across all our oilfield segments.

Speaker 1

Now I will turn the call over to Ian Cleminson, who will review our financial results in more detail, then I will return with some concluding comments. After that, Ian and I will take your questions. Ian? Thanks, Patrick. Turning to slide 7 in the presentation.

Speaker 1

The company's total revenues for the Q2 were $480,400,000 a 3% increase from $467,600,000 a year ago. Overall gross margin increased by 1.4 percentage points from last year to 31.3%. EBITDA for the quarter was $46,200,000 compared to $52,900,000 last year And net income for the quarter was $28,900,000 compared to $32,300,000 a year ago. Our GAAP earnings per share We were $1.16 including special items, the net effect of which decreased our 2nd quarter earnings by $0.12 per share. A year ago, We reported GAAP earnings per share of $1.29 which included a negative impact from special items of $0.29 per share.

Speaker 1

Excluding special items in both years, our adjusted EPS for the quarter was $1.28 compared to $1.58 a year ago. Our adjusted EPS of 1.28 includes the €8,000,000 charge from exiting the Brazil trading relationship, which reduced our EPS by €0.21 We do not expect any further charges related to this matter and we continue to pursue both legal and insurance recoveries. Turning to slide 8. Revenues in performance compared to the Q2 were 127,800,000 down 24% from last year's €169,000,000 driven by a negative mix of 8% and a volume decline of 16%. Gross margins of 17.2 percent decreased by 8.6 percentage points compared to 25.8% in the same quarter In 2022, due to a weaker sales mix, higher cost inventory and adverse manufacturing variances resulting from lower production volumes.

Speaker 1

Operating income decreased 68% from last year to €9,200,000 Moving on to slide 9. Revenues in fuel specialties for the Q2 were $154,200,000 down 13% in the $176,400,000 reported a year ago. A positive pricemix of 3% partially offset 16% reduction in volume. Fuel Specialties gross margins of 29.1% were 3.2 percentage points below the same quarter last year. Operating income of $17,100,000 was down from $31,500,000 a year ago.

Speaker 1

Adjusting for the BRL8 million charge, adjusted gross margins were unchanged versus the same quarter last year And operating income was $25,100,000 Moving on to slide 10. Revenues in Oilfield Services for the quarter were $198,400,000 up 62% from $122,200,000 in the Q2 last year. Gross margins of 42.1 percent were up 9.9 percentage points on last year's 32.2%. Operating income of $28,000,000 was a $23,500,000 increase over the $4,500,000 in the prior year. Turning to slide 11.

Speaker 1

Corporate costs for the quarter were €20,100,000 compared with €18,500,000 a year ago, as lower share based compensation accruals partially offset acquisition related and other costs. The effective tax rate for the quarter was 21% compared to 23.6% a year ago. The decrease in the effective rate was primarily because a lower proportion of the company's profits were generated in higher tax jurisdictions. Moving on to slide 12. Free cash generation for the quarter was very strong with an operating cash inflow of 55,000,000 before capital expenditures of $17,300,000 As of June 30, Innospec had $165,900,000 in cash And cash equivalents and no debt.

Speaker 1

And now I'll turn it back over to Patrick for some final comments. Thanks Ian. This was another good overall quarter for Innospec. Throughout the first half of twenty twenty three, Our balanced portfolio has performed very well in the face of significant end market headwinds. Adjusting for the Brazil charge, we delivered EBITDA growth and gross margin expansion over last year.

Speaker 1

As destocking runs its course When we return to normal customer order patterns, our business teams will stay focused on the key drivers of Innospec's long term growth, namely best in class innovation and customer service. With excellent cash flow in the quarter and net cash of over 165,000,000 We continue to deliver on our record of returning value to shareholders, investing in organic growth and pursuing complementary M and A. This quarter, we continued to return value to shareholders with our $17,200,000 semiannual dividend and $600,000 of share repurchases. In partnership with our customers, we remain well placed for long term growth. Now, I will turn the call over to the operator, and we'll take your questions.

Operator

Thank you. Now we're going to take our first question. And the question comes from the line of Mike Harrison from Seaport Research Partners. Your line is open. Please ask your question.

Speaker 1

Hi, good morning. Good morning, Mike. Good morning, Mike. Wanted to start with Performance Chemicals. Can you maybe talk In a little bit more detail about what you're seeing in terms of monthly volume trends.

Speaker 1

And I guess what are you hearing from customers in terms of The breed of destocking and when you might expect to see those order patterns start to normalize again? Yeah. Mike, it's Patrick. We're starting to see order patterns pick up. We saw obviously a difficult Q1.

Speaker 1

Volumes were pretty stagnant in Q2. But towards the end of the quarter, we started to see the patterns pick up and we get a fairly good view About 30 days in advance. So in the Q3, we're seeing volumes continue to go up, Albeit at a slower pace than we hoped, but they are going up quarter over quarter. And we're cautiously optimistic That the destocking has been put behind us and that the markets are starting to normalize. So I would hope and That by Q4 and beginning Q1 next year that we'll be back to somewhat normalized volumes and activity.

Speaker 1

All right. And you categorized in Performance Chemicals that 8% Klein, we would normally see that listed as price mix. You just called it mix. What was happening with pricing In the quarter on a year over year basis? And can you give some more color on what drove your mix lower?

Speaker 1

Yes, Matt, this is Ian. Yes, we were really pleased with the ability of the business to hang on to France. We've worked very hard. Jose, I'm mindful that the sales mix is a little bit off, so the higher end, higher margin business is down year over year. The business has been really disciplined in maintaining prices and that's not been easy against the high inflation backdrop And a lot of customer questions.

Speaker 1

So yes, great job by the business there. And that's why we didn't call it out as price and mix. It should mix this quarter. All right. And then just curious on the fuel specialty business and the volume decline you Showed there.

Speaker 1

I know that some of those prior declines were related to some of the lower margin additives that you might just be reselling and Kind of exit that business or participate in that business on a more opportunistic basis. But it seems like this Sequential step down that we've seen in revenue was a little bit bigger than what we might normally expect just due to seasonality. So I'm just curious, is there some destocking that you saw from your customers in that fuel specialties business or maybe any other changes Going on in underlying demand there? Yes. I think you've probably covered it, Maggie.

Speaker 1

We certainly saw Higher volume, lower margin business drop away year over year, very similar to what we saw in Q1. We've not seen any destocking and I think there's probably a little bit more seasonality in the fuel specialties business. The last couple of years it's been relatively flat as we've come out of pandemic. But this year as we've come off the winter season, we do feel like Q2 and Q3 will be a little bit lower based on the seasonality of the business I will hand back to you for it. Yes, Mike.

Speaker 1

It wasn't a big concern when we looked at it because we did do a deep dive into that. I mean, as Ian said, there's some commodity products that dropped off like cetane. There was a lower Aptel Quarter. So there was nothing really that concerned us. There's no loss of customers or any of that That you would immediately look at and ask the business.

Speaker 1

So I think overall, we're not concerned whatsoever with The volumes that we saw in the quarter. All right. Perfect. And then my last question is maybe just Good to get a sense of kind of sequentially where do you see earnings going? And let's So just out the $8,000,000 Brazil impact.

Speaker 1

But net net, it sounds like the expectation would be that Fuel specialties would be similar to maybe a little bit better. Performance Chemicals better Sequentially and then I don't know what your expectation is for oilfield sequential decline, but it Sounds like that is going to be a little bit softer sequentially. So net net, does Q3 look pretty similar to Q2? Or should it be higher? Thank you.

Speaker 1

Yes, Mike. Let me pick up on that one and Patrick will come over the top. So secondly business by business, Yes. We expect Performance Chemicals to be improved in Q3 sequentially. Our comments are saying that we're getting more volume through.

Speaker 1

We feel a little bit more confident And we started the quarter in better shape. Our expectations there are that we'll probably be somewhere around €15,000,000 to €20,000,000 of operating income. In fuel specialties, again, I think a very similar quarter to what we've had this time around. We'll be in that €25,000,000 plus range. I don't think it will go above €30,000,000 of operating income.

Speaker 1

Well, that's sort of our expectations right now. Oilfield is a little bit more We've tempered the expectations in parts of that business. We're still seeing tremendous year over year growth in our some of our other businesses. Well, we do think that will be more in that sort of €15,000,000 to €20,000,000 range in terms of operating income. Now that could go higher depending on some orders that might come later in the quarter.

Speaker 1

But our best guess now is around that €15,000,000 to €20,000,000 operating income range. When you package all that up together, Mike, I would expect EPS to be broadly Somewhere between $140,000,000 $150,000,000 as we sit here right now, which is very similar to where we are in the quarter 2. Excellent. Thank you very much. Thanks, Marci.

Operator

Thank you. Now we will take our next question. And the next question comes from the line of David Suva from CL King and Associates. Your line is open. Please ask your question.

Speaker 2

Yes. Hi. Good morning. Thank you. I'm going to apologize in advance.

Speaker 2

I had to join the call just a few minutes late. But I do have several questions. So Firstly, just if you wouldn't mind, in the Oilfield Services, I mean, this was a record quarter, both revenues and operating income. And I would just say it's probably the 3rd record quarter in a row. So initially when there was this pickup, I guess there was a thought that I think Ian or Patrick may have commented that there were some initial fill benefits and things like that.

Speaker 2

But the continued strength and especially kind of the outsized performance this quarter, Is this just share gains or with your new products? Or if you were to say what's different with this Substantial pickup. Maybe if you could just comment on whether you think it's cyclical, whether it's sustainable, Is it the new products? Is it the ad exit of some competition? Just if you could kind of characterize What's led to the considerable strength, let's say, the last three quarters and especially this one?

Speaker 2

And Your comments on the sustainability of it, let's say beyond your comments on the Q3? Thank you.

Speaker 1

Yeah, David, it's Patrick. It's a little bit of everything. It's share gain. It's continuing to continue to progress with And it's global. It's not just one specific area.

Speaker 1

I think the guys have done a really good job across all of the businesses within Oilfield Specialties to really look at Within Oilfield Specialties to really look at margin expansion, pricing, technology and share gains and it's really been a little bit of all. And when we saw initial fills, we picked up more business. And so that enabled us to have another strong second quarter. I think as Ian alluded to in the last comments he just made, Q3 kind of remains to be seen. It started out strong.

Speaker 1

We thought it would moderate. We could get some bigger orders toward the latter part of the quarter that can make it another very strong quarter. But there will be some moderation at some point in time. We just don't know when. We think it's going to be this quarter, but it could be the 4th quarter.

Speaker 1

But I think overall I would say the guys have done a really and gals have done a really good job of managing this business. And we just got to keep pushing forward and continue on the path that we're on.

Speaker 2

And if I could just follow-up, I'd love for you to comment or expand On the last sentence in one of the paragraphs in discussing oilfield, but you said we plan to continue pursuing top line and Margin expansion opportunities across all oilfield segments. So I'm interpreting that as maybe a mix of inorganic and organic Opportunities. But maybe if you could just expand on what that comment might pertain to?

Speaker 1

Yes. Let me cut that one, David. I think that's really about the discipline in the business About making sure that when we're growing and that we're getting profitable growth, we'll be disciplined on pricing, we're disciplined on gross margins. As Patrick said, the business has done a terrific job, not just over the last quarter, but over the last number of quarters. And we've come out of the pandemic In a really strong way, they've really focused down hard on what's important to the business and the customer.

Speaker 1

They've delivered great technology. They've given great service and they're delivering great results and we couldn't be more pleased with them. So it's just about keeping that discipline and focus on pricing, Disciplined and focused on customers and we've got full confidence in the team to go out and execute that. And David, it's Patrick again. Just to add to Ian's comments, We have a project accelerated across all of our businesses and all of our manufacturing sites.

Speaker 1

And that's looking at where we can get cost savings. It's looking at where we can raise prices. It's looking at where we can change technologies to provide the customer with a better technology at a less So we're looking at everything we can internally to make sure that A, we're staying competitive and B, we're taking out as much cost out of the system that we can. And that's across all business units and all businesses in general.

Speaker 2

Got it. Thank you. I'd like to switch over to Performance Chemicals just quickly. And I'd like to pick up on the aspect where you were able to gain new personal care contracts Beginning in the Q3, kind of at the same time that there's a pretty substantial destocking Element going on. So I was wondering if you could maybe characterize where the new contract opportunities Are coming from?

Speaker 2

In other words, are your existing customers seeking access to some of your newer products while they continue to Worked down inventories of some of your legacy SKUs or is this interest from completely new customers? Just how might we think about within a pretty tough overall environment, the nature or how you would Your ability to gain some new contracts such that you anticipate sequential improvement even within Pretty difficult day to day environment. Thank you.

Speaker 1

Sure, David. A lot of those contracts Well, actually last year and hence why we had a $70,000,000 spin on manufacturing expansion In addition so this is not something that we necessarily closed this year and we're carrying forward in the 3rd Q4. These were last year's closures that we had to actually build the plant or expand the plant to hit the volume requirements that these customers are looking for. And it's a lot of it is a reformulation to the natural beauty side of the business. 14 Dioxane less toxins in the product, more mild, more natural that's where the market's been heading.

Speaker 1

That has not stopped. You might have seen a slowdown or some or some destocking, but a lot of this is what's going on and hence why we think that the 3rd quarter will improve And the Q4 should improve as well. So we're confident that as the market starts to normalize And the new contracts that start to take effect that we should see some nice growth in this business moving forward.

Speaker 2

Okay. And then maybe one last one kind of a big picture bigger picture question. But I would like to maybe use as A starting point, your recent new financing credit facility or financing agreement. So $250,000,000 base capacity plus the opportunity to add $125,000,000 additional. And I just I'm looking at that in the context of a company that's had an absolutely pristine balance sheet for 1st few years now.

Speaker 2

How should maybe if you could talk about why that the timing and the Size and the features of that financing package made sense for you here. In other words, is this To is this the dry powder you need to do wave round after round of organic growth maybe in Oilfield in addition to the next round maybe on Performance Chemicals? Or is this just Pure optionality. I mean, so for a company with a fair amount of cash on the balance sheet and a History of not holding on to any debt. How maybe you could put us give us your thinking The size and the nature and the timing of that redo of your financing credit facility?

Speaker 2

Thank you.

Speaker 1

David, I'm going to let Ian talk about the refinancing and I'll address a little bit of the M and A activity and the use of capital. Yes. Today, the refinancing is really a rollover of our previous facilities. It's the same in terms of quantum. They were probably due probably about a year out.

Speaker 1

They were last. So we've renewed that with a slightly different banking group And with probably less covenants. So we're in good shape. I mean, it's there the dry powder as you call it is there and available for the business just like it has been For last number of years. So, yes, very supportive of Bancari, very supportive of the strategy and we just want to go out and put it to good use.

Speaker 1

Yes. David, it's Patrick. And just to add Ian's comments, we're not ashamed of having a pristine balance sheet. And you've seen some of the information that we put out that we are looking at M and A activity. We are looking at some deals.

Speaker 1

We'd hope to have something done by end of Q3 early Q4. It won't be a large deal, so it's not So you don't affect the balance sheet much. So our key is let's focus on organic growth. And as the markets normalize, obviously, we'll have to be putting more capital back to work. In addition, We've increased the dividend, which we plan to continue to do so.

Speaker 1

We've done a little bit of buybacks in the market. And the plan is to have some dry powder For some more M and A as we move forward. And I think as you know, we're very responsible in where we deploy cash. And we will remain that way moving forward. So again, we're proud of our balance sheet.

Speaker 1

We're not going to stress it. And we're going to move forward in a very responsible conservative way.

Speaker 2

Thank you very much. I appreciate all the color.

Speaker 1

Thank you. You're welcome.

Operator

Thank you. Dear speakers, there are no further questions at this time. I would now like to hand over to yourself for any closing remarks.

Speaker 1

Thank you all for joining us today and thanks to all our shareholders, customers and Innospec employees for your interest and support. If you have any further questions about Innospec or matters discussed today, please give us a call. We look forward to meeting up with you again to discuss

Operator

That does conclude our conference for today. Thank you for participating. You may now all disconnect. Have a nice day.

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