Clean Harbors, Inc. (CLH) Earnings Call Transcript & Summary

Good afternoon, everyone. I'm Michael Hoffman at Stifel. I'm the Global Head of Diversified Industrial Research. I cover environmental services. This is the eighth investor summit. I look forward to this panel, talking with Clean Harbors and Mike Battles, Chief Financial Officer; and Jim Buckley, SVP, Corporate Communications. Thank you both for joining us from Massachusetts. We do really appreciate it.

Michael, thanks for having us, and thanks for the Stifel team to invite us to your conference. A little different than what we're used to doing, but at the same time, hopefully, it's going to be effective and we answer all -- I'm sure it's going to be very effective. I'm sure we'll answer all the investor questions.

Well, that's what we're looking forward to. So I'm going to lead off with a big, high-level picture because I think given your footprint and the businesses you're in, you have this interesting perspective on not just the industrial economy actually, but I also think the sort of broad-based economy. So can you share with us your thoughts about what you see as -- what's happening with our North American economy right now?

Yes. So I would say, and I'll answer it, Jim, feel free to jump in. I would say that it's uneven but steady. And so the way I see it is the way I said it on the main call, when I think about the Safety-Kleen branch business, where we ended the quarter, let's say, 80% of prior year numbers. In Q3, we get to 85%. In Q4, we get into the low 90s. But at no point, do we get back to kind of 2019 levels here in 2020. I think that we're all going to need to be vaccinated and sometime even after that before we're -- before it's kind of back to "normal", whatever that is. So I do see, though, unless there's a mass shutdown in major states and going back to April-level type of shutdowns and lockdowns, I see kind of a little [ unevenness in parts ], but overall, trending in the right direction.

And you've given a high level sort of overall economy. Is the industrial economy, where -- how do you frame that narrowly just in itself?

Yes. When I think of industrial, I think -- when you look at -- we're waste, Michael. And so coming into April and May, that business kind of remained pretty strong. And only into the back half of June and into early July did we see some softness. Now recently, as we said in the main call, we're seeing that pick back up again, but there was certainly some softness in the industrial space, and then think about chemical space and manufacturing in the end or back half of June and into the first half part of July.

Okay. And some of that is your customers, a necessary service, and so a lot of activity persisted. And then they had to figure out and adjust capacity utilization to their structural demand. And that's why there's a late June, early July dip once they settled into that. Then now we're in the overall economic cycle starting to improve, and they can walk up their own utilization.

I think that's fair to say, Michael.

That's the way to think about it? Okay. So I certainly don't want anybody running away and saying "oh my goodness, Clean Harbors said things dropped in July," when, in fact, but...

No. The important thing to remember, Michael, is that we lag production. So some of the softness we're seeing now is actually softness in Q2. And so we factored that into our guidance. And I think we're starting to see a pickup actually in our chemical loads and our drum loads and that's reflective of kind of what's coming back into the network.

And you're principally an organic chemistry play, but is there -- you do have an inorganic side. Is there distinctions between the two as far as general overall activity?

I don't notice any noticeable distinction between the two.

Okay. When we talk about the lines of business and we think of where we are within technical services, to me the super engine is your incineration business. And it's not that everything else is trivial, it's just -- it's a phenomenal engine, $300 million, $350 million revenue business with really good margins. Talk about what's happening there that gives you comfort in why you're able to give guidance because that's a business that has pretty high decrementals if the utilization drops. So what's happening there that made you -- that more comfortable to be able to reinstate your guidance?

It's just a pipeline, Michael. We're seeing a strong pipeline as we get into July and August. And we gave guidance with the idea just to help investors kind of think about how we're thinking about the last 5 months of the year, the last 6 months of the year. And so I really feel that it was important to give those type of range so that people can understand kind of what's happening. And we do see a fair pipeline of work coming in there. And I don't see any reason not to do it. As a matter of fact, from what we've heard from some of our investors, they were plotting it as a smart move because I think that it gives us confidence that it isn't that cyclical of a business, something we can manage and can get our arms around, I think is the case.

Well, I think it says a lot about, one, your confidence in the underlying business cycle; two, you have visibility on it; and three, you have confidence that it can be stable even if it's at a lower level of macro activity.

I agree.

So within environmental services, is the Industrial Services and cleaning business, a lot of refining turnaround efforts, outages. Talk a little bit about how you think that plays out because it's not likely to recover as much as maybe one would hope in '20 but you can't delay this forever. Otherwise, you're going to shut a plant down because you're going to get a fire and explosion, catastrophic events. Talk a little bit about how this work has to play out over time.

Yes. You've got it right, Michael. You can delay these things for some portion of time, but then you have -- an unplanned outages becomes an emergency response situation and results in us having to get in there quickly at kind of better rates. So we think that the turnaround season will be pretty robust for the refineries and chemical plants in other areas. But the timing is going to be uncertain whether it's going to be in August, September. Normally, a September time period is the busy turnaround cycle, normally one in the spring, one in the fall, September, October. We're not banking on that. That may happen, kind of who knows in a pandemic world what really happens. We're not banking on a big fall turnaround season for us to meet the guidance that we gave you last week.

And I'm assuming the delays that occurred in the spring are -- you've got to bring a lot of crews in, and so there was the [ proximity ] issue. And so now we've gotten our hands around how to make that happen logistically. This is now just a scheduling issue as much as anything. Is that oversimplifying it?

I think that's still a lot of companies from what we hear are putting a lot of pressure on price, and putting a lot of pressure on margins. And to be fair, Michael, we're not going to repeat the mistakes we made in 2014 and '15 to take this super low-margin work to run our equipment, to run our people and get people hurt for very, very low margins. So to be fair, that may be the case. We have walked away from some work, and you saw that in the Q2 results when we're down $60 million or 47% in industrial. That's not just COVID shutdown. That is us getting an enormous amount of pressure on margins like we did back in the day, and this time, we're not going to just take the work just to keep our guys busy. As a matter of fact, we ended up doing -- is a lot of them ended up doing some decon work, which has been great, which has allowed us to drive margins in that business as an internal labor versus subcontractors.

Okay. Talking about the decon work, and I get why the initial surge of it happens. When you originally thought this was going to be about $50 million of revenues for the year, it's now turning out to be $100 million. Which -- what changed in the buyer's standpoint that caused this to double? And what do you think is a -- even if we had a vaccine, but maybe we do, maybe we don't, what portion of this might be recurring?

Yes. So when we gave -- we talked about in April, we talked about in April about, hey, we see this slowing down, $50 million for the year, and we were assuming that the curves are going to be flattening. We're assuming that what we saw in April was going to continue kind of this trajectory of getting a little better at it, and better at it and better at it. Yet, what happened was, as you know, the south in California and Arizona, Florida and other areas, kind of had quite an outbreak and still have a bit of an unmitigated outbreaks, and that's really driving the work. And more importantly, it's not the, "Hey, come every other week and do a decon work." It is more emergency response work, Michael, whereas, there's been an outbreak at a restaurant or at a supermarket or at a distribution center where they need services that night and -- so they have to open up at 5:00 a.m., and they really had to make some scheduled -- timing schedules. And so that emergency response work has been where the volume really has been, less on the come every other week. That's what it was at first. But that's been less and less, and it's more like, "Hey, we have a contract with a large distribution company, and they had someone coughing and wheezing all over the back office, and we have to get in there tonight and clean it out." And so that's really been leveraging our national footprint, leveraging our focus on safety and compliance and really being able to take advantage of that. To get over 7,000 emergency responses since the outbreak began in March.

And we've done what revenue to date in that?

So we've done -- through the end of Q2, we've done $60 million. And Q2 revenue was also about -- through the year-to-date, it was also about $60 million.

So that's about -- am I doing this math right?

10,000 event.

10,000 event. Okay.

But Michael, some are cleaning out an armored car for a lot less, and some are cleaning out NASCAR, right? So it's -- the price points are all over the map.

Got it. Got it. And if it's not recurring in the sense of come every other week, kind of that way of recurring, what's the probability that it's recurring in the sense of, this is here to stay. We're not getting rid of this even with a vaccine, we're not getting rid of it.

Yes. I mean I'm actually hopeful it's going to be [ Q2 of event ]. But I agree with you that it's probably not, you turn your calendar to 1/1/2021 doesn't result in us automatically not having any of this decon work to do any more. So I do see it as the vaccines get distributed, assuming it's early 2021, I'm making that up, it's going to take some time. There's probably going to be some overflow and follow on in this work in 2021, beyond just 2020.

So on an earlier panel, one of the CEOs had been involved in a call with lots of pharmaceutical industry people, and everyone suggested that there was this conversation that says we have a Phase 2 of this thing happening in the fall with normal cold and flu season. And now they're actually revising that, thinking going we're in the Phase 2 already. And that this is here. This is part of life and -- so businesses then, from an employee standpoint and everything from liability to do -- it's the right thing to do. If you have something happen, you've just got to do what -- you've got to call Clean Harbors and get this work done.

Yes. I think that it's -- some -- at first, it's interesting, Michael. At first, the people who had called us, didn't want us to kind of -- they want us to come in odd ball hours through the back door and then clean it and then get out of here, right? Which is normal, they don't like hazardous waste companies kind of wandering around. And now they kind of want us through the front door. They want us to park the truck out there and leave it out there, so people can see that we actually are -- we being the company, taking this outbreak seriously and bringing in a nationally recognized brand to do the cleanup work. It's actually changed the dynamics a little bit because of the fact that, to your point, you said earlier, I mean, the people are worried about liability. Their employees are worried about, is it safe or not? When you see a company like Clean Harbors and our nationally recognized brand and our focus on safety and compliance, you feel a little better. I feel a little better. I see the guys in here from time to time. I think it's great. It makes me feel good.

Perfect. So let's switch gears to Safety-Kleen and talk about the opportunity to get average branch revenue -- average weekly branch revenue back to pre-COVID levels. Is it solely that vehicle miles travel have to be back to whatever that was, 280 billion pre-COVID or...

The interesting thing, Michael, is that through the decon work, we've actually established over 2,000 new connections with new customers, customers we've never had before. And whether that means there's some field service work or some Safety-Kleen work, I mean, there may be a scenario out there where we get a bunch of incremental work from this beyond just going and cleaning out their warehouse, right? And so that's really been a small plus, not a big number here in 2020. The number I heard over the weekend was $5 million to $10 million of incremental revenue. But that type of connection is invaluable for the long term, I mean, that turns into something more. I do think though, to your point, vehicle travel miles driven is really a very critical component. And then I remember back in April, when we talked about the summer driving, the problem is that commuter never came back. And quarantine laws in different states prevented us from going to see grandma in Arizona. As a matter of fact, you wouldn't even -- grandma wouldn't want to see us anyways. So all that hasn't materialized as we thought. And as such, the speed of the recovery for the SK business will be tempered. And as I said earlier, even as we get to year-end, we're not assuming that the SK business comes back to kind of 2019 levels. It won't be until we all get vaccinated and we all get back on planes and cars and so forth.

Okay. So the other way to ask you about this and think about it since -- part of what I have to do is model things, we anniversaried 2Q '20. Should by all definition then we return back to that 2%, 3% organic growth from that point forward?

Absolutely. In my opinion, nothing changes. IMO 2020, H.R.1733, all those things we talked about, those all continue on and continue to move forward. As a matter of fact, Michael, I see as a catalyst, maybe not so much for SK, but for Clean Harbors, as the onshoring of the supply chain. I really believe that, that's a long-term catalyst that is, if you and I were running a company today, our incremental dollar maybe not -- we may not shut down in China, but we may establish a beachhead in Cincinnati, in Kentucky or in Ohio and Indiana where we could have 20% of our product be manufactured there as a way to kind of manage our supply chain a little better and being solely reliant on the far east for our critical supplies is maybe not that -- although we're saving a bunch of money, may not be the best answer from a business continuity standpoint. And I think that lesson is being learned by a lot of companies. Certainly, if you and I were doing this, we'd probably put the incremental dollar there, not in Shanghai.

Right. Right. Yes, I can see that for sure. So the -- there's nothing like a crisis to create an opportunity. You have a pretty big share of the parts washer marketplace. And my guesstimate is the half -- you're not quite half of it, but the half that you don't have, some percentage of those are customer-owned and they figure out how to get it serviced, and there's some small independent player maybe is collecting their solvent. And the others are -- somebody's got a small little business, and they're servicing them much in the same way that you are. Is there a consolidation opportunity, not so much deals, but an organic growth potential here where you could end up with more service of parts washers because people aren't going to be able to do this service for them that lots of little things are failing, and therefore?

Yes. Certainly, I think that we're constantly fighting for new customers all the time. And there are targets out there that we've set for ourselves to achieve new customers. I can imagine and some of these companies are struggling a bit with the shutdown and the lockdown. They may not come back. There may be opportunities for us to pick up organically or inorganically through M&A, buying small businesses or just taking their customers and servicing those customers and having that balance sheet and that financial stability to do so if we want.

Okay. Move to Safety-Kleen Oil. Are we now back to normalized annual collection volumes?

I don't think so. Jim, what's the number we had in Oil?

It's reflective of the vehicle miles driven, Michael. So the fact that we're 90% -- the country is 90% of last year's levels, that would argue that of the normal, if you include Canada, 1.2 billion gallons is probably 90% of that out there. So...

Got it. Okay.

For us to get back to our normal levels, we would probably have to work extra hard on the collection side because there's only 90% of the opportunity. So I would think we would be somewhere reflective of what's in the market.

And are you able to capture enough volume that if the supply/demand balance finally flushes itself out completely, your -- you could restart Breslau?

Yes. We're thinking about doing that in the back half of the year, definitely.

Okay. So supply is not the issue at this point. It's about demand for base oil, where we are in that and the rebalancing of that.

Yes.

I mean -- so the macro data from people like [ Lou Report ] and what have you would suggest, if we're not there, we're awfully close.

I mean I think that it all comes down to what price can we sell the oil at. What does the demand picture look like. There isn't a problem of collecting used motor oil accounts. I think there's plenty of it out there. And as you said -- and I think that we're getting plenty of used motor oil as much we need basically. And I don't think that's going to be the challenge. The challenge on the other end is that demand -- when we think about April and May, the prices were -- we couldn't sell it even if we had it. And so -- at any price. And so that really was the challenge that we face and we still face some.

Do you think posted prices now reflect market more accurately? Where I don't think they did in April.

No. I do not.

So we're still getting pretty steep discounts to posted prices at this point, still?

Yes.

So why are price increases going up then? That's confusing because some of the players...

Me, too. Me, too. It really is the actions of 1 or 2 individual suppliers. I don't have a great answer to that.

Okay. All right. Well, fair enough. And then you all were really close to being on the brutal edge of producing a Group III just because the quality of what you were collecting could get processed. And where is all that at this juncture? I mean are you still really, really close, and it's just as another a couple more years of the supply, a mix being...

Nothing's changed on that answer. I think the -- if you talk to our head of re-refining, he says that the quality of our base oil, the input costs get better and better every year. His yield gets up higher and higher every year. So I think, as we said before, we're a couple of years away or probably closer than that still.

Yes. Michael, you know the space. It's -- to get to that 120 number that you need to hit, the batches that come out of our re-refinery are in that 118, 119, 120, 121 range. But in order to sell it as a Group III, it has to always be at that 120 level. So we're right on -- we're knocking on the door. But in order to sell it and certify it, it can never go below 120. So that's what we're working towards.

Yes. Well, fair enough. It just -- what's fascinating is that if I had to spend $5 million or $10 million on increased pressure and temperature in the [ hydro-treater ], you've managed to get there by mix. Close.

Yes. We had a proposal a few years ago that would have cost us $25 million or $30 million. Alan passed on doing that, wisely so, given where we are several years later.

Yes. Yes. So the other side of the used oil equation is this idea of being able to manage the spread. And what can you share with the market so they appreciate that that's not the driver of the EBITDA compression, that the driver is -- you're [ not ] selling 150 million gallons on an annualized rate basis this year?

Yes. All I can tell is go look at the [ Motiva ] prices. So assuming the discount is sustained, last year or this year, we're down $0.60, $0.70 period. Our CFO pricing is up, similar to the market, up $0.50, $0.45. And so that type of increase, and you take the gallons collected versus gallons produced, it almost works out perfectly. The spread is the spread, it really is. It is -- the 2 factors that impacted us in Q2 with SK Oil was demand, demand and demand and we shut down 4 re-refineries. It isn't 0 to keep them running when we shut them down, knowing full well that our plan was to turn it back on again in some time horizon. We kept them warm. We didn't furlough many people. We kind of did a slow turnaround. It really was -- it wasn't a mothball, put anti-freeze in the pipes type of thing. It's more like, "Hey, listen, we're going to let people go for a few weeks, let them collect unemployment. We're going to lock this down, save a few bucks for 3 months, and then we'll turn it back on again." Sure enough, as you see it today, two of those have already been reopened, and they're fully -- they're running full bore here in July -- here in late July.

Yes. And all we need is to get Newark and Breslau up?

Yes.

Right. Okay. The closed loop -- I'll bet this is one of those things that it just drives Alan nuts.

It does.

All right. Because we -- at the very end here and I've been asking all day long ESG, right? We're not -- I'm not going to jump ahead. But ESG's on top of mind everywhere you turn. And more and more companies produce their sustainability reports and the sustainability reports increasingly have real data in it, not just some box checked and they say all the right words. So like -- you can't say to the customer -- I'll say to the customer, Walmart, you collect 20 million, 30 million gallons a year from Walmart. I do not understand why they do not have a closed loop. It does not make any sense to me. What is getting in the way of that decision where they -- one, the oil is better quality; two, it's cheaper. The long term, it will save them money. You can meet all of the -- you need all these other greases and oils and everything else, you can meet that distribution issue. So why is it not making strides?

I wish you were on our sales force because I think you articulate the message as well as anyone I've ever talked to. The underlying issue is that companies like Shell don't play to lose. And they have been around a long time. And companies like Quaker State have been here a long time, and they will sell it at basically any price not to lose a customer. And at some juncture, we struggle with that a little bit. We are a no-name brand that is re-refined motor oil with all the stigmas. For people who still do the buying, don't understand. They still think it's not as high quality, and we fight that battle every day. But I'm here to tell you that the market is coming to us. More ESG companies, more ESG become more and more of a focus. And when they take out the low-hanging fruit, all you got is food at the top of the tree that's harder to get. We're an easy win. We're an easy win and you're [indiscernible]. So I'm here to tell you that when you think about any company that's trying to -- and some of these companies have world-class ESG scoring systems and trying to improve upon that and having incentive compensation tied to that, it's getting trickier and trickier to do so. And there's an option for you, and it's Clean Harbors and its Safety-Kleen re-refined motor oil that you could take full credit for as being completely 100% re-refined motor oil, no dinosaurs killed in the making of that motor oil.

Right. Let's talk about the free cash flow on the balance sheet a little bit. What can you do at this point to lower the bar because your cash generation has gotten really quality and sustainably at a higher low than any other business cycle as a cash -- on a cash conversion basis. So...

Yes. We've had a good run.

Yes. No, kudos to you. But I look at your balance sheet cost and think there's like 50 to 100 basis points of average debt cost that still seems it's a little rich.

Yes. The underlying challenge is, it's really come down to fixed versus variable debt, Michael, right? So you know me, I'm not a big fan on variable rate debt. 25% of our portfolio, not 50%, not 75%. If I went down that road, variable rate debt is a little cheap right now. 200 basis points, if not much lower than that, 150 basis points. So I like it. The -- I'm not in the business speculating on interest rates. I like 75% being fixed, probably at 4.5% to 5%. And I got 25% at a real low rate. And depending on where you are in that curve versus us and our peers, that tells everything you know about rates. Rates are rates. We're BB+ rating company and well-regarded in the space, and that's our rate. Just how much you want in variable rate debt versus fixed. It's simple as that.

And if you could refinance all that fixed rate right now, it would be refinanced at 50 or 75 basis points lower than what it is carried for right now. Is that correct?

You could. You could. You have a little bit of a problem with prepayment penalties. We have had -- we did do this debt relatively recently, Michael, and there our premiums associated with refinancing that debt today that would make that equation a little less lucrative. Yes, we had a massive [ bad guy ] to kind of get there. We've got a couple of years left before you could do that without paying the premium associated with a early call.

All right. I got a couple more things I got to get in here before I run out of time.

Okay. Go ahead.

I'm running late all day. So digital, you end up in shut-ins and stay at home and work from home, and all of the sudden, digital is more and more a mainstream conversation. Talk about the Clean Harbors' digital footprint. And it's everything from customer-facing to -- what have you been -- where are you in your own systems? And how would you sort of score that digital infrastructure and things that have been done and really stood out well or things that need to be done?

Yes. So Michael, you know Alan, you -- I wish you were here for this question because we would spend the next half an hour talking about it. You know how much he loves system. So we are establishing an e-commerce platform and driving that e-commerce platform. We're using RPA and AI to help drive process automation. I mean really, it has been -- we are on the front end of that technology transformation and really using those types of processes to help our quote-to-cash system, our interaction with customers, our management of delivery and waste streams, I mean, really is an exciting time for us and led by Alan. Alan, it's his passion. You know that he's been focused on IT for his whole career. He built the wind system himself, which is our ERP system, something he's very proud of. And it really is a competitive advantage, when we do things like M&A that plug right into the system versus having to have disparate systems through a consolidation system, which is what [ I'm used to ].

Right. Okay. Last question on ESG, as I said earlier, this is the fastest-growing area of assets under management. More and more companies are expected to have to talk about it. My question comes from the lens of -- I think that most companies already have been doing things that are part of corporate culture, strategy, vision, DNA, and this is really about how you extract information to be able to show the market what you're doing. Talk about where Clean Harbors is in that evolution of who you are and what we know about you and ESG as a topic.

Sure. So we didn't really put it in my earnings document for the quarter, but we certainly could have. If you look at our scores, I'm using ISS' scoring systems. This has -- there are dozens of them out there, but the one I'm using is ISS as a frame of reference. And just to give you a frame of reference, over the past 2 years, we've improved the governance score by 40%. We've include -- improved the environmental score by 15%, and we've improved the social score by 80%, like our peers have and good for them, right? So it's doing exactly what you said, Michael, bringing light to some of the good things we're already doing as well as putting in incentive compensation plans around safety, which is a social scoring system, focusing on our incentive compensation plan from a shareholder standpoint, from a clawback provisions and other things like that. Small things that we can do or already have done that we need to bring to the surface, put a light on it, and that's helped our scores quite a bit as well as the hard parts going forward. The hard part is setting achievable goals around carbon, water, energy and other areas and then achieving and hitting those goals, and we're working on that right now. So our scores -- I'm really proud of what we've done. The work -- the people who do this work for me, it's in finance. We've been making it our focus, led by the Board of Directors. It's certainly quite an interest on their end to kind of push it through the organization. We've made some great progress. Our goal is to continue down that progress, put measurable goals out there from an environmental standpoint, lower that score like we lowered the other two and publish a sustainability report in accordance with SASB. That's what we've done. That's really our goal here for 2020. And our hope is to get that done before we issue our 10-K in late February.

Perfect. Well, we're at the end of our time. In fact, we've exceeded it. So I'm going to thank both of you for joining us today. Wish you a good rest of the summer. I can't believe it's August 10, and we're almost at the end of the summer. And hopefully, we're going to be doing this in person sometime sooner than later.

Thanks, again, Michael, and thanks for the team at Stifel for having us.

Thank you. Bye.

Appreciate it. Have a good day.

You, too.