Howden Group Limited (GTLS) Earnings Call Transcript & Summary

Good morning, and welcome to the Chart Industries, Inc. Howden Acquisition Conference Call. [Operator Instructions] The company's release and supplemental statements was issued earlier this morning, if you have not received the release, you may access it by visiting Chart's website at www.chartindustries.com. A telephone replay of today's broadcast will be available and the conclusion of the call, Wednesday, November 16, 2022. The replay information is contained in the company's press release. Before we begin, the company would like to remind you that statements made during this call are not historical, in fact, are looking forward statements, please refer to the information regarding looking-forward statements and risk factors include in the company's earnings release and latest filings with the SEC. The company undertakes no obligation to update publicly or revise any forward-looking statement. I would now like to turn the call over to Jill Evanko, Chart Industries' CEO.

Thanks, [ Devin ], and good morning. Thank you all for joining us today to discuss the signing of our definitive agreement to acquire Howden from affiliates of KPS Capital Partners for $4.4 billion with an anticipated closing in the first half of 2023. This is a combination with incredible industrial logic. With me today on the call is Joe Brinkman, our CFO. We'll refer to slides included in the supplemental deck issued this morning with the press release starting on Slide 3. This is a very exciting time for both of our companies as we bring 2 highly engineered equipment manufacturers with significant synergies and cultures of innovation together to double the size of Chart with margin, free cash flow and earnings per share accretion expected in the first year of ownership post closing. This acquisition supports our conveyed 3 inorganic principles and we'll talk about each one of these today. First, that the deal brings Chart access to customers and commercial projects that could not be accessed without significant organic investment, which Howden does, given their existing and strong presence in Africa, Southeast Asia, including South Korea, Middle East and Europe as well as new end markets, including nuclear, energy recovery, biomass and clean metals and mining. Second principle that it brings Chart access to geographies that otherwise could not readily be accessed due to lack of product experience in the region, certification requirements or government funding and relationships. As you've heard me say on numerous occasions, a differentiator for us is not only our first-mover advantage somewhat represented in first of a kind, our localized manufacturing footprint as well as our ability to get our equipment certified for newer clean energy and power applications at a regional level. Having physical presence in Africa and South Korea, Middle East and EU member states will accelerate this. And third principle, that it adds equipment or process that builds out the a la carte menu or full solution menu for applicable markets for our customers. You will see that this acquisition hits this principle across the board, capabilities, engineering, offerings, systems, solutions, service, all designed to enable both sets of customers to accelerate their pathway to the nexus of clean. Please note the company contacts on the release for more information. We're happy to set up calls offline. Now turning to Slide 4. I have been told by the bankers that I'm going out of order here on the way the slide deck is presented, so I'll go with it here. I promise that I'll get to the slides that have the compelling strategic elements in the transaction details. But first, I want to share a bit about Howden, a company like Chart, that has transformed themselves since 2019. I'm going to spend a few slides sharing more about Howden, so you can clearly see how their product and engineering solutions so powerfully integrate with our nexus of clean strategy that is clean power, clean water, clean food and clean industrials as well as Howden's proven aftermarket service and repair capabilities will immediately pull through chart products and more than double our repair service and leasing from approximately 14% of revenues currently at Chart to over 30% of revenues in the combined business. This shift will significantly enhance financial resilience and further embed our solution-centric customer relationships globally. Slide 5 shows the breadth of the Howden portfolio as well as the highly complementary nature of the product offering to our own. Howden has a very extensive product portfolio in air and gas handling, really one of the best in the industry in terms of flow and pressure range coverage, providing the capability to be in a wide range of applications. Howden's main product families include compressors, steam turbines, blowers, sands and heaters. The breadth of their reciprocating and diagram compressors, for example, has been used extensively in hydrogen applications with a strong existing installed base of compressors and hydrogen service. Howden has a long-standing culture of innovation, as I've mentioned already, and you're going to hear me continue to say in particular, because this is a real natural cultural fit, sharing passion for first-of-a-kind engineering-driven solutions and continued R&D. Howden was also the first company to commercialize screw compressors. Now I would note that these machines that I'm talking about that Howden has are not used in big LNG applications and therefore, we will continue to grow our big LNG with our existing product and process content and partnerships. With the business philosophy in line with our own, Howden provides full life cycle solutions on their products from the initial phase of feasibility or as we say, stickiness early in design and feed to new build construction, all the way through spares services and retrofits over the life of the applications. Together, this gives Howden a resilient model with strong recurring revenues and in turn, their manufacturing footprint capacity and aftermarket capabilities will be highly synergistic to our combined forecasted growth in both the near term and throughout the decade. We'll be able to vertically integrate many of their products into our full solutions, and as noted on the prior slide, Howden has a robust aftermarket offering, which does reduce potential cyclicality and offsets longer project time lines with shorter book-to-ship content. Moving to Slide 6. I've already commented on the strong aftermarket service and repair content, but this comprises approximately 46% of Howden's annual order book. In addition, as you've heard me speak about for a few years now, customers are looking for preventive maintenance, easy monitoring solutions, remote assistance and augmented reality capabilities. Their digital uptime offering and Ventsim DESIGN capabilities will on day 1 of ownership, be able to be integrated across many Chart products and engineering teams. We see an enormous opportunity to drive improved product and offering performance for our customers by integrating these digital offerings. We'll go into more detail on the strong and quick cost and commercial synergies in a moment. The foundation of these are set in the limited customer overlap between the businesses. The overlap is limited to certain power and water customers and the complementary nature of the geographic footprint and existing customer base as well as the opportunity to pull through Howden equipment to our end markets is a great synergy to start with. The partnership and collaboration approach that we have taken over the past years remains a core strategic priority for us. Howden has had a similar approach to partnerships, and that's evidenced by the one we did with them in 2021. And the combination better positions us to continue the successful strategy across a broader set of solutions and markets. Howden's end markets are shown in the middle column called subsegments on Slide 8. Also, the strong macro tailwinds that we continue to experience at Chart are overlapping to Howden's offering. In addition to that, they also bring additional tailwinds, including in green metals, where they've done the first green steel application in the world and supplied the hydrogen compressors for the system. The steel industry is responsible for approximately 8% to 10% of the world emissions and green steel is going to be a key trend in the next decade in decarbonization. Another trend from a macro perspective is electrification with an increasing adoption of EVs, driving higher demand of nickel, lithium, copper and other metals. For example, an electric vehicle requires 2.5x as much copper as an internal combustion engine vehicle. Howden provides a complete range of services and solutions in mine safety that includes simulation control and optimization of air flows in mines, the supply of fans for ventilation and complete heating and cooling solutions. Fans are among the most energy-intensive services in mine operations and the design of highly efficient fans is key to optimize energy consumption for these applications. All Howden's products, engineering and end markets expand our nexus of clean. Slide 9 is a slide that those of you who are familiar with Chart have come to know regularly. This slide will continue to be our benchmark of the menu that I've referred to as the nexus of clean. You can see the additions that Howden brings to each piece of the Nexus as well as the digital and uptime offering which cuts across the business and includes front-end engineering design, monitoring and aftermarket. I won't run through each of these on this slide, but it is worth mentioning in water treatment or wastewater at Howden's installed base of air compressors, which are applied to biological treatment units, the most common technology used today in water treatment plants is treating water for approximately 10% of the world population. Slide 10 links very closely with the bullet points in the press release itself, and the list is even longer than shown. In summary, this highly complementary offering will expand our equipment portfolio and process technology offerings for multiple molecules and applications across high-growth areas, including hydrogen, carbon capture and storage, decarbonization of the industries, water treatment, petrochemical, LNG, small-scale, air separation and natural gas processing. We continue to see lead time and delivery scheduled at the top of customer decision points for placing orders and liquefaction given the macro trend of energy access and resiliency as well as desire of our customers for the fastest implementation. We will benefit from integrating Howden's compressors in its offering where applicable as compressors are the longest lead time item in the current environment for hydrogen, helium and small-scale LNG liquefaction. Additional end markets and geographic expansion will create a more diversified business for us, while staying focused on our core engineering and manufacturing capabilities. Howden has a very strong operational service and commercial presence in the regions I've already described as well as applications in cement, marine, mining and nuclear, whereas on the other hand, charts exposure to LNG, particularly small-scale LNG which is applicable to their product offerings, water, CCUS and hydrogen in a variety of regions will pull Howden's equipment through at scale in these markets.

Both companies have a strong culture of innovation, which is demonstrated in the thousands of patents and trademarks combined. Aftermarket service and repair comprise approximately 48% of Howden's and approximately 14% of Chart's revenues. Combined, this will be over 30% of pro forma revenue with approximately 42% gross margin as a percent of sales. The addition of this high-margin aftermarket business will lift the combined margin profile and resiliency and reduced cyclicality. At a financial level, the combination is highly attractive. The acquisition will be accretive to margin, EPS and free cash flow in the first full year of ownership, and we have line of sight to delivering greater than 500 bps of margin expansion through execution, cost synergies and a broad set of combined and new commercial opportunities. After closing, we will quickly take advantage of the one chart global commercial and global engineering approach, as well as our flexible manufacturing strategy, which will, with Howden's engineering and manufacturing expertise allow for more first-of-a-kind opportunities and continued double-digit growth. But first, Slide 11 shows the transaction elements. I won't walk through these bullets as we have already discussed much of this. The purchase price represents 12.9x LTM adjusted EBITDA excluding synergies, 8.5x LTM adjusted EBITDA, including year 1 cost synergies only and 7.4x LTM adjusted EBITDA, including year 3 cost synergies. Note that none of these metrics include the significant commercial synergies associated with this combination. On Slide 12, you can see an estimated pro forma outlook for 2023 of the combined business. churn in Howden's combined backlog of approximately $3.7 billion as of September 30, 2022, supports the near-term growth outlook and reflects significant growth in the backlog of each of the businesses. This growth outlook is furthered by the short book-to-ship time frame of the aftermarket service and repair portion of Howden's business, which is approximately 46% of the order book. The combined business is expected to generate approximately 90% free cash flow conversion in the first 12 months of ownership, inclusive of synergy cash flow. This leads to an estimated pro forma net leverage ratio in the high 2x range by the end of 2024, assuming our first half 2023 close of the acquisition. One of the most impactful parts of this combination are the synergy opportunities as shown on Slide 13. We estimate annual cost synergies of $175 million to be achieved in the first 12 months of ownership and $250 million annual synergies by year 3 following closing. In addition to cost, we have identified significant commercial synergies that are expected to reach 350 million annually by year 3.

The synergies are created by regional overlaps and scale that can be achieved when combining 2 midsized companies with different geographic strengths, a combined customer base with a little overlap bringing opportunities to pull through sales for a broader set of products from both companies and manufacturing optimization and insourcing with additional immediate capacity for both businesses growth. The combined service footprint and installed base provides for significant aftermarket growth synergies, especially when combined with the digital offering. Significant total solution offering expansion opportunities exist as the products and services of the 2 companies are complementary. One such example is the expanded reach of our hydrogen offering to be deeper in gasious hydrogen applications, complementing our 57 plus years of liquid hydrogen market leadership position. And both companies have a history of inorganic investment integration. In the past 3 years, having completed 7 highly synergistic bolt-on acquisitions and in that same time period, Chart completed 10 strategic bolt-on acquisitions and divested 2 noncore businesses. Both teams have experience in and dedicated resources for successful integration planning and execution and we're thrilled that Massimo Bizzi Howden COO will take on the integration lead position for the combined business. Massimo joined Howden in 2018 and have multiple industrial operational and presidential experiences at Coke, John's Inc and Solvay to name a few. Throughout our remarks so far, you have heard about the complementary nature of offering into existing markets. Howden also services 6 markets that bring us access to content with Chart's existing portfolio. These are shown on the far right-hand side of Slide 14 and reflect industries that either contribute to more sustainable solutions or are actively pursuing cleaner answers in their spaces. To date, one of the most tactical advantages that has come through organic and inorganic investment across the past 5 years for Chart has been our increasing global manufacturing footprint. This has allowed us to make nearly all of our products in more than one location, which provides a natural lever to pull when determining between localized and global supply and be more competitive when serving a customer in localized geographies. This is even furthered by the complementary nature of the Howden manufacturing sites with 18 original equipment shops and 41 total service centers globally. We love the physical presence in Africa and Southeast Asia, which we see as having high future potential for the Nexus of clean. We have shared of how Howden and Chart work to help our customers achieve their de-carbon ESG targets. But we would be remiss not to comment on the fact that both companies have similar cultures and values with an internal ESG focus as well. And you can see this on Slide 16. Both companies have carbon intensity reduction targets with Howden having committed to become net zero by 2035. In the combined business, we will continue with our Chart goal of 30% reduction in carbon intensity by 2030. As Ross Shuster, Howden CEO states, Chart's nexus of clean approach focuses on the drive for clean power, clean water, clean food and clean industrials, which is clearly aligned to our purpose of enabling vital processes which advance a more sustainable world. And note that Ross, who joined Howden in 2019, will stay with the combined business post close for up to a year as an adviser. Slide 17 shows one example of how this combination drives full solution offerings. Slide 17 is an example only of a hydrogen liquefaction cycle. Howden machinery is a perfect complement in adjacent space, adding to our brazed heat exchangers, cold boxes, expanders, coolers and storage and loading systems for many of these liquefaction processes, having very high efficiency equipment. So that's the key here, the high efficiency element you've heard us talk about, our customers love that around our process technologies. And that really makes decisions around investment in liquefaction easier when you start getting more efficiency out of the same footprint. So Howden has that similar approach in terms of high efficient equipment, and that's across the board in the products offering. And then lastly, we've talked about throughout today's dialogue, the parts and services, which significantly adds to Chart service business for the entire scope of supply. So all of this comes together back to the extended solutions for the nexus of clean, which we revisit on Slide 18. And importantly, on Slide 19, you can see the elements of the transaction financing. Chart has $3.375 billion of fully committed bridge financing in place from JPMorgan and Morgan Stanley. We expect to pursue a long-term financing structure which is anticipated to include a combination of bank debt, term loan, senior secured and unsecured notes. We will prioritize deleveraging and have specific actions to take to reduce our net leverage ratio to the high 2x range, as Joe said, by the end of calendar year 2024 and an ongoing target of 2x to 2.5x. As part of our deleveraging plans, we do not intend to undertake any material acquisitions or share repurchases until the leverage ratio returns to these targeted levels. And as we always do, we will continue to review our ongoing portfolio optimization to maximize the impacts for our customers. So I'll conclude our prepared remarks reiterating the extraordinary industrial logic of bringing Chart and Howden together. By applying the best of both midsized companies processes, optimizing the global footprint and leveraging the infusion of Howden's talented team members, we expect to deliver not only year 1 margin, cash and EPS accretion, but ongoing high-growth and high-margin returns. We're thrilled to move now quickly to closing the acquisition and officially welcoming the Howden team members into the Chart family. And now, Devin, please open it up for Q&A.

[Operator Instructions] Our first question comes from Martin Malloy with Johnson Rice.

Congratulations on the transaction.

Thanks, Marty. We're thrilled.

I was wondering if you could maybe give us a little bit more background on the genesis of this transaction and how it came about?

Sure. So obviously, these 2 businesses are very complementary to each other. And what we -- if you ask the Howden team, I'm certain that they have heard over the years that they are -- they look like charts. They're a private equity owned chart, but with different products. And so that certainly has been something that we've heard and paid attention to. But over the last years, we have spent a lot of time working with Howden to deliver customer solutions in a supplier customer arrangement as well as through the memorandum of understanding that we did in 2021 for hydrogen offerings. So we've gotten to know the team members, the business, the culture as well as being able to deliver in really quick lead times and full solution packages together. So we were able to really evidence the synergies that are going to come out of this in real life. And so over the course of the years, we've gotten to know the business, and obviously, it came out of Colfax in 2019 to KPS -- and it looks like a far different business today in 2022. So without going into details on the specifics of the process around the transaction, that's kind of how we got comfortable, familiar and really, really super excited about bringing this business into the Chart family.

Great. And then I just wanted to ask about the small-scale LNG hydrogen, helium liquefaction offering that you have. So you have the brazed heat exchanger, the coal box, the compressors, basically all the key components, except for the gas turbine. Is that the right way to think about it?

That is, Marty. That was -- that was -- actually, I wish you had written that into my script because that was better said than we said, perfectly stated. And I would also reiterate that Howden's portfolio does not have machines that enter the big LNG market. So to be clear on that, we'll continue with our partnerships with the compressor providers in the big LNG space.

Our next question comes from Chase Mulvehill with Bank of America.

Congratulations. I know you've been busy on this, I'm sure. So I'm sure you're glad to kind of cross the finish line here. I guess trying to understand the mix of businesses here. I know you kind of gave us the end markets, but I don't know if we can kind of talk about the mix of revenue across the different products, like if we were to think about compressors, obviously, that's a key part of this. Then you've got fans and blowers and steam turbines. I'm just trying to understand how impactful compressors are versus kind of some of the other products within the portfolio?

So compressors are approximately half of the annual revenues. So they are, by far, the largest portion of the portfolio. And then the rest is -- it plays into -- and so it will be a little bit of overlapping in my answer to the aftermarket service and repair because a lot of those products play in that phase [ too ]. But if we separate that out, the rest of the portfolio from original equipment is fairly evenly spread across the other products outside of compression.

Okay. All right. And then obviously, aftermarket is a really big piece of this deal. I mean I think you said 46% revenue aftermarket And you gave us a slide that kind of showed end market exposure. Just want to understand if the aftermarket exposure is similar to what you gave in one of the slides? And then how much of the aftermarket is really kind of exposed to maybe I would just call it mining or coal or anything like that?

Yes. So the slides that we've included are very representative of the aftermarket as it is today. In terms of the aftermarket exposure to the mining or the coal is very small, sub-5% would be my guesstimate and generally speaking, the coal and what I'd say is like traditional oil and gas portion of the total portfolio regardless of aftermarket or original equipment is certainly sub-10%.

Our next question comes from Sam Burwell with Jefferies.

Congrats on getting a big one like this done. I wanted to get your take on how would you characterize the competitive dynamics in each of these key markets in which Howden operates. I mean, compressors being the biggest one, but also the applications that go into mining because that seems like something with secular tailwinds as well given, EVs and whatnot?

Yes. Thanks, Sam. Thanks for the question. We are definitely very excited to get this deal across the finish line here. And I would say that the competitive dynamic has a market leadership position in a lot of these end markets for across the portfolio. And what I would answer on the mining, in particular, is in mining and marine in particular, are 2 markets that I think have those secular tailwinds you're referring to, which we expect to be able to take advantage of. And across the portfolio, from a mining perspective, we think that this has the opportunity to pull through a lot of the Chart equipment in addition to the housing portfolio. And when you talk about mining specifically around the applications and products that Howden has for that, it's across the portfolio. So there's compressors that are used in mining applications, there are certainly blowers and fans as well as some of the preheat and the cooling equipment on the heaters side. So it hits a broad product portfolio of Howden and then there's obviously great opportunities to pull our heat exchanger portfolio as well as our storage and transport equipment portfolio into those mining customers. I'll even give an adjacent explanation on the mining side. We have the HLNG onboard vehicle tanks and the HLH2 onboard vehicle tanks for Class 8 heavy-duty trucks that we have started to see mine haul customers come to us for. And so we see even just an adjacency into that market for equipment such as that. So we're just super excited to get more access to end markets that Howden has real long-standing entrenchment with these customers that, in a lot of cases, it's hard to penetrate if you don't already have that installed base with them.

Okay. Cool. And then maybe just more of a finance focused one. You mentioned 90% free cash flow conversion pro forma in 2023. So first of all, I just wanted to clarify, that's 90% of EBITDA. And you also brought up Howden having more sort of book-and-ship business, I think you said. So curious if there's some working capital factors where cash is going to cycle more quickly, and that's a tailwind for better free cash flow conversion going forward?

So the first part of the question is, you are correct on the 90% free cash flow conversion is EBITDA less CapEx. And then on the second portion, spot on the book and ship nature of Howden's business compared to what has transitioned to the longer project cycle business for Chart. Howden generates more cash flow than we do on an annual basis as a percent of their revenue, and that's directly attributable to the shorter book-to-ship time frame.

Our next question comes from David Anderson with Barclays.

Joe, so I guess you're going to be a little busy going forward here. You weren't busy enough before. We're going to test your energy levels, but if anybody can do what you can. I want to hone in on one of the slides on Slide 4, the end markets that are showing down there. And you're showing industrial solutions, energy and renewable traditional energy. Can you dig into the 41% of this Industrial Solutions? And talk about what exactly are we talking about in terms of the compressors? And also -- who are the competitors of how in this business here, Howden's, excuse me.

Yes. Yes. So the Industrial Solutions hit a variety of the end markets. If you were going to link that up, you would link it back I know there's a slide later in the deck on the end markets, but this included in there would be your industrial applications like cement, as an example, you'd have that you have mining split out separately here, but you also have the marine market would be industrial solution as well as, in some cases, infrastructure solutions, just depending on the products and applications. So if you refer back to the end markets, slide later in the deck. There's definitely -- they're listed out there, but I'd also point to refrigeration. There's chemicals in there and metals processing are included.

No, no, and the competitors in these businesses? Or are these some of the bigger compressor -- company? Because I guess compression, I mean, I've always kind of thought about this in multiple different ways. Some of -- there's larger player -- you also have a lot of repayers. I'm just trying to get a little bit better handle on sort of the competitive dynamics of that business that Howden faces or is that.

That's a great call, Dave. So it is -- you're absolutely right. The way you're thinking about compression is that it's very different amongst the types of compressors and the applications. So I was purposeful in saying like these housing compressors are not used in big LNG. So they're not big machines like Baker Hughes or Siemens Energy has. Those are different capabilities and different types of machines. When you get into this [tight] style and this type of compressor, the competitors are Newman and Esser, Atlas Copco, we would see Burkhart as an example. Those are probably the top 3 if I were just plucking them off. And in some cases, we will still purchase from those suppliers because there is -- sometimes there's customer preference on specification. So like our model has always been on being technology agnostic. We love when customers use Chart's IPSMR technology, but we're really happy when customers buy our equipment, even if it's partnered with other technology. So if a customer has a preference for a competitor on the smaller scale side, we're more than happy to accommodate that.

So you have this installed base, you have this aftermarket, really strong aftermarket business. So presumably, that business is really steady all the way through the cycle and then sort of the new unit orders kind of fluctuate on top of that. Can you help me understand a little bit what's been going on -- I didn't see any of the financials. Maybe I missed it, thing historically going forward. Can you just help me understand how sort of that business has trended from the top line really, I guess, maybe the last couple of years and how you think that's going to happen? And maybe just give us an early preview of what that looks like over the next, I don't know, 12, 18?

You got it. And you are correct. We did not put like trailing historical financials and we just gave the LTM numbers as well as the 2023 E-combined business. But if we look back -- so -- in total, the business does look far different than it did 5 years ago. If you look across the board, there's been an enormous shift in their profile, which includes towards the aftermarket, and that has really helped keep that consistency across the cycle. If you looked from 2017 to 2022, you're talking about going from total orders of $1.3 billion to total orders of, call it, $2 billion or so in that time frame. And a lot of that has been driven by the combination of the aftermarket as well as the original equipment. But addressing the original equipment portion itself, if you looked at 2021, let's say, trailing 12 at the end of [indiscernible] -- it would be original equipment has grown in terms of sales across the last year. And that's something that we forecast original equipment will continue to grow in the Howden business sequentially across the coming 4 quarters. And we've looked out beyond that. It's a little bit harder to tell, just obviously given the macro environment we know in '24 what it will look like, but there's a pretty darn good line of sight in the commercial pipeline of Howden. And I'd also just put a plug in for the fact that both of our companies use salesforce.com for our commercial pipeline. So there's kind of a natural quick synergy out of the gate on that. And coupling that together, I think we feel very confident in the original equipment continuing to come to fruition. And a lot of the public policy actions that have been taken by government like the IRA and now we're starting to see the U.K. do some hydrogen work. We think that will bolster it in -- for both businesses.

Our next question comes from [ Dan Lin ] with Stifel.

This is Dan. The -- sorry, this is Ben. Joe, the -- I've got a couple. First of all, just for, I guess, really modeling purposes, is the idea to create a new segment for this? Or if not, how do we -- how do you think about breaking it down to the existing core for components? And then maybe along with that, how should we think about the margins of the business going forward relative to where we've been in the past?

Yes. So I hope the finance and accounting folks at Chart are not listening because they will shoot me if I resegment again. But with that said, we think that we could leave the segments as they are. Obviously, then RSL becomes a larger portion of our total business. But that's been a really nice way to see the different trends in the growth. We like our segment, I guess, is the upshot answer. But there's also other ways we could look at it, which include having decarbonization, which would be hydrogen, carbon capture, water, biomass, biogas, energy recovery, you could have an industrial look so putting in mining, food and bev, guest by rail and so on and then an energy look. So those are the types of things we're discussing and looking at. But as of this moment in time, we're sorting through what that looks like. But we'll -- do not plan to or intend to change the segment at this point, but more to follow on that. And then if you look at the margin profile across the business, this is very accretive to our margin profile. We just -- the stat that I point to, which I think is very compelling is the stat that the aftermarket service repair of the combined business will have 42 plus percent gross margin as a percent of sales and will comprise approximately 31% of the combined -- of the revenue -- the combined business revenue. So just that alone has natural uplift to the margin profile. And then I am -- like I have never been more enthusiastic about our ability to execute on the cost synergy side. I am enthusiastic on the commercial side, too, because that's just a very natural. But on the cost side, this is like -- this is bringing 2 businesses together that while they're highly complementary, there are some overlap points that are fairly easy to rationalize. We'll take -- take, for example, both of us have Hyderabad, India offices. So we're going to grow our Hyderabad, India presence as a company, as a combined company, but we won't need 2 different buildings. We both have repair sites in certain locations. We'll want to keep those repair sites, but we'll pick the one geographically that makes most sense in Town A or Town B. So I'm just so thrilled with the already very deeply identified cost synergies that are executable in the first, we said the first 12 months, but I will be disappointed, Massimo. I know you're listening if we're not out of the gate really strong in the first 6 months of the combined business. So all in all, a very strong margin story here.

Great. And you covered my synergy question, so I got a retool here. This is a little bit of a departure from the core cryo principle or unless I'm mistaken, that had always been sort of one of the core things if you were looking to buy something that needed to fit into the core cryo platform this is adjacent to but not, I guess, not really cryo. Do you think about the company a little bit differently now? Is that less of a line in the sand with the combined businesses here?

Actually, it's very closely linked to the core cryo capabilities that we have. So everything that we're talking about will -- well, a particular product in the Howden portfolio won't necessarily be cryo on its own. They work so closely hand-in-hand with the cryo application. So we still think of our core competency as cryo, but perhaps we can talk about it more as the liquid and gas for high pressure, low temperature and how these pieces and parts work together. So all in all, it's -- I think you can say in our world, we think of it as very closely tied to cryo, but you could also call it adjacent. And we're also continuing to develop from an end market perspective, the way that the combination will play. So I think there's more end markets to get to through the combination of these things. So ultimately, yes, whether it's adjacent or core cryo, it still touches cryogenics and high-pressure low temperature.

Our next question comes from Rob Brown with Lake Street Capital Markets.

Jill, I'll add my congratulations as well. Just wanted to get a sense on the aftermarket and services business. It's a very nice mix increase. Does this help you kind of grow the chart side aftermarket as well? Or is this just an add-on that goes naturally with the product that Howden had?

This will help us grow the chart side as well. There are so many different ways that, that can happen. Joe [indiscernible], why don't you talk to that?

Yes. It's directly synergistic to our life cycle business. who is currently going to sites that have this equipment installed right now, and we can look to synergies or we will look to synergies between the Howden service capabilities and our life cycle capabilities. We have a very strong aftermarket repair footprint in the U.S. that is directly complementary to what Howden is doing and even some gaps that exist in their current repair footprint.

And then we also are really excited. One of the things that I wouldn't say has hampered our growth, but we definitely see on the horizon that we will need as more field service techs -- and they have a really strong team of field service techs. And Joe experienced as part of diligence, Joe and I were out in the field together and he spent a lot of time on the uptime and Ventsim digital offering. And I think that there's some good pull-through for us there. You agree?

Yes. There's excellent pull-through on the uptime, installing that capability in the installed base of charter equipment will definitely directly lead to increased aftermarket sales. And then just to dovetailing what I said earlier, their international footprint is highly complementary from an aftermarket service standpoint, covering regions of the globe that we have limited coverage ourselves or, in some cases, no coverage. And this immediately opens those markets up to Chart servicing aftermarket with traditional Chart type equipment in those regions.

Our next question comes from [ Thomas Johnson ] with Morgan Stanley.

Congratulations on the transaction today. The first one here just on small-scale LNG. Clearly, this transaction does broaden charts product offering for that solution. So it would be helpful to kind of just frame for us on a standard small-scale LNG project, how the potential content has changed on the combined company basis? And then post initial build, what the aftermarket opportunity now looks like for Chart and how we should think about that going forward?

Yes. Thanks, Thomas. Great question. So if you look at the small scale and the floating LNG opportunities, there's -- there's a few different ways to think about it. You can think about it also on we think we're going to get more opportunities by having and utilizing Howden's manufacturing footprint, in particular in Southeast Asia. So we're seeing more and more floaters in that region and small scale in that region. So if we can utilize the manufacturing -- the larger manufacturing space in Southeast Asia, to do some of our equipment there, in particular, heat exchangers on the cooler side, maybe some box -- maybe some cold boxes as well. then we think that we'll be better positioned and more competitive to win some of the non-U.S. Gulf Coast business on the small scale side. So that doesn't directly answer your question, but I think it's an important point on the combination. We also see the LNG synergy opportunity in India, in particular because we see a lot of the virtual pipeline activity happening in that region. And there's the Chennai manufacturing location of Howden is really well positioned to take on some more build as well as export to the Middle East for those applications. All right. So now to directly answer your question, Thomas, the potential content. So the way that the small scale of floaters work is there's 2 ways. One is we either get the project in its entirety and in the current state, we would buy out the compressor content from someone else. So that would be something that could be already in our scope, and we're buying it. So there, you see by having it in-house, you have a -- you don't have a top line impact, but you certainly have the potential for a bottom line impact. Then the second way that these work is in some cases, just our content, but not -- we wouldn't have the scope to buy out the compressor itself. And in those scenarios, it would add somewhere between $6 million and $10 million -- $6 million to $11 million per project, it's in that scenario. And then lastly, which I think is super reinforceable point is on the -- post the initial build, the aftermarket and service capabilities. This is something that we know the majority of the operators that we build these small scale in floaters for we really want the preventive maintenance and the assurance that someone is there, especially the someone that built the thing. And so we see a great opportunity to roll that either in upfront or do that at the back end for ongoing maintenance. So I can't really quantify what that looks like because we haven't had those conversations with customers about kind of what their preference is and how we would price it. But I think there's a significant opportunity, which also while more qualitative gets you sticky with that customer. So if they're doing multiple builds or sequence of small scale or floaters, then by having the service side, you're able to get into the sequence of follow-on OEM builds. So thank you for your questions.

Understand. And then one last one. It was briefly touched on a few times, but the digital solutions portion of Howden's aftermarket business, could you maybe expand on competitive advantages that provides and possible ways you could extend some of those digital solutions to Chart's current repair service and leasing business?

Yes. Let me take that one. So Howden's uptime solution is extremely innovative and lends to very solid stickiness, like we like to say, with their customer base, and this can directly be applied to our equipment as well. But basically, what it does is it monitors the rotating equipment -- and even from a preventative maintenance standpoint, can highlight failures before they even occur and end up saving end users tremendous amounts of money -- and so this can be applied to churn equipment. It can be applied to competitors' equipment. You name it. And this is really -- this comes standard on Howden equipment right out of the box. So it's really a very solid strategy to get sticky with customers that leads to future equipment sales as well as aftermarket.

Our next question comes from Eric Stein with Craig-Hallum.

Jill, thanks for sneaking me in here at the end. So a question I've gotten from a couple of people this morning, just maybe -- could you talk a little bit about your thoughts on the resilience of this business? I mean, obviously, you've got the recurring revenue piece, which is great in a number of the end markets and applications. We've got a really nice tailwind. But also economically on a global basis, entering a period of some uncertainty. So maybe just talk about the overall business in that context. and your thoughts as you kind of move forward in the current period.

Yes. So across the board, we are confident that the business itself is very resilient, and that's a comment both from the aftermarket perspective, as you pointed out, as well as the original equipment side. And what you have seen in both Chart and Howden's businesses since 2019 is how we have taken our solution set into a variety of different end markets. So we actually -- with the additional 6 end markets that we've pointed out that Howden brings to us, we've not only through Howden itself are diversifying the combined business. But we're adding more capability to bring Chart products into these other markets. And what I would point to is that strategy has been very specific for both businesses so that we can reduce the element of a macro uncertainty or a macro situation, making -- driving the business one way or the other in its entirety. And you've seen that -- you've seen that for us and having very similar where, look, at the beginning of COVID where everybody was very concerned about how the business would respond and we were able to pivot and put more effort into the manufacturing of the respective tanks, bulk tanks and micro ball tanks and mobile for oxygen as an example. And that's the same in the Howden business, where if there is some downturn in a particular market, the fact that the breadth of the markets are the way that they are for these applications and these products really helps reduce the uncertainty around that. We continue to, and Howden continues to see strong growth ahead and neither business has seen any meaningful or material softening across the commercial pipeline of late as we head into 2023. And so we think that that we have a lot of levers to pull here, and this only adds more. And that's a great thing to Chart in particular, especially with this aftermarket piece.

Our next question comes from Pavel Molchanov with Raymond James.

I saw that 22% of Howden's revenue comes from China. And obvious question, given the current state of affairs between Washington and Beijing. How do you feel about that Chinese exposure as a U.S. company?

Yes. Thanks, Pavel. Good to talk to you, too, and I'm looking forward to our NDR in a few weeks. And with respect to China, very similar to how we operate in China, where it is strong manufacturing location for Howden as well as for us, we have similar footprint there in that region. A lot of the end markets that Howden sells into in China also are for export. And so there is variability in terms of that 22% across the years and what it looks like. But we're feeling good about the fact that the products that are made there can also be sold into and utilized in other regions. And so you're not just China dependent with respect to your specific question.

Understood. How much of Howden's business is tied to the whole value chain and given the obvious kind of ESG complications with that, would you consider divesting that slice of the pie?

Yes. It's certainly -- I think it's 2.5%, but I don't want to be that precise, but I recall that it's certainly around that number. It's very small. It has come down dramatically through the diversification and optimization that they have done in the last 3 years themselves. To answer the second part of your question, I specifically -- and I think I used two soft words of we're continuing -- we will continue to optimize the portfolio in the combined business that we will be looking at the pieces and parts of the business that aren't natural fits to us, and that's a process that is part of our ongoing work at Chart that we do. And so there's the opportunity that, that would be the case. The caveat to that, when you're talking about an end market itself is it's not always just -- clearly, this product is only used in that end market. So in the majority of these cases, if not all of these cases that we're talking about, those same products are utilized in cleaner applications, too. So we'd have to think about how to go about that. But in a nutshell, we will be looking at the pieces and parts of the business and make sure we're optimizing the portfolio.

Our next question comes from Marc Bianchi with Cowen.

I wanted to first ask about the preferred stock. And just if you could give a quick overview of the terms there and what the thought process is in going that route, it would seem to add leverage to already a somewhat high leverage level and add some more complexity of the capital structure with the convert that you already have?

Thanks, Marc, for the question. So let me -- I'm going to try to do this at a high enough level, although it certainly is a bespoke instrument. In a nutshell, the way that the convert preferred is structured is up to $1.1 billion of the consideration of the purchase price. The way -- the reason it says up to $1.1 billion, this is KPS would be the owner of the convert preferred is that our intent is between signing and closing that we're able to put the long-term financing into place in full. And our intent actually be not to go into close with the convert preferred at all. So these were instruments, including the bridge financing as well as the convert preferred that allowed us to expeditiously get to the signing of the definitive agreement with financing commitments, with the intent that we would be really strategic and go into the market, both the debt market and potentially the equity market before close, so that we're delivering more cash consideration at close.

Okay. Okay. That's helpful. I guess the the question was sort of asked earlier about the resiliency of the business. But the capital structure that it looks like here, you're going in with even if you do roll the converts into something else is still a fair amount of leverage into what might be an economic downturn that we're entering. Is there any history on drawdowns in the business that you can point to or stress testing that you did that would put a max leverage number on a downside scenario? Or how are you thinking about that as you kind of came to a comfort level with this amount of leverage?

Yes. As you might imagine, our Board really focused in on that point and honed in on that point. So while you can't always pick your timing for deals like this, certainly, top of mind consideration is ensuring that we're getting the balance sheet to our long-term and ongoing net leverage ratio. So when we stress test that in the combined business, we put the number out here that at the end of 2024, we expect to be in the 2 to 2.5 net leverage range. if we kind of did the all [ Helen ] hand basket. And in that scenario, we were between [ 3 and 3.5 ] at that point in time. Now with that said, and I'll just go out on a limb here that we have various different scenarios. I said the levers to pull. We have various different scenarios of backup plants. If we were backed up against the lull, what would we do and how would we do it? I'm not going to go into detail in the public domain about those. But suffice it to say that we feel very confident that regardless of what happens in the macro environment that we've scenario planned for each of those and have very tactical steps that we would take if we were backed up against the wall.

Okay. Okay. That's helpful. Just one more quick one for me. The 4.25 leverage at closing, can you just say what pro forma EBITDA or what EBITDA number is being used to compute that I was having a little trouble getting to that number on my own?

I'm going to have to get my FP&A guy to tell me that anything I want to ask about $900 million to $1 billion.

Okay.

Our next question comes from Walt Liptak with Seaport.

And congratulations on the deal. I wanted to just ask a couple of follow-ons from some of the earlier ones. On the first year I wonder if you could help us with sort of the road map or what some of the buckets might be to get to that first $175 million?

Yes, you got it. Thanks, Walt, for the question. So there is a very detailed list behind that, but let me take some broad brushes on the categories. And then if okay with you. I'd also just touch on a few of the main areas on the commercial synergy side as well. Does that work?

Yes. Sounds good.

Okay. Perfect. So on the cost synergy side, there's the consolidations of certain footprints where each of the businesses have 2 sites in the same location. So it's not a rationalization from one geography to another, but rather two shops in the same place. So those are real natural solutions. There are -- Joe and all of the ops folks have been in detailed discussions on how we would in-source specific activities across the 2 businesses that are currently outsourced. So there's great opportunity there. That's actually 1 of the larger ones. Then you have certainly things like agent commissions that both parties have that we can rationalize together. We've got some -- the functional spend that both companies have, and we will rationalize right out of the gate. We see a great opportunity for taking advantage of the India engineering capability that Chart has put in place. So great job to our global engineering team, and that's something that we're going to apply the one Chart, global commercial, global engineering and one Chart flexible manufacturing approach to the combined business. And the Howden folks will tell you that directionally, that was where they were going to go on their own. And so we'll be an accelerator to that. And there's a lot of opportunity to be able to take advantage of that. And then you get into the next year of detail and I'll spare you through all of that, but those are the big main kind of first go after categories. On the commercial side, we see a lot of immediate pull-through opportunities. So content and somebody earlier asked about the floating and the small-scale LNG content and how that's additive. It works both ways from a commercial standpoint. So products that we have for energy recovery, but we haven't had a full solution for energy recovery. So we'll leverage Howden's time and customer relationships in that space. The marine market is 1 that we've kind of dipped our toe in and been around the edges on. They have super strong customer relationships in the marine market. you bring our bunkering capabilities, you bring our onboard the work that we're doing for one of the major cruise lines for hydrogen vessels. All of that can go 1 step further to their marine customers. And then you look at the shops that they have and the shops that we have. So Howden does not typically sell a lot in North America. We are a great staging point in our shops in North America to bring their equipment through, and we think that there's a meaningful penetration in North America for Howden from via Chart. We think there's a great opportunity for -- to utilize Howden's facilities to fabricate some of our larger cold boxes closer to the end user. So the cold box has to be done near water just given the size of it. You all -- you've been to Louisiana, you've seen the facility. They already have day 1, I've got more facilities in other regions on water with water access that we can start even penetrating right out of the gate by having assembly done at those locations. So your question is like my favorite one to talk about. I could keep rambling. I will plan here in top and hopefully, that answered what you were asking.

Okay. Yes, that's perfect. And just one last one. And maybe you talked about this and I just didn't hear it. But what are Howden's gross margins at this point?

So their EBITDA margin is in the high teens, close to 20 and the gross margins are 30 to 35 depending on the product, depending on the mix.

Our next question comes from Greg Lewis with BTIG.

Realizing we're going a little long here. I'll just ask 1 question. Jill, realizing that this looks very, very complementary chart Howden does. I was curious, though, are there any markets where you are competing against Howden that could lead to a regulatory review or potentially divestment of anything, realizing it's probably small, if at all. Is there anything like that, that -- where you've run across them where you both have a sizable market in an end market?

There is not. So as you might imagine, we've done a lot of work on the antitrust side and making sure that, that's not the case. But right out of the gate, because we don't have any meaningful competition between the 2 businesses, we don't anticipate any such scenario.

And our final question comes from Craig Shere with Tuohy Brothers.

Congratulations.

Thank you, Craig.

You touched on a lot of this in Pavel's China question, the commercial synergy discussion. But just kind of big picture, looking through your history. It seemed like you made an awful lot of hay out of VRV's acquisition, geographic breadth and how don't look like VRV on steroids given its its geographic breadth. And I wonder if there's anything further you'd like to add about prospective long-term geographic, strategic benefits that maybe over and above what you've already alluded to?

Yes. Well said, VRV on steroids, that is -- that is a perfect description and we just rolled out a couple of weeks ago, VRV was setting records in the third quarter. So that was a really strategic deal for us as well. I smile when you say that because the former owner of VRV, there's two brothers and a sister, the two brothers still work for us at Chart. And I heard from one of them when we announced this morning, so this is just incredible. It essentially saying the same thing you did, which gives us a lot of positivity that we're going to be able to build upon what we have already. With the prospective long-term geographic benefits, I'm -- I don't think we've baked the brunt of it in. I don't think we've been taken -- or have yet to identify all of the great geographic benefits. And I'll give you one example. Howden has a Korean entity. So right out of the gate, right, you've heard us talk about being the only company in the world that has KGS certification for our hydrogen trailers that are built in [indiscernible], Alabama. For the South Korean market. Right out of the gate, we're going to -- by having an entity in Korea, we're going to be able to further penetrate the hydrogen market there. Similarly, Howden is really well positioned manufacturing location wise in geographies that traditionally have been targeted on gaseous hydrogen, not yet on liquid. We love the fact that this brings us more penetration on the gases side of the house. We think gases and liquids are going to continue to merged together in terms of working together for the end use, the respective end use and hydrogen. So I think that physical presence close to these types of customers with a broader product offering, is something that has -- is another adder to the long-term geographic benefits. And then I would also say that there's this concept that I touched on in my last answer around larger staging items or larger fabrication and assembly. Is is super underappreciated, and I don't think we did it justice here in the last hour because you're talking about immediate capacity to build and manufacture customers that want that localized answer. We have customers right now that call us up and say, "Hey, can you help us bring bodies to our fab shop. We want to just do this faster. So there's this incredible opportunity for us to take advantage of their manufacturing footprint for a larger staging and assembly. And I think that's really my comments there are around super size and bulk tanks around heat exchangers and large cold boxes. We have where we know we can penetrate the air cooler market in India. You've heard me talk about that for years, and it's just a function of where we're prioritizing our current capacity. And then lastly, I'd say that it's the exact thing in reverse. One of the first things when our due diligence team was talking to the Howden team, the first thing they said on their synergy list was -- we think that if we just can build or at least stage some of our larger equipment in North America, we'll have just an immediate opportunity to bid on and win more projects, just that's been a hurdle for us. So that's kind of the upshot [indiscernible], do you want to add anything to that?

No. The only thought I had while you were saying that Jill was the hydrogen economy as it rolls out globally. -- as you pointed out, the regions of the world that only have gaseous hydrogen, as hydrogen economies roll out, the only economical way to move in store gases like hydrogen is in its liquid form. And so as these canopies roll out in these regions that Howden is much better positioned than geographically, it's a natural pull-through for for our 57 years of liquid hydrogen expertise, which is more dominated in the U.S. just due to the history of hydrogen in the U.S. but we can apply that to these regions using -- utilizing Howden's footprint and just presence in the regions, access to those markets.

And congratulations again.

Thanks, Craig.

There are no further questions at this time. With that said, concludes today's presentation. You may now disconnect.