Kirby Corporation (KEX) Earnings Call Transcript & Summary

Okay. We've got Kirby Corporation, Raj Kumar, CFO; and John Hallmark, EVP of Sales. And we've got -- we'll get through this. And then, again, a reminder, we've got cocktails just after the session ends. Hopefully, you guys can all stick around. I don't know if you have some opening comments you want to make, and then we will get to questions.

Well, Scott, I didn't realize that we were the last before cocktails. Anyway, yes, Kirby Corporation -- good afternoon, everyone. Kirby Corporation, we're the largest inland tank barge operator. We also run a coastal fleet of 29 barges. That's our main division. It's about, I'm going to say, close to 60% of our revenue. The other division that we have is the Distribution and Services business. We are a nationwide distributor of engines, transmissions, oilfield service equipment as well as power generation equipment. So that's about 40% of our franchise. Both businesses are doing well, inflecting nicely. On the barge side of the business, it's characterized on the inland side by supply tightness. The rate environment is very favorable. On the coastal side, we are going through a maintenance bubble right now that's sort of delaying the inflection by probably a year. On the Distribution and Services business, we've seen a healthy order uptake. And we've seen backlogs growing, and we're fighting through supply chain issues, but we're encouraged by the fact that we've got a good level of backlog that we can work through this year going into next. Obviously, I say all of this in the backdrop of all the pundits out there talking about recession, whether we are in a recession, whether we're about to enter a recession, which is obviously a headwind for everyone, including ourselves. With that, I'll turn it over to you, Scott.

Fantastic. So maybe we'll start there. You talk about pundits, talking about recession, what are you seeing in your business? What are you seeing from a volume trend that says, "Yes, we're starting to see some signs of it," or "No, we don't see a word of it." What are you seeing as we're more than halfway through the second quarter now?

So the way I'll characterize it, it depends on how you look at it, right? On the inland side of our business, supply is very tight right now. We are going through a maintenance bubble that's going to only add to the supply tightness. And this maintenance bubble is just not Kirby, it's the whole industry, that's facing it. So it's going to add to an already very tight supply dynamic. If I were to look at the various straight lines or product lines that we have, think about black oil refineries, that's doing well. I think you've seen refineries have solid prints. Utilization is high. You look at battery, utilization is high. It's in the 93%, 94%. Crack spreads have pulled back a bit, but still very, very solid numbers we're seeing there. So that, to me, is kind of humming, helping the price environment. I switch to the chemical side of the business, it kind of ebbs and flows there. A bit of a pullback with certain customers, other customers doing better than some other customers, right? But what gives us some comfort is, if you look at the petrochemical complex, and it's a global business, the U.S. is by far the best positioned in that industry. We have the feedstock advantage unlike Europe. Asia is a different kettle of fish. They have important feedstocks. So if you look -- if you take a long-term thesis on the chemical side of the business, the U.S. is well positioned. Now I switch over to the D&S side, and what we're seeing in the D&S side is we're still getting steady orders. Like I mentioned, our backlog is growing. Obviously, there's been a pullback in rig counts, which gives us some pause, but still, we are working through the backlog. The backlog is at a level where we've got enough work to see us through this year and into the early part of next year. The main issue with D&S right now is working through all the supply chain hiccups that have posed a huge challenge for us. That's how I'd characterize our business.

So you said the word humming at one point, you said the word tight as it relates to capacity. We have not heard those 2 words yet from anybody else at the conference. So you're in a different part of the cycle than others right now.

Yes. And I think a lot of that is driven by the supply dynamic.

Yes. So let's talk about that, this maintenance bubble you're talking about. Where are we in this cycle? When did this -- how much longer is this going to -- what's the visibility to this supply tightness continuing?

Yes. So the -- a couple of things there. So let's talk about inland and the maintenance bubble. The maintenance bubble is going to stretch over this year and next.

For the industry.

For the industry, okay? so that's going to pull out current capacity that needs to go into the shipyards, right? And when a barge hits its 10-year mark, the shipyard is a bit more involved. So it's not a 2-week deal, it's more of a -- it's in the yard for a month at a minimum. So on the supply side, in terms of new builds coming onboard, that's a totally different dynamic right now given the fact that the cost to build a new barge has doubled since pre-COVID. So take a 30,000-barrel barge, before COVID, it was around $2 million. The cost is now around $4 million. So there is a rate that goes with it for you to have a decent return. And we're still some ways away from getting to that rate. So we don't expect any new builds to happen until we see some direction that we're getting close to the rate that gives you an adequate return.

So order book now is...

About 6 is what we're seeing in 2023.

6?

6 barges. And let's analyze that and say maybe this year we do 12. And then if you look at the population of inland barges right now, it's 4,000 barges, right?

We're not adding any supply.

Yes. And you're going to have retirements that happen this year. So you could end up exiting the year with less barges than you entered the year. That's a very plausible outcome. You want to shift to coastal very quickly?

No, let's stay on inland because I think it's -- so inland, where are we right now on utilization?

Where we're concerned, Kirby is concerned, we are fully utilized. We are like in the 94%, 95% range right now, which is full utilization.

A year ago, we were...

A year ago, we were probably in the -- around the very high 80s into the 90 range.

Okay. And what's -- so when I hear this supply tightness, basically, full utilization, pricing is going to be good. What are we seeing on pricing now? Have we -- how much more is there to go? And so then ultimately, what does this mean for where our margins are going to be going?

Yes. So pricing has been increasing nicely. I think year-over-year pricing has gone up about 20%.

That was Q1?

Yes, from Q1 to Q1 of last year. Now inflation has been a major headwind for us, right? So any price increase that we saw last year was we were trying to catch up with inflation. And I think at this juncture right now, and everyone should understand this, including our customers, we need to get some real rate increases, which we are seeing. And inflation is kind of moderating. It's not deflating, it's moderating. You're still seeing inflation. So the price increases that we're seeking right now is to get us to a level where we need to make our return. Last year's price increases were getting us to a level where we are keeping up with inflation. So right now, the prices that we're going after is getting us to a situation where we're starting to see our margins start to pick up.

So price/cost is starting to accelerate?

Yes.

And so -- and this is sort of just sort of happening now.

We're in the early innings, if I would describe it.

And so where are we from a -- what's prior peak margin? Where are we now? Are we going to see -- could we get back to prior peak in inland? Do we get above that?

So prior peak margins were, what, I want to say about 25% to 26% in the '14, '15 time frame. A very different industry then. I talked about all the inflationary costs, but even insurance has gone up. Labor has been a huge headwind as everyone expects. In addition to that, the regulatory environment has changed considerably, right? U.S. Coast Guard inspections are up. All this is a cost, and all this adds to your cost profile. And while we've done a lot to manage costs, especially during COVID and even last year, you've not seen the kind of effect of that just because it was taking out cost to blunt inflationary impact. So that's a long way of me saying that rates are now actually slightly higher than where they were at that last peak, and yet we didn't see the margin because of my comments earlier on nominal versus real, right?

Yes.

So this is where we get real rate increase as we get into the '23 time frame and onwards.

And so is there -- but as you think exiting '23 into '24, can we get back to those levels?

So the way we're looking at it is you're going to have to phase it out. I think a reasonable path forward, in terms of margin progression for inland, is to exit this year around 20%. Then you get through your contract renewals. You get term renewals. Q4 is a big term renewal quarter for us. And when that happens, it should all go well going into '24. So you should start to see us pick the pace up and start to get higher than 20%. I say all this. The caveat, of course, is I don't know how long and deep this recession is going to be.

No, I understand. But it sounds like, right, based on what you know today, you feel like you've got good visibility to not 1 but 2 years of some real improvement in inland?

Yes. I think the way I'd describe it is a multiyear cycle uplift that we're looking at.

Okay. So that's the inland side. Let's now turn to coastal.

Yes. So on the coastal side, what we are calling this year is similar to last year, breakeven margins. And coastal has also seen a nice increase in rates. Unfortunately, coastal is going through the same shipyard bubble. It's more concentrated in coastal. We've got 29 barges. And part of the shipyard in coastal is going to be with regards to ballast water treatment installations. And I'm going to let John talk a bit more about that because he's the resident expert on it. And ballast water treatment installations, when the barge goes into the shipyard, it's 100 days that the barge is in the shipyard, and that's 100 days of lost revenue. That's 25%, 30% of the year, you don't have any revenue with that barge, right? So what we're seeing in coastal also is the retirements, we are expecting more retirements because folks are going to look at the age of their barge and whether they want to invest in ballast water treatments, and that's going to accelerate retirements. And that's going to help with the supply dynamic and also help with the pricing. What I think is reasonable is coastal does breakeven, maybe slightly better than breakeven this year. Next year, by the middle of next year, we get through all the ballast water treatments. We should get to mid-single digits. And as we're looking at exiting next year, we should get the high single digits going to the low double digits. John, do you want to talk about ballast water and give some perspective there?

Absolutely. So on a ballast water treatment front, if you look at our existing fleet and going about the process of retrofitting an asset with ballast water treatment, all of these vessels have extensive pipelines, both cargo lines, vapor lines, valves, heater houses, all sorts of things that are on the deck of the vessel. And you have to move all these things around. So when we look at ballast water treatment retrofits, we can't take one solution and apply it across the fleet. Each asset is its own animal. Some of the assets don't have space on the decks. So we're having to go in and put the ballast water treatment systems in, the fore peak. So all of that's taken a tremendous amount of time. We've averaged about 5 ballast water treatment retrofits a year. As Raj mentioned, we'll come wrap that up about the middle of next year. But if you think about those 5 retrofits a year, that's about 500 incremental revenue days. So as we get into 2024, you're going to see couple of hundred days of incremental revenue roll into the fleet. And as you move beyond 2024, you'll see the 400- or 500-day pickup. So all that flows right to the bottom line. So we feel really good about that. As Raj mentioned, if there's a positive to ballast water treatment, it's that it spurts some retirements for some older assets. The incremental capital just doesn't make sense when you look at something at the tail end of its life. So that's really helped the supply side on the coastal business.

And where are we from a coastal utilization?

Coastal utilization is high. It's in the 90s, and it's on term contracts. In fact, one good thing about the coastal business is it's term contracts. The sector is a bit more concentrated. You're looking at around 200 barges with retirements that, based on the age of the barges that we have, we think around 10 barges may exit the market. So you're sitting at around 190 barges. The way I would describe it, Scott, is the price elasticity on the coastal business is stickier relative to, let's say, inland. So the way I would describe it is, once we get through all this maintenance, coastal is well positioned for a good run.

Okay. Because it sounds like we've got an inland business that we've got visibility to 20%-plus margins. And coastal, we've got, hey, if everything goes right, we'll maybe be at 5% in the middle of next year, maybe high single million. It seems like I'd rather be focusing my efforts and growth on the inland side.

And I think you've seen us do that. We're very focused on the inland business. It's not to say that coastal does not have a role to play because -- getting to that mid-single digits next year, I think that, on the coastal side, it's not a maybe, I think we should comfortably get there. And getting to the low double digits on the coastal side is also something that I think we'll get there in 2025. It's just that the cycle is a bit more longer in the coastal side compared to the inland side, and that also dovetails into my comments about the elasticity of the pricing.

Right. And then from an M&A perspective, you guys have historically been very acquisitive, right? I don't think you've done a deal of size since the pandemic. Do we want to start doing some -- are there potentials to do large deals again? Do we want to start doing large deals?

Yes. We're always looking. We're always evaluating. We've got a very stringent return criteria that we kind of hold ourselves to. That discipline permeates the whole organization. What I would say is, I think everyone said that there have been some deals that have been done, but we just could not make -- the bid-ask was just too much for us to stomach. So we kind of passed on, on it. Are there deals that we could do that are more asset-related? Absolutely. Are we looking at those? Absolutely. We consolidate the inland business very effectively. We're known in the market to do it. But at the same time, we can't do something where the bid-ask is not comfortable for us.

Where are you spending? Would you say -- are you active right now looking? More active than 6 months ago, a year ago? Where are you in that?

We're always actively looking.

And are you -- is it more you're looking at inland or coastal right now?

More so inland.

Okay. And are we -- you've got real share there, market share there.

Right.

How much more can you -- can we go?

Yes, I think we can comfortably grow higher than where we are right now. Without tripping up any regulatory issues, I think there's still some opportunity to go higher than the 26% that we have in the inland business right now.

Okay. Maybe talk about -- I don't know if you think this is a big part of the story or not, but the new 20-year offshore wind partnership with Maersk, just give us some thoughts on what this is, what this could look like, what the opportunity is?

Yes, absolutely. So we started talking with Maersk back in 2019, and we've been working closely with them on a design. If we look at offshore wind, I think it's going to be a great business, a great opportunity. What does that mean for Kirby? We're still trying to figure that out. We're looking for plays that complement our core business. So the Maersk project makes a lot of sense. We're essentially operating an ATB, shuttling wind turbine components out to their installation vessel. But as you go through that project, the project timeline slid to the right a little bit since we initially started talking with them. So now the timing is towards the middle of 2026. So from an asset construction perspective, we wouldn't need to start building until mid-2024. And we're working through finalizing the design. There's some pretty adverse weather conditions the vessel needs to be able to operate in to get the efficiencies they need. We're getting close on that front. But it's an exciting opportunity, and Maersk is a great company to partner with on that front. But again, offshore wind, like any other thing Kirby does, has to meet our criteria from a return on capital perspective. And we've got to have a sound commercial agreement that compensates us for the risk that we take on. I mean this is definitely going to be a special-purpose vessel.

Yes, it's a new frontier for us. So to John's point, we need to have adequate, I'm going to use the word, margin of safety in terms of ensuring our return requirements are preserved.

So this will start as a small business. We'll see how it goes. And then we'll see if we want to build it over time. But it's still years away?

Yes.

Yes.

Okay. So it's not a major part of the investment story today?

Not today.

Okay. And then same thing, like you've talked like going through like the deck, like 35 gigawatts potential projects? Like, these are all years away?

Years away, yes.

Okay. So you highlighted just like the U.S. petrochemical industry is going to have kind of -- we've got a good years ahead of us, right? Maybe just talk about what should that mean from a volume revenue standpoint for Kirby? And where are we in realizing this U.S. petrochemical story?

Yes. So all the investment that's happened in the U.S. Gulf Coast as well as Lower 48, a lot of that is going to create -- even with the recession, right, when folks invest into these facilities, they're going to have to have some throughput going through it because it's a sunk cost. And you're going to have to drive volume through it. Now that's going to help us a lot. What we move is derivative products. So everything that's being built right now has some component of derivative products that we're going to be able to move. So the way I look at it is, it comes back to my earlier thesis of, the chemical companies are calling a slowdown. I think a lot of that is related to what's going on internationally. We've seen some pullback in the U.S., but we're still managing through it. I'm not saying that it's a bad story. We still have -- like I mentioned, our utilization is very high right now. If you think about some of the products that we moved that are going to be real drivers for future growth, think about methanol, think about if we crack Venezuelan crude, that's going to create a lot of byproducts that come out of it. That's all demand for us, and that's going to just all the better for the lanes that we move product.

So what should this add to volume -- like how do we think about the volume? We talked about pricing. What's the volume algorithm for Kirby?

We typically grow with GDP.

Does this make us GDP plus volume now?

Probably slightly better, but I wouldn't get too spotty with it.

Okay. That makes sense. Just as I think about your guidance, you've talked about low double-digit revenue growth. And then barge, flat revenue, coastal, 10% to 20% growth, D&S. At this point, where are we feeling -- where is there upside? Where is there risk? How are we feeling about it overall? By the way, if there's any -- I should have mentioned earlier, sorry, if there are any questions, feel free.

I think from an outlook perspective, Scott, I think we're still very comfortable with that outlook. My caveat will be how long and deep this recession is going to be, right? Because when you talk about the chemical market, we'll have a bearing on that. The refineries may pull back if there's a very long recession. I look at refinery and utilization right now, it's high. I look at inventory levels for jet fuel, for diesel, for gasoline, they're at very low levels. We're getting into the summer months. So I think demand for refined products is still going to be there. There's also this kind of thinking out there that during the COVID years, people were buying TVs and computers, and now people want to travel and get out, right? So that's going to help in terms of demand for those products. On the D&S side, obviously, some pullback in the rig count is concerning. If there is a recession, how the oil and gas market reacts to that, that's concerning. For our situation, because we've got a healthy backlog, we'll be working through that through the year and into next year. So that should help us. If you look at it, some sort of soft landing and then market starts to pick up again, you look at the yield curve is kind of inverted, so we get into a situation next year where interest rates start to come down, market starts to pick up again. So those are the things that keeps me up at night.

And then just as I think about long term, what's the right mix of your business between where we should be coastal, inland, D&S, some new things? Does the mix change much?

I don't think the mix changes much, right?

When you begin the deal...

Yes, exactly. I was going to just say it, if you consolidate inland more, you're going to say inland becoming a bigger mix. I don't see the D&S mix moving that much. Coastal, I think we're very happy with our coastal fleet right now. We need to get through the maintenance schedule, get to the middle of next year and execute to that market.

So where there could be the most growth or focus on growth would be on inland.

It will be on inland. One thing you got to note is think about a coastal barge right now, to build a coastal barge right now, the pricing has gone really up. It's really up there, right? I think before COVID, John, please?

Yes. We built 108,000-barrel ATB unit in 2017 for $80 million to $85 million between the two. Depending on what bells and whistles you have today, that's a $125 million, $130 million vessel. So before you see any new investment in assets or even increasing the pool of vessels, the rates have to move pretty significantly.

And how about buybacks returning to shareholders? What are we planning?

So yes, I mean before I get -- let me answer the question more from a capital allocation point of view, but I want to be respective of time here. I'm in between everyone and cocktails, right?

This will be it. We'll have it after this.

We talked about the maintenance bubble, so huge maintenance CapEx. Operating cash is going to be very healthy. It's going to be around $400 million to $580 million. So if I look at what's free cash flow before discretionary spend, let's say it's $300 million, okay? $300 million is where we should be nicely. I think I want to express that because it just shows the cash generation capability of the Kirby franchise. Now we've got some reactivations that we're doing. We've got some of laid-up barges that we're bringing back into service because utilization is so high. We can put that to work immediately. We're investing in certain niche growth areas in the inland side. That's about $40 million, and we're doing e-frac leasing, which we talked about earlier. That's probably $100 million. So net free cash flow is about $150 million to $200 million. You should expect that a majority of that is going to be directed towards share repurchases. Q1 was a bit underwhelming, but as we progress through the year, you're going to see us be a bit more active. Now Q1 was underwhelming because it's a unique quarter in terms of free cash flow generation.

Right. Awesome. I think we're going to wrap there. Thank you so much, Raj and John. Great. Really appreciate it guys. Thank you.

Thank you.