Reliance, Inc. (RS) Earnings Call Transcript & Summary

We can go ahead and get underway, everyone. Good afternoon. My name is Michael Glick, I'm our JPMorgan's metals and mining analyst. Today, we have Reliance Steel and Aluminum presenting. Reliance, which has an over $11 billion market cap is North America's largest service center, providing a number of services to customers, including value-added processing, a very diverse product mix and sort of a number of key end markets. Presenting for the company today, we're likely to have Jim Hoffman, CEO; Karla Lewis, President; and Arthur Ajemyan, CFO. So with that, I'll turn it over to Jim.

Yes. Well, thank you very much for being here and listening to our story. We appreciate the opportunity to talk about our company. Let me start out with telling you who we're not. And it seems to be, if I tell you who we're not, then I'll get you thinking about who we really are, okay? We're not a metals producer, right? We're not a steel mill, we're not an aluminum producer. We're the leading global diversified metals solution provider, okay,we don't make anything. We buy product, and we do a lot of value-added type services as product. Just some -- the real brief history, we've been around since 1939. We have over 315 locations. Our strategy is to be as close to our customers as we possibly can be. You can see there we do over 100,000 different SKUs of metal. For those of you who want to talk about hot-rolled coil, that seems to be the sexy kind of thing we want to talk about. That's really not a big part of our business. However, we can talk to that. We do -- we have over 125,000 customers. Anyway, the company, we've done over 71 acquisitions since our IPO in 1994. We did 4 last year. M&A is still a big part of what we do. It will continue to be that way. Like Mike said, we had a good year last year. We want to continue to do that. We think we have a really tried and true model that has served us well for a long period of time. I think the secret sauce of our model is that it does well in good times and bad times. I can go back in history and talk about how I can actually show you that we've done that. But it's a good model. And the reason I believe it's a good model is because it's so diverse, not only in product offering, a geography, markets we service. And again, it's -- we continue to tweak that model and it's been working out very well. We've spent over $1 billion over the last 6 years in CapEx spend. A lot of those dollars go to our strategy of adding more and more value-added type equipment. I'll go back, let's say, 8 or 9 years ago, we created a strategy where we just said, "listen, just moving metal, it's very difficult to do by the way, moving metal safely, very difficult to do. But just moving metal, it really doesn't provide much of a value to our shareholders". So we went on kind of a [ tier ], and we spent some money on value-added, added a lot of equipment, and it's really served us well. And so what's happened over the years, our customer base has gone through some tough times, not only in COVID, but here we are again, with supply chain issues, with the war going on, a whole lot of different uncertainties in the world. And it seems like that our customer base will continues to ask Reliance to do it more and more, and we're more than happy to do that. I can't tell you what's next for us other than the fact that we're going to keep our model strong. We're going to continue to invest. We basically have 4 different buckets where we utilize our cash. I think we do a really prudent job, whether that's in M&A. Like I said, we've done 71 acquisitions since our acquisition -- since our IPO in '94. We've continued to buy our stock back. We bought over $1 billion worth of our stock back over the last -- how long 3 years.

$2 billion over the last 5.

$2 billion over the last 5. We've increased our dividend, begun here recently 27%, but really proud of that. And so we just think we have a really good way of running our business. It's unique, and we're real proud of it. So those are sort of just kind of high-level things you should know about Reliance. But the most important of all that is we're not a steel mill. That's a completely different model and just to really drive that point home. Last year, we did over $14 billion, and our average order size was $3,000. So you think about doing $14 billion, $3,000 at a time that gives you a good insight on what kind of customers we sell. Our customers are not as, we'll call it, price sensitive as big contractual OEMs are. We like it that way. It makes it a lot easier for us in times like this to really help them out and answer their questions about how we can add value to not only them. But us, we run our company on 2 really strict core items: one, first and foremost, is the safety of the folks we get to work with; and second, the quality of earnings for our shareholders. So that is just some opening remarks about Reliance. And Karla, Arthur, if you have anything you want to add to that?

Sure. I could maybe just jump in the questions. I mean maybe to start, could you talk about kind of what you're seeing on the ground in terms of demand conditions and maybe what you're seeing in key end markets within manufacturing and transportation?

I can tell you, in general, demand is good. It has been good for a couple of years now. This is a very interesting time. If you ask me questions, whatever you're going to ask me today, 3 weeks ago, I probably would have given you somewhat different answers, but there's a lot of -- we'll just call it uncertainty in the world right now and a lot of uncertainty in the market. But as far as market demand, we're real pleased with what we see. We had a really good year last year. We think there's some pent-up demand that's going to come through this year. And I'm not even talking about the potential for an infrastructure spend. So Karla, do you want to talk about transportation in particular?

Yes. So in general, some of our key end markets, so nonresidential construction generally represents about 1/3 of our revenue dollars. So that's our largest end market that we service. we put infrastructure in with that. So we're selling a lot of different products into that market. That's been strong for us throughout 2021. We get questions, are people deferring things because of the high prices at the beginning of 2021. We heard a little bit of that from our customers, but then they recognize the prices were going to remain at those elevated levels. So we saw projects continue to be done. We continue to see new order activity and inquiries coming in. So we're still favorable on non-res construction. Automotive, we actually service the automotive industry, primarily through our toll processing operations. And in toll processing, what that means is we don't take ownership of the metal but we process generally for the steel and aluminum producers. We process their metal for a fee and we get paid for processing, for storage, for delivery, et cetera. It's a really good business for us. Automotive, certainly with the SAAR numbers where they are, it's down from pre-pandemic, but our business has still been pretty strong. A couple of platforms, depending each automaker seem to have a different situation with the semiconductor chips. So we saw some minimal impact, but we continue to like the auto industry. Our toll processing operations also processed quite a bit for appliance, which has continued to be strong, and they see a lot of opportunity for new projects there. So we're still favorable on auto, even though there'll be -- we expect some more hiccups as we work through this year with the chip situation. Heavy industry that really picked up for us the back half of last year. We saw good strength there, and we see that demand continuing to be strong, especially construction and ag equipment. Aerospace is 1 another area we service and aerospace, obviously was hit pretty hard during the pandemic. And we think we kind of hit our trough Q4 of 2020. We saw some improvement last year, but really in the fourth quarter of 2021 was the first time we saw more meaningful improvement. Prior to that, during 2021, it was mainly customers ordering when they had a hole in certain inventory items because they were working through what they had on hand. And we feel they've worked through most of that now. and we saw people starting to hit more normal buying patterns at the end of last year. So we expect that to continue, but don't really expect to hit pre-pandemic levels on aerospace until 2023. And that's really commercial aerospace, I was talking about. About half of our aerospace exposure is also defense, and that has continued to stay strong throughout. Energy, which we would be referring to oil and natural gas, that's only about 3% of our revenue now. That also had been kind of suffering since the pandemic, but fourth quarter we saw an uptick in activity levels there as well, and we expect that to continue. There was a little movement in oil prices today. So we'll see what happens, but they're still at levels where our customers can make decent money. So we expect to see some continued improvement there. Semiconductor is another market we sell into. And that obviously is very strong and especially with a lot of the reshoring and the chip plants being built in the U.S. We see some good opportunity there for that to continue to be strong.

Have you seen any changes in customer behavior following the Russian invasion of Ukraine? I mean I assume those in the import side of the game, we're probably out of that game now, but just curious of your views there?

We really haven't seen anything in concrete, a lot of discussion. And I think the word uncertainty is probably the word we hear most but the good news for Reliance, it seems like in uncertain times, we do well because we provide such an important part of the supply -- whole supply chain with the imports, certainly, that would have shut off fairly quickly because of our size and because of our long-standing relationship with domestic mills, we -- little less than 5% of the total carbon buy that we do is offshore, and that's usually products that aren't made in the U.S. So there are some questions out there. It really hasn't slowed demand down yet, but just people are asking, what's all this mean? And we don't know. The answer is we don't know, but the good news is we've got a reputation that it's been able to do very well from a profit standpoint and most definitely on a cash generation standpoint through good times and bad, whether it's in 2009 -- 2019. I don't know how long you all go back, but we've been able to fare very well in good times and bad. So I don't know other than the obvious "gosh, what's going to happen with the oil price?". I have no idea what's going to happen with the oil price, but I know that our energy business we kind of rightsized our energy business, meaning oil and gas. How many years ago for?

Beginning in 2020.

Beginning 2020, we saw it coming. The whole energy market changed because of technology. There's just not as much metal that goes into bringing oil and gas out of the ground. So we adjusted, and we're still in it. And a smaller pie, and we've got a bigger place in that pie. So uncertainty, but we're not -- we're going to continue to do what Reliance does. That's control what we can control. And those things we can't control, like the price of metal. We just -- the price goes up, we pass it along, price goes down, we slowly kind of pass that along, too.

And then maybe for Arthur, I mean, how should we think about working capital and LIFO income, just given the recent rebound in carbon steel, and I guess kind of every other commodity?

Well, I mean, yes, it's a good question, Michael. As prices go up, obviously, and we're paying more for inventory. So naturally, that could affect working capital. I mean we said on our earnings call that Q4 to Q1, you have some seasonality, increased shipments. So there's going to be kind of a moderate level of working capital build just from higher shipments and higher receivables, et cetera. But offsetting that was some of the -- certain products declining like HRC, but as you know, that's a small part of our business. So -- and then we had also guided after booking $700 million of LIFO expense and just for some of you not familiar with our inventory accounting, it's on a LIFO method, which essentially kind of takes out the inventory gains and losses into the volatile price environment. So 2021, we booked $700 million plus of LIFO expense. So then our guidance for '22 was income of $100 million. So -- and this is something we evaluate every quarter. We look at where current pricing is and what the trends are and update our estimate -- and most certainly, when we come up with the initial estimate at the beginning of the year, we know the actual number is going to be something other than the initial estimate, just given how complex that the [ same ] formula is and all the product mix effects that, absolute pricing levels affect that, quantities affect that. So yes, we're going to continue to monitor trends and give an updated assessment at the end of the first quarter.

And are you guys concerned at all about any shortages of metals or raw materials?

Well, you get a little concerned about what you read. Certainly our model and the fact that we're -- we've been able to create this model and nurture this model of buying domestic for so long. We really count on our domestic suppliers. And they've always come through for us. Will there be shortages most likely. On their end, they've got some issues on pig iron and things like that. And I'm not sure how that's all going to work but, out it will work out. They've got some capacity coming online. Again, timing might be very, very good when it comes to that. But if things get tight, we're going to be at the front of the line and get what we call our unfair share because in times like this, this is when they take care of us when things are easy to get, we take care of them. So are we concerned? Not right now. I think the capacity is good, well timed. The demand is -- has been good, continues to be good. And if we get an infrastructure spend, it could really be interesting. But again, I'm not -- for the American manufacturer, I'm probably a little more concerned than I am for Reliance because we're going to get ours. We're going to get what we need. We won't get what we want. I can tell you in 2000 -- during 2021 it was really short, we were -- they really took care of us. And we appreciate that, and they appreciate us. So not so -- not really concerned for Reliance.

And then the value-added business, you've grown that pretty materially over time. I think it's around half of your orders or so. Just how far do you see that growing in the future? And maybe talk about some of the investments this year and help get you there?

Yes. We hope it goes north of that. When we started this [indiscernible] years ago I think whatever I said 8 or 9 years ago, we were a traditional around 40%. So over a period of time, we've gotten up north of 50% by design. And it's interesting that whole strategy, it takes on a life of itself. The more you do, the more they ask you to do. Unfortunately, the pandemic was horrible for on every level, but it really helped us on the value-added side because a lot of our customers, like I mentioned, doing $14 billion, $3,000 at a time, that customer base, they're not the big OEMs. They're not the big, very sophisticated, really beat you down, want transparent pricing. These are folks that will pay for quality. They'll pay for service. And about 40% of the orders we take today, we ship tomorrow. That is something that we're real proud of, and we're continuing to do so. And it seems like weekly or daily almost somebody is asking us to do more and more and the technology you can buy now with this equipment, outstanding, it's tighter tolerance, wildly expensive, by the way, but that's okay. We've got cash to buy that. But the equipment that you can buy now it's so much faster and so much better, and you can run it with less operators and the tolerances are so much closer to the end product, we can just charge more for it. So I see that continuing. If we have a low like we did during COVID, our customers are going to ask us to do more and more and more. And we stand ready. We're ready to do that. And if we do get an infrastructure spend, which we have to at some point, we're really set up for that because that's going to take very quick turnaround type of value added. So how high can it go? A lot of people ask us, I don't know. My patent answer is north of where we are today, and we're going to continue to spend some money to get the returns that we need in that value added. I don't know of anything specific we can talk to about value-added that -- but there's plenty of the -- I mentioned the grace, the odd and curious kind of CapEx equipment that we have especially built for very specific type of work we're going to do. But a lot of it is -- a lot of material handling and those type of things that it's just different now than it was even 5 years ago. So I think more.

And then obviously, pretty busy right now, infrastructure bill coming through. I mean, how do you feel from a labor perspective at RS?

Well, we have the same problem as everybody else. I think we're doing all the right things that we can do. We've done a really nice job of retaining talent just because of our culture and the way we treat our folks and the way we like them to be a part of this organization. As far as the [ SG ] and what have we've always done the right thing. We continue to do the right thing. We have very, very limited greenhouse issue. So we're doing a lot of the right things, and we pay our people well and we're able to retain. Now attracting new talent is difficult. And it's difficult, not only for us, difficult for our customer base. That plays -- that kind of works 2 ways. It's tough for them to get people. And because it's tough for them to get people, they need us to do more, and we have the cash available to buy this equipment, it doesn't take as many operators. But it's still a problem. I mean don't get me wrong. If any of you are looking for a job or no people are looking for a job, give us a call. We'd love to teach you how to run the $2.8 million laser, and it's a pretty good job. But it's difficult. But we're going -- we're recruiting heavy in technical schools and those types of things are little different, different than it has been in the past, and it just works. It's like anything else. If we see something coming at us, we try to stay out in front of it, and we'll -- I think we'll end up winning that, but I do feel bad for a lot of our smaller mom-and-pop type customers that aren't able to attract that we don't.

Also if anybody from the audience has a question, please raise your hand and there's mics at all the tables as well. I guess, just you made a number of acquisitions in the last year. Could you talk about some of the benefits from those acquisitions and just kind of how the pipeline looks now?

Yes. So last year, we completed 4 acquisitions. Since our IPO in 1994, as Jim mentioned earlier, we've completed 71. And really, what Reliance has done consistently as we look for good companies that we think fit within the Reliance family. So culture is a big part of that. We want good people with good reputations. We want strong profitable companies in there. And so we look at several acquisition opportunities, and we wait for the sellers generally to be ready to sell, and then we review those. We see quite a few opportunities, but only a few really meet the criteria that we're looking for. And so we were very happy to be able to close on 4 of those acquisitions last year. We still stuck with our consistent valuation methodology where we look for -- we look at what we think a normalized EBITDA or pretax number will be over the long term going forward, and we value to that. Some companies last year, only they want to be valued on 2021 numbers. And so we didn't end up closing those deals, but we were able to get these 4 at numbers that fit for Reliance. The largest 1 we bought, we closed October 1, Merfish United. We refer to them a little bit more as kind of an adjacent type company. They're more of a master distributor of pipe, PVC, copper tubing, and that goes -- some of that into the residential construction industry, which we didn't have much exposure to previously. And we also look at this as a platform. It's a very fragmented industry. These companies have been put together recently. And we see this as a platform that we can continue to grow both through greenfield expansion and through more acquisitions. So we're really excited about this company. Net sales about $600 million, so a decent sized acquisition for us. So we're excited about this one. Nu-Tech Precision Metals, this is a company located up in Canada. They work with some metals that we previously didn't have any exposure to. Some of the zirconium, hafnium. So got us into a few more exotic metals and they actually do in-house extrusions of these metals, which is also a little different for us. So pretty high value-add type company with some exotic types of materials. Their primary end markets are nuclear and aerospace. And so we really like growing this exposure. A few years ago, we acquired a company in the U.S. that sells into and services the nuclear industry. And so we see a lot of potential there to leverage off of each other in both the Canadian and the U.S. markets to grow both of those companies. So excited about this unique acquisition. Admiral Metals, this was about just under $200 million service center. They're primarily in the Northeastern U.S., 8 locations, with 1 down in Florida that they added recently. This is just a really solid company that we've known for a long time, really good reputation, not as heavy on value-add as most of our service centers are, but that's an opportunity for us to go in. And also, this company working with some of the other Reliance companies, we see a lot of benefit there. And we already have them working together, looking for opportunities of bringing up, pricing up and just servicing the customers a little better. And then Rotax Metals, this is a small little company in Brooklyn, New York, but they kind of carry a lot of copper, brass, bronze products that are fairly unique. This is the hard to find of those types of items. And so -- and decent returns. So even though it was small, we felt it was a good fit for Reliance to expand our products and just be a good, high-returning company.

And just 1 other thing on acquisitions. One of the great differentiators that we have now is we own so many different companies and so many like companies, we may see an opportunity and say, well, we should probably buy that company, but we have to take a step back and say, well, do we need to buy that company and pay a premium? Or do we simply put 2 new pieces of equipment in 2 other companies in the same area that we already own. So we can have a -- have that kind of decision that makes it -- makes that nice. And the second part of your question, there's a target-rich environment. There's plenty of really good companies out there, but timing is everything when it comes to M&A. They have to be for sale because we're not going to chase something not for sale. They have to be realistic and what they want to do, and they have to understand that we're not going to value them on 2021. When they come to that realization, they'll give us a call. So plenty of good companies out there.

Makes sense. So maybe Arthur, just maybe go through the capital allocation framework because as I do think that's important worth highlighting for...

Sure. I think -- let me flip to Slide 21. So this is a recap of our capital allocation philosophy. And it doesn't really come out, if you look at it over 1 year or 2 years, kind of over time, that's when it kind of shows itself. This is a 5-year period. It shows pretty balanced when you look at growth and returns. Roughly speaking, we're looking at about $4 billion, maybe a little under that $3.8 billion, about $2 billion of that is returns and $1.8 billion, $1.9 billion is growth, and that's both organic and M&A. So -- and this is a framework we look at. We try to, over time, keep it balanced. But look, for the right acquisition opportunities, this could tilt more towards growth and if there's some attractive share buyback opportunities, it could tilt towards more returns. So it's not necessarily prescriptive. It's more opportunistic on either growth or the return side.

Yes. And I would just add that for the past few years, at least, sometimes we get asked about, "oh, did you pull back in this area because you wanted to do more in that area." And that's not the case. We have an appetite to do all of these types of capital allocation, and we've had the ability with our balance sheet to be able to execute on all of these over the last few years. But we're just opportunistic to make sure we're making good decisions.

Okay. We have a question from the audience there.

Karla, it's [ Jim Clark ]. Jim, just on the -- do you care like blast furnace supplied versus electric -- I'm sorry, the scrap reprocessed from a carbon standpoint, is that anything you all try to control?

Yes. So. The question being, if we have a preference for blast furnace or EAFs. Just with our broad product mix, we've always been a little heavier buying from the EAF mills because that's what fits us. Certainly, to the extent that it's better for the environment, we're supportive of that. And we're starting to see some moves. I mean one of the things in the U.S., right, it's like a steel mill never dies, right? Like the furnace, someone else comes in and buys it, and they started up again. But it seems like where we are with the focus on the environment now that we might start to see some of those older blast furnaces be permanently idled. You see some of the mills making moves to start to also the blast furnaces to also have exposure in EAF, some put in new EAF. So I think there's a trend that goes there. We work well with all of our domestic producers, but just our -- the customers we service, the products we sell has always fit a little more with the EAF.

And also on the acquisition front, just changing topics. And what kind of multiples like on average, are you paying? Are you still able to keep it under 10x EBITDA or?

That just depends on kind of company we're looking at, and it's a little more -- upstream will pay a little more -- a little higher multiple. But I mean what...

Yes. I mean we've been consistent since the IPO kind of at a pretax level, we typically looked on a normalized basis, which means we look, as I mentioned earlier, over time, we want to see the peaks and the valleys understand the earnings capability. A lot of the companies that we look at, except for some of these really unique ones. We have similar companies, they are selling similar products and the similar end markets. So we kind of know what to expect and so we look at their performance compared to how our companies did. So then we come up with this normalized pretax income or EBITDA. On an EBITDA basis, we've paid 4x to 6x. Certainly, we do feel that with some of the pricing and inflation that the next low of metal prices might be a little higher than it was before, so we'll take that into account on our normalized earnings number, but then we'd still applied a more consistent one. We've gone a little above 6x like Jim said, for some of the higher returning kind of niche companies, but we've kept it pretty consistent.

And even though our multiples are so low, we don't like to pay more than what our multiples are. But perhaps that can go up to.

And then 1 last thing. Just the duties and import restrictions, I mean, has that -- if those were not there all of a sudden because they -- would that -- how would that affect you all, if at all?

Yes. So certainly, in 2018, when Section 232 came in, it did cut back imports from most countries. There's been some relaxing of that with a couple of countries now. But overall, we think that was positive for the industry. It helped bump the pricing levels up with less import coming in. There does continue to be a certain level of import come in. It's increased a bit, but it hasn't had a significant impact on pricing. If 232 just went away, but -- and we got flooded with imports, we certainly could see some pressure there. But the administration has been pretty -- we think pretty good in understanding that. And right now, who knows? Because with mills in Europe shutting down because of high energy costs, what's going to come out of the situation going on right now, we're not sure. But certainly, they've been helpful for the industry.

Great. Well, on behalf of JPMorgan, thank you all for coming. I appreciate the time.