Vulcan Materials Company (VMC) Earnings Call Transcript & Summary

This is Seldon Clarke from Deutsche Bank. And we're continuing our conference this afternoon with Vulcan Materials, the largest of the publicly traded building materials companies with a $16 billion market cap. Speaking with us today, we have Vulcan Chairman and CEO, Tom Hill; as well as Chief Financial Officer, Suzanne Wood; and Mark Warren from Investor Relations. And we're going to get this thing going and jump right into Q&A.

So Tom and Suzanne, I just want to begin with some shorter-term questions around pricing and demand, and then maybe we'll shift the focus to some more medium and long-term stuff.

Sure.

Okay. So when you guys reported earnings a little over a month ago, you talked about April seeing a continuation of the first quarter where volumes were down slightly year-over-year, but comps get a little bit easier in the second quarter. So could you just help clarify what you meant by that April comment and then maybe just give us a sense of how you think demand has trended into May as well?

So I would tell you that what we really said in the first quarter from a volume -- excuse me, in April from a volume perspective is for the most part, it was shipments as usual. The one exception to that was the San Francisco Bay Area where private construction had not been deemed essential. It is -- they have lifted that now. But if you will look at our shipments for the most part, you wouldn't -- you just kind of looked at it, you wouldn't know there was a pandemic in place unless -- like California had the shelter in place. We saw some residential projects early on push out. They've since started back up. I think res is a strength for us. The fundamentals on res is -- whether that's unemployment -- whether that's -- employment in our markets continues to be actually pretty good, and it came back in our markets better than others, particularly construction employment. You've got low -- you've got very low inventories of houses in our markets. You've got low interest rates. So -- and then now you got people that don't want to be in multifamily because of just distancing. So housing is a real strength. As far as the public side short term, really no impact. In fact, we've seen some projects pull forward. Probably the -- on the non-res side, I would tell you, you got winners and losers. The losers would be retail and offices, the winners would be data centers, distribution centers, warehouses, education, health care. And I'll give you some color around that for projects recently that we saw 2 Carvana projects get pushed back. They're not going to happen, whereas we saw a Facebook project and a FedEx project early on got pushed back, now they're starting up. So, so far, from a short-term perspective, I think shipments are, what we said in April, are okay. We did have substantial weather -- wet weather in Southeast and Houston in May. So always -- that is an impact, but that's just a weather event. This tropical storm that has just hit seems to be going through fairly rapidly. So hopefully, it won't have but a couple of day impact in June. From a pricing perspective, so far, so good. We -- our January price increases for fixed plants, we've been into effect, stayed there. As we said in April, we have a number of ready-mixed fixed plant markets, which raised prices in April 1. A number of those went. We had some pushback to May or June, but it wasn't -- as we said then, it wasn't a matter of if, it was when. So I think we feel pretty good with the pricing. And then the 60% of our business is bid work, which we're bidding it day in and day out. And I think those prices continue to -- price increases continue to stick. So not a lot of change at this point on price. Hopefully, that helps you with the short term. I think that one thing I would add to that is if you kind of step back and look at overall where we are now versus where I would have said we were during the call a month ago, I would say it's encouraging news over the last month. Reopening is helping. You saw employment growth, you saw construction employment growth. Recently, the res starts in April, which was kind of the worst month. We're better off than -- in Vulcan states than other places. You saw the May news of new home sales were up 21% over 2019. So there is catch-up there. I think it's too soon to declare victory. From an internal perspective, I think the Vulcan team has -- is controlling the controllables. Our people are -- our safety record is excellent. And we've kept our people healthy from COVID-19. They've done a really good job. I think -- in difficult circumstances, I think we've done a really good job servicing our customers. Our operating execution is good. Morale is good. I think the 4 strategic initiatives, we're seeing a strength with that, which we've talked a lot about, and I think that will impact and protect our unit margins and grow our unit margins. We've got a good balance sheet, good cash position. You've got a seasoned leadership team who has seen swings before and ups and downs. And so I think we did a good job running contingency cases for each plant, for each market if -- and it's both ways, if volumes were to go down substantially or volumes were to come back or go up rapidly, I think we are ready for those. And the aggregates business is just better for that. It's just I'm glad we're in aggregates and not cement or ready-mixed because it's just more resilient from a pricing perspective, and you can hold on or grow those margins. And even the highway news is better today, more encouraging today from a funding perspective than maybe it was 30 days ago. So, so far, so good, but still not out of the woods.

Okay. That's really helpful. And are you doing anything from a cost perspective in terms of looking to reduce SG&A or headcount in any of these markets that are a bit weaker and where you are maybe seeing some volume declines? Anything like that would be helpful.

Well, I don't think the -- really the only place we saw volume decline in April was -- we called out was as really California and the shelter in place was limited to the public construction. Other than that, it's a little bit here, a little bit there, but not enough to really make big SAG adjustments because we're seeing it come back. It's too early for that kind of look. And now we -- from a cost -- we did make SG&A adjustments at the end of last year, and we'll continue to leverage that as we go forward. But now we did make substantial adjustments from an overall cost and capital perspective. In March, we dramatically reduced our capital spend, which just in case until we saw more, that continues. We cut over time out unless we needed it to make product, and we have a number of markets which are running strong enough that we have to have overtime to produce some materials. That's a good thing. We did away with discretionary spending in our operations, things like -- and there's a whole list of these things like painting plants or paving roads that you can do anytime. I think we did away things like contract -- contractors within our footprint. We did away with almost all of them trying to handle it with our own people to make sure they got the hours and the time in case volumes were reduced. Things like rental equipment we do away with as much of it as we possibly could, just to make sure that we -- just cut back where we could. And I think the team has responded well quickly, and we have been nimble, and I think they've been accurate.

So when you execute on some of these cost initiatives, how does it look on the other side? I mean, are you doing things that a lot of businesses -- when you go through a slowdown, you take a magnifying glass to your cost structure. So do you sort of come out of the other side of this with a structurally lower fixed cost base? And maybe you can see a little bit better incremental margins? Or are these all temporary measures?

Well, I think that some of both. I think -- I would tell you, going into this, we started on our cost initiatives way before the pandemic. We started on this 18 months ago, and it's really operating efficiencies and disciplines and metrics and a real detailed look at the business and inspection. And so we're not -- we're well into that initiative. I think it's helping us all 4 of those initiatives, the operating piece, the commercial piece, logistics and procurement. You can see the impact. And we said a year ago that this would allow us to reach our potential in good times and protect us against potential headwinds, and we've seen that, and it's making a difference. So I think that we actually did it going in way before the impact of the pandemic, and so we didn't have to reinvent it from a fixed cost perspective. A lot of things I was just talking about, whether it was big stripping campaigns or painting or -- those are temporary. And as volumes come back and you can afford to do them, you'll do them.

Yes. I would just add to that on the SG&A expenses, as Tom said, I mean we're continually looking for ways to leverage those. And if you go all the way back to the right recession -- to the last recession, we've certainly leveraged those roughly in dollar terms, about the same level of spend, a little bit higher, while our revenues have grown 40%. So we're continually focused on that. But as we reported when we announced year-end earnings, back in February, we did take some actions at the end of 2019 to create some efficiencies in SAG. And as a result of those, when we gave guidance early in the year, we did indicate that for the full year, we expected SAG expense to be down, both in terms of absolute dollars and as a percentage of revenue. And look, those are lasting improvements. They're not temporary. There are things where we maybe use technology, to do things more efficiently, those sorts of things. So they will stay with us. In addition to that, as would be very sensible to do at a time like this. We have put a bit of the microscope on some things, certainly, travel, entertainment expenses, legal spend, I mean, all sorts of things like that, that when you have a moment to sit back and look at it, you just want to keep a lid on those things. And we -- I am certainly hopeful that some of those will carry forward with us.

Okay. That's helpful. And I guess, when you think about SAG costs down as a percent of revenue, how resilient do you think that is if we do see a little bit of a softer volume backdrop in the back half of the year?

Well, I think it's -- granted, some parts of the SG&A costs are fixed. A lot of them relate to wages and benefits and incentives. If there were to be a significant decline in volume, then obviously, there are steps that you would take to manage your SAG costs, not least of which might be you may well have fewer incentives that are paid. Our hope is that should there be some decline in volume, and we have spent lots of time over the past couple of years focusing on these 4 initiatives that Tom has talked about operationally, and our hope would be that similar to the last recession, even though there was a significant volume decline, our unit margins, and we went down by about 10%. That was 10 years ago. We've made lots of compounding improvements in our unit margins since then. And I might hope that, that performance would be better.

Yes, I think the leverage -- the takeaway and the bigger lever here is going to be those -- the impact of those 4 strategic initiatives and the disciplines that they install good times or tough times, that will be the takeaway, and we're seeing those material. We're seeing those help us right now. So I feel good about from an execution perspective, how we're doing and where we are regardless of the volume.

Okay. And I want to dig into unit margins a little bit more in a second. But on a short-term versus more medium-term basis, how do you think about the fixed versus variable components of your cost structure? So like if we think about the declines in California, are you going to see some outsized decrementals on that piece specifically? Obviously, we don't see this, but we see outsize decrementals on that piece specifically because it's kind of a temporary shutdown type of dynamic. Just how do we think about the fixed versus variable, the shorter-term versus longer-term basis?

We usually say that our variable cost and fixed cost is about 50-50. From a cash perspective, if you really -- in the falling volume time frame, I'd look at it 75-25; 75, variable; 25, fixed. There's a large part of the fixed that you can -- that you have control over, things like stripping or what's happening with now that you -- just things that you can control and that we have earmarked is fixed because over time, they are fixed, but you have flexibility under a short time frame. It's -- I think that what the most important piece of this is your operating efficiencies. In other words, your throughput, your downtime, making sure your people are safe, making sure you service your customers and that you make sure you take care of your equipment and run it as efficiently and with the PM as possible. So you do have more control than just 50-50 of your cash costs in falling volumes. And I think that while it's not fun to have them fall, but we'll manage it and we'll protect -- we'll do our best to protect those unit margins. Again, right now, our volumes, as we said in April, was kind of shipping as usual, we'll see what happens. But as we start -- businesses, as I said in my kind of opening, reopening is helping us. And we think we're in a lot better place so far in this time of -- in June than maybe we were in this time in early May.

Okay. That's helpful. And then I guess in the second quarter, would you -- because of what's going on in California, would you expect to see a little bit more -- if the rest of your business is growing as you would have expected, would you expect to see just on a consolidated basis, incremental margins a little bit lower than what you would see in a normalized quarter? Is that fair?

No. We'll wait and see. As I said, we're -- quarter is not over yet. But if you looked at April, and I remember the April was kind of normalized shipping. In May, we just said it was really wet. I mean we had a lot of rain in the Southeast all the way from North Carolina, South Carolina all the way over to Houston, Texas, and which is a big chunk of our business. And so I would tell you that May was more impacted by weather probably than COVID-19.

Okay. That's really helpful. And then when you think about -- just kind of continuing on the same theme here, when you look at your business on a unit margin basis, how should we think about the relationship between volume and price? If you see volume declines in the low single digits, let's call it, but you still remain firm with pricing and see 4% or 5% pricing growth, would you still see in that dynamic growth in your gross profit -- cash gross profit per shipment?

So here's how I would look at that. I'll take them in pieces, and then we'll go back to unit margins. Aggregate pricing characteristics, and that's the beauty of the aggregates business versus something like cement and ready-mixed, they're unique and resilient because of just all those characteristics. And prices usually lag volumes in a severe downturn, while aggregate prices may not grow as much as they would with a lot of volume visibility. History would show that they're going to grow, and we've been able to grow them. And that's a real strength for us in our aggregate position and also our disciplines with that. I would tell you that as Suzanne pointed out, we had over 30% fall in volume in the last downturn, and our unit margins fell 11%. That's a pretty good performance. I would tell you that I think that the 4 strategic initiatives set us up to protect -- even better protect those unit margins with if we were to have falling volumes. And I feel good that we'll do as well as we can there. But severe volume falls do put pressure on you just because of the fixed component of it. And they'll put pressure on price. But history would tell you, we've been able to raise price and hold our margins pretty good even with severe fall in volumes.

Yes, that's right. I mean during the last downturn, the '08 to '12 -- 2008 to 2012 period, our prices improved by 5% during that time frame, what I'm not saying that the 5% is necessarily a repeating number, but what I am saying is that whatever price improvement you get, you will continue to compound it through this period. And if you broaden out that time horizon, and say, well, let's don't just look at 2008 to 2012 as The Great Recession. Let's look at it more broadly across the industry and for Vulcan over a 40-or-so-year period, and this graph is actually in our last September Investor Day presentation, you will see a very robust pricing during that time period, over all of the 40 years sort of regarding volume. So I just -- I think history can be instructive. We have to -- as Tom said, wait and see how things play out, but I think not having significant price declines in periods of lower volume over 40 years of the [ previous ] starting point.

I would tell you this. I would describe it this way. I think from a pricing perspective, much -- it's exactly what we said in April, so far, so good and steady as she goes, from a volume perspective, I wouldn't change anything. We said in April, except for the reopening is helping all of our market segments. And from an internal perspective, I think we're running as effectively and efficiently as we could. And so I'm pleased so far with the outlook for the performance.

Okay. That's really helpful. Just switching gears for a second. Can we talk about some of the different developments in a few of your larger states? You've got Arizona deferring bonds and saying they're preserving state funding. And we've actually heard in California that Caltrans pulled forward some of their projects. But like you said, there's some -- they've seen some of the stricter stay-at-home measures. And then Virginia had paused on some commuter projects, and we're hearing about contract declines in Texas. So can you just walk us through maybe outside of California, if you could touch on the Caltrans pull forward, but outside of California, what you're seeing from a state budget or project perspective?

Sure. So I'm going to divide it into 2 buckets: one into the state funding which we've heard a lot about shortfalls on that. And the second one would be the federal funding and all the discussions that are going on in D.C. about that. I would tell you that right now versus 30 days ago, the COVID-19 impact is less -- is going to be less than we originally had thought, and that's based on recent conversations with multiple DOTs. April looks like it's probably going to be the worst hit for revenues, the fall in revenues. May -- in May, we saw many more places open up, so less impact than originally expected. If you remember, AASHTO asked for $50 billion from the Fed, and the assumption there was a 30% decrease in states' gas tax revenues for 18 months. Well, I don't think -- we probably saw that in April, but I do -- we haven't seen the May numbers, but I doubt it would be 30% in May, it'll probably get better in June and July and so forth, unless we have a big resurgence and people have to shut back down again. So you've got reopenings, growing the taxes. From what we hear in most of the states, 2020 -- fiscal year 2020 lettings are going to be okay. And while most states are on a wait and see for their '21 fiscal year, which starts -- most of them start third quarter, sometime third quarter of this year, I think the outlook is better than they thought, and I'll put a little flavor around that. Georgia, South Carolina, say, no impact on '20 lettings, but FY '21 is a wait and see, but they're feeling better about it. Florida said, no impact on '20. In a worst case, no impact on '21 because they'll reach into the rainy day fund. Texas, no impact on '20 lettings, again, wait and see on '21, but opening back up has really cranked up Texas from a revenue perspective, you'll be interested to see May. And remember, Prop 1, which is the oil tax, is only 11% of that whole revenue stream for the state of Texas. So while -- at worst case, I think they're thinking it may get hit by probably 30%. Alabama, no impact on '20 or '21. Virginia, at this point, they don't think any impact on '20 or '21 lettings. North Carolina is a mess, was a mess going in this, still a mess. They got a lot of work to do there. Tennessee, what they did was they said no impact on '20, fiscal year 2021, their worst contingency plan case is a 10% -- 10% or 11% decrease. But again, they'll wait and see how revenues recover. And then California, which has a revenue of $6 billion to $7 billion annually, their kind of worst-case scenario would be $1 billion hit next year. But again, as revenues climb with the opening up, hopefully, that will become reduced. So again, less than originally thought. If you move to the Feds, I think, really good news. Right now, I would say we're probably as good a shape as I've ever seen the federal -- the Feds at the cusp of a federal bill expiring because the FAST Act expires in September. Worst case, we just get flat extensions. The bill that just came out, there's 2 parts to it. The first part is that they would extend the FAST Act through '21 and increase the funding by 30% or $15 billion for 2021. The second part is they would address '22 -- 2022 through 2025 with the same 30% or $15 billion increase annually. So all of that is really good news. I think we'd tell you kind of no downside to it. The upside, probably the most likely is the first part of that bill, which is an extension of the FAST Act with a 30% increase in '21 gets through the Senate or passes the House and gets through the Senate. The second part, which is -- addresses longer term. While we really want it, it may be something that has to be hashed out in '21. So much better news than what we had anticipated this time last month.

Okay. And that's really helpful. And the last CARES Act designated something like $20 billion to transportation and infrastructure. And I think when we spoke last, there wasn't really a -- it wasn't exactly clear what that was designated for. Do you think you've seen any impact from that at all? And is there a chance that with this next bill and all the expectations that states had for budgets to be down 30% or revenues to be down 30%. Is there a chance that states are almost overfunded, if we do get this next bill passed?

Well, I'll be honest with you, I've never seen any state overfunded from a highway funding perspective. I'd like to try that out one time, but not seeing it. I think that -- let me be clear, the house bill for COVID Phase IV had $15 billion for states for to backstop losses of revenue. We would consider that probably similar to the $15 billion that's in the extension of the FAST Act. I think at this point, hopefully, if the opening up continues to expand states' revenues because of people driving, we would not see a decrease over -- a very small decrease, if any, in overall states' revenues in the $15 billion and the extension of the FAST Act would be additive as opposed -- or primarily additive as opposed to just a backstop.

Got it. Okay. And just a public service, we've got about 5 minutes left. So if there are any questions from anyone listening online, please feel free to submit those through the website, and I can ask on your behalf. So I guess, when you think about your sort of business that's at risk over the next, let's say, 6 and 18 months, how do you sort of contextualize that? Like based on the current backlogs you have, you said 60% of your business is bid business. I would imagine that you've got a little bit more line of sight in the public side near term. And obviously, you're working through some longer-term commercial projects. So how do you -- would you frame up sort of the -- what percentage of your business is at risk over the next 3, 6 or 18 months?

I think shorter term, we probably feel okay, but again, lots of unknowns. I would -- our longer term, I would describe -- I would rank it this way. I think we feel best -- we have the best clarity to residential, which continues as -- while it had took just a brief pause in some markets, is doing well and a lot of demand. And like you saw, the new home sales in May go up over 20% from prior year. That one we feel pretty good about. The next one would be the public side. And as we see it, as I said earlier, we see it open up we feel a lot better revenues are coming back. Now I'm assuming we don't get another resurgence for -- hopefully, for all kinds of reasons. So -- and then you've got the potential of the Feds expanding their funding program, which we think is possible and may be probable. So that leaves non-res. And if you look at non-res, that's the one where we probably have the least visibility to it. From a non-res perspective, as we said, we got winners and losers. We saw projects push back more on the commercial retail and office side, others on the distribution, warehouse and data centers. They're starting to -- and online commerce to pull forward. But if you look at the Dodge data, there was -- it was down pretty substantially in the last couple of months, although it stopped falling in the last group of numbers, it's kind of leveled off. The big question is, will it rebound? And will -- so if it rebounds, you don't have an air pocket. If it don't rebound, you potentially have an air pocket. So that's kind of the one we're watching, but it's really hard. That visibility is just not as -- it's just harder to see into that one. And it usually is. I mean, that's not unusual, than the others.

Okay. And could you get to any point this year where you would be more comfortable giving volume or EBITDA guidance?

Well, we want to give that as bad as you want that. And hopefully, we'll -- still unknown at this point. I would hope that as things move forward, we'll have clarity, and we'll give you guys what you want, which is our -- the view that we can have of the world. We're not -- it's not that we don't want to give it to you, we really do. It's just that we got to see a little bit more before we can.

Okay. Understood. And then last question for me. Are there any changes right now to your capital deployment priorities? Are you seeing anything incremental on the M&A side? And how should we think about -- just given the lower year of CapEx, how should we think about free cash conversion this year?

Yes, sure. The priorities for our capital allocation waterfall are exactly the same as they were before, those are unchanged. As we said, when we last spoke to you in light of some of the uncertainty that still exists around the pandemic duration and depth, we are most committed to operating and maintenance CapEx to protect the value of the franchise, our dividend, overall preservation of liquidity. Probably, although we still obviously would like share buybacks and did about $25 million, $26 million of those early in the first quarter, that's at the bottom of the priority list and temporarily on hold until we work through some of the things we talked about. We did reduce our growth CapEx a bit. I've talked about that last time, so I won't go into that again. M&A is something -- I mean, look, whenever opportunities come up, we always, always evaluate those. Our criteria is very strict when we do that. We take a very disciplined approach to it. And certainly, that discipline will be heightened now, just given the situation. We have the firepower in terms of our cash flows and our liquidity and debt position to do something if we so chose. But just because you have the money, doesn't mean it's the right thing to do it. It has to be strategic. There has to be synergies that we can get without having to pay for. So valuations play an important role in this. And it has to be something that improves this valuable franchise that we already have. So to be perfectly honest, though, a lot of the M&A activity has really just taken a pause. So we haven't seen a lot really come up since this whole thing started to be considered. So for right now, it's a bit of a moot point. But as deals begin to potentially come back in the market as visibility improves and as people take a decision that they might have an interest in selling something, look, we will be there to evaluate it as we always are.

Okay. That's helpful. And should it be close to 100% free cash conversion this year?

Yes, you probably won't be terribly far off that.

Okay. Well, that is all the time we have. So Tom and Suzanne, thank you very much.

Thank you and -- for hosting us, and thank, everyone, for their interest in Vulcan. And we look forward to talking to you.

Thanks. Bye.

Thank you.