Innospec Inc
NASDAQ:IOSP
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Innospec Inc
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Good day, and welcome to the Innospec’s Third Quarter 2018 Earnings Release and Conference Call. Today's conference is being recorded.
At this time, I would like to turn the conference over to David Jones, General Counsel and Chief Compliance Officer. Please go ahead.
Thanks for joining our third quarter 2018 financial results conference call. As you know, late yesterday we reported our financial results for the quarter ended September 30, 2018. The press release is posted on the company's website, www.innospecinc.com. The slide presentation on the results is now available on our website, and both an audio webcast and the slide presentation will be archived on the website for six months.
Before we start, I would like to remind everyone that certain comments made during this call might be characterized as forward-looking statements under the Private Securities Litigation Reform Act of 1995. Generally speaking, any comments regarding management's beliefs, expectations, targets or other predictions of the future are forward-looking statements.
These statements involve a number of risks and uncertainties that could cause actual results to differ materially from the anticipated results implied by those forward-looking statements. These risks and uncertainties are detailed in Innospec's most recent 10-K report, as well as other filings we have with the SEC. We refer you to the SEC's website or our site for these and other documents.
In our discussion today, we’ve also included some non-GAAP financial measures. A reconciliation to the most directly comparable GAAP financial measures is contained in our earnings release, a copy of which is available on the Innospec website.
With us today from Innospec are Patrick Williams, President and Chief Executive Officer; and Ian Cleminson, Executive Vice President and Chief Financial Officer.
And with that, I’ll turn it over to you Patrick.
Thank you, David, and welcome everyone to Innospec’s third quarter 2018 conference call. Innospec’s third quarter performance has demonstrated what we've been saying for some time. Our strategic portfolio is strong, and with good underlying growth and with continued opportunities to improve profitability and cash generation.
I am delighted with the improvements of all three of our strategic businesses and although there are more improvements to come, the key metrics are all moving strongly in the right direction. Just as importantly, we returned solid cash generation during the quarter, with the reduction in net debt on an already healthy balance sheet.
Fuel Specialties delivered good volume growth and just as significantly improved margins, which are back towards the top end of our expected range. This filtered down into a 15% growth in operating income.
After several quarters of exceptional sales growth, Performance Chemicals had a steady quarter and still grew by revenue by 4%. Again, the attention we’ve been paying to gross margins provide further improvement and profitability, which helped drive operating income up by 28%.
Oilfield Services once again grew at a faster rate than the market, as the value of our technology and service is recognized by an ever increasing number of customers. Gross margin while not yet improving on prior year has turned the corner with a sequential improvement of 2 percentage points. The impact is the four fold increase in operating income compared to the same quarter last year.
Octane Additives delivered to expectations and there is a possibility of one further similar sized order this year with delivery either in the fourth quarter or early in the first quarter 2019. Looking into next year, we have limited visibility, but expect this business to finally end with one further order in the first half of 2019.
While our major focus remains sales growth and margin improvements, we are constantly looking to improve the effectiveness of our operations. This led us to conclude that some of our European operations should be focused on our Centers of Excellence, particularly where this involves the critical functions of R&D and customer technical service.
As previously announced, we’ll be making a specific investment in all our centers in Ellesmere Port, UK, and at Castiglione, Italy. We will therefore be exiting the facility at our Everberg, Belgium, which was part of the acquisition we made at the end of 2016. We have taken part of the charge for this in Q3, 2018 results and the remaining smaller charge will be taken in the first half of 2019 as the project concludes.
We have taken great confidence from this quarter’s performance and I'm very pleased to report that the Board has approved a further increase in our dividend, which brings the total payment for 2018 to $0.89 per share, which is a 15% increase over 2017.
The Board has gone further in simply increasing the dividend. As an additional measure to return value to shareholders, they have sanctioned a new share purchase program, which will [Audio Gap] up to $100 million of stock over the next three years. Our portfolio has delivered an excellent quarter and we believe there are further improvements to come.
Now, I'll turn the call over to Ian Cleminson, who will review our results in more detail. Then I will return with some further comment on the quarter and our outlook. After that we will take your questions. Ian.
Thanks Patrick. Turning to slide seven in the presentation, the company’s total revenues for the third quarter were $363.1 million, a 9% increase from $332.4 million a year ago. The overall gross margin was 30.6%, up from 29.7% last year, driven by improved margins in both Fuel Specialties and Performance Chemicals.
Adjusted EBITDA for the quarter of $44.7 million was just ahead of last year, but included a restructuring charge of $4.8 million related to our European operations and the associated exit from the Everberg site in Belgium.
Our GAAP earnings per share of $0.84 included several special items, the net effect of which decreased our third quarter earnings by $0.36 per share. A year ago we reported GAAP earnings per share of $0.95, which included a negative impact from the special items of $0.05 per share. Excluding special items in both years, our adjusted EPS for the quarter was $1.20 per share compared to $1 reported in the third quarter of 2017, a 20% improvement.
Moving on to slide eight, revenues in Fuel Specialties for the third quarter were $134.9 million, 4% higher than the $130.1 million reported a year ago. This was driven by a 3% improvement in volumes and a 1% favorable price and mix impact.
Revenues were particularly in the Americas, up 16% from prior year. In Asia-Pacific revenues were broadly flat, but in EMEA slipped by 2%. Gross margins were up compared to last year and sequentially. We delivered margins at a higher end of our range, up 36.2%, up 1.9 percentage points on the same period last year, with margin improves in all the regions. Operating income was up for the quarter at $28.8 million, a 15% improvement from last year.
Turning to slide nine, revenues in Performance Chemicals were up by 4% on a strong quarter last year, rising to $114.8 million. This was driven by volume growth of 3% and a positive price mix impact of 1%. Gross margins were 22%, up 3.2 percentage points from the same quarter last year, and up 2 percentage points sequentially. Operating income was up 28% from last year at $12.4 million.
Turning to slide 10, in Oilfield Services revenues of $104.2 million were up 27% from the third quarter of 2017, driven by further improvements in customer activity, especially in stimulation. Overall volumes were up by 24% and there was a positive price mix impact of 3%.
Revenues were up almost 10% sequentially. Gross margins improved sequentially by 2 percentage points to 32.1%. Compared to the same quarter last year, gross margins declined 2.7 percentage points as we continued to experience a strong inflationary environment. Operating income was $7 million in the quarter, up almost 4x from the same period last year, as we leverage higher revenues from a similar cost base.
Moving on to slide 11, reviews in Octane Additives were $9.2 million compared to $10.1 million in the same quarter a year ago, with the latest order being fulfilled as expected. Gross margin was down at 37%, reflecting lower production volumes and higher costs inventory. Operating income was $2.7 million for the quarter compared to $4.4 million in the same period last year.
As Patrick stated, we expect to receive an order for around $8 million in Q4, 2018 with delivery either in the fourth quarter or in the first quarter of 2019. Beyond that we have indications that there may be one further order in the first half of 2019.
Turning to slide 12, corporate cost for the quarter were $12.7 million up $0.7 million [ph] from the same period last year, but within our expected range. The effective tax rate for the quarter was 32.2% compared to 22.1% last year, driven by the geographical location of taxable profits. We expect the full year effective tax rate to be 27%.
Moving on to slide 13, we closed the quarter with net debt of $136.8 million compared to $162.2 million at the end of the last quarter. As anticipated, our cash generation has improved. Our leverage moved lower ending the quarter with net debt approximately 0.7x adjusted EBITDA.
Net cash from operating activities in the quarter was $34.8 million. As of September 30, 2018 Innospec has $91.4 million in cash and cash equivalents and total debt of $228.2 million.
And now I’ll turn it back over Patrick for some final comments.
Thanks Ian. We have often delivered good results in quarters where not all businesses were firing on all cylinders. This quarter we had all three of our strategic businesses showing improvements sequentially and most metrics improving over prior year.
Even with a reduction at Octane Additives, we have delivered a 32% improvement in operating income before restructuring charges and a 20% increase in adjusted-EPS. All of our businesses have undertaken further new product launches to meet customer needs and we feel confident that these will help underpin future growth.
We are excited by a number of organic growth projects, which are in the pipeline, although we have tied up cash in the short term. Cash conversion has improved in the third quarter and our net debt has consequently reduced to around 0.7 adjusted EBITDA.
With our strong balance sheet and cash flow we will continue to participate in acquisition activities, which will add shareholder value, but we will maintain our disciplined approach while multiples remain high. We continue to invest in our R&D and Customer Technical Service in a number of our strategic facilities, including Salisbury, North Carolina; Houston, Texas; Ellesmere Port, UK; and Castiglione, Italy.
The combination of our excellent results, strategic investment programs, improved dividend and a new share repurchase program gives us great confidence as we head towards the end of the year and into 2019.
Now, I'll turn the call over to the operator, and Ian and I will take any of your questions.
Thank you. [Operator Instructions]. And our first question comes from Curtis Siegmeyer from KeyBanc Capital Markets. Please go ahead.
Hey, good morning guys. Nice quarter.
Good morning, Curtis. Thank you.
Hey, just one on the margin improvement you guys saw in Fuel Specialties and Performance Chemicals and then you know obviously the Oil Field business still you know trying to catch up. Just wondering if you could talk about some of the different dynamics you are seeing in each of those segments in terms of you know costs related to either raw materials, as well as freight and should we expect as we move forward you know maybe pricing to be able to help offset some of the margin contraction that you pointed out in the Oil Field business?
Yeah you are starting to see margins you know heading in the right direction, because what we’re expecting, I think we alluded to that in Q1 and Q2. And for us you are exactly right, it's part of pricing that’s going to help us get there.
There is inflationary measures all over all three of our business and you know one of the things that you have and around the whole chemical industry is how you extract those cost differential and cost increases and how you get the value of those moving forward, and I think for our team it's extra customer service, its passing on the increases where we can and it's obviously new products.
I think we've done a very good job of balancing that. Therefore you’ve seeing margin improvements in Performance Chemicals, you’ve seen margin improvements in Fuel Specialties and you are definitely starting to see more volumes with the same asset base in the Old Field services sector, which obviously dropped or brought our brought our net operating income up 4x what it was.
So I think all the things that we discussed in Q2 have come about in Q3 and you know we kind of gave everybody that indication that that was going to happen in Q2 and it’s exactly what happened.
Great, thanks. And then if I could on a follow-up, you know as you think about 2019 and some of the opportunities going into next year, I was wondering if you could update us just on you know your DRA investment, as well as anything new on the MRO [ph] 2020 and GDI front?
Sure. You know you have GDI that’s coming into the market and it’s an unknown. We think we have a very good technology. It remains to be seen as to when and how fast they will enact that technology over the next two or three years. And I think for us it’s just going to take market maturity, and you know we'll get some sales in 2019. I'm not sure it's going to be a large amount, but it should be a nice start to ’19.
DRA the plant is up and running. We’ve run our first trials in the plant. We will now be taking them out to field trials and so we should see some revenue boost in 2019, a latter part of it. You know the first part of ’19 will be trials and getting it ready for commercial use.
And then on IMO-2020, we all know the regs and as long as the IMO-2020 keeps those regs, it should benefit us coming into the latter part of ‘19 or part of ‘20 as well.
So the pipeline is full, because those aren’t the only three products that we have within our organic part, and I think you guys will see the benefit of that in ’19 and ’20 and ’21. We’ve really set ourselves up well from the technology standpoint for the next three years.
Great! And then just on the tax rate we should be thinking about for 2019; is that 22% that you mention for ‘18 a good starting point for now?
Yeah, we think we are going to do 27% effective tax rate for 2018 and we think 27% for 2019 is a good number as well.
Okay, got it.
Thank you. Our next question today comes from John Tanwanteng from CJS Securities. Please go ahead.
Good morning, gentlemen. Nice quarter.
Thanks John, good morning.
Good morning John.
Can you give us an update on the ultimate or the long term margin potential? The nature of the business is, you’ve been talking a lot of new products both in Fuel and Performance Chemicals. You know what are the targets that are now given incremental margins on new products and existing ones in a more normalized input environment?
Sure John, let me take that one first. So running through the businesses pretty quickly, Fuel Specialties as you know, that’s a business that operates in a range of gross margins depending on cycle. So we expect some gross margins to be in that sort of 33% to 35% range, with operating margins in sort of the 19% to 21% range. They are pretty much didn’t change from where we are today.
The performance Chemicals business is perhaps the one area where we do expect to see some improvement in margins. We’ve done a great job in the last two years and we're probably a little bit, probably at least a year or maybe two years ahead of our strategic plan there. So we’ve seen pretty rapid gross margin expansion and we think in the next year we could probably add another percentage point, both to the gross margins and also down to the operating margins. At the operating margin level we certainly expect a 10% to 11% performance there from Performance Chemicals.
In terms of Oil Field, that’s slightly difficult depending on where we are in the oil cycle. We certainly expect to have at least one more percentage point on to our gross margins and see that drop down to our operating margins. But certainly over the midterm we would expect to be heading towards double digit operating margins in Oil Filed as well, but that is going to take a little bit of time.
Yeah, and I think just to add on to what Ian has said is that one of the things that we discussed again in the last two quarters was the goal is to get all of our operating margins into double digits, and you can see the we’ve inched our way up Q3 with Performance Chemicals; you can see that we've drastically changed the operating margin. It’s been up 2 percentage points over the previous quarter and operating income as well; and then obviously Fuel Specialties has gotten back into that – the range, the high end range that we are anticipating.
So our belief, I think with the new products coming on board will know a more effective of what they will do on the margin cycle, more towards the latter part of ’19. But what Ian’s given you is exactly right for the first half of 2019, and then we'll address the other product portfolio as they come into play.
Got it, that's very helpful, thank you. And just on the Additives business, the IMO-2020 Regulation has been getting a lot of play in the media. We have been seeing a lot of talk about scrubbers you know versus actually getting a better and new feels which will benefit you. Do you have any idea where that balance is going to play out? How many ships are you going to upgrade and how many ships are you going to actually purchase something with your Additives?
Yeah, I'm not sure anybody really knows quite frankly. If you even talk to refineries, they have no idea how they are going to make all that fuel as well and what they are going to do with the residuals.
But you know I think for us there is only so much scrubbing technology in the market place. They can only put so much on ships. A lot of the new ships are having scrubbers put on, but there is no doubt the opportunity is going to be with fuel additives. Even with scrubbers you are going to have Additives you have to use as well.
So there is opportunities, we don’t know the magnitude. We know it’s going to be a pretty big increase for us and that is a high margin product. But until we really see what the refineries are going to do, are they going to put – are all the ships going to go to some form of a scrubber, which that cannot happen, but you will see some scrubbers on some of these, but it’s really what they are going to burn, what fuel they are going to burn and how they are going to do it.
I think it’s kind of a late 2019 to get a better feel at exactly how it's going to go. Either way, we are set up very well for when that market turns in IMO-2020 on a regulation basis.
Got it, thanks. And then finally, can you just rank your priorities and capital allocation here? You know new products, potential M&A, dividend, buy backs and just on the buy backs are you planned to just offset dilution or actually reduce your share count here?
Yeah, we start – you know as we always said, our organic growth is your cheapest and the most profitable growth and we are going to focus on all of our new product technologies that we are growing organically and I think that's the smartest growth we have.
I think the other, you’ve seen us increase our division. The likelihood is our dividend will be over $1 next year. We’ve increased to 15% per year. We don't see a reason why we won't change that. We've got the cash flow to do that; we've got the cash flow for acquisitions; we got the balance sheet to do it; you know a third, we are going to look at acquisitions that fit out portfolio. We are not going to chase multiples.
Now we are starting to see some multiples come down and to more realistic levels, and I think we just have to sit tight and be patient.
But on the stock buybacks, I think one of them is to prevent dilution, but I think as well to be really creative in a market where the chemical sector is down 32%, we are down 16% over the last two months, the chemical sector is down 32%. You know I think that the right time will be and be very creative in using our repurchase program.
Great, thank you very much.
Thank you.
Thank you. As there are no further questions, I would like to hand back to Mr. Patrick Williams for any closing remarks.
Thank you all for joining us today, and thanks to all our shareholders, customers and Innospec employees for your interest and support. If you have any further questions about Innospec or matters discussed today, please give us a call. We look forward to meeting with you again for our fourth quarter results in February 2019. Thanks again.
Ladies and gentlemen, that will conclude today's conference call. Thank you for your participation today. You may now disconnect.