AirBoss of America Corp

TSX:BOS

Earnings Call Transcript 2020-Q4

[Operator]

Good morning, and welcome to the AirBoss of America Fourth Quarter Results Conference call. [Operator Instructions] And the conference is being recorded. I would now like to turn the conference over to Mr. Gren Schoch, CEO. Please go ahead, sir.

[Peter Grenville Schoch, Chairman & CEO]

Thank you, operator. Good morning, everyone, and thank you for joining us for the AirBoss Q4 and Full Year 2020 Results Conference Call. My name is Gren Schoch. I'm the Chairman and CEO of AirBoss. With me here today are Chris Bitsakakis, President and COO; Frank Ientile, our CFO; Chris Figel, Executive VP and General Counsel. In terms of an agenda, we'll take a few minutes to review some of the operational highlights for the quarter and then briefly review our financial results before opening the call to questions. Before we begin, I'd like to remind you that today's remarks including non-IFRS measures, reconciliations between our IFRS and non-IFRS results can be found in our MD&A. Additionally, management's outlook for '21 and beyond, anticipated financial and operating results, our plans and objectives and our answers to your questions will contain forward-looking information within the meaning of applicable securities laws. In particular, expectations around the impact of the COVID-19 pandemic, our business acquisitions, results of operations and financial condition and that of our customers and partners are uncertain and subject to change. The forward-looking information represents our expectations as of today and accordingly subject to change. Such information is based on current assumptions that may not materialize and this is subject to a number of important risks and uncertainties. Actual results may differ materially and listeners are cautioned not to place undue reliance on this forward-looking information. A description of the risks that may affect future results is contained in AirBoss' AIF and MD&A, which is available on our corporate website and in our filings with the Canadian securities Administrators on SEDAR at www.sedar.com. With that, I will turn the call over to Chris for the operational review. Chris?

[Chris Bitsakakis, COO & President]

Thank you, Brent, and good morning, everyone. I'm extremely excited to report a record quarter of profitability in Q4 2020 and a record year of revenue, profitability and free cash flow. 2020 proved to be a transformational year for AirBoss. Although we had already proven ourselves over the last 2 decades as a trusted supplier of personal protective equipment, or PPE, for defense and first responders globally, the creation of AirBoss Defense Group, or ADG, through our merger with Critical Solutions International, or CSI, at the beginning of the year marked a step change in our scale and capabilities. ADG combined CSI sales and marketing expertise and global leadership in counter explosive route clearance products with AirBoss' global leadership in the proprietary design, development and manufacturing of Chem/Bio productive equipment including gas masks, gloves, boots and respirators. Simply put, the creation of the AirBoss Defense Group has provided us with a broader complementary platform of survivability products that our expert team can leverage to cross-sell to our existing and ever-evolving global customer base. Today, we have the full value chain of a survivability platform and are a global leader in survivability for the assured mobility and chemical, biological, radiological, nuclear and explosive or CBRNE communities. This platform is underpinned by our financial strength, a seamless global supply chain and multiple domestic production facilities, factors that have proved crucial during the ongoing pandemic and are expected to remain so in the future. The foundation and history of AirBoss is built upon providing our customers with products that outperform in the most challenging environments. And despite the extensive challenges we encountered in 2020 as we navigated the global pandemic, our employees were nothing less than extraordinary as they delivered on our commitments to our customers. Most notably, having already been a trusted supplier to the U.S. military for decades, in 2020, we were called upon to deliver our powered air purifying respirators in record numbers to the U.S. government agency FEMA. This was a monumental task that we took on to help combat the pandemic, and we completed the production and delivery of 100,000 PAPRs and 3 million related filters in only 100 days. By the end of this contract in Q3, we were manufacturing approximately 10,000 PAPRs and 100,000 filters per week across 3 of our U.S. facilities. I share these numbers with you, so you can fully appreciate why I used the term extraordinary when referring to our employees that accomplish this near impossible task and showed us and our customers that we can be relied on in the most difficult of circumstances. Our ability to deliver on time and on budget and the sheer scale of our domestic production capacity enabled us to receive a second major contract for PAPRs, filters and related peripherals in Q3 from the U.S. Department of Health and Human Services, or HHS, to build up the strategic national stockpile. As we have noted previously, we expect to complete delivery on this contract next month. While we have provided our products to the health care sector in the past, the completion of these contracts, which are critical to national health care, has widened the aperture of opportunity for ADG to include the health care sector on a much larger scale. This has contributed to the ongoing customer sector diversification of our business, which has been a key strategy of ours to mitigate the impact of any economic or industry-specific cycles. Additionally, we have also begun direct-to-consumer online sales of relevant PPE in recent months and aim to see this gain traction in the coming years as well as become an important channel for customers of our PAPRs to directly order replacement filters and peripherals when required. Our performance in 2020 and has allowed us to emphatically position ourselves as a key partner to government agencies tasked with pandemic response and preparation for future emergencies just as we already are a preferred trusted supplier of a wide variety of protective apparel and equipment to the U.S. military and other western militaries. In January of this year, the White House issued its national strategy for the COVID-19 response in pandemic preparedness with an immediate focus on procuring supplies that will be critical to control the spread of COVID-19 and the near-term goal of building a stable, secure and resilient supply chain with increased domestic manufacturing in critical sectors, including for PPE. And just this week, the U.S. Senate passed the pandemic relief bill, the American Rescue Plan Act, which dedicates funds for the enhancement of COVID-19 emergency medical supplies, included in this bill are billions of dollars for HHS to acquire additional medical supplies and equipment, including, among other things, face masks, nitrile rubber gloves and other personal protective equipment. As an important and trusted domestic supplier with global supply chain management experience, we are in discussions on multiple levels on ways we can support these critical efforts. As indicated by our release yesterday, we are competing for sales of over $750 million in contract opportunities over the next 24 months, including new large government healthcare PPE contracts as well as domestic and international contracts for supply of CBRN Wearables and potential orders for new Husky 2G vehicles and related vehicle centers and equipment. We are confident that we will win a portion of these. However, please note that these contract opportunities do not yet include a potential competition in the coming years for the supply of gas masks to the U.S. military, which we are hopeful to compete for and win as our industry-leading Low Burden Mask did in recent years in Canada and Australia. Such a contract would be worth upwards of $1 billion of sales over an extended time frame. While competing for new contracts in 2021, we will continue to deliver on existing contracts, including for our Low Burden Mask, PPE and supply of Husky support equipment. Additionally, as we have outlined in the past, we anticipate potential scale out of the revolutionary Blast Gauge System of lightweight, wearable blast over pressure sensors to the U.S. military in 2022 and beyond. On Monday, March 8, ADG announced that it has agreed to acquire 100% ownership of BlackBox Biometrics, or B3, the developer of Blast Gauge for up to $27 million, a deal which is anticipated to close in the second quarter of 2021. We currently hold the minority ownership interest in B3 and exclusive sale rights of the Blast Gauge System to the U.S. military. This acquisition will enable us to protect B3's technology from competing interest, improve our margin profile and cross-sell B3's products to other militaries. Additionally, B3's technology and products also have applications to health care markets as its sensor systems monitor, record and analyze blast and impact events to protect not only war fighters but also first responders and athletes from traumatic brain injuries. While ADG is anticipated to continue to be our primary driver of profits, we are also expecting improvements in our Rubber Solutions and Engineered Products segments, which experienced declines in 2020, driven by the impact of COVID on the overall economy. Despite the impact of COVID on our customer base, we continue to execute on our growth and improvement strategies in these 2 segments. We are starting to see the benefits of the sizable investments we made in our Rubber Solutions segment in 2019. Our volumes are continuing to grow as we work to fill capacity in Scotland Neck, North Carolina and build upon our specialty compound business. Much of our growth trajectory has been fueled by our new technical team as they leverage our new R&D center to continue to develop new proprietary compounds for our customers as part of our ongoing focus on innovation. In Engineered Products, we saw the benefit of a rebound in the auto sector in the back portion of 2020 and as we have continued to expand into non-automotive sectors. In the near term, we are focused on returning to operating profitability, through rationalization of unprofitable business and our efforts to drive continuous efficiencies, including our investments and cost-saving initiatives. We put our new robotic workcell into operation in Q3 2020, and we have ordered another one, which is anticipated for installation in 2021. And over the longer term, we are targeting higher-margin growth by leveraging our investments in automation and developing highly engineered and therefore, higher-margin solutions for areas where they are required, including renewable energy, marine, rail, construction equipment and appliances. Our record results in 2020 have put us in a strong financial position entering 2021 and have given us the ability to be aggressive with opportunities that present themselves. As evidenced through our acquisition of B3, we will seek M&A opportunities in ADG to broaden our survivability platform or take further control of our value chain. In Rubber Solutions, we are aggressively looking at inorganic opportunities to expand into other regional markets in North America, while examining operational and purchasing synergies that could fuel faster growth and profitability. However, as the second largest compounder in North America with a long track record of growing faster than the overall industry, we remain prudent as it relates to transaction valuations as we continue to capture market share through organic initiatives, and we'll stay focused on these efforts. At AirBoss Engineered Products, we are also analyzing opportunities that would allow us to accelerate our goals to diversify AEP's segments to include more non-automotive customers. As it relates to our outlook, our growth is not dependent on M&A. The potential for new contracts gives us confidence of continued organic growth, though that is obviously dependent on continued normalization of the economy and the impact of COVID-19 on defense, automotive, industrial and other end market budgets. Our goal has always been to cultivate strong internal processes that lead to organic growth in excess of market growth, while assessing both tuck-in and transformational acquisitions as we look to leverage our strong balance sheet to accelerate our strategic growth targets. As I said earlier, the outlook remains healthy over the medium term, with industry estimates for approximately 4% top line growth over the next 5 years. We have obviously outperformed the industry over the past number of years, and our aim remains to continue expanding our market share, while increasing our margins through a combination of product mix and operational efficiencies, complemented with potential M&A. With that, I will now pass the call over to Frank for the financial review. Frank?

[Frank Ientile, Chief Financial Officer]

Thank you, Chris, and good morning, everyone. As a reminder, please note all dollar amounts presented are in U.S. dollars, except for dividends per share, which are in Canadian dollars. Consolidated results for Q4, as Chris mentioned, our record fourth quarter profitability reflected successful delivery against the number of defense and government contracts, including the HHS award. Starting from the top, external net sales increased 54% to $132 million on a consolidated basis, largely due to the execution on the HHS award and growth in other areas of ADG. Consolidated gross profit tripled to $40 million and doubled in margin to over 30% compared to Q4 2019 primarily driven by increased sales and production efficiency at ADG, while the other segments continue to build momentum and focus on cost containment, given changing market dynamics. Adjusted EBITDA increased by 260% to $32.8 million, representing continued margin expansion for the quarter, now up to 25%. Profit and adjusted profit attributable to owners of the company was $15.9 million or $0.59 per diluted share, a record for AirBoss, benefiting from the company's acquisition of the remaining minority interest in ADG in late October. Turning to the individual segments. ADG sales in Q4 increased to over $76.7 million, the 169% increase versus Q4 of '19 was primarily the result of execution on the previously mentioned HHS contract, supported by sales associated with other contracts, including the addition of CSI into the results. Gross profit in Q4 was $36 million or 47% of sales, up from just over 26% of sales in the same period in 2019, with the margin expansion due primarily to higher volumes associated with new business, notably the HHS contract. In Rubber Solutions, external sales in the Rubber Solutions segment decreased by 3% in Q4 to $31.7 million. Gross profit decreased by approximately $500,000 to just under $4 million, with margins decreasing slightly to 12% versus Q4 of '19, principally due to sales mix, higher material costs, partially offset by government wage subsidies. In Engineered Products, external sales in the Engineered Products segment increased 12% to $33 million, driven by the rebound in the automotive sector and continued expansion and sales into adjacent sectors. Gross profit declined by just $1 million, primarily as a result of sales mix, partially offset by operational cost containment managing overhead. Other considerations, CapEx was $5 million in Q4. On a full year basis, CapEx was approximately $15 million or 3% of external sales, generally in line with previous years, except for 2019, when we invested significantly in capacity expansion. Just over half of CapEx in 2020 supported growth initiatives across all segments, notably in ADG and Rubber Solutions, with the remainder split between cost savings investments, notably in Engineered Products and replacements or upgrades of existing PPE. Free cash flow was approximately $51.5 million and $89.6 million for the full year 2020, with growth for the full year, reflecting an increase in adjusted EBITDA, a reduction in CapEx compared to '19 and an increase in cash conversion associated with larger contracts at ADG, partially offset by increased cash taxes reflecting higher profitability. Net of the $5 million in dividends approximately paid in 2020, free cash flow enabled us to add approximately $87 million to our balance sheet, and we ended the year with a strong net cash position. Combined with increase in EBITDA, our net leverage at the end of 2020 was negative 0.9x EBITDA, essentially a reduction of leverage by almost [ 2 turns ] versus our leverage ratio of 1.85x at the end of 2019. We also have approximately $60 million in available credit facilities at the end of the year. As it relates to timing of contract recognition, a reminder that we completed the FEMA contract in Q3, so that did not have any contribution in Q4. We completed delivery of the PAPRs portion of the contract to HHS in Q4 and are completing delivery of the peripherals under the HHS contract in Q1 and the early part of Q2 of 2021. Excluding any large new contracts, at this time, we are generally comfortable with full year consensus expectations for 2021. However, as Chris noted, we have a large amount of contracts that we are bidding on, and we are confident that we will win a portion of these in the near future. Operator, that concludes our prepared remarks this morning. We would now like to open the call to questions.

[Operator]

[Operator Instructions] Our first question is from David Ocampo with Cormark Securities.

[David Ocampo, Analyst of Institutional Equity Research]

Chris, I really appreciate the color that you gave on the $750 million of contracts that you're bidding on. But is there anything in there that we should be keeping an eye on over the next 3 to 6 months, if it's something related to the Low Burden Gas mask or something like that? Any color on that would be great.

[Chris Bitsakakis, COO & President]

Yes. Right now, we're competing on $750 million in new potential contracts. Just for a little bit of reference, we were at about 50% of that last year. So the pipeline looks extremely strong for us at this time of this year. And those -- the contracts we're competing on are from -- for a variety of military product lines and health care. So it's kind of evenly distributed amongst a lot of our product lines, but we are seeing certainly the health care and our traditional military product lines, getting the bulk of that attention right now.

[David Ocampo, Analyst of Institutional Equity Research]

Okay. And as it relates to that stockpiling contract that you guys are doing, do you have a sense on how much of the filters and other related accessories have been used from the stockpile? Just trying to get a better idea on what a potential replacement order could look like?

[Chris Bitsakakis, COO & President]

Yes. I mean the PAPRs that we shipped last year are still being distributed. They're in a variety of hospitals and also in stockpiles. Now we did get a big reorder from the VA that we had announced. That gives us some optimism that we will continue to see more reordering. However, at this point, we have not seen a major reordering event, but we are in conversations with hospitals throughout North America. We have launched an online campaign, both through our website and through other online media to be able to facilitate the reordering. But as we see those numbers come in, David, we'll be able to give you a better idea of what we expect. But at this point, it's -- I'd say it's still a little bit early because of the amount of accessories that we shipped with the PAPRs. It's going to -- we're going to have to wait until some of those all get consumed before we see what kind of the reordering numbers we're looking at. So as that becomes more evident to us, we'll be able to be more transparent on that.

[David Ocampo, Analyst of Institutional Equity Research]

No, I appreciate that. When I look at your Rubber Compounding division, you weren't able to pass off some of the higher raw material costs. Is that still going to be a headwind as we enter into the Q1 and [ perhaps even ] into Q2?

[Chris Bitsakakis, COO & President]

Yes. I'd say that when you look at the slowdown in the economy and the rebound, if you just look at oil alone, as an example, right? We're seeing some very aggressive dynamics in the market right now. We're seeing raw material increasing much faster than we're used to seeing in the past as the global economy rebounds. We are seeing major freight challenges around the world because as the Chinese economy has really rebounded faster than the rest of the world, there's a significant problem with supply of shipping containers that are returning empty, let's say, for -- from Europe and North America back to Asia. And so we are seeing freight delays. We are seeing freight costs increase significantly. We're seeing oil creep up quickly. And the ice storm that we saw in Texas has really had a major effect on some of the refineries and other chemical producers in that region. So we are seeing a very strong headwind on raw material increases. We saw it in December. We saw it in January and February. And as you know, David, we've been doing quarterly -- we're able to pass on a lot of these -- all of them, actually. All of our contracts allow for us to pass on raw material escalations to our customers as a flow through, both on the way up and on the way down. But the trajectory of these increases has forced us to communicate with our customers that we're going to have to go to a monthly pricing model versus quarterly, so that we are not affected by increases within the quarter. And so we did see some headwinds in December and into early Q1. But we are addressing that by going to monthly pricing, so that we can better handle those headwinds and prevent them from having a major financial impact on us.

[David Ocampo, Analyst of Institutional Equity Research]

And then for Frank, just a maintenance question. Can you give the Qs by segment?

[Frank Ientile, Chief Financial Officer]

Yes. Thanks for that, David. So the Qs, again, for the full year were $8.9 million, and that reflected basically a $4.6 million in Q2, $1.9 million in Q3 and $2.3 million in Q4. And for Q2 and 3, it was roughly 50% for rubber, 50% for ADG. And as it related to the Q4, it was roughly 60% defense and 40% rubber. And this is in U.S. dollars, as reflected in our Note 17 in the financial statements.

[Operator]

[Operator Instructions] Our next question is from Yuri Lynk with Canaccord Genuity.

[Yuri Lynk]

Chris, just on the outlook. So you're calling for organic growth in the defense business, I guess based on the sales pipeline. But in the slide deck, you also note that you don't expect any PAPR awards in the first half of the year. And you noted some delays on the defense side. So can you just give us the -- your anticipated cadence of when these contracts might come in, any additional color on the geography and end market as well would be helpful.

[Chris Bitsakakis, COO & President]

Sure. I think I know for sure the fact that this stimulus bill was finally signed, is we're now going to see some sort of ramp-up, especially because they assigned a $10 billion to HHS to be able to not only continue to improve the stockpile, but also on certain products that are in great necessity to be able to distribute them quicker. So we are encouraged by that stimulus bill that's been assigned now. And we expect to see that accelerate going forward. Initially, when we talked about the second half of the year for PAPRs, specifically, we were just making the assumption that with the new administration coming on board, it would require some time to get all the budgets in place. And then once all the budgets are in place, it takes a period of time in terms of government contracting to be able to look at getting some awards out. So that's why we had been estimated -- estimating the second half of the year. But certainly, PAPRs are not the only product line that we are in conversations with various government agencies. There's a significant need on other PPE products, and we are able to step in and facilitate other products as well. And so as we're looking at that pipeline, we do expect to get a percentage of those awards. Now pipelines are always tricky, right? You don't have it until you have it. But the fact that the pipeline is so much stronger now than it was a year ago at this time, is encouraging to us because clearly, we won't get 0%. We won't get 100%, although both are possible. It's more probable that there's a percentage of that pipeline that gets awarded, and it will probably stretch out between, let's say, the back half of this year and into next year as we deliver on those awards. So we're pretty encouraged by that. And we're especially encouraged by the passing of that stimulus bill that will allow the budgets that are required for the government agencies to start to interact with us in a more formidable way so that we can plan out their stockpiling as well as their urgent need requirements over the next 8 to 24 months.

[Yuri Lynk]

So you feel that whatever large awards you can bring in, in the back half of the year will start-up in time to drive revenue equal to or greater than what you achieved last year? Am I thinking about that correctly?

[Chris Bitsakakis, COO & President]

Yes. Again, that's a difficult question without a crystal ball, but yes. Certainly, with size of some of the awards that we are talking about that are in that pipeline that we're referring to could certainly have the potential to give us a very strong year this year. And some of the awards will be leaning more towards the back half of this year. But also some of them may kick in as early as Q2. So as we get more clarity on where we're at with this. And of course, when the -- when there is a significant award, we will be announcing it, so you'll be able to use that information to forecast the year better. At this point, we don't have any signed contracts. But we have a pipeline that is -- that has given us a fair bit of optimism for what we'll be able to accomplish this year.

[Yuri Lynk]

My second and last question. Just switch to the Rubber Solutions side. One of your competitors, obviously, has a plant down. Just wondering if you're seeing any short- or long-term increase in business as customers look to fill those orders that, I guess, are not being able -- or [ not sold ] at that facility at present?

[Chris Bitsakakis, COO & President]

Yes. Of course. Well, first and foremost, we're thankful that in our competitors' plant that had that major fire that basically destroyed their production capacity. We're very thankful that nobody got killed. And the one person that got injured is recovering. So we're happy for that. Having said that, almost from the -- well, almost while the fire was still burning, our phone was ringing in terms of what we can do to step in to help on supply. So we very quickly engaged with both existing customers and new customers. And thanks to our -- the investment that we made in our state-of-the-art research and development facility that we have also, over the past year, staffed with [ 4 ] new PhD chemists in a really aggressive approach to compound development. We've been able to assign teams of people to work with customers to get new formulas created, developed and approved, so that not only can we step in on an emergency basis, but we could retain a high percentage of that business through our speed to market, our quality and our delivery. And so I suspect that -- it looks to me that that capacity will not come back online. And so the -- our competitor that did have the fire has been able to move some of that product to some of its other plants. But clearly, we are also benefiting from that. And our job right now is to make sure that, that benefit is permanent and not just temporary.

[Operator]

Our next question is from Tim James with TD Securities.

[Tim James, Research Analyst]

Chris, just wondering if you can kind of provide a bit of an overall update on the utilization of the new -- the 20 million to 50 million pounds of incremental new mixing capacity that have been brought on in Kitchener and Scotland Neck?

[Chris Bitsakakis, COO & President]

Certainly. So the incremental capacity we brought on, we added 1 mixing line in Scotland Neck, North Carolina, which is a black compounding line. We added a new dedicated color mixing line in Kitchener, Ontario. And we added a smaller specialty compounding line in Kitchener as well. Right now, with the rebound in the economy and the fire that our competitor had, our Scotland Neck plant is running over 80% capacity, which would include the new line as well. Now of course, our capacity in all of our mixing plants has been somehow adjusted a little bit because of COVID-19. We're taking breaks in between shifts. We're cleaning all the equipment, and we're doing a lot of things that are preventing us from having the exact same capacity number we used to have. And we believe that those will go away as COVID goes away and some of those precautions can be loosened a little bit. But having said that, Scotland Neck now is now extremely busy, again, because of the rebound and also because of us stepping in for the relief to other customers from that fire. Our job now is to make sure that, that's sustainable going forward. But certainly, I see us exiting this pandemic with the capacity in North Carolina, significantly higher in terms of output and the open capacity reducing quite a bit. We are now booking ahead quite a bit further than we have been before. So that's a good sign for us there. In terms of the color mixing line, we're currently running it at about 50% capacity. But we are also bidding on new color business that would fill that line in the longer term. And of course, that requires a lot of development. We have a lot of samples out. So we're very optimistic that we'll be filling that color line in the future. The specialty compounding line, it was the last line to go in. And we are currently using it now because it's a small line. We're using it as a prototype line for any new development that we're doing. And we're also bringing in new high-end polymer-type work that is just starting to kick in now. So I'd say that line is probably at 33% capacity. So lots of opportunity for growth on that line for the specialty side. And as I mentioned, color and black, all of our black lines are quite busy right now.

[Tim James, Research Analyst]

Okay. That's great. My next question, just thinking about the $750 million in opportunities that you cite, you mentioned, I think that maybe you had kind of half that value at the same time last year. If we think back to the same time last year and you -- and let's call it, $375 million, did that include -- like at this time last year were the large PAPR orders with HHS and FEMA, were they contemplated in that? Or would they have been incremental to kind of the outlook at this time last year?

[Chris Bitsakakis, COO & President]

Yes, they would have been incremental. Yes. If you recall, early March, really, the pandemic was just starting to kind of rear its ugly head, right? So it was later in the spring where we started seeing that significant increase in health care potential.

[Peter Grenville Schoch, Chairman & CEO]

Actually, Chris, I think the FEMA order was in that, not the HHS one.

[Chris Bitsakakis, COO & President]

I stand corrected. Thank you, Gren.

[Operator]

There are no further questions registered at this time. I would like to turn the conference back over to Chris Bitsakakis for any closing remarks.

[Chris Bitsakakis, COO & President]

Thank you, operator, and thank you, again, to everyone for attending this morning's call. We are proud of how we have performed this year, and I want to thank our employees across the organization for this, and we are excited about the future of our company going forward. And until then, we hope you're all keeping safe and well. Goodbye, and have a great day.

[Operator]

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.